Friday, March 25, 2005

REPORT: Morgan Stanley- Global: The Sure-Thing Syndrome

Stephen Roach

In the end, denial is usually the only thing left. In my view, that’s pretty much the case today in world financial markets. Imbalances on the real side of the global economy have moved to once unfathomable extremes. And now the Federal Reserve belatedly enters the fray threatening to take away the proverbial punch bowl from a rip-roaring party. Financial markets hardly seem concerned over this impending collision. Spreads on most risky assets have fallen to razor-thin margins. Steeped in denial, investors have once again become true believers in the sure-thing syndrome.

There can be no mistaking the absence of risk aversion in most segments of world financial markets. Even in the aftermath of the Fed’s early January wake-up call, so-called spread products have barely flinched. That’s true of high-yield and emerging-market debt, and it’s also the case for investment grade and bank swaps spreads. Even pricing of the “riskless” asset -- US Treasuries -- remains in rarefied territory, as yields on 10-year notes oscillate around the 4.25% threshold. At the same time, equity-market volatility has all but vanished into thin air.