## Global Financial Stability Report — October 2026: Key findings and policy guidance ## Source details **Canonical URL:** [Global Financial Stability Report — October 2026: Key findings and policy guidance](https://www.imf.org/-/media/files/publications/gfsr/2026/october/english/text.pdf) ## Other formats - [Markdown version](/-/media/files/publications/gfsr/2026/october/english/text.pdf.md) - [Structured JSON version](/-/media/files/publications/gfsr/2026/october/english/text.pdf.json) --- ### Elevated risks and near-term catalysts - Three salient near-term risks identified as potential catalysts for a sharp tightening of financial conditions: - Artificial Intelligence (AI)-driven market correction: - Trigger: "weaker or less durable AI investments and profitability." - Amplifiers: rising leverage, concentrated exposures, circular financing. - Sharp rise in sovereign bond yields: - Trigger: "resurgent inflation, term premium rises due to fiscal shocks." - Amplifier: unresolved high public debt and rollover risks. - Cyber threats: - Trigger: "successful cyberattacks on critical financial institutions or market infrastructure." - Note: frontier AI models "could be used in both attacks and defense." - Preface and coordination: - Financial markets "have remained resilient since the April 2026 Global Financial Stability Report." - Analysis coordinated by the Monetary and Capital Markets (MCM) Department; Executive Board discussion concluded on September 28, 2026. - GFSR reflected information available as of September 30, 2026. ### Executive Summary — outlook, risks, and priorities - Outlook and monetary policy actions: - Global economy "is again proving resilient despite repeated shocks," with a split global economy driven by geopolitics and technology. - "14 of 33 major central banks have hiked policy rates since the second quarter of 2026, up from just 2 in the first quarter." - Financial conditions tightened somewhat in Q1 2026 but remained "accommodative on net." - IMF Executive Directors’ priorities: - Maintain price and financial stability, preserve central bank independence, communicate clearly on monetary policy. - Fiscal guidance: rebuild fiscal space; support that is "transparent, temporary, and targeted"; medium-term consolidation based on "well specified plans." - Structural reforms: enhance business dynamism, energy security, human capital, infrastructure, and governance for data protection and cybersecurity. - Three near-term risks (IMF staff assessments and trends): - AI-driven market correction — Trend: "About the same" - Policy: "Contain leverage used by investors to gain exposures to AI where excessive" and use sector capital requirements, concentration limits, and capital buffers as needed. - Sharp rise in sovereign bond yields — Trend: "Worse" - Policy: "Put public debt on a sustainable path and improve bond market structure, like central clearing." - Cyber threats — Trend: "Worse" - Policy: "Build specialized cyber capacity and enhance incident reporting, third-party risk oversight, and operational resilience." ### AI-driven market correction — mechanisms and indicators - Macroeconomic scenario: - World Economic Outlook scenario: unwinding of AI investment reduces global GDP, investment, and consumption "by as much as 0.4, 1.3, and 0.6 percent, respectively, by 2028." - Key quantitative indicators: - Circular financing since 2023: 14 transactions; equity investment $300 billion; additional debt financing $650 billion; revenue commitments $1.4 trillion; $320 billion of the $650 billion debt borne by investees. - Hyperscalers’ share of global investment-grade bond issuance increased to "10 percent from less than 1 percent" since 2024. - Hedge funds’ gross equity positions plus equity margin loans rose from 10 percent to about 15 percent of advanced economy GDP since 2024. - Single-stock share in leveraged ETFs rose to 28 percent from 16 percent since 2024. - Interaction with sovereign bond markets: - Surging AI-related debt issuances may compete with sovereign bonds for investor demand; current term premiums "are at the upper end of historical ranges, especially for advanced economy bonds." ### Cybersecurity and operational risks - Operational vulnerability metrics: - In more than 70 percent of cases in 2026, software providers had almost no time to patch vulnerabilities before exploitation began, a jump of 20 percentage points from a year earlier. - Workforce shortage analysis: - Coverage: 48 countries; five archetypes used to estimate workforce demand and supply. - Definitions: "Time to exploit" and zero-day rate (percentage of exploited vulnerabilities where exploitation occurred before or on the day of disclosure). - Policy emphasis: enhance cyber capacity, incident reporting, third-party oversight, resilience testing, and crisis preparedness. ### Structural vulnerabilities and resilience - Banking and households: - Global stress test: banks would remain "broadly resilient" under an adverse scenario with energy price shock, higher inflation and bond yields, and an AI-led market correction, but "a significant share of vulnerable banks" would emerge. - Household assets: equity and real estate holdings account for roughly 20 and 40 percent of household assets, respectively, or 1.2 and 2.5 times global GDP. - Household debt-service ratios have broadly improved since the 2022 rate hikes, but distributional risks persist for lower-income households. - Nonbank financial intermediation and institutional investors: - Insurance and pension funds increased holdings of illiquid assets, raising liquidity mismatch risks. - Private direct lending funds: higher borrower leverage and growing contingent liquidity commitments that can exceed funds’ available liquidity buffers. - Example: Among 10 BDCs with $300 billion in total assets, 4—representing about $90 billion in assets—have commitments exceeding their available liquidity buffers. - Hedge funds: - Gross assets about $13 trillion in early 2026. - Gross notional exposure (including derivatives) rose from $13 trillion in 2013 to more than $40 trillion in early 2026. - Hedge funds account for about 5 percent of total nonbank financial intermediation. - Hedge funds’ share of outstanding US Treasury securities rose from about 4 percent in 2022 to 9 percent in 2025. - Policy: close data gaps; strengthen monitoring, stress testing, and targeted prudential measures (activity-based and entity-based). ### Tokenization — market size, structure, and risks - Market size and composition (data as of July 31, 2026; 30-day moving average): - Public market for tokenized real-world assets (RWAs), excluding repos: about $65 billion. - Tokenized fixed income outside repos: about $48 billion. - Tokenized credit: $30.4 billion; tokenized money market funds: about $17.5 billion. - Tokenized equity markets: estimated at $2.3 billion. - Total tokenized asset value reported as $65.10 billion. - Market size as a percent of outstanding US Treasuries and the S&P 500 market capitalization: 0.20 percent and 0.12 percent, respectively. - 30-day average daily volume of tokenized repos: $303 billion. - Empirical findings on tokenized equities (sample of five most liquid tokenized US equities; data cover 365 trading days to July 31, 2026): - Sample market value: approximately $345 million, or about 15 percent of the $2.3 billion tokenized equity market. - More than 50 percent of activity in tokenized equities occurs outside regular US market hours. - About 80 percent of tokenized equity trades are executed in sizes below one share. - Pass-through coefficients of overnight tokenized returns to first five-minute US session returns range from 87 percent to 99 percent. - Tokenized markets show higher realized volatility (approximately 1.5 times traditional markets) and lower liquidity, especially on decentralized exchanges. - Key constraints to scaling: - Legal certainty: need clear rights, enforceability of smart contracts, and cross-border conflict-of-law rules. - Regulatory clarity: apply "same activity, same risk, same regulatory outcome"; use technology-neutral, look-through approaches; use policy sandboxes with clear objectives. - Interoperability: fragmented networks trap liquidity and reduce market depth; common standards needed. - Settlement: safe, sound, and scalable settlement ideally in central bank money or interoperable tokenized reserves; private settlement assets introduce credit and liquidity risks. - Scenarios for tokenized markets: - Niche tokenization: confined use cases, permissioned platforms, limited systemic risk but limited efficiency gains. - Institutional infrastructure adoption: permissioned networks for repo, collateral, and custody with material operational benefits. - Optimistic/broad tokenization: high adoption with interoperable networks and settlement in central bank money, delivering broad efficiency gains but also new amplification channels and vulnerabilities. ### Policy recommendations — priority actions across domains - Monetary policy: - Central banks should "remain agile and firmly focused on their mandates" and communicate clearly; "look through" temporary energy shocks only if second-round effects remain contained. - Fiscal policy: - Rebuild fiscal space with