Both these developments are inherently destabilizing, economically and financially. And both are difficult to reverse in the short term.
The second additional factor relates to the flows of funds and the implications for market liquidity.
According to data compiled by Bank of America, some $30 billion flowed out of equity and bond retail funds and into cash. This and other indicators, such as the record surge in option-related protection against equity declines, points to the possibility of large asset reallocations that have strained the orderly functioning of markets.
The greater the strains on market functioning, the more traders and investors worry about not being able to reposition their portfolios as desired. And the more they are unable to do what they wish to get done, the greater the risk of contagion. This is particularly the case in fixed income, where so many bonds now reside on the balance sheets of central banks.
As detailed in previous Bloomberg Opinion columns, I was already expecting increased volatility and price declines as markets navigated through the big three paradigm shifts. Last week’s developments point to the risk of more front-loaded instability that complicates an already bumpy journey to new economic and financial equilibria—one that makes behavioral investing mistakes more likely.
Mohamed A. El-Erian is a Bloomberg Opinion columnist. A former chief executive officer of Pimco, he is president of Queens’ College, Cambridge; chief economic adviser at Allianz SE; and chair of Gramercy Fund Management. He is author of The Only Game in Town.