Point out: the possibility analysis of a new round of global financial crisis

Editor’s note: This article from the BitMEX, the BitMEX research team, the daily planet Odaily authorized reprint.

Abstract: we investigate the problem of encryption is a currency insiders often mentions: “when a new round of global financial crisis?” We try to answer this question, we must first explain is that after 2008, the center of the economic crisis is no longer a bank, into the asset management industry. Therefore, we believe that once the financial crisis in 2008 made a comeback, retail bank deposits and payment system under threat is unlikely.

In particular, we believe that in the seemingly low volatility and low fuel return environment, corporate bonds and bond investment fund unconventional investment tools in the financial system may become the weakest link.

 Point out: the possibility analysis of a new round of global financial crisis

(the last time the global financial crisis 10 years ago, the old newspapers already yellowing, credit conditions may in some cases significantly tightened, but whether the asset management industry has replaced the banking position at the centre of the crisis?)

Overview

2008 years after the global economic crisis, bitcoin is regarded as the product of financial chaos and suspicion prevails, in part because of the advent of bitcoin time. Therefore, bitcoin investors and professionals often seem to crypto currency to ask a question: when a new round of global financial crisis?

We try to answer this question should be required.

First, we explore the problem itself. Our view is that this problem there are three main assumptions behind:

  1. A new round of financial crisis in the next few years, the financial crisis is inevitable, occurs once every 10 years or so;

  2. This crisis will have a positive impact on bitcoin prices;

  3. A new round of global financial crisis and a similar, because people generally questioned the banking system and electronic payment system of credit.

In the three case, we really agree only for the first. Although we believe that after the two hypothesis might be true, but the uncertainty is very large.

As for the two kinds of assumptions, we in 2018 years 3 months about this problem, but we point out that, in the bitcoin trading performance more like risk assets rather than hedging assets. Of course, bitcoin prices fell sharply since then, the future situation may change. If bitcoin performance in the new round of global financial crisis (good in tight liquidity situation), will have a tremendous positive impact on bitcoin and a store of value investment philosophy. But there is no substantial evidence that this will happen in the future. We believe that if this happens, bitcoin prices need to decouple from the many alternative currency, it is obvious that the investment philosophy of risk type.

As for the third kinds of assumptions, mechanism of a new round of the global financial crisis is the focus of this report.

The bank’s financial situation is relatively stable in developed markets

There is a famous saying, “history does not repeat itself, but is strikingly similar.” In the past 10 years, bank management team and banking regulators very careful in 2008 under the shadow of the global financial crisis. Therefore, bank financial condition and capital ratio significantly strengthened. The developed market bank a capital ratio increased from about 5% before the economic crisis to around 12% today (see Figure 1). But based on total assets equity ratio is more difficult to manipulate, similar situation: increase from the original 5% to the current 9% (see Figure 2).

Figure 1 – the United States and the British bank integrated a common equity capital ratio

 Point out: the possibility analysis of a new round of global financial crisis

(source: the comprehensive data from the Bank of England, the data from the Federal Reserve)

Figure 2 total assets of Bank of America, with the combined ratio (tangible asset size of more than 50 billion dollars in the bank)

 Point out: the possibility analysis of a new round of global financial crisis

(source: Fed)

Perhaps, the ratio is clearer and more provide much material for thought following schematic (see Figure 3). The chart shows that since the global financial crisis, the major Western banks never expand its balance sheet. In fact, we study the total assets of the nine bank size from $19 trillion and 300 billion in 2008 dropped to $15 trillion and 600 billion in 2018. One may argue that merger activity is the main cause shown in the table below the situation, but we still stand up.

Figure 3 – developed market of individual bank total assets – unit: trillion

 Point out: the possibility analysis of a new round of global financial crisis

(source: BitMEX research, bank earnings, Bloomberg)

(Note: the figure shows the JP Morgan chase, Bank of America, Citibank, Wells Fargo, HSBC, Royal Bank of Scotland, Deutsche Bank, Credit Suisse and UBS announced the total assets.)

Our view is that financial leverage is the main driving factors of financial risk. It seems since the beginning of 2008, the center began to transfer the risk of the financial system. In 2008, the relationship between the banking system and leverage leverage and mortgage market securitization risk. Now, by seemingly low volatility environment, the asset management industry leverage, especially corporate debt leverage the same risk formation.

