The head of one of the world’s biggest banks said volatile and fast-moving markets are something investors should always be ready for, but warned they may be ignoring one big risk right now.
In his annual letter to shareholders released on Thursday, the chief executive officer of JPMorgan Chase & Co. PJM, +6.67% James Dimon, explained that markets were facing a situation they have never seen before—the reversal of the quantitative easing done on a massive scale by global banks.
Read the full letter here.
In one possible scenario, he said faster-than-expected growth in wages and inflation could prompt the Federal Reserve to move quicker on interest-rate increases. He said many people are not factoring in that possibility.
In fact, markets got a possible test run of such a scenario in February when the Dow DJIA, +0.96% and S&P 500 SPX, +1.16% got their first correction in about two years over data that hinted of inflation and stirred up fears of an aggressive Fed.
Read: The S&P 500 has already tripled the number of 1% moves seen in all of 2017
“While in the past, interest rates have been lower and for longer than people expected, they may go higher and faster than people expect,” said Dimon. But he said markets were better prepared for a potential crisis thanks to several factors, including more collateral in markets and liquidity in the banking system. Consumers are also in a healthier state and there’s an absence of massive losses in mortgage markets, he added.
Nonetheless, in a departure from past crises, he outpointed some things that are different this time, and maybe not in a good way, such as the roughly $9 trillion being passively managed in index funds. Dimon said it’s “reasonable to worry about what would happen if these funds went into large liquidation.”
And this time, he said central banks won’t be riding to the rescue, given how they’ve been criticizing for bailing out markets the last time.
Turning to bonds, he said it’s “reasonable” to expect that with normal growth and inflation nearing 2%, the yield on the 10-year U.S. Treasury note TMUBMUSD10Y, +0.29% should be trading around 4%. One reason it may not be, he said, is because of large purchases of U.S. debt by the Fed and others—a situation that is “completely reversing.”
Moreover, he warned that at some point it’ll be not just the Fed, but Japan, China or Europe that will either stop buying or just sell. “So we could be going into a situation where the Fed will have to raise rates faster and/or sell more securities, which certainly could lead to more uncertainty and market volatility,” Dimon said.
Outside of macroeconomic concerns, Dimon had a laundry list of things he’s also fretting about: cybersecurity, excessive regulation in the U.S., schools that are leaving too many kids behind, disastrous infrastructure, immigration policies that “fail us in numerous ways”, skyrocketing health care costs and a “wasteful and slow” litigation system.