Moody's: Benign financial conditions support favourable credit picture in 2018; QE unlikely to have created big asset bubbles

Global financial conditions are expected to remain favourable for bond issuance and credit in 2018, supported by robust economic growth and broadly stable asset quality and capital levels in the banking sector, Moody's Investors Service said in a report today.

Moreover, Moody's believes risks from falls in asset prices and any associated economic fallout as and when quantitative easing (QE) is withdrawn are overestimated.

Moody's Financial Monitor provides the rating agency's views on developments in financial markets and global banking systems, assessing systemic risks and potential asset bubbles, excessive leverage, market volatility and the strength and evolution of bank fundamentals.

"Global financial market risks remain moderate, with little change in underlying pressures over the past six months," said Colin Ellis, Moody's Managing Director -- Credit Strategy and the report's co-author. "Our assessment remains broadly unchanged in the continued absence of significant macroeconomic, financial, and political shocks."

Global economic growth strengthened in 2017 and Moody's expects it to remain robust over the coming two years, supporting businesses and governments. However, risks remain and there is uncertainty stemming from geopolitical developments on the Korean peninsula and the Middle East, and the potential for substantial shifts in US economic policy.

While global banking sectors seem broadly stable, there are some specific pockets of risk. Most of Moody's 68 banking outlooks are stable, but 13 are negative, concentrated in Latin America, the Middle East and Africa.

Global asset prices continued to expand slightly in the second half of 2017, mainly driven by advances in equity prices, and sovereign bond prices weakened further but remain significantly above long-term averages.

Even though those asset prices may fall back when quantitative easing (QE) is withdrawn, that does not imply an 'asset bubble'. In fact, declines in long-term interest rates have been driven by more than just QE.

Moody's expects policy rates to peak at lower levels than seen in the pre-crisis period, which is consistent with long-term rates only partly unwinding past declines. Some of the observed decline in benchmark long-term yields is likely to be permanent.

Corporate bond yields are low, partly reflecting benchmark rates, while spreads on investment-grade bonds are not unusually low. Credit spreads for high-yield bonds are tighter, but - on average - not out of synch with Moody's ratings for high-yield issuers.

While equity markets do not look particularly frothy on a global basis, the US stands out as an exception, with simple price-earnings metrics suggestive of some over-valuation. But these measures do not account for the decline in benchmark yields. If anything, the equity risk premium in US markets may have increased since 2010.

"Based on our analysis, asset prices do not generally appear to be inflated on a global basis," Mr Ellis added. "Furthermore, QE may not have blown big asset bubbles, and risks from falling asset prices as and when QE is withdrawn are overestimated."

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