The asset management industry to improve leverage

The degree of transparency of the asset management industry is far less than the banks, to determine the level of leverage is more difficult. Therefore, whether it is on the issue of leverage the asset management industry, or in the leveraged financial crisis time related issues, are difficult to draw a conclusion.

2015 international clearing banks “leverage” buyer’s report pointed out that “the transfer of risk from the banking system to the asset management industry, worthy of attention”. The report said, although the investment fund leverage in equities and fixed income areas remained relatively stable, but since 2008, the leverage ratio increased, especially in emerging markets. The report concluded that the bank for international settlements:

The banking system leverage is an important part of the global financial crisis of 2008. Since then, the Bank of fiscal austerity, to achieve good balance sheets, to asset managers (the “buyer”) the rapid expansion of global finance layout. Balance information to obtain investment funds, assets and liabilities than by obtaining information in strict supervision of banks more difficult. We use a market data provider information provided by the buyer found that leverage can not be ignored, even if the buyer due to leverage fund types and be quite different. Stock fund portfolio leverage appears to use the lowest rate, while fixed income funds rely heavily on borrowing. (source: BIS)

The bank for International Settlements used data from the professional investment fund, EPFR, though we agree with the report concluded, but not completely believe that the reliability of the data. We have not found the ideal source of global data, but more than a certain amount of American registered investment fund must submit relevant leverage usage data to the U.S. Securities and exchange commission. The United States Securities and Exchange Commission using the data from the second quarter of 2013, we summarized the main trends of the following table (see Figure 4, 5 and 6).

Data show that, unlike banks, the asset management industry began to significantly expand from 2008 (see Figure 4). At the same time, even if it is difficult to draw a clear chart since 2008, but also seems to increase leverage.

Figure 4 – the United States gross fund industry assets (unit: $one billion)

 Point out: the possibility analysis of a new round of global financial crisis

(source: BitMEX research, the U.S. Securities and Exchange Commission)

Although there are competing methods, but the most basic method determine the leverage level of investment funds is always the ratio total assets and net asset value, sometimes referred to as the leverage ratio. Unfortunately, under the table (see Figure 5) the limited time span, but the table seems to show a leverage ratio in moderate expansion, at least in the case of hedge funds.

Figure 5 – the net asset value of the fund industry leverage ratio – / total assets

 Point out: the possibility analysis of a new round of global financial crisis

(source: BitMEX research, the U.S. Securities and Exchange Commission)

Because of ignoring the influence of derivatives, the leverage ratio underestimated the real situation of the lever. The United States Securities and Exchange Commission also requires disclosure of derivatives of nominal value. The following figure shows, American hedge fund derivatives usage increased.

Figure 6 – the American private equity fund industry – hedge fund, net asset value / nominal value of derivative instruments

 Point out: the possibility analysis of a new round of global financial crisis

(source: BitMEX research, the U.S. Securities and Exchange Commission)

(Note: the adjustment reflects changes. The U.S. Securities and Exchange Commission data report way)

The new corporate bond market investment tools

In addition to fund leveraged investment in fixed income markets increasing use, mechanism of bond market increasingly complex and opaque. Status of the bank in the corporate bond market to be replaced, resulting in various investment institutions mutual connection, mutual exclusion is increasing rapidly. The following table summarizes some of the structure.

 Point out: the possibility analysis of a new round of global financial crisis

(Note: on the table in the bar each other does not exclude)

The following table shows the various ways, a global financial crisis, these non bank companies all increase financing mechanism.

Figure 7 – mortgage debt securities market scale – unit: $one billion

 Point out: the possibility analysis of a new round of global financial crisis

(source: Citigroup, Financial Times)

Figure 8 – the US leveraged loan market size – unit: $one billion

 Point out: the possibility analysis of a new round of global financial crisis

(source: Standard & Poor’s, the Financial Times)

Figure 9 – private debt market size – unit: $one billion

 Point out: the possibility analysis of a new round of global financial crisis

(source: Bank of America, Financial Times)

Figure 10 – US investors for top bond ETF – scale unit: $one billion

 Point out: the possibility analysis of a new round of global financial crisis

(source: BitMEX research, Bloomberg)

(Note: the following chart shows the total value of the bonds of ETF: iShares core U.S. Aggregate Bond ETF, ETF, iShares, vanguard total bond market of $iBoxx investment grade corporate bonds, short-term bonds ETF pioneer ETF, a pioneer of short-term bonds ETF, ETF, iShares, pioneer interim debt of $ETF, Morgan Emerging Markets Bond pioneer overall international the ETF and iShares bonds mortgage-backed bonds, ETF iShares iBoxx $ETF PIMCO, high-yield corporate bonds and enhance the short-term strategy fund, ETF iShares, pioneer of medium-term bonds short-term corporate debt, ETF SPDR, iShares ETF of Barclays high yield bond short-term bonds) ETF

The status of corporate bond market.

As shown in Figure 11, the level of corporate debt increased significantly since 2008, the Russell 3000 index of the company’s current total liabilities amounted to $11 trillion, a global financial crisis when the total liabilities of these companies just over $8 trillion. Companies with low interest rates and the new investment products, credit record.

However, figure 11 shows the red line, the Russell 3000 index company debt still looks at a healthy level, with net debt to EBITDA (EBITDA) ratio is slightly lower than the 2.5 times. Although the ratio is rising in the past few years, but far less than the high level before the crash of 2008 about 3.7 times. This increase is caused by increased corporate income driven by a technology giant and a strong economy to hoard cash. If the economy turns, with the company to reduce income, assets and liabilities may again become worse.

Figure 11 – the level of corporate debt

 Point out: the possibility analysis of a new round of global financial crisis

(source: BitMEX research, corporate data, Bloomberg)

(Note: according to the total data of all companies of the Russell 3000 index)

The next few years there will be a lot of corporate bonds expire. This will exacerbate the liquidity crisis or pressure in fixed income areas. Our analysis shows (Figure 12), the United States will have $880 billion of corporate bonds will expire in 2019.

Figure 12 – corporate bond maturity – time unit: $one billion

 Point out: the possibility analysis of a new round of global financial crisis

(source: BitMEX research, Bloomberg)

(Note: the data about 6400 U.S. corporate bonds consisting of a database, based on the total amount of bonds for $5 trillion and 700 billion.)

Perhaps the most worrying is the quality index of corporate bonds. Figure 13 shows the history of credit rating distribution outstanding investment grade corporate bonds. As of the end of 2018, nearly 50% of the bond rating is the lowest investment grade securities rating level, proportion is higher than at any time in the past 30 years. Figure 14 shows that if a large number of expiring bonds is the lowest investment grade bond rating from 2021 onwards, the situation will become worse.

Figure 13 – U.S. corporate bonds credit rating history distribution

 Point out: the possibility analysis of a new round of global financial crisis

(source: Bloomberg, HSBC dollar investment grade index, including financial and non financial companies)

Figure 14 – outstanding U.S. corporate bonds credit rating history (distribution by the expiration time division)

 Point out: the possibility analysis of a new round of global financial crisis

(source: BitMEX research, Bloomberg)

(Note: the data about 6400 U.S. corporate bonds consisting of a database, based on the total amount of bonds for $5 trillion and 700 billion.)

The credit quality assessment of unconventional debt instruments, more difficult. However, Moodie in a report recently released show that the level of protection of investors in the leveraged loan market deteriorated sharply, as shown in figure 15.

Figure 15 – Moodie on leveraged loans contract quality assessment (US and Canada)

 Point out: the possibility analysis of a new round of global financial crisis

(source: Moodie, Bloomberg)

(Note: the 5 is the lowest, 1 is the best.)

Figure 16 – private equity transactions average total debt to EBITDA ratio Ratio

 Point out: the possibility analysis of a new round of global financial crisis

(source: Standard & Poor’s, the Financial Times)

Low volatility environment

In our opinion, unconventional monetary policy lowers investment returns and volatility in developed economies, while reducing the cost of loans; it stimulates asset managers to use more leverage, chasing higher risk. At the same time, the same policy also encourage companies to bear higher debt. Low volatility impact on fixed income areas than in other areas. “Risk equalization” investment strategy is becoming more and more popular with this strategy fund manager according to the risk of each asset category (volatility) portfolio construction, and then use the leverage to improve returns. The lever helps to reduce the impact of heavy low risk low return assets. The usual practice is to the high proportion of fixed income and non stock, at the same time into more leverage, to offset the low return low risk assets effect.

In February 2018, the VIX volatility index soared, short investment strategies (such as Velocity Shares reverse the daily volatility index exchange traded notes) value plummeted to zero, so the volatility increased rapidly. The March 2018 edition of the BitMEX encryption discussed this currency investors digest. The victim is a small group of speculative investors covet early gains, while the fluctuation rate index is limited to other parts of the financial system. However, this situation is likely to occur in the fixed income market after the events of February 2018 is the epitome of. This time will be the spread of mainstream investors to profit from the artificially low volatility and low borrowing costs. The market will consolidate at a certain time, the effect will be far more serious than that in February 2018, only hundreds of millions of dollars in evaporation, but trillions of dollars in assets come to nothing.

The sequence of events described below, and the various factors will lead to increased risk:

  1. A catalyst, leading to a sharp rise in volatility.

  2. The risk investors need to diversify its investment portfolio, the first is to get rid of market liquidity is the highest, the fixed income market.

  3. The liquidity in the market is the highest, leading institutions trading, the major institutions may at the same time take all liquidity.

  4. Investors rush to withdraw from the market, resulting in the fixed income market volatility, liquidity decline and unable to operate.

  5. CLO and ETF bond debt securities assets at a discount price lower than the net asset value of the transaction.

  6. Spread to other categories of illiquid assets, such as stocks.

  7. In the next few years, the new bond issuance mechanism to the lack of funds; financing companies in order to struggle, the economy suffered a serious setback.

Of course, we do not know what is the cause of the main catalytic factors increase the volatility. It may be a geopolitical event, emerging market dollar bond issue excessive, the asset management industry Chinese Gao Ganggan, passive ETF, high frequency traders, the central bank reduced the excessive size of assets and liabilities, unexpectedly large number of enterprise bankruptcy, the debt crisis in the euro zone, even bitcoin catastrophic vulnerabilities caused by major fluctuations……

In fact, no matter what events are not the key problem. The key problem is that, in the artificially low volatility and high leverage under the impetus of the financial system is inherently unstable and fragile play a role. Many people may be in one incident, a specific catalyst as arch-criminal of the financial crisis, but the reason tells us that this is not realistic.

epilogue

For the financial system and the human society, the bank is more important than asset managers. If the asset manager under pressure, although some high net worth individuals impairment of assets; retail and corporate deposits should be safe; so the impact of a new round of financial crisis in 2008 may be less than serious. It is important to reduce the possibility of government intervention in the economic crisis than in 2008 to low.

The first and most obvious, central bankers can use measures has been seriously weakened, interest rates are very low, and the size of the balance sheet is very high. Secondly, perhaps more important is the political level. We certainly elusive everyone’s opinion, but those special people behind Trump, British and European, French yellow vest movement may not support a government intervention in the financial markets.

In today’s increasingly “populist” political environment, to prove that the quantitative easing, or sacrifice without a lot of financial assets of the middle-income people, so as to improve the accuracy of the asset price plan, difficult. Therefore, in the new round of global financial crisis, manage the scope of a significant risk of political unrest “can promote the measures taken by the central bankers slashed.

Please remember, after 2008 there are parties against the policy of the central bank, in 2011 reached the peak of this revolt. Another major difference is that the rebel leadership tools available now is more advanced, such as social media. Since 2008, western political uncertainty seems to be increasing. If this uncertainty and financial volatility interaction, the risk will increase.

As to when the global financial crisis, we can make nothing of it. In our opinion, the report indicated in the chart illustrates a problem, but the chart does not imply that we are at the edge of a major crisis; perhaps many years will occur after the financial crisis. As for how to profit from this kind of event, the difficulty may be higher than predicted the financial crisis time. Perhaps people can build a call option volatility and long-term corporate bonds ETF options, index linked government bonds, volatility of hedge funds, even a small amount of gold coins portfolio. Again, although we do not know when these events occur, but perhaps now is the time to adjust the portfolio.

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