credible medium-term consolidation plans, durable revenue measures, spending efficiency, and prudent debt management; support to vulnerable groups should be "transparent, temporary, and targeted." - Financial stability and market functioning: - Strengthen bond market infrastructure and liquidity backstops (including central clearing); place public debt on a sustainable path; contain leverage in AI-related exposures; ensure cyber resilience focused on continuity of critical services. - Preserve bank capital and liquidity buffers; monitor NBFI interconnections; improve surveillance of institutional investors and private credit. - Tokenization-specific guidance: - Adopt technology-neutral approaches; ensure legal certainty and regulatory clarity. - Promote interoperability while safeguarding resilience; develop safe settlement arrangements, ideally involving central bank money or interoperable tokenized reserves. - Adapt supervision to operational and cyber risks of distributed networks; establish robust third-party risk and outsourcing frameworks; safeguard recordkeeping and settlement integrity; expand supervisory capacity and cross-border cooperation. - Monitor intraday liquidity implications of atomic settlement and consider liquidity buffers, prefunding needs, and stress testing. - Consider circuit breakers, liquidity fences, redemption gates, and adapted crisis-management tools for 24/7 markets. - Non-advanced economies: - Rebuild fiscal and external buffers consistent with the IMF Integrated Policy Framework; strengthen disclosure of alternative financing arrangements; advance foundational capital market development in parallel with technology adoption. *Source: International Monetary Fund, Global Financial Stability Report, October 2026.* ### Preface ### Preface ### Elevated risks and near-term catalysts - The Global Financial Stability Report highlighted that financial markets had been resilient since the April 2026 Global Financial Stability Report but that financial stability risks were elevated. - The report identified three salient risks that could be near-term catalysts for a sharp tightening of financial conditions and market turmoil: - First: Weaker or less durable investment and profitability in AI could trigger a correction in AI-related asset prices, exacerbated by rising leverage, concentrated exposures, and circular financing arrangements. Jurisdictions with financial markets sensitive to global AI developments, as well as those with substantial holdings of AI assets, were identified as more exposed to negative wealth effects or sharp market corrections. - Second: Resurgent inflation or fiscal concerns could trigger a sharp rise in sovereign bond yields and spark broader market turmoil given the foundational importance of sovereign bonds; high public debt and rollover risks remained unresolved, increasing the chances that a rise in yields could occur in a disorderly manner, despite stable bond market liquidity and the recent unwinding of some leveraged trades. - Third: Cyber threats were described as a growing systemic risk as financial services become more digital and interconnected; frontier AI models were noted as both powerful enablers of cyberattacks and critical defensive tools. ### Key vulnerabilities and resilience assessments - Strong core balance sheets across banks and households supported market resilience. - A global stress test confirmed that banks would remain broadly resilient under an adverse scenario featuring an energy price shock, higher inflation and bond yields, and an AI-led market correction; however, the scenario would reveal a significant share of vulnerable banks. - Households’ debt burdens had declined across countries in recent years, while household net worth had increased, making households less likely to be a source of systemic risk; nevertheless, a correction in housing or equity prices could curb household consumption and disproportionately impact lower-income households. - In emerging market economies, policy buffers had eroded in some cases, while the greater reliance of frontier economies on opaque alternative financing could weaken debt transparency and hinder future market access. - Additional vulnerabilities that had worsened included: - Insurance and pension funds increasing holdings of illiquid assets, raising liquidity mismatch risks and the likelihood of forced asset sales during market stress. - Higher borrower leverage and growing contingent liquidity risks in private direct lending funds, which could sharply curtail credit when financial conditions tighten. - Growing hedge fund sector leverage and crowded trades that could amplify market stress with spillovers to prime brokers and broader markets (see Chapter 2). - Tokenized assets remaining small but capable of creating new channels for buildup of leverage and mismatches in liquidity and maturity, and elevating technology and infrastructure risks (see Chapter 3). ### Policy priorities and recommendations - The report advised that policy priorities, particularly given limited room for macroeconomic policy support, should focus on resilience, transparency, and preparedness. - Specific policy guidance included: - Contain leverage in AI-related exposures where excessive. - Put public debt on a sustainable path. - Strengthen bond market infrastructure and liquidity. ### Coordination, contributors, and timing - The analysis was coordinated by the Monetary and Capital Markets (MCM) Department and benefited from comments and suggestions from senior staff in MCM and other IMF departments, as well as from Executive Directors following their discussions of the report on September 28, 2026. - The Preface stated that the GFSR reflected information available as of September 30, 2026. *Source: Global Financial Stability Report, International Monetary Fund, October 2026.* ### EXECUTIVE SUMMARY ### EXECUTIVE SUMMARY ### Outlook and policy context - The Global Financial Stability Report (October 2026) finds that the global economy "is again proving resilient despite repeated shocks," while geopolitics and technology have produced a split global economy. - Financial markets "have remained resilient since the April 2026 Global Financial Stability Report." Economic growth has held up and corporate earnings have been strong, particularly among firms related to artificial intelligence (AI). - "Likely responding to higher inflationary pressures stemming from the energy shock from the war in the Middle East, 14 of 33 major central banks have hiked policy rates since the second quarter of 2026, up from just 2 in the first quarter." - Overall financial conditions tightened somewhat in the first quarter of 2026, but subsequent tailwinds from corporate valuations left financial conditions "accommodative on net." Non-China emerging market economies experienced tighter financial conditions in 2026, mostly in the first quarter. ### Executive Directors’ assessment and priorities - Executive Directors broadly agreed with IMF staff’s assessment of the outlook, risks, and policy priorities. - Directors concurred that risks to the outlook remain skewed to the downside and that prolongation of wars could revive inflationary pressures, worsen fiscal and external balances, and weigh on growth. - Directors emphasized maintaining price and financial stability, preserving central bank independence, and clear communications on monetary policy. - Fiscal policy guidance emphasized: rebuild fiscal space, design support that is "transparent, temporary, and targeted," specify budgetary offsets upfront where fiscal space is constrained, and base medium-term consolidation on "well specified plans" including durable revenue measures, greater spending efficiency, and prudent debt management. - Directors called for strengthening delivery mechanisms for targeted support, supported as needed by Fund technical assistance. - Directors urged reigniting structural reforms to ease macroeconomic trade-offs and lift medium-term growth potential, including enhancing business dynamism, fostering energy security, investing across energy sources, investing in human capital and infrastructure to amplify gains from AI and digitalization, and strengthening governance for data protection, cybersecurity, competition, and responsible use. - Directors "concurred that commonly agreed international economic rules—with clear, transparent, predictable, and mutually beneficial trade policy frameworks—are essential to reduce uncertainty and limit fragmentation." ### Three salient risks that could sharply tighten financial conditions - The chapter identifies three salient near-term risks: an AI-driven market correction, a sharp rise in sovereign bond yields, and cyber threats. These were selected for the likelihood of triggering shocks and the severity of potential market impact. - Summary table (IMF staff assessment): - Artificial Intelligence (AI)-driven market correction — Trend: "About the same" - Triggering shocks: "weaker or less durable AI investments and profitability" - Impact: "could be significant given the growing size of AI-related assets." - Policy recommendations: "Contain leverage used by investors to gain exposures to AI where excessive, including limits on