World conflict seen as biggest threat to markets

Worries among banks and investment firms about geopolitical risks have reached record levels, according to a survey by the Bank of England, amid rising nervousness about the conflict in the Middle East.
Some 93 per cent of firms polled by the Bank in its latest biannual survey cited geopolitics as the biggest potential threat to the UK’s financial system, an increase of 8 percentage points on its previous survey during the first half of the year.
This was the highest proportion ever recorded by the survey, the Bank said. Its poll, which was conducted before hostilities between Israel and Iran escalated sharply on Tuesday, sheds light on the growing nervousness among investors about the potential for conflicts around the world to cause turmoil in markets.
The price of oil jumped last after Iran launched its missile attack against Israel, hours after Israeli troops began to move into Lebanon.
In the latest quarterly report from the Bank’s Financial Policy Committee, which was released on Wednesday alongside the survey, officials said that geopolitics was among a number of potential risks facing the country’s financial system.
It was the first update from the committee since global markets were gripped by a sharp but brief sell-off in equities in early August, stoked by fears about the health of the US economy after weaker than expected labour market data. The rout was also fuelled by the rapid unwinding of a popular carry trade involving the Japanese yen.
While this turmoil did not spill over into core financial markets, the Bank warned that it highlighted the potential risk of a much worse sell-off in the future.
“Valuations across several asset classes, particularly equities, quickly returned to stretched levels following the episode,” the committee said. “Although short-lived, the extent of the moves, in response to relatively limited economic news, illustrates the potential for vulnerabilities in market-based finance to amplify shocks.”
The Bank also highlighted mounting bets by hedge funds against US treasuries as a possible future threat if these firms were forced to unwind their trades in a hurry, something that did not occur in August.
Hedge funds have now amassed short positions on treasury futures worth a record $1 trillion, up from the previous peak of $875 billion, the Bank said. Traditional asset managers with long positions have taken the other side of these trades.