Investors around the world are making assumptions about markets and economies that might be overly optimistic, warns Mohamed El-Erian, chief economic adviser at Allianz.
"I am taken aback by the extent to which the world has collectively placed a huge bet on three fundamental outcomes: a shift toward materially higher and more inclusive global growth, the avoidance of policy mistakes and the prevention of market accidents," he writes in an article for
Project Syndicate.
"Though all three outcomes are undoubtedly desirable, the unfortunate reality is that they are far from certain, and bets on them without some hedging could prove exceedingly risky for current and future generations."
As for economic growth, Europe, Japan and China might disappoint, El-Erian writes. All three economies have slowed recently.
"While the U.S. and China are significantly better placed than others, most of these economies — in particular, the struggling eurozone countries, Japan and some emerging markets — would have to nurture entirely new growth engines. The eurozone would also have to deepen integration," he argues.
On the policy front, the assumption that "the untested, unconventional policies adopted by central banks" will succeed is "tenuous," El-Erian says.
"The problem is that the current economic and policy configuration in the developed world entails an unusual amount of 'divergence.' With policy adjustments failing to keep pace with shifts on the ground, an appreciating dollar has assumed the role of shock absorber. But history has shown that such sharp currency moves can, by themselves, cause economic and financial instability," he explains.
When it comes to market accidents, with banks reluctant to hold risky securities during volatile periods, "market corrections can compound sudden and dramatic price shifts, disrupting the orderly functioning of financial systems," El-Erian proclaims.
"None of this is to say that the outlook for markets and the global economy is necessarily dire; on the contrary, there are notable upside risks that could translate into considerable and durable gains. But understanding the world's collective bet does underscore the need for more responsive and comprehensive policymaking."
Last year volatility was at a minimum, at least in U.S. markets. The S&P 500 index experienced no decline of more than three consecutive days. And the CBOE Volatility Index (VIX), which measures expected volatility in the S&P 500, hit a seven-year low in June.
But don't expect those conditions to continue this year, says legendary mutual fund manager Bill Miller, manager of the Legg Mason Opportunity Trust.
"We're likely to get a lot more volatility than we've become used to," he told
The New York Times. "Every time we get a correction or even close to it, everybody flips out. That's more of an observation than a prediction."
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