derivatives, exchange-traded products, and margin loans. Strengthen system resilience using tools such as sector capital requirements, concentration limits, and capital buffers, as needed." - Sharp rise in sovereign bond yields — Trend: "Worse" - Triggering shocks: "resurgent inflation, term premium rises due to fiscal shocks" - Impact: "could be severe given the foundational importance of sovereign bond markets." - Policy recommendations: "Put public debt on a sustainable path and improve bond market structure, like central clearing." - Cyber threats — Trend: "Worse" - Triggering shocks: "successful cyberattacks on critical financial institutions or market infrastructure" - Impact: "could be severe as rapid digitization has increased the attack surface. Frontier AI models could be used in both attacks and defense." - Policy recommendations: "Build specialized cyber capacity and enhance incident reporting, third-party risk oversight, and operational resilience." ### AI-driven market correction — mechanisms and concerns - AI has become an important support for the global economy and financial markets through spending on data centers, semiconductors, and related infrastructure. - The World Economic Outlook considers a scenario where an unwinding of AI investment reduces global GDP, investment, and consumption "by as much as 0.4, 1.3, and 0.6 percent, respectively, by 2028." - Leverage in the AI ecosystem is rising and could amplify a correction: - Since 2024, hyperscalers’ share of global investment-grade bond issuance has increased to "10 percent from less than 1 percent." - Hyperscalers’ free cash flows are "rapidly declining" as they sustain large AI investment needs, increasing reliance on debt financing. - IMF staff highlight growing leverage sources across AI-related firms and their investors (derivatives, exchange-traded products, margin loans) that could intensify market stress. ### Sharp rise in sovereign bond yields — drivers and vulnerabilities - Triggering factors include resurgent inflation and term-premium rises driven by fiscal shocks. - High debt and rollover risks remain unresolved, making sovereign bond markets susceptible to more frequent fiscal and inflation shocks despite currently orderly market functioning. - Global stress tests suggest the banking system "would remain adequately capitalized in a bond yield spike and AI-led correction scenario," but a significant share of vulnerable institutions would emerge, and some banks’ growing interconnectedness with nonbank financial intermediaries (NBFIs) could be a source of fragility. ### Cyber threats — systemic risk channel - Severe cyber incidents could undermine market confidence and disrupt critical financial market infrastructure and operations. - Rapid digitization has increased the attack surface, and frontier AI models could be leveraged in attacks. - Policy recommendations emphasize continuity of critical services with enhanced cyber capacity, incident reporting, third-party oversight, and resilience testing. ### Structural vulnerabilities that could amplify risks - IMF staff identify structural vulnerabilities and trend assessments: - Weak banks in a stress scenario — Trend: "About the same" - Assessment: "The global banking system remains resilient in an adverse scenario, but vulnerable institutions remain and linkages of some banks to NBFIs have deepened." - Recommendation: "Ensure prudent provisioning and robust buffers, monitor interconnections with NBFIs, and implement international standards." - Emerging market buffer erosion and alternative financing — Trend: "Worse" - Assessment: "Foreign exchange reserve buffers of weaker emerging markets have eroded, and frontier economies are increasingly using less transparent and alternative forms of financing." - Recommendation: "Rebuild buffers, ensure policy mix is consistent with the IMF Integrated Policy Framework, and ensure robust disclosure of alternative borrowing sources." - Liquidity mismatches of institutional investors — Trend: "Worse" - Assessment: "Insurer and pension fund holdings of illiquid assets have increased and have become more concentrated, with liquidity mismatches rising." - Recommendation: "Monitor and stress test liquidity gaps, align fund liquidity with underlying asset liquidity." - Leverage and liquidity risks in private credit — Trend: "About the same" - Assessment: "Default rates have fallen, but liquidity pressure is elevated and borrowers are more leveraged." - Recommendation: "Strengthen surveillance of interconnected risks and address excessive exposures of regulated entities to private credit." - Household debt burden — Trend: "Better" - Assessment: "Debt burden has eased and households have sizable assets, but tighter financial conditions could erode wealth." - Recommendation: "Use macroprudential tools to ensure ongoing household resilience." ### Policy recommendations — priority actions - Monetary policy: - Central banks should "remain agile and firmly focused on their mandates." - Clear communication and strong central bank independence are crucial for credibility. - Monetary policy can "look through" temporary energy shocks only if second-round effects remain contained; otherwise a bias toward tightening may be warranted, especially where inflation is already above target. - Fiscal policy: - Rebuild fiscal space with credible medium-term consolidation plans, durable revenue measures, spending efficiency, and prudent debt management. - When support for the most vulnerable is necessary, it should be "transparent, temporary, and targeted, with budgetary offsets specified upfront." - Financial stability and market functioning: - Maintain orderly adjustment with exchange rate flexibility as the first line of defense, complemented where warranted with measures consistent with the Integrated Policy Framework. - Strengthen bond market infrastructure and liquidity backstops (including central clearing), place public debt on a sustainable path, contain leverage in AI-related exposures, and ensure cyber resilience focused on continuity of critical services. - Preserve bank capital and liquidity buffers, monitor NBFI interconnections, and improve surveillance of institutional investors and private credit. - Emerging and frontier market authorities: - "Rebuild fiscal and external buffers, maintain a coherent policy mix, and strengthen disclosure of alternative financing arrangements." - Structural reforms: - Reignite reforms to enhance business dynamism, foster energy security through diversified energy sources, invest in human capital and infrastructure to magnify gains from AI, and strengthen governance for data protection, cybersecurity, competition, and responsible use. - Surveillance and standards: - Ensure timely and consistent implementation of internationally agreed standards and closely monitor vulnerabilities from the growing role of NBFIs. - Balance innovation and market efficiency with financial resilience in areas such as hedge funds and tokenization. *Source: International Monetary Fund, Global Financial Stability Report, October 2026 (Executive Board discussion remarks concluded on September 28, 2026).* ### 1. Equity Leverage and Debt related to Arti cial Intelligence ### Equity Leverage and Debt related to Artificial Intelligence ### Key findings - Circular financing transactions since 2023 involve fourteen publicly disclosed transactions accounting for approximately $300 billion of aggregate equity investments led by hyperscalers, supplemented by $650 billion in debt, in exchange for $1.4 trillion in future revenue commitments. - About $320 billion of the $650 billion debt is taken on by investees in circular financing deals, including debt backed by investor guarantees, contingent financing, and other off-balance-sheet debt. - Hedge funds’ gross equity positions plus equity margin loans have grown from 10 percent to about 15 percent of advanced economy GDP since 2024, reflecting increased levered positions in AI-related equities. - The share of single stocks in leveraged exchange-traded funds has increased to 28 percent from 16 percent over the same period, as retail investors used these funds to gain levered exposures to AI stocks. - Chen, Gautam, and Wu (2026) analyze the financial health of 74 firms in the AI ecosystem and find many firms upstream and downstream from the hyperscalers have weaker balance sheets. ### Mechanisms and amplification channels - Circular financing reinforces leverage-driven interdependencies: equity and debt investments in investees depreciate in value precisely when future revenue streams tied to them are impaired, creating “wrong-way risk” for investors. - A sharp slowdown in AI investment could weaken earnings, expose accumulated leverage by making repayments more difficult for firms or equity investors, and weigh on equity prices. - Advanced Asian equity markets that exhibit high betas to a proxy of global AI equity returns will likely suffer most; the euro area and the United Kingdom appear to have low betas, as do most emerging markets. Most markets’ betas to AI moderated this year. - Even jurisdictions with low equity market beta to AI could receive stress transmission through the sharp increase in holdings of US equities