China global financial stress elevated but not unusual

Implicit monetary policy is tied to financial stress along with growth and inflation. While it is not generally discussed in the central bank reaction function, there is a greater focus on macro-prudential policy and measurement. A good macro measure is to use some financial stress indicator index. These stress indicators will be correlated because stress is often global through a world-wide economic growth or financial market shock. 

China financial stress is elevated on a relative and absolute basis; however, it is still contained relative to the past and versus other countries as measured through a NYFED model. Generally, EM stress will be greater than in developed markets. 

The NYFED stress model includes equity returns, financial sector returns, equity volatility, short-term rates, the yield curve shape, interbank spreads, corporate bond spreads, sovereign bond spreads, and US bond convenience yields. It tracks closely with the Chicago Fed, KC Fed, ECB, and Bloomberg stress indices. 

Clearly, junk bond spreads have exploded in China and volatility has increased, but the combined stress measure is nowhere near March 2020 pandemic levels. Nevertheless, given the size of the China market, stress measures should be tracked closely to determine portfolio risk allocations.