Russian war adds uncertainty and volatility to EU financial markets

The European Securities and Markets Authority (ESMA), the EU’s securities markets regulator,
today publishes the second Trends, Risks and Vulnerabilities (TRV) Report of 2022. The
Russian war on Ukraine against a backdrop of already-increasing inflation has profoundly
impacted the risk environment of EU financial markets, with overall risks to ESMA’s remit
remaining at its highest level.
In the first half of 2022 financial markets saw faltering recoveries, increasing volatility and
likelihood of market corrections. Separately, crypto-markets saw large falls in value and the
collapse of an algorithmic stablecoin, highlighting again the very high-risk nature of the sector.
Verena Ross, Chair, said:
“The current high inflation environment is having impacts across the financial markets.
Consumers are faced with fast rising cost of living and negative real returns on many
of their investments. Consumers also need to watch out as they might be targeted by
aggressive marketing promoting high-risk products that may not be suitable for them.
The Russian invasion of Ukraine continues to significantly affect commodity markets,
leading to rapid price increases and elevated volatility. These present liquidity risks for
exposed counterparties and show the continued importance of close monitoring to
ensure orderly markets, a core objective for ESMA.”
Risk summary and outlook
The overall risk to ESMA’s remit remains at its highest level. Contagion and operational risks
are now considered very high, like liquidity and market risks. Credit risk stays high but is
expected to rise. Risks remain very high in securities markets and for asset management.
Risks to infrastructures and to consumers both remain high, though now with a worsening
outlook, while environmental risks remain elevated. Looking ahead, the confluence of risk sources continues to provide a highly fragile market environment, and investors should be
prepared for further market corrections.
Main findings
Market environment: The Russian aggression drove a commodities-supply shock which added
to pre-existing pandemic-related inflation pressures. Monetary policy tightening also gathered
pace globally, with markets adjusting to the end of the low interest rates period.
Securities markets: Market volatility, bond yields and spreads jumped as inflation drove
expectations of higher rates, equity price falls halted the recovery that had started in 2020, and
invasion-sensitive commodity values surged, particularly energy, impacting natural gas
derivatives and highlighting liquidity risks for exposed counterparties.
Asset management: Direct impacts of the invasion were limited but the deteriorating
macroeconomic conditions amplified vulnerabilities and interest rate risk has grown with
expectations of higher inflation. Exiting the low-rate environment presents a medium-term
challenge for the sector.
Consumers: Sentiment worsened in response to growing uncertainty and geopolitical risks.
The growing volatility and inflation could negatively impact many consumers, with effects
potentially exacerbated by behavioural biases. Household savings fell from the record highs
of the pandemic lockdowns.
Sustainable finance: The invasion presented a new major challenge to EU climate objectives
as several member states turned to coal to compensate for lower Russian fossil fuel imports.
Although EU ESG bond issuance fell and EU ESG equity funds experiencing net outflows for
the first time in two years, funds with an ESG impact objective were largely spared and the
pricing of long-term green bonds proved resilient.
Financial innovation: Crypto-asset markets fell over 60% in value in 1H22 from an all-timehigh, amid rising inflation and a deteriorating outlook. The sharp sell-off, the Terra stablecoin
collapse in May, and the pause in consumer withdrawals by crypto lender Celsius, added to
investor mistrust and confirmed the speculative nature of many business models in this sector.

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