from 2022 to 2026, much of which reflects greater allocations to hyperscalers and other AI-related firms. ### Quantitative indicators and market context - Circular financing: 14 transactions since 2023; equity investment $300 billion; additional debt financing $650 billion; revenue commitments $1.4 trillion; $320 billion of the $650 billion debt borne by investees. - Leverage metrics: hedge funds’ gross equity positions plus equity margin loans rose from 10 percent to about 15 percent of advanced economy GDP since 2024. - Retail leverage: single-stock share in leveraged ETFs rose from 16 percent to 28 percent since 2024. - Firm coverage: financial health analysis of 74 firms in the AI ecosystem (Chen, Gautam, and Wu 2026). ### Interaction with sovereign bond markets and broader financial stability - Surging AI-related debt issuances that may compete with sovereign bonds for investor demand have been cited as an additional source of pressure on bond markets. - Increases in term premiums and higher expected short-term rates have driven recent rises in 10-year government bond yields; current term premiums are at the upper end of historical ranges, especially for advanced economy bonds. - A sharp rise in bond yields would depreciate asset valuations through higher discount rates—including on AI-related assets—and erode the value of government bonds used as collateral in derivatives and other financial transactions. ### Cybersecurity and operational risk links - Rapid digitalization and concentration in a small number of critical technology providers increase common points of failure across financial institutions and the potential for systemic operational disruptions. - In more than 70 percent of cases thus far in 2026, software providers had almost no time to patch vulnerabilities before exploitation began, a jump of 20 percentage points from a year earlier. - Regions such as Asia face significant shortages of cybersecurity talent; AI can help address shortages through stronger monitoring, threat detection, and automated response, but also increases urgency of strengthening cyber resilience, incident reporting, crisis preparedness, and oversight of critical third-party providers. *International Monetary Fund, Global Financial Stability Report (October 2026).* ### 2. Global Cybersecurity Workforce Shortage ### 2. Global Cybersecurity Workforce Shortage ### Key findings - The shortage is measured as a share of the current workforce and covers 48 countries. - The study estimates workforce demand and supply using five archetypes based on cyber maturity and macroeconomic indicators, adjusted for industry and firm size. - Definitions: - “Time to exploit” measures the gap between common vulnerabilities and the public disclosure and first confirmed exploitation of exposures. - The zero-day rate is the percentage of exploited common vulnerabilities and exposures where exploitation occurred before or on the day of disclosure. ### Metrics presented - Coverage: 48 countries. - Archetypes used: five archetypes. - Data sources cited: zerodayclock.com; Global Cybersecurity Forum (2024). ### Methodology notes - Workforce shortage is expressed as a share of the current workforce. - Demand and supply estimates are adjusted for industry and firm size. - Archetypes combine cyber maturity and macroeconomic indicators to classify countries for the analysis. *Global Financial Stability Report, International Monetary Fund | October 2026.* ### 1. Share of Illiquid Investments in Institutional Investor Portfolios ### Share of Illiquid Investments in Institutional Investor Portfolios ### Key findings on illiquidity and concentration - Institutional investor portfolios have grown in size, concentration, and illiquidity, increasing the need for broader risk monitoring (IMF, Global Financial Stability Report, October 2026, Chapter 1). - Semiliquid vehicles accounted for more than 50 percent of new fundraising in the US in 2025 prior to the recent redemption wave. - Among 10 BDCs with $300 billion in total assets, 4—representing about $90 billion in assets—have commitments exceeding their available liquidity buffers. - The ratio of the median borrower’s debt-to-EBITDA has risen from 2024 through 2026, especially in the software and services industries (IMF staff calculations; Figure 1.12). - Pension funds and insurers’ illiquid exposures were estimated as follows in the IMF staff calculations: - Pension funds: asset-weighted share of alternative investments used as a proxy for illiquid investments for a sample of large defined-benefit plans in the United States and Europe and defined-contribution plans in the United States. - Insurers: Level 3 exposures of a sample including 50 of the largest insurers globally; Level 3 assets are the most illiquid, often priced with unobservable inputs, including proprietary models. - Pension funds are the main client in institutional investment mandates, accounting for over half of the advisory assets of investment consultants, followed by sovereign wealth funds, insurers, endowments, and nonprofit organizations. ### Risks in private credit and liquidity transmission - Direct lending vulnerabilities: - Funds have amended and extended loans, providing flexibility to some borrowers, but borrowers have taken on additional debt often used for dividend recapitalizations. - Elevated borrower leverage contributes to a persistently large share of borrowers unable to generate sufficient cash flow to meet debt-servicing obligations, leaving many reliant on sponsor support, lender forbearance, or continued access to external financing. - Contingent liquidity risks are rising: direct lending funds increasingly provide borrowers with substantial contingent liquidity commitments that can exceed available liquidity buffers. - Systemic transmission channels: - In a stress scenario, borrowers could draw heavily on contingent facilities just as funds’ own liquidity resources are eroded by lower collateral values, potentially transforming liquidity pressures into a broader contraction in credit supply and amplifying procyclicality. - Growing interconnectedness between banks and NBFIs warrants intensified monitoring of banks’ exposures to NBFIs and assessment of how stress at lightly regulated institutions could affect bank solvency and liquidity under adverse scenarios. ### Household balance sheets and distributional vulnerabilities - Household-level aggregates: - Households’ equity and real estate holdings account for roughly 20 and 40 percent of their assets, respectively, or 1.2 and 2.5 times global GDP. - Household debt-service ratios have broadly improved in recent quarters and remain appreciably lower than the peak levels reached after central banks began hiking interest rates in 2022. - Distributional risks: - Lower-income households could be disproportionately affected by higher interest rates because of limited liquidity buffers; delinquency rates on consumer debt tied to households, like credit card debt in the United States, have risen. - Persistent inflation leading to higher interest rates and weaker real income growth could further raise debt-servicing burdens for low-income households. - Investment exposure, including equities, has risen by 1 to 3 percentage points for the bottom 20 percent of households over the past five years in the United States, the euro area, and Japan (latest available data). ### Policy recommendations and supervisory actions - Institutional investors and market structure: - Authorities should identify common exposures, leverage, and liquidity mismatches across pension funds and insurers, and strengthen cross-sectoral and cross-border information sharing and data collection. - Increase the use of solvency and liquidity stress tests for pension funds and insurers. - Ensure that the liquidity of investment products remains aligned with that of the underlying assets through appropriate redemption terms and notice periods. - Private credit and disclosure: - Strengthen systemwide monitoring of risks across the entire financing chain—portfolio companies, special-purpose vehicles, funds, and investors—and close data gaps on leverage, contingent liquidity commitments, and cross-sectoral and cross-border exposures. - Enhance disclosures to support stress testing and surveillance tools that assess shock propagation across institutions and markets. - Macroprudential and supervisory measures: - Financial sector supervisors and macroprudential authorities should assess systemwide losses from AI-related and other concentrated exposures and, where material, deploy tools including sectoral capital requirements; concentration limits, including in prime brokerage relationships; and capital buffers. - Intensify monitoring of banks’ exposures to nonbank financial institutions and assess how stress at lightly regulated institutions could affect bank solvency and liquidity. - Emerging markets and policy buffers: - Emerging market authorities should rebuild policy buffers consistent with the IMF’s Integrated Policy Framework, rebuild external buffers where eroded, calibrate monetary, exchange rate, macroprudential, and capital flow measures to country circumstances, and ensure medium-term fiscal and debt management frameworks safeguard debt sustainability. - Spending to protect vulnerable groups from inflation or an energy shock should be temporary and targeted; disclosure and comprehensive debt transparency are essential given increased recourse to alternative borrowing sources. - Household resilience: - Authorities should closely monitor household balance sheets and debt-servicing burdens, particularly where mortgage payments are sensitive to interest rate fluctuations, and consider macroprudential measures such as limits on loan-to-value or debt-service-to-income ratios. - Market and operational resilience: - Strengthen market structures and central clearing for bonds and repos; ensure central bank liquidity facilities are operationally ready. - Build systemwide operational resilience against cybersecurity and AI-accelerated threats, tailored to countries’ cyber maturity, including third-party risk oversight, resilience testing, incident reporting, crisis coordination, and supervisory capacity. *Source: IMF, Global Financial Stability Report, Chapter 1, October 2026.