Bank Lobby Group Warns Investors May Be Underpricing Risk

The Institute of International Finance warned that Europe’s and Japan’s monetary stimulus may be leading investors to underprice risk while an abrupt end to U.S. bond buying could threaten economic growth.

Purchases of riskier assets and higher equity prices while corporate earnings growth remains weak are a “cause of concern,” the IIF’s market-monitoring group said in a statement today. A reduction in U.S. bond buying may prompt swings in capital flows and “jeopardize a fragile economic recovery,” particularly in the euro region, the Washington-based bank-lobbying group said.

Federal Reserve Chairman Ben S. Bernanke’s signal last month that stimulus could be pared if there’s a sustained recovery pushed up borrowing costs and volatility. A spike in bond yields would lead to “significant valuation losses for holders of bonds, including for central banks,” the IIF’s risk group, headed by Jacques de Larosiere and David Dodge, wrote in the statement.

The IIF said banks’ zero risk-weighting of domestic government bonds should be reconsidered for nations that are members of a currency union. Euro-area banks’ holdings of government securities have increased and may weaken lenders if the repayment of government debt came into question again, the IIF said.

Companies in Ireland, Spain, Belgium and Portugal, where corporate debt in relation to gross domestic product remains high, are vulnerable to interest-rate increases and higher funding costs, the group said.

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