Central bankers around the world shifted priorities in a last minute notice. They postponed deadlines for FRTB revised market risk framework, CVA, IRB, operational risk SMA and others to 2022 and beyond. I have mixed feeling about this because they are rightfully suspicious about the usefulness of risk models or any central risk book. Irony is – risks are likely to be heightened to an unprecedented level in 2018. Let’s plan ahead for 2018’s “irrational exuberance” factors in a sarcastic manner. Who knows, my “sarcasm” may indeed be the best precaution against the next financial crisis!
Exuberance 1: US Tax Reform and Delaying Rate Hikes
When you catch a windfall from government giving corporates a huge tax break, who cares about innovations (see this)?! This tax reform bill should keep corporates a few good months to optimize tax savings and celebrate. Hence, it distracts them from doing anything stupid, like – premature launch of overly innovative products that the underlying risks are unknown. Nevertheless, rate hikes may be delayed or less than 3 in 2018 (see this). The ball is at government’s court (not the industry) to prevent the next crisis.
Exuberance 2: Deferrals and Light-touch on Financial Regulations
Many provisions of MiFID II in Europe are delayed because of non-synchronization of global standards and other nuances (see this). In the US, regulators appointed by President Trump are likely to have light-touch on financial rules. That being said, financial institutions have less to “tweak” their risk models, hence less mistakes. As long as they aren’t “optimizing” their central risk books to hide losses (see this), it is fine for banks to do shares buyback (rather than anything too risky, like lending) amid reduce regulatory burden.
Exuberance 3: Modernize Fixed Income Market Structure
The SEC recently setup a fixed income market structure advisory committee (see this) in hope to revitalize the debt market. Likely, the committee would recommend acceleration of market digitization to boost growth (see this). Thankfully, they aren’t going to seek credit enhancement for some of the illiquid “junks” (take heed of lessons from subprime MBS/ CLO, but side effects of over securitization has yet to be addressed). There may be some costs to modernize market infrastructure, but it’ll eliminate human lapses and won’t dampen financial stability.
Exuberance 4: Big is Good, Small needs Better Protection
“Too big to fail” concerns have placed on backburner. Big indeed means “stable genius” to cleverly lobby for reliefs (see this). To prevent the big from being “overly clever” to take advantage over the small investors, regulators are going to scrutinize brokers/ dealers and advisors on abusive practices. Also, they will hunt-down lone day-trader who walks on grey line. Besides, small investors will be bar from participating in “exotic” products (like Bitcoin Futures), or they’ll be require to maintain a higher margin (see this). In short, fruits are for the big guys, those who don’t have size, speed, and power to negotiate favorable treatment can take the leftover.
Exuberance 5: Cybersecurity Policy and Procedures
Even though various cybersecurity standards (ISO, NIST, NATO, ITU, etc.) are widely available (see this), regulators still like to see these scripts written into policy and procedures. Would people sleep better with box files? Or anyone actually looks into data-in-motion, at rest, in use or reuse, repurpose, and recycle to make sure nothing meaningful could be stolen (see this)? Well, may be data breach happens often enough that the media would ultimately become too tied to report another occurrence.
Chill out, the market is not going to collapse this year. Besides, “planning” is a socially accepted form of procrastination. It takes time to fine-tune models and ready the data for central risk book. The industry will get to the desire stage soon (note: no mentioning of preventing market-timing/ financial engineering abuses). We can pretend there is no danger in market assuming a crisis will not happen “by my watch”, or else IBG/ YBG.