* ### CHAPTER 1 Beneath the ResIlIence: RIsIng RIsks, UnResOlved vUlneRaBIlItIes ### CHAPTER 1 Beneath the ResIlIence: RIsIng RIsks, UnResOlved vUlneRaBIlItIes ### Framework: risks versus vulnerabilities - Risks are defined following Adrian and others (2019) as scenarios that are plausible near-term catalysts for market turmoil and a sharp tightening of financial conditions. - Risks combine both the likelihood of triggering shocks and the potential severity of impact on markets (for example, bond market risks could worsen if inflationary energy shocks become more likely). - Financial instability or systemic risk arises when risks are amplified by financial vulnerabilities to impair the functioning of key financial institutions and markets, disrupting the provision of credit or financial services and causing serious negative effects to the real economy, often necessitating extraordinary policy responses. - Vulnerabilities are structural imbalances in the financial system, including elevated leverage, liquidity mismatches, concentrated exposures, interconnectedness, and weak external or fiscal positions. - Vulnerabilities can amplify risks through mechanisms including forced deleveraging, fire sales, funding stress, and contagion and determine the extent to which shocks or risks propagate through the financial system and affect the real economy. - IMF staff select candidate risks and vulnerabilities from daily market surveillance, market reports, analytical tools, and outreach; selection criteria include: - For risks: likelihood of triggering shocks; severity of potential market impacts. - For vulnerabilities: potential to amplify risks; extent of recent changes; whether there are novel analyses to shed new light. - Trends in risks and vulnerabilities are classified as “better,” “about the same,” or “worse” based on the balance of evidence from empirical indicators, balance sheet data, stress tests, and other analytical tools; overall financial stability risks are assessed based on the combined trajectory of risks and vulnerabilities and may be benchmarked against growth-at-risk estimates (Adrian and others 2019). *Box prepared by IMF staff; framework reflects IMF staff surveillance and Adrian and others (2019).* ### European sovereign bond markets and common borrowing (Box 1.2) - Government bond spreads in the euro area have narrowed in recent years; yield differentials between core and southern member states (Greece, Italy, Portugal, and Spain) have narrowed markedly. - Convergence reflects factors including stronger fiscal positions in the southern states and European Central Bank measures such as the Pandemic Emergency Purchase Programme and the Transmission Protection Instrument; evidence suggests European Union funding programs played an important role. - Since the launch of the Next Generation EU, the European Commission has become a relatively large, regular borrower across maturities; common borrowing and transfers have strengthened perceptions of fiscal risk sharing and helped reduce concerns about debt sustainability and redenomination risk. - Empirical findings: - The association of sovereign bond asset-swap spreads to systemic stress—gauged by the European Central Bank’s Composite Indicator of Systemic Stress—has become less negative since the introduction of the Next Generation EU. - The effect was particularly pronounced in some southern European economies, where joint funding programs contributed to compression of sovereign spreads as compensation for contagion and redenomination risks. - Results (not shown) suggest shocks that previously triggered a flight into German bunds no longer generate significant selling pressure on southern European sovereign bonds. - Interpretation stated by IMF staff: risk-sharing programs, where applicable in currency unions, can supplement fiscal consolidation in mitigating bond market fragilities. - Notes and definitions: - Asset-swap spreads are computed as the difference between the swap rate and bond yields; a negative value reflects a premium demanded by investors to bear sovereign credit risk, liquidity and funding risks. *Box 1.2 prepared by Francesco de Rossi; analysis covers the period from January 2016 until the end of July 2026.* ### Corporate debt and “zombie” firms in Asia (Box 1.3) - Private sector debt remains elevated. - At the end of 2025, credit in Asia averaged 107 percent of GDP, compared with an average of 99 percent for emerging market economies and 93 percent globally, up from 81 percent in 2007. - Across 10 Asian economies, zombie firms—those for which earnings have not covered interest expenses for at least three consecutive years—now account for 21.4 percent of corporate debt outstanding in the region, having increased from under 10 percent in 2008. - In Latin America, Europe, and Africa, on average about one in eight firms were zombies in 2024, concentrated in a handful of large borrowers. - Bank forbearance sustains corporate zombies; evidence: - In the Asian economies, banks with Tier 1 capital below the median of their country counterparts have 16 percent of their loans with zombie firms, compared with 12 percent for better capitalized banks. - Quantitative estimate of evergreening effects in the 10 Asian economies: - If the stock of zombie debt had been subjected to hazard and recovery rates typical of firms with sustained distress, almost 23 percent of their debt would have been written off or restructured as of 2025. - This amounts to more than 5 percent of total corporate debt. - Estimation assumptions stated by IMF staff: - Annual default hazard of 9 percent—the exit rate of comparably distressed firms absent evergreening—calibrated by Faria-e-Castro, Paul, and Sánchez (2024). - Creditor recovery of 35 percent upon default based on Kermani and Ma (2023). - The shaded band in panel 2 indicates the range of estimates based on alternative default hazards of 5 to 15 percent. *Box 1.3 prepared by Sally Chen and Amanda Liu; samples and data sources noted in the box.* ### Hedge funds: key findings and policy recommendations (Chapter 2 at a Glance, cited in the chapter) - Key findings: - Hedge funds have become increasingly important participants in global financial markets, with gross assets more than tripling since the previous decade to about $13 trillion in early 2026. - The growing market footprint of hedge funds can support market liquidity and efficiency in normal times but may amplify price dislocations and liquidity strains during periods of stress. - Amplification is driven by key vulnerabilities, including leverage, fragile investor funding, and crowded trades in which many hedge funds hold similar positions. - Equities held by more vulnerable hedge funds experience larger price declines and higher volatility during market stress. - Leverage amplifies the adverse effects of crowded positions and investor redemptions, including through the widening of spreads when leveraged sovereign bond trades unwind. - Adverse shocks to hedge funds can spill over to prime brokers, typically large dealer banks, and broader financial markets, with potential implications for macrofinancial stability. - Hedge fund vulnerabilities remain difficult to monitor because of significant data gaps, particularly regarding leverage, derivatives exposures, counterparty relationships, and cross-border activities. - Policy recommendations: - Close data gaps and strengthen risk monitoring, including through stress testing and scenario analysis, to better identify vulnerabilities in markets with significant hedge fund participation. - Address risks from crowded trades and synchronized deleveraging through targeted and well-calibrated activity-based measures, including stronger collateral management practices. - Where risks are concentrated, deploy entity-based measures, such as risk-based leverage limits, capital or margin add-ons, and limits on concentrated exposures. - Improve market resilience by strengthening counterparty risk management. - Maintain credible crisis backstops to contain severe market disruptions and strengthen international coordination to limit regulatory arbitrage. *Global Financial Stability Report, International Monetary Fund, October 2026.