Thinking Ahead Institute reveals top 15 extreme risks for investors
Global temperature change, global trade collapse, and cyber warfare top the ranking of extreme risks that could have a significant impact on economic growth and asset returns, should they happen
Arlington, VA (Sept. 9, 2019) – The Thinking Ahead Institute’s (TAI) Extreme risks 2019 report and ranking,† which categorizes rare events that could have a high impact on global economic growth and asset returns, has a new top three: global temperature change, global trade collapse, and cyber warfare. TAI is an outgrowth of Willis Towers Watson Investments’ Thinking Ahead Group.
The Extreme Risks 2019 ranking saw global temperature change climb to the top spot, which covers scenarios where the planet becomes far less habitable. The number two extreme risk is the potential collapse of global trade, driven by the rise of protectionism primarily due to developments in global politics over the past six years. Joining in third place is cyber warfare. As the world has become ever more connected, the risk of the Internet being weaponized has also increased.
The Thinking Ahead Institute’s top 15 extreme risks ranking for the first time includes: biodiversity collapse, abandonment of fiat money and cyber warfare; while those that have dropped out of the top 15 this year are: deflation, insurance crisis and terrorism. Those that have risen up the rankings this year are infrastructure failure (up eight places), as well as global trade collapse (up three) and currency crisis (up three). According to the report, the extreme risks that are less of a threat than in 2013 include stagnation, which has fallen eight places, as well as resource scarcity, which lost the top spot by falling three places.
“Our extreme risks ranking has seen the emergence of a general trend, with financial risks falling down the rankings and nonfinancial extreme risks growing in significance,” said Tim Hodgson, head of the Thinking Ahead Group. Global temperature change becomes the highest ranked risk due to our assessment of higher likelihood coupled with significant impact — in the extreme this would mean mass extinction.
“We believe that the world is subject to fundamental changes, whether environmental or political, which will alter power balances. A complex world can and will deliver extreme outcomes that are hard to imagine when working with a normal distribution. That means extreme events are much more likely than previously thought. To navigate through this complex world, we suggest investors need to be open-minded, avoid concentrated risks, be sensitive to early warning signs, constantly adapt and always prepare for the worst.”
The research suggests, broadly, three hedging strategies available to institutions:
- Hold cash. Over long historical periods cash has held its real value through both episodes of deflation and inflation, but there is no guarantee this will be the case in the future.
- Derivatives. It is worth mentioning that cost and usefulness are often in opposition. The cost of derivatives protection can often be reduced by specifying more precise conditions — but the more precise the conditions, the greater the chance that they are not exactly met and hence the “insurance” does not pay out.
- Hold a negatively correlated asset. There is no single asset that will work against all possible bad outcomes. Further, there is no guarantee that the expected performance of the hedge asset will actually transpire in the future event.
“I see extreme risks thinking as an exercise for the mind,” said Liang Yin, senior investment consultant at the Thinking Ahead Group. “They remind us that it is naive and dangerous to cling to a single vision about the future. Yes, we do not know what the future holds. But our brains are more than capable of imagining multiple versions of the future. As investors we are trying to navigate a highly volatile, uncertain, complex and ambiguous world. The scenarios are most effective when they are used in a deliberately created, interactive environment to make explicit assumptions — and to challenge assumptions — that underpin your investment portfolios or your business strategy.”
Thinking Ahead Institute’s extreme risks rankings over time
| Rank | 2019 | 2013 | 2011 | 2009 |
|---|---|---|---|---|
| 1 | Global temperature change | Resource scarcity* | Depression | Depression |
| 2 | Global trade collapse | Stagnation | Sovereign default | Hyperinflation |
| 3 | Cyber warfare | Global temperature change | Hyperinflation | Excessive leverage |
| 4 | Resource scarcity* | Depression | Banking crisis | Currency crisis |
| 5 | Currency crisis | Global trade collapse | Currency crisis | Banking crisis |
| 6 | Depression | Banking crisis | Climate change | Sovereign default |
| 7 | Infrastructure failure | Sovereign default | Political crisis | Climate change |
| 8 | Banking crisis | Currency crisis | Insurance crisis | Political crisis |
| 9 | Sovereign default | Deflation | Protectionism | Insurance crisis |
| 10 | Stagnation | Health progress backfire | Euro break-up | Protectionism |
| 11 | Biodiversity collapse | Nuclear contamination | Resource scarcity | Disunity in Europe |
| 12 | Health progress backfire | Extreme longevity | Major war | End of capitalism |
| 13 | Nuclear contamination | Insurance crisis | End of fiat money | End of fiat money |
| 14 | Abandonment of fiat money | Terrorism | Infrastructure failure | War |
| 15 | Extreme longevity | Infrastructure failure | Killer pandemic | Killer pandemic |
*Food/Water/Energy crisis
2019 extreme risks ranking and descriptions**
| Rank | Risk | Description |
|---|---|---|
| 1 | Global temperature change | Earth’s climate tips into a less-habitable state (hot or cold) |
| 2 | Global trade collapse | A worldwide protectionist backlash against cross-border trade |
| 3 | Cyber warfare | Internet being weaponized, causing severe damage to virtual systems vital to the economy and even to hard infrastructure |
| 4 | Resource scarcity* | A major shortfall in the supply of food/water/energy |
| 5 | Currency crisis | Extreme movement between exchange rates |
| 6 | Depression | A deep trough in economic output with massive increase in unemployment |
| 7 | Infrastructure failure | An interruption of a major infrastructure network |
| 8 | Banking crisis | Banking activity halts due to lack of liquidity |
| 9 | Sovereign default | Non-payment by a major sovereign borrower |
| 10 | Stagnation | A prolonged period of little or no economic growth |
| 11 | Biodiversity collapse | A collapse in biodiversity, in which an accelerating number of species decline to extinction |
| 12 | Health progress backfire | Massive rise in morbidity or mental ill-health, antibiotic resistance |
| 13 | Nuclear contamination | A major nuclear disaster, leading to large radioactivity release and lethal effects |
| 14 | Abandonment of fiat money | A complete collapse in trust on governments and governments-backed paper currency |
| 15 | Extreme longevity | Significant increase in life expectancy overwhelms support systems |
** Our subjective measure based on the intensity and scope of the impact, the likelihood, and the degree of uncertainty in assessing the risk level.
† A subjective scoring system to derive a ranking of these risks — the change of ranking reflects a change of view regarding both impact and likelihood of each individual risk.
About Willis Towers Watson
The Thinking Ahead Institute was established in January 2015, and is a global not-for-profit investment research and innovation member group made up of engaged institutional asset owners and service providers committed to changing and improving the investment industry for the benefit of the end saver. It has over 40 members around the world and is an outgrowth of Willis Towers Watson Investments’ Thinking Ahead Group, which was set up in 2002.
About Willis Towers Watson
Willis Towers Watson (NASDAQ:WLTW) is a leading global advisory, broking and solutions company that helps clients around the world turn risk into a path for growth. With roots dating to 1828, Willis Towers Watson has 45,000 employees serving in more than 140 countries and markets. We design and deliver solutions that manage risk, optimise benefits, cultivate talent, and expand the power of capital to protect and strengthen institutions and individuals. Our unique perspective allows us to see the critical intersections between talent, assets and ideas — the dynamic formula that drives business performance. Together, we unlock potential. Learn more at willistowerswatson.com.
SOURCE: Willis Towers Watson
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