Last decade, investors learnt a nasty lesson about contagion. When the price of mortgage bonds and related derivatives plunged in the summer of 2007, it initially seemed to be an isolated problem. Ben Bernanke, then Federal Reserve governor, declared that losses on subprime mortgages would be limited to $25bn. But in the event the panic spread to infect the whole financial system. Losses were 100 times higher.
Could the same thing happen again, as a result of plunging oil prices? This week Timothy Lane, deputy governor of the Bank of Canada, told an energy conference in Wisconsin that central bankers are “alert to the possibility that financial linkages could transmit stress from oil markets to the financial system”.
Meanwhile, big investors are pondering those parallels with subprime. Chris Flanagan, head of securitisation at Bank of America Merrill Lynch, recently compared the trajectory of the Brent crude oil price to the ABX index of subprime mortgage derivatives in 2007. He found that the patterns were almost identical. “As mortgage analysts, our concern with the ‘disorderly’ downside scenario [to oil prices] perhaps is heightened by our experience with the subprime crisis,” he wrote. “We feel that we may have seen this movie before.”