What is Systemic risk? (also known as Systematic risk)

The risk that a breakdown of the American or global financial system will cause panic selling and major losses for investors, no matter type of investments they hold.

How this risk plays out in the real world

Oct 09, 2018: Global financial stability risks rising with trade tensions, IMF says
Oct 30, 2017: When Does Consumer Debt Become a Systemic Risk?
Oct 29, 2016: JPM Warns Shift To Passive Investing Increases Systemic Risk, Will Make Crashes Worse
Nov 04, 2014: A Recent Surge of Leveraged Loans Rattles Regulators
Nov 03, 2014: MetLife to meet skeptical regulators in bid to escape rules
Oct 15, 2014: Systemic risks in the market on the rise, says Iosco economist
Oct 14, 2014: Too-big-to-fail banks face capital gap of up to $870 billion
Aug 21, 2014: G20 edging towards deal on ‘bail-in’ bond cushion for banks
Oct 09, 2013: No way to hedge against US default: Kyle Bass
Sep 13, 2012: Systemic risk panel needs to be more accountable, transparent: GAO
Oct 11, 2011: Trichet sees systemic threat, wants Europe banks funded
May 06, 2010: Credit Markets Seize as Issuers ‘Sit Tight’ on Greek Contagion
Sep 29, 2008: Stocks Take Record Tumble, Down 777 Points

Connection to other risks

This risk is related to economic risk. Normally, countries move back and forth between periods of economic growth and contraction (ie: recession). But, what if a country’s economy is in such bad shape that it can’t pull itself out of recession? What if its debts are enormous, its unemployment rate high, and its banks on shaky footing due to borrowers not being able to pay? The basic systems in the country may ultimately collapse.

How investors can manage Systemic risk

  1. Invest in assets deemed by the investing community to be the ultimate places to run for safety. Currently, that is U.S. Treasury bonds. The U.S. issues these bonds when it borrows money, so bond investors are lending their money to the United States. The United States has world’s largest economy and the U.S. dollar is the most respected currency.
  2. Keep a significant portion of your money on the sidelines (ie: in cash) if you believe risks to the system are rising to extreme levels. If  systems begin to fail and panic selling sets in, your cash is safe from any meltdown.

A final word

People with money invested during the period from 2007 to 2009 know too well how much damage a systemic failure can cause. During that time, major banks failed and the global financial and credit system froze up. It took an intervention by the US Federal Reserve Bank, which lent trillions of dollars to businesses and governments around the world, to get the credit markets unstuck.

The 2007 to 2009 financial meltdown caught our elected officials so off-guard that the Dodd-Frank reform bill passed in response called for the creation of the Financial Stability Oversight Council (FSOC). The Council’s purpose is to overlook the financial system and address threats before they can cause another systemic failure. The problem with the FSOC is that it is staffed with the heads of other regulatory agencies that failed to act as financial industry excesses drew during the early 2000s.