This blog is part of a new series on Institutional
Investor entitled Global
Market Thought Leaders, a platform that provides analysis,
commentary, and insight into the global markets and economy
from the researchers and risk takers at premier financial
institutions. our first contributor in this new section of
Institutionalinvestor.com is AllianceBernstein, who will be
providing analysis and insight into equities.
Investors recent actions suggest two somewhat
contradictory fears. Some believe the world will end in the
debasement of major currencies and hyperinflation (witness the
price of gold). Others believe it will end in a great
depression (witness Treasury bonds low yields, the
Standard & Poors downgrade notwithstanding).
Thats not to say investor reactions to current
conditions are entirely irrational. After all, investors
worldwide are at the mercy of highly uncertain government
policy. And you can still make a lot of money joining the
multitudes in crowded trades such as Treasury
bonds, but youd better exit before the outflows
One culprit in the 2008 financial crisis was the collective
willingness to believe in a great moderation. This
led investors to extrapolate a period of highly unusual
stability in asset prices into the indefinite future and
hence dramatically increase their financial leverage.
On the other side of the crisis, investors are prone to
equally extreme assumptions. This time theyre
extrapolating that the intense volatility of 2008 will be with
us forever. In fact, current long-dated options imply
volatility over the next ten years that has actually occurred
in only one period: the Great Depression (see display
The question is what the potential catalysts for the next
reversal might be. Key elements would be providing economic
stimulus and liquidity in the short term, as well as a credible
long-term framework for addressing severe structural problems.
More specifically, a solution might include:
Congressional agreement on providing aid to U.S.
Monetary easing in the emerging markets (increasingly
a possibility as their economies cool off) and currency
A coherent framework for addressing the long-term
debt and deficits in both Europe and the U.S.
A global drop in commodity prices, which might do the
seemingly impossible boost consumer spending
A repricing of U.S. risk assets as a result of a
pickup in M&A activity or increased foreign direct
investment by China or the oil-producing nations