How bad will the next crisis be? JPMorgan Chase & Co has an idea. A decade after the collapse of Lehman Brothers sparked a plunge in markets and a raft of emergency measures, strategists at the bank have created a model aimed at gauging the timing and severity of the next financial crisis. And they reckon investors should pencil it in for 2020.
The good news is, the next one will probably generate a somewhat less painful hit than past episodes, according to their analysis. The bad news? Diminished financial market liquidity since the 2008 implosion is a “wildcard”.
The JPMorgan model calculates outcomes based on the length of the economic expansion, the potential duration of the next recession, the degree of leverage, asset-price valuations and the level of deregulation and financial innovation before the crisis. Assuming an average-length recession, the model came up with the following peak-to-trough performance estimates for different asset classes in the next crisis, according to the note.
- A US stock slide of about 20 per cent.
- A jump in US corporate-bond yield premiums of about 1.15 percentage points.
- A 35 per cent tumble in energy prices and 29 per cent slump in base metals.
- A 2.79 percentage point widening in spreads on emerging-nation government debt.
- A 48 per cent slide in emerging-market stocks, and a 14.4 per cent drop in emerging currencies.
JPMorgan’s Marko Kolanovic has previously concluded that the big shift away from actively managed investing — through the rise of index funds, exchange-traded funds and quantitative-based trading strategies — has escalated the danger of market disruptions. His colleagues wrote in a separate note on Monday of the potential for a future “Great Liquidity Crisis.”
“The shift from active to passive asset management, and specifically the decline of active value investors, reduces the ability of the market to prevent and recover from large drawdowns,” Joyce Chang and Jan Loeys wrote in the note.