Tuesday, April 21, 2015

IMF Tells Regulators to Brace for Liquidity Shock

The Telegraph runs this article which describes yet another IMF warning about possible risks to the global financial system. We have noted many similar such warnings over the past year from both the IMF and the BIS (Bank for International Settlements). Despite many such warnings, nothing ever seems to come of them. However, we cannot simply dismiss them because nothing has happened yet. Below are some key quotes from this article on the new IMF warning.

"An illusion of liquidity has beguiled financial markets across the world and spawned some of the worst excesses seen on Wall Street in modern times, the International Monetary Fund has warned.
Investors are borrowing money to buy shares on the US stock market at a torrid pace and are resorting to the same sorts of financial engineering that preceded the last two financial crises.
"Margin debt as a percentage of market capitalization remains higher than it was during the late-1990s stock market bubble. The increasing use of margin debt is occurring in an environment of declining liquidity," said the IMF in its Global Financial Stability Report.
"Lower market liquidity and higher market leverage in the US system increase the risk of minor shocks being propagated and amplified into sharp price corrections," it said.
The report said there are clear signs that underwriting standards are deteriorating in a pervasive search for yield. So-called "covenant-light loans" with poor protection for creditors now make up two-thirds of all new leveraged loans in the US."
. . . .  .
"This is becoming hazardous as the US Federal Reserve prepares to raise rates, a move that risks a spike in global borrowing costs and may cause liquidity to dry up almost overnight. "A sudden shift in market views that unwinds compressed premiums and sends yields higher could trigger a market liquidity shock," said the report."
. . . . 
"The report warned that distress in the global oil industry could be the trigger for the next storm. Lending to the oil and gas industry reached $450 billion last year, double the pre-Lehman peak. New bond issuance graded at `junk' level have almost tripled to 45&%. The total debt outstanding is now $3 trillion.
Defaults in the energy sector tend to lag oil price crashes by around twelve months since drillers typically hedge their output on the futures markets for a while. "Aftershocks for the corporate sector may not yet have fully filtered through," said the IMF."
. . . . . 
"The IMF itself is in a delicate position. It is has been a cheer-leader for ultra-loose monetary policy to stave off global deflation and prevent debt-dynamics spinning out of control in Europe, Japan, and the US. Yet many of the risks now emerging are a direct result of quantitative easing and zero-rates."
. . . . .
"A third of all sovereign bonds in the eurozone now carry negative yields. This is causing havoc for money markets and for the life insurance industry, which has locked into commitments stretching out for thirty years that are becoming untenable.
"A prolonged low interest rate environment will pose severe challenges for a number of financial institutions. Weak European midsized life insurers face a high and rising risk of distress. The failure of one or more midsize insurers could trigger an industry-wide loss of confidence," it said.
"The industry has a portfolio of €4.4 trillion in assets in the EU, with high and rising interconnectedness with the wider financial system. A large mark-to-market shock could force life insurers into asset reallocations and sales that could engulf the financial system," it said.
The IMF does love to keep us awake at night."           Click here to read the full article
My added comments:
We have noted the conundrum that we face here on the blog before. This blog is devoted to covering all news related to potential major change in the monetary system. A new massive crisis will certainly lead to major changes sooner rather than later. Despite many warnings about this risk from many sources both inside and outside the system, no such new crisis has yet to emerge. We also have no way to know when or if another major crisis might unfold. 
You read these IMF warning reports and they sound like the doom and gloom that is usually heard from their critics (who think the IMF and Central Banks are the cause of the crisis). But you never see the IMF actually warning that a major crisis is imminent or that they even anticipate one at all. Their forecasts continue to project around 3% GDP global growth for the next two years as if nothing all that bad is on the horizon. 
I believe this is because they think they will be able to manage whatever risks are out there that could lead to a new crisis. They want to be on record as having described the risks that exist, but they do not think the risks will spin out of control. All we can do is watch and wait to see what actually does happen. We will continue to report all relevant news we can find for readers here.

Added note 8-6-15: A full list of systemic risk warnings can be found on this blog page 

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