* ### Introduction ### Introduction ### Growth and size of the hedge fund sector - The chapter reports that hedge funds account for only about 5 percent of total nonbank financial intermediation. - By early 2026, gross assets of hedge funds reached about $13 trillion, compared with $4 trillion in 2013. - The sector’s gross notional exposure, including off-balance-sheet derivatives positions, has tripled from $13 trillion in 2013 to more than $40 trillion in early 2026. - Hedge funds’ sovereign bond exposures have more than doubled since 2022, with about two-thirds of the increase concentrated in US Treasuries. - In the US Treasury market, hedge funds are estimated to have increased their share of holdings from around 4 percent in 2022 to 9 percent in 2025. ### Leverage and funding - Since 2013, the gap between gross and net assets—a measure of borrowing—has risen by nearly $6 trillion for hedge funds. - Many hedge fund strategies rely extensively on synthetic leverage through derivatives; synthetic leverage is measured using derivatives positions expressed in terms of their equivalent exposure to the underlying assets relative to funds’ gross assets. - Prime brokerage and repurchase (repo) financing have expanded by more than $5 trillion since 2013. - Repo borrowing has largely funded increased sovereign bond exposures, while prime brokerage financing has supported growth in equity exposures. - Hedge fund leverage is described as strongly procyclical. ### Market roles, benefits, and vulnerabilities - Hedge funds can improve market efficiency, liquidity, and risk sharing through broad mandates, flexible strategies, data-driven trading, and access to leverage; these benefits often depend on ample funding liquidity and low market volatility. - The same features that support market functioning in normal times can lead hedge funds to retrench and amplify stress when market volatility rises or funding conditions tighten. - Amplification mechanisms cited include margin calls that trigger unwinding of leveraged positions, concentrated or crowded positions that reverse abruptly, and investor redemptions that force asset sales and impair market liquidity. - The chapter notes that these amplification mechanisms may be more pronounced for hedge funds than for other investment funds because hedge funds typically employ higher leverage and face fewer constraints on portfolio positions and risk levels; they may be similar to those in proprietary trading firms. - Examples and episodes: - The chapter cites the March 2020 “dash for cash” as an event when hedge fund deleveraging and larger portfolio adjustments than those of mutual funds contributed to market stress. - A July 2026 stress episode at Situational Awareness involved losses on highly leveraged and concentrated AI-related equity positions that triggered margin calls and forced deleveraging; the fund’s publicly listed portfolio was subsequently acquired by another market participant, facilitating an orderly unwind and helping to mitigate the immediate market impact of the forced liquidation. ### Transmission channels and feedback loops (conceptual framework) - Key vulnerabilities that influence shock transmission: concentrated and crowded positions, correlated end-investor flows, and leverage. - Concentrated positions: large exposures to specific assets increase sensitivity to adverse price movements. - Crowded positions: when similar exposures are shared across investors, prices can become more sensitive to trading activity and unwind rapidly during stress. - Correlated end-investor redemptions amplify selling pressures when redemption arrangements allow or force simultaneous sales. - Deleveraging: secured financing and derivatives-based leverage are highly sensitive to market conditions through financing terms and margin requirements, turning hedge funds from liquidity providers in calm times into demanders of liquidity during stress. - Interaction of vulnerabilities: margin calls can trigger unwinding of crowded positions, producing price declines that prompt additional margin calls and further deleveraging; correlated redemptions can force simultaneous reductions in exposure. - Interconnectedness: hedge funds’ links with prime brokers and other dealers can transmit losses and asset-sale pressures to intermediaries, potentially tightening financing conditions and reinforcing deleveraging and asset liquidations; resulting balance sheet pressures may reduce intermediation capacity and amplify stress across markets and jurisdictions. ### Heterogeneity across strategies and markets - Vulnerabilities and risks vary across strategies: - Macro and relative-value strategies often rely on significant leverage and are susceptible to margin calls and forced deleveraging. - Equity funds are more exposed to changes in equity valuations and market liquidity. - Managed futures strategies may be sensitive to abrupt reversals in market trends and can also be significantly leveraged, particularly through derivatives. - The hedge fund sector’s market footprint is particularly evident in sovereign bond markets, where hedge funds’ role in liquidity provision, price discovery, and absorption of new issuance has increased. ### Monitoring, transparency, and data - Historically, hedge funds operated with fewer disclosure requirements and investment restrictions than most other nonbank financial intermediaries; reforms since the global financial crisis have improved transparency through adviser registration, regulatory filings, and more systematic reporting of private fund activity. - Hedge funds remain inherently opaque, with significant heterogeneity across funds, rapidly shifting exposures, and leverage embedded in derivatives; offshore structures and uneven data coverage complicate measurement of aggregate exposures, counterparty concentration, and cross-border spillovers. - Data and methodology used in the chapter: - The analysis combines information from multiple data sources to construct a comprehensive view of the hedge fund sector. - It draws on granular data for more than 25,000 unique hedge funds domiciled in 78 advanced and emerging market economies from 1990 to 2026. - Several commercial hedge fund databases are integrated, covering fund size, investment strategies, leverage, redemption terms, and counterparty relationships, including links to prime brokers. - Quarterly security-level equity and bond holdings data capture both sovereign and corporate issuers. - The chapter notes important data gaps, including incomplete information on leverage, derivatives exposures, and prime broker relationships and weaker coverage of bond holdings than of equities. ### Chapter scope and analysis - The chapter: - Presents a simple conceptual framework illustrating how hedge funds can transmit and amplify shocks through markets and intermediaries, with potential consequences for macrofinancial stability. - Examines the evolution of the hedge fund sector over time, including changes in its size, concentration across investment strategies, and leverage. - Assesses the role of hedge funds in equity and bond markets, focusing on effects on market liquidity and efficiency during calm and stressed conditions and comparing hedge funds with other nonbank intermediaries like mutual funds. - Analyzes how vulnerabilities—leverage, investor redemptions, and crowded positions—influence hedge fund trading behavior and market impact. - Evaluates systemwide financial stability implications of hedge fund stress, including spillovers to other financial intermediaries and broader market conditions, and outlines policy options to strengthen monitoring, transparency, and risk mitigation. - Contributions highlighted: - Examines how hedge funds affect market liquidity and efficiency relative to mutual funds. - Analyzes how different hedge fund vulnerabilities can amplify macrofinancial shocks. - Identifies channels through which hedge fund stress can spill over to other financial intermediaries. *Source: International Monetary Fund, Global Financial Stability Report, October 2026, Chapter 2.