Capital Ideas^TM

Financial cycles serve as a one-stop measure of the strength of the combined housing and credit cycle and previous peaks (in 1988 and 2006) have coincided with periods of financial distress.

When financial cycles accelerate, we see strong credit growth, a housing boom and high GDP growth; at some stage, however, the cycle peaks and then comes private sector deleveraging, housing busts and low to negative GDP growth − potentially followed by financial distress and banking crises.

The US financial cycle is expected to peak and roll over later in 2023, with most developed markets also at or just past their own peaks, and in this piece, Jens Søndergaard examines what this backdrop could mean for the macro outlook.

Financial cycles usually last much longer than business cycles, which track economic expansions and recessions: a good analogy is to think of financial cycles as seasons and business cycles as changing weather patterns. There are four distinct phases of a financial cycle, corresponding to the trend of leverage in an economy, and turning points often coincide with changing fortunes for equity and bond markets.

Analysis of more than 40 years of asset class returns shows that bonds have tended to fare better than equities around financial cycle peaks, while equity returns have typically been stronger around cycle troughs.