Axioma Reports Equity Market Risk at 30 year-low

Equity market risk declined broadly in the second quarter of 2014, falling by some measures to levels not seen in more than 30 years, according to risk management and portfolio construction software specialist Axioma.

The group’s findings are in the latest edition of
‘Axioma Insight: Quarterly Risk Review’
, a report on the state of risk in publicly traded equity markets around the globe.

“Risk is on holiday,” said Melissa Brown, senior director of applied research at Axioma. “Predicted volatility was down across the board compared with the first quarter, and down substantially in many cases from the second quarter a year ago.”

Given the low levels to which risk has dropped, and the ongoing conflicts in Gaza and Ukraine in particular, some observers assert that an increase in risk must be in the offing. “We don’t think so, at least not in the near term,” said Brown. “Much longer stretches of low volatility have been recorded in the past, and besides, risk typically rises in advance of big market events.”

US risk rose fairly steadily in the three months prior to the market peak in October 2007, for example, and roughly doubled from its trough in January of that year. Risk levels then continued to rise in advance of the Lehman collapse in September 2008, while in contrast current levels have been trending down.

“In the US, second-quarter predicted volatility fell into the bottom decile of its levels since 1982,” said Brown. “And Axioma’s statistical forecasts do not suggest there is something ‘bubbling under the surface’ that other risk models are not picking up.”

Lower asset-asset correlations were a key driver of the decrease in Q2 risk in most countries and regions, according to the latest Axioma report, as was lower volatility in markets. The declines in equity market risk were accompanied by decreased risk in currencies and investment styles.

“The current low level of overall volatility means that asset dispersion – that is, the distribution of individual stock returns – is low,” said Brown. “In other words, even the best stock picker has a tough time generating large excess returns in this environment.”

Japan recorded a substantial decrease in risk during Q2 versus both the prior quarter and a year ago, but the fall-off may only reflect recently announced plans to reallocate the government’s pension fund toward more domestic equities.

“It remains to be seen whether fundamentals can sustain a further market increase, once that reallocation is completed,” said Brown.

The latest edition of
‘Axioma Insight: Quarterly Risk Review’
is available at www.axioma.com.

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