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Are financial markets getting too complacent?

Posted on 09 January 2013 with 2 comments from readers

Complacency is almost always a danger signal in financial markets. The crowd usually gets things wrong so contrarian instincts sound alarm bells as complacency reigns.

It felt a bit like this in 2008 in Dubai as the real estate boom raged and global financial markets rose despite the obviously huge problem of subprime mortgage loans for the banks.

If you had to put your finger on the big issue out there now it would have to be global bond markets. We have QE everywhere pumping up the money supply and threatening us with inflation while bondholders are paid record low yields and presumed not to care about the impact of inflation on their investments. Bond bubble anyone?

Too much debt again

Something has to give as it did in the subprime crisis. Bubbles generally burst rather than deflate quietly and painlessly. But predicting the exact timing of a bubble bursting is very tough and in the meantime the postive guys can lay into the pessimists.

Take the chairman of Goldman Sachs Lloyd Blankfein. He says investors are just too pessimistic at the moment and ought to cheer up because the global economy is not really in such bad shape. Perhaps he is not a bondholder.

But we know from the studies by academics such as Professors Rogoff and Reinhart that debt at current levels produces long depressions in economic output and ends with bond and debt defaults. They called their book ‘This Time is Different’ as an ironic twist on the truth that it never is different this time.

FT columnist James Mackintosh looks at complacency levels today and concludes that sentiment and momentum indicators are worrying though not yet at critical levels. Is he being a bit complacent about the level of complacency?

Loads of bulls

The Vix fear index has been lower only 18 times since the summer of 2007, and investors are far too keen on buying junk bonds despite relatively low yields. Four-fifths of Credit Suisse clients expect equities to rise in 2013, another contrarian indicator.

Three good years for stock markets have flushed out the bears and the bulls have gotten their blood up again. But aren’t the good times behind us now? What is coming to justify still higher share prices? Better profits? The peaked last year. Better GDP growth? Most countries will struggle to keep up with 2012.

More QE money juicing the stock market? The last Fed minutes even poured cold water on that. Complacent is hardly the word for it, plain stupid might be closer.

Posted on 09 January 2013 Categories: Banking & Finance, Bond Markets

2 Comments posted by readers:

Comment by John Mark - 09 January 2013

Oh, I can just feel Doff gearing up to some pithy disagreement with Ed on this one.

Comment by TomTheMon - 10 January 2013

The status quo can continue for longer than any of us expect. I think it was Bill Bonner that wrote in 2012 that he expected precious metals to fall considerably to sucker the final few into the stock market and then for the final crash, open spigot money flood, and then for the metals to really take off. May well be the scenario but could be late this year or 2014.

Ed: Thanks for the long view, timing is the devil in all this.

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