* ### Annex Figure 2.2.2, panel 3). ### Annex Figure 2.2.2, panel 3 ### Concentration and domicile - The hedge fund sector is highly concentrated: - The largest 16 managers oversee over $20 billion in investor capital each and account for about one-third of total net assets. - Among the roughly 300 firms managing more than $1 billion in net assets, which account for about 85 percent of the sector’s capital, macro and managed futures strategies are more prevalent than among smaller firms. - Concentration is even higher by gross exposures, with the largest 10 managers accounting for one-third of total exposures (OFR 2026). - Funds are domiciled in a small number of financial centers: - Funds in the United States, the Cayman Islands, Luxembourg, and Ireland collectively hold over 80 percent of the sector’s assets under management. - Other major managers are domiciled in Brazil, Hong Kong SAR, Singapore, and the United Kingdom. - Fund managers raise approximately 70 percent of their investor capital through offshore structures, broadening investor access but complicating risk monitoring and supervisory oversight when disclosure requirements vary across jurisdictions. ### Leverage and prime brokerage - Leverage is concentrated in a few strategies and sourced mainly from the largest dealer banks: - Relative-value and macro strategy funds exhibit the highest financial leverage and account for most of the increase in leverage since 2023. - The five largest prime brokers serve an estimated two-thirds of funds by assets under management. - Prime broker exposures vary considerably across investment strategies, creating channels for shock transmission between hedge funds and dealer banks. - Typical redemption and liquidity terms: - Typical lockup periods range from two to six months. - Redemption frequencies are generally monthly or quarterly. - Notice periods average just over 30 days. - Redemptions can also be subject to fees and, in some cases, gates. ### Portfolio similarity and investor sensitivity - Hedge fund portfolios are becoming increasingly similar: - The overlap in equity holdings—measured by cosine similarity—has risen over time, especially among the largest funds, with acceleration since 2022. - End investors are highly sensitive to performance: - Investor flows remain strongly linked to past returns, especially following large losses, consistent with investors redeeming from underperforming managers. ### Market impact of trading and informational role - Trading patterns and liquidity provision: - Hedge funds generally increase positions in equities whose prices are falling and reduce positions in those whose prices are rising, i.e., they trade contrarian in calm times. - This contrarian tendency weakens when market volatility rises; hedge funds are less likely to provide stabilizing liquidity under stress. - The largest funds remain equally contrarian under both tranquil and stressed conditions; smaller funds are contrarian primarily in calm times and behave more like mutual funds when volatility rises. - Securities with greater hedge fund ownership tend to be more liquid in calm markets (narrower bid-ask spreads), though this effect is not significant during periods of stress. - Information acquisition and abnormal returns: - Cumulative abnormal equity returns rise gradually around increases in hedge fund ownership, show little subsequent reversal, and tend to occur after periods of relative price weakness, consistent with valuation- or arbitrage-driven accumulation. - Increases in mutual fund ownership are associated with lower subsequent abnormal returns and little evidence of a pre-trend. ### Vulnerabilities and amplification during stress - Crowded positions, flow fragility, and leverage increase downside risk during market stress: - Stocks with the most crowded positions exhibit about 10 percentage points higher volatility and 4 percentage points larger drawdowns than the least-crowded stocks. - Average stress-period realized volatility of daily returns is 37 percent and maximum stress-period drawdowns are 17 percent. - Stocks with the least-stable hedge fund investor base exhibit 7 percentage points higher volatility and 2 percentage points deeper drawdowns than comparable stocks with less-correlated redemption pressures. - Equities held by more leveraged hedge funds experience larger price declines and higher volatility during market stress, though these effects are, on average, smaller than those associated with crowdedness and investor base fragility. - Leverage amplifies the effects of crowdedness and investor base fragility: equities simultaneously exposed to hedge fund leverage and crowded positions experience significantly larger increases in volatility and deeper drawdowns during periods of market stress. ### Macrofinancial spillovers to prime brokers - Hedge fund stress transmits to prime brokers: - A one-standard-deviation increase (decline) in hedge fund returns, equivalent to around 2 percentage points, raises (reduces) prime broker returns by 1.4 percentage points during the month of the shock. - Spillovers are larger for prime brokers with riskier clients (measured by return volatility) and for those with more leveraged clients. - The spillover effect dissipates over subsequent months, suggesting it is relatively short-lived. *Source: IMF staff, Global Financial Stability Report, October 2026 (Annex Figure 2.2.2, panel 3).* ### 1. Effect of a Hedge Fund Shock on ### Effect of a Hedge Fund Shock on ### Effect on Prime Broker Returns - Estimates measure the effect of a one-standard-deviation shock to hedge fund returns on prime broker returns; error bars show 90 percent confidence intervals. - Results are reported overall and split by client riskiness (median average variance of fund returns) and client leverage (median fund leverage). - Visual evidence covers horizons labeled tt+1 and t+6 (percentage points). *Sources: Hedge Fund Research; Lipper Trading Advisor Selection System; With Intelligence; and IMF staff calculations.* --- ### Amplification of Global Risk Shocks via Hedge Fund Equity Presence - A one-standard-deviation increase in aggregate hedge fund ownership (1.3 percentage points) amplifies the effect of a global risk shock on quarterly domestic equity returns by about 1 percentage point. - The average decline in domestic equity returns following such a global risk shock is 7 percent. - Amplification is substantially more pronounced in less-liquid markets (defined by Amihud illiquidity measure above its median). - These amplification effects are not observed for mutual fund ownership. *Sources: FactSet; and IMF staff calculations.* --- ### Conclusions and Policy Recommendations (Summary) - Hedge funds provide liquidity and risk sharing in calm periods but can trigger synchronized deleveraging and asset sales during stress because of leverage, crowded positions, and correlated investor redemptions. - Stress in the hedge fund sector can spill across markets through links to prime brokers, derivatives counterparties, repo markets, and other intermediaries, increasing asset price volatility and tightening financial conditions. - Policy approach should combine improved data collection and risk monitoring, targeted prudential measures, and market-structure reforms. --- ### Data, Transparency, and Risk Monitoring (Recommendations) - Priority information to improve: leverage; exposures to derivatives; securities financing transactions; prime broker relationships; and investor redemption arrangements. - Stronger cross-border reporting frameworks and information-sharing arrangements are essential due to the global nature of the industry and the role of offshore domiciles. - Systemwide surveillance and stress-testing frameworks should incorporate hedge funds’ linkages with other intermediaries and cross-asset positions to assess how leverage, margin calls, funding pressures, and asset liquidations affect market liquidity and asset prices. --- ### Risk-Based Prudential Toolkit (Recommendations) - Activity-based measures for risks arising from synchronized deleveraging could include: - Minimum margin and haircut requirements in securities financing transactions and derivatives markets. - Stronger collateral management practices. - Measures to ensure preparedness for margin calls during periods of market stress. - Entity- and concentration-based tools where vulnerabilities are firm- or exposure-specific could include: - Risk-based leverage limits. - Enhanced reporting of large positions. - Capital or margin add-ons. - Large-exposure limits. - Design considerations: uneven application across jurisdictions and counterparties, potential adverse effects on market liquidity, synthetic leverage, cross-border activity, and limits on information sharing. --- ### Market Resilience and Crisis Preparedness (Recommendations) - Supervisors should ensure prime brokers maintain robust counterparty risk management, enhanced risk assessment, monitoring of concentrated exposures, and prudent collateral practices to limit contagion with the banking sector (BCBS 2024). - Central banks should maintain credible, targeted, and operationally ready backstops to address episodes of severe dysfunction in core financial markets; such measures should aim to preserve market functioning rather than support solvency of individual institutions and should complement ex ante resilience at prime brokers and other intermediaries. - International cooperation is needed to promote consistent implementation, reduce regulatory gaps, and limit regulatory arbitrage across jurisdictions. - Backstops could include discretionary marketwide operations informed by predefined, data-driven indicators of market dysfunction (April 2023 Global Financial Stability Report); collateralized lending and securities financing operations; and market-functioning asset purchases. Eligibility, collateral, and pricing should be set ex ante to limit use to periods of acute dysfunction. --- ### Hedge Fund Activity and the Foreign Exchange Market (Box findings) - Hedge funds accounted for about 8 percent of global foreign exchange turnover in April 2025 (BIS 2025). - Carry-trade exposures increased notably ahead of the January 2015 Swiss franc floor removal and the August 2024 yen carry trade unwind, then declined sharply thereafter. - Noncommercial yen shorts reached a record 3.5 standard deviations above their historical average before unwinding abruptly. - A one-standard-deviation increase in leveraged short positions is associated with cumulative effects reaching 2 percentage points for funding currencies and related equity indices up to one quarter. - When crowdedness is elevated, the same buildup is associated with a 9-percentage-point decline in the 10th percentile of the Nikkei, compared with 1.5 percentage points otherwise. - Multistrategy funds, especially those domiciled offshore, reduced both carry trade and Japanese equity exposures following the yen carry trade unwind. - Monitoring needs: leveraged and crowded carry trade exposures, granular data on over-the-counter derivatives, prime broker financing, and cross-asset exposures; assessment of the procyclicality of margining practices and volatility-sensitive risk models. --- ### Hedge Fund Activity and the US Treasury Market (Box findings) - Hedge funds’ share of outstanding Treasury securities rose from about 4 percent in 2022 to 9 percent in 2025 (Monin 2026). - Basis-trade footprint assessed via relationship between hedge fund returns and Treasury net-basis volatility; share of residual hedge fund return variation explained by basis volatility has varied over time: - Became insignificant following March 2020 Treasury market turmoil and strengthened again after 2022. - Recently moderated, consistent with a decline in leveraged funds’ short Treasury futures positions reported by the Office of Financial Research Hedge Fund Monitor. - Basis-trade exposure concentrated in relative-value and macro strategies, greater among more leveraged funds; exposures were particularly pronounced among offshore-domiciled and larger funds during the buildup before the COVID-19 pandemic. - A one-standard-deviation increase in leveraged positioning: - Leaves the median basis unchanged but raises its 90th percentile by 1.5 basis points over eight weeks while helping reduce dislocations when the basis is converging. - Has larger effects when the Federal Reserve balance sheet is smaller relative to the debt stock. - Effects depend on dealer intermediation capacity: - When dealer capacity is ample, greater positioning helps absorb Treasury supply and reduces basis widening. - When dealer capacity is constrained, greater positioning amplifies market dislocations. --- *International Monetary Fund | October 2026* ### Box 2.2. Implications of US Treasury Cash-Futures Basis Trades of Hedge Funds ### Box 2.2. Implications of US Treasury Cash-Futures Basis Trades of Hedge Funds ### Explanatory power of Treasury basis for hedge fund returns - Panel 1 reports 36-month rolling partial R2 estimates, defined as the share of residual hedge fund return variation explained by contemporaneous and lagged Treasury net-basis volatility, after controlling for relevant factors. - Treasury net-basis volatility is the monthly realized volatility of Bloomberg’s 10-year Treasury futures net basis computed from daily changes in the same-contract net basis. - Solid (dotted) lines denote periods when net-basis volatility factors are jointly significant (not significant) at the 10 percent level. - Sources cited: Bloomberg Finance L.P.; Hedge Fund Research; Office of Financial Research; and IMF staff calculations. - Online Annex 2.3 provides further details. ### Association between hedge fund footprint in basis trades and leverage - Panel 2 relates quarterly Office of Financial Research leverage measures to the estimated basis-volatility footprint for these strategies. - The shaded areas indicate 90 percent confidence intervals around fitted relationships. - HFRI = Hedge Fund Research Index. - Sources cited: Bloomberg Finance L.P.; Hedge Fund Research; Office of Financial Research; and IMF staff calculations. - Online Annex 2.3 provides further details. ### Effects of leveraged positioning on the Treasury basis - Panel 1 (Leveraged Positioning and the Treasury Basis Distribution) shows the cumulative response of the 10-year Treasury basis to a one-standard-deviation increase in leveraged positioning at the 10th, 50th, and 90th percentiles. - Panel 2 (Effect of Leveraged Positioning on Treasury Basis, by Market Stress) shows the cumulative change in the Treasury basis to a one-standard-deviation increase in positioning under stress (calm) periods, defined as those in which the Chicago Board Options Exchange Volatility Index is above (below) its 90th percentile. - Results for stress periods are compared when the Federal Reserve Treasury holdings, as a share of marketable Treasury debt, are at their average level (blue line) and one standard deviation below average (red line). - Panel 3 (Effect of Leveraged Positioning amid Supply Shocks, by Dealer Capacity) shows the effect of a one-standard-deviation increase in positioning on the Treasury basis following Treasury auction shocks, conditional on dealer capacity. - Auction surprises are defined as the DV01-weighted change in offering size against the previous auction of the same tenor and reopening status. - Sources cited: Bloomberg Finance L.P.; Commodity Futures Trading Commission; Federal Reserve Board; TreasuryDirect; Financial Accounts; FR 2004; and IMF staff calculations. - See Online Annex 2.3 for additional details. Fed = Federal Reserve; SD = standard deviation. ### Key methodological notes and data framing - Confidence intervals and significance thresholds: 90 percent confidence intervals shown; joint significance at the 10 percent level is used to distinguish solid versus dotted series. - Percentile-based presentation: Figures present effects at the 10th, 50th (median), and 90th percentiles of leveraged positioning and stress indicators. - Market stress definition: Stress periods are those when the Chicago Board Options Exchange Volatility Index exceeds its 90th percentile; calm periods are below the 90th percentile. - Dealer capacity and Fed holdings are explicitly conditioned in comparisons of stress effects. - Definitions and computation specifics are provided for net-basis volatility and auction surprises to ensure reproducibility (see Online Annex 2.3). *International Monetary Fund. Box 2.2, “Implications of US Treasury Cash-Futures Basis Trades of Hedge Funds,” Global Financial Stability Report, October 2026.* ### CHAPTER 3 ScalIng TOkenIzaTIOn: new eFFIcIencIeS, new VulnerabIlITIeS ### CHAPTER 3 ScalIng TOkenIzaTIOn: new eFFIcIencIeS, new VulnerabIlITIeS ### Changes in Financial Market Infrastructures and Processes - Traditional financial markets operate through a network of specialized intermediaries, each maintaining a ledger and performing distinct functions along the asset life cycle (trading, clearing, settlement, custody, servicing, collateral management). IMF staff cite Cabedo and others 2026 on the role of legal, regulatory, and risk-management arrangements that support market integrity and financial stability. - Tokenization represents financial assets and liabilities on programmable digital ledgers, typically using distributed ledger technology (DLT). - Tokenized environments: - Allow assets to be represented as digital tokens on distributed ledgers, enabling participants to interact through a common transaction environment governed by predefined rules (Box 3.1; Agur and others 2025). - Can integrate or automate traditional functions, potentially reducing reconciliation needs, increasing transparency, and enabling greater automation. - Exhibit strong network effects: benefits and risks increase as more assets, participants, and settlement instruments join the platform and markets converge on common standards and settlement arrangements. ### How Tokenization Reshapes the Asset Life Cycle - Tokenization can affect each stage of the asset life cycle (Cabedo and others 2026): - Issuance: - Assets and financial products are represented as tokens on a one-to-one or fractional basis; native assets are created directly through DLT, and existing assets can be represented on DLT in different ways. - Tokens can combine assets into new products (for example, tokenized money market funds). - Trading: - Programmable transfer rules can automate transaction execution, including eligibility criteria, transfer restrictions, and compliance requirements. - Clearing and settlement: - Smart contracts could automate certain clearing arrangements and may improve coordination between securities and money for settlement, potentially facilitating delivery versus payment transactions with greater certainty and atomicity. - Reporting: - Reporting functions could move to a real-time basis, potentially improving transparency of holdings and transactions and facilitating reconciliation of corporate actions. - The report notes that many claimed benefits are also achievable through other digital technologies and market reforms; tokenization’s distinctive potential lies in combining assets, payments, and programmability on shared platforms. ### Current Adoption in Financial Markets (IMF staff findings and data) - Market size and composition: - The public market for tokenized real-world assets (RWAs), excluding repos, reached about $65 billion. - Private tokenized markets include at least $8 billion in tokenized bonds. - