The BIS’ Unnatural Herd Instincts
The BIS’ September quarterly publication raised the asset warning stakes with a new study showing strong price and investor flow co-movement the past two years supported by common portfolio manager debt and equity index benchmarking. It draws on the EPFR database showing most funds are actively managed and open-end, with institutions over half the base and the ETF portion growing rapidly to one-quarter for equity. Their combined holding size is $1.5 trillion, almost one-tenth of the outstanding emerging market securities total, with the debt share quadrupling to $350 billion from the Lehman crash to the end of last year. The 500 biggest global houses control $70 trillion and just a 1 percent shift or $700 billion would swamp the record inflows and outflows seen the past decade with particular effect on small, open economies, the Bank comments. Allocation strategy overlaps regardless of structure with the concentration and correlation of the main JP Morgan and MSCI gauges far less diverse than in industrial world investing, and retail behavior especially is “clustered.” The article concludes that direction is generally pro-cyclical and that prudential supervisors should be alert to potential “one-sided” swings in monitoring and rulemaking. A separate piece reiterates the risks from leverage and currency mismatch on the booming corporate debt market where non-bank issuance doubled to $375 billion over 2009-12 from the preceding same period, with China and Malaysia’s sums respectively at 75 percent and 100 percent of GDP. According to recent IMF research liabilities rose faster than earnings in a third of 120 companies across 20 countries. Cash accumulation for high yield “carry trade” activity is up and many borrowers just got access as rollover needs approach $100 billion in 2015. Commodity and manufacturing exporters may have natural hedges and derivative exposure in Brazil, Korea and Mexico has jumped but is partial and short-term. Foreign investors could experience duration and interest rate shocks which also spill over into the domestic bank and non-bank sectors. Untested balance sheet woes could spark a reaction unlike traditional cross-border lending which has focused on current account deficits and other broad economic fundamentals.
As of August CEMBI yields had widened toward 350 basis points over US Treasuries without “broad retreat,” although Eastern Europe names were battered by Russia and Ukraine fallout and Latin America suffered from a handful of bankruptcies and Argentina’s New York court-engineered default. The decline was also reflected in overall Q1 international credit from reporting banks where the region was off 2 percent including in Poland and Turkey. Chinese claims in contrast surpassed $1 trillion and accounted for $135 billion of the $165 billion increase. In Latin America Brazil lending rose marginally while Mexico’s fell. With Eurozone revival global cross-border volume improved for the first time since the last quarter of 2011, and non-bank lines are now one-quarter with securities holdings at 15 percent with intermediation changes scrambling the final roundup, according to the statistics.
