Practical analysis for investment professionals
28 January 2013

The Next Normal? Is Crisis Fatigue Causing Wishful Thinking about the Markets?

I read over the weekend that PIMCO’s CEO Mohammed El-Erian, who so famously coined the phrase “New Normal” to describe an extended low-growth/low-return economic environment, had said in an interview that the “New Normal may soon be over,” whatever that means. The same piece was promoting “the Big Turn” as the newest label we are presumably to apply to our status quo, and which seems to me an extraordinary and premature attempt to talk up the market. I suppose we can use this term until they tell us we’ve arrived at the Next Normal™, about which I’m sure we’ll be told to be jubilant. But, for various reasons, my optimism doesn’t match the breathless enthusiasm that seems to be building in the financial media.

Am I too cynical or unduly biased by the trauma of the 2008 financial crisis? It’s possible. Perhaps I too easily dismiss signs of recovery that, if viewed objectively, might convince me that the Big Turn is in fact at hand.

Consider: As I write, the S&P 500 stands at 1,488, having more than doubled since hitting its crisis low of 666 in March 2009. With equity markets rising, we’re no longer treated to regular updates of Doug Short’s “Four Bad Bears” chart which was so prevalent in the financial blogosphere not so long ago. US housing, the epicenter of the financial crisis, has been declared “in the midst of recovery,” and falling yields on Spanish and Italian bonds have driven eurozone panic from the financial news for now.

I think everyone who follows financial markets has crisis fatigue, and most would be happy and relieved if the era of financial crisis is truly ending. But as analysts we shouldn’t allow optimism and wishful thinking to lead to analytical complacency. History tells us that “big turns” can take us in any number of directions. Despite recoveries in the capital markets, there are still many difficult questions that need to be discussed. For example:

  • Has our financial system been reformed to the point where it could survive the failure of a large financial institution, or are government backstops and their accompanying moral hazard a permanent part of our financial infrastructure?
  • Are there limits to the amount of assets that central banks can heap onto their balance sheets without consequences? If so, what happens when we reach them?
  • Are we entering a new era of competitive currency wars, and what does that mean for global economic and geopolitical stability?
  • Who will fund Western entitlement promises that demographics suggests will consume a staggering proportion of our economic output?
  • Do we really understand the potentially disruptive impact of social media on global culture and economics? The Arab Spring was a stunning example of revolutionary contagion. Are there others in the offing?

I don’t know the answers to these questions, but suggest that there is a lot more work to be done before we can assume that the next “big turn” is going take us back to the environment that existed before the crisis. What do you think the Next Normal is going to look like?

What’s fascinating about any type of economic forecasting is how frequently the conventional wisdom is spectacularly wrong. As analysts, I think the best we can do is try to absorb as much evidence and as many opinions from smart people as possible, and apply our understanding of the world to the problems at hand.

We’re gathering some smart people 7–8 March 2013 at the CFA Institute Global Investment Risk Symposium in Washington, D.C. Consider joining us and adding to the conversation.

Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.

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About the Author(s)
Charlie Henneman, CFA

Charlie Henneman, CFA, is head of educational events and programs at CFA Institute. Previously, he was the director of structuring and operations at Indosuez Capital, the CDO (collateralized debt obligation) management group of Credit Agricole Indosuez. Henneman previously held several positions in credit and structured finance, including managing director at advisory boutique AGS Financial, senior vice president and chief credit officer in the new products and ventures group at Enhance Financial Services Group, Inc., and director in the new assets group on Standard & Poor's structured finance ratings team. He holds a BA in political science from the University of Rochester and an MBA in finance from the New York University Stern School of Business.

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