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Strategies & Market Trends : Booms, Busts, and Recoveries -- Ignore unavailable to you. Want to Upgrade?

To: Taikun who wrote (60103)	2/7/2005 3:51:50 AM
From: elmatador	Read Replies (1) \| Respond to of 74559

So when will the big one hit? Global liquidity Published: February 6 2005 18:02 \| Last updated: February 6 2005 18:02 So when will the big one hit? That is the question that worries anyone living in earthquake-prone zones. It is also a refrain now being muttered by policy makers. History might suggest that global financial markets are overdue for drama, given that liquidity, leverage and risk-taking is high, amid a frantic investor search for return. Last week, for example, Jean-Claude Trichet, ECB president, expressed unease about tight corporate bond spreads. The US Federal Reserve recently cited a rise in mergers and acquisition, initial public offerings and speculative US property trades, as additional pointers of “potentially excessive risk-taking”. Other observers might add to this list the low US Treasury yields, the bubble in European private equity and global hedge funds. Last year, for example, hedge funds attracted inflows of about $120bn, twice the previous year. Meanwhile lending to entities domiciled in the Cayman islands - mostly hedge funds - soared to $450bn, twice the level four years ago. All this should leave investors uneasy. However, the big unknown is what might prompt any bout of de-leveraging - aside from geopolitical risks. One possibility is a sudden spike in the US dollar, since many hedge funds have been playing carry trades which rely on a weakening greenback. Another shock would be a sharp rise in market volatility, currently dangerously low by historic standards. A third, related surprise would occur if falling asset prices in one asset forced a broader investor de-leveraging. Meanwhile, an accelerated bout of US rate hikes poses another threat, given how addicted the US economy has become to nearly negative short-term real rates. The good news is that this last outcome seems pretty unlikely - precisely because the Federal Reserve is so nervous about the risks of sharply raising rates. However, the bad news is that if global policy makers move too slowly in mopping up this liquidity, they risk other accidents. Thus far central banks have steered a middle course with enough skill to maintain market calm. This might also reflect improved risk management by commercial banks. But, as with earthquakes, don't be lulled into thinking that calm means that a jolt will never recur.