With equities slumping, exchange-rate volatility increasing and political risks intensifying, financial markets around the world have hit a rough patch. In times like these, international investors generally grow cautious and prioritise safety over returns, so money flees to safe havens that provide secure, liquid investment-grade assets on a sufficiently large scale. But there are no obvious safe havens today. For the first time in living memory, investors lack a quiet port where they can take shelter from a storm.
To be sure, some of the dollar claims were added to portfolios because foreign banks and institutional investors were meeting funding needs with greenbacks, after interbank and other wholesale short-term markets seized up. But that was hardly the only reason why portfolio managers piled into the US. Much of the increased demand was due to sheer fear. At a time when nobody knew how bad things might get, the US was widely seen as the safest bet.
To be sure, even before Trump, confidence in the dollar suffered a blow in 2011, when Standard & Poor’s downgraded the US debt rating by one notch in response to a near-shutdown of the government. That episode was triggered by a stand-off between then president Barack Obama and congressional Republicans over a routine proposal to raise the federal debt ceiling.
What about the Swiss franc? Its attractions are obvious, but Switzerland’s financial markets are simply too small to serve as an adequate substitute for the US.
That leaves Japan. With its abundant supply of government bonds, it is the biggest single market for public debt outside the US. The question for portfolio managers, though, is whether it is really safe to invest in a country where government debt exceeds 230 per cent of GDP.
And then there is China, with the world’s third-largest national market for public debt. Certainly, the supply of assets in China is ample. But the Chinese market is so tightly controlled that it is essentially the opposite of a safe haven. It will be a long time before global investors even consider putting much faith in Chinese securities.
With secure ports becoming scarce, investors will become increasingly jittery. They will be inclined to move funds at the slightest sign of danger, which will add substantially to market volatility. Today’s rough patch is probably here to stay.