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Wednesday, October 12, 2022

Today's newsletter is by Ethan Wolff-Mann, senior writer at Yahoo Finance. Follow him on Twitter @ewolffmann. Read this and more market news on the go with Yahoo Finance App.

One of the most interesting bits of analysis that gets passed around is a chart tucked into Bank of America’s Global Fund Manager Survey.

It’s the “Biggest Tail Risk” chart over time, and it shows what approximately 250 fund managers view as the rare-but-known joker in the deck that could reshuffle the markets in a potentially uncomfortable way.

I’ve been checking this chart ever since I started reading fellow Morning Brief writer Sam Ro, and the patterns it’s shown over the years serve as a time capsule for market observers.

Remember when the Trump tariffs and the trade war with China were the hot topics? Or Brexit and EU disintegration? How about the years where it was the fiscal cliff and EU sovereign debt funding? Covid? The 2020 election? Or that moment where conflict with North Korea suddenly came to the forefront of people’s minds?

Since last spring, Inflation/Hawkish Central Banks has topped the chart as the biggest tail risk troubling fund managers.

The current situation: We are in a bear market, down around 25% since January 1, and are facing continued inflation that the Fed incorrectly said was transitory (with the shortages, it made sense, right?). Now that the Fed is going after the problem aggressively and is acknowledging that it’s going to hurt, it’s showing no signs of blinking as markets continue to slump.

The nightmare these fund managers had appears to be coming true.

Still, the tail risk doesn’t always manifest, as the Bank of America’s chart shows, or rather it doesn’t always manifest in a hugely impactful way. Covid did and crashed the markets 25% — which recovered in five months. The trade war fears depressed growth in Q4 2018 as well, which lasted, well, a quarter before the market found hope again.

What’s puzzling is that even if the consensus tail risk becomes reality, why is it so hard to use this information as an investor? These are not unfamiliar risks, Black Swans, or little-known fears. These are the things people could “see coming.” Mohamed El-Erian, who was early to recognize the Covid Crisis, just told Bloomberg that “the economy is starting to go through the windshield” suggesting that there are some lows to be tested in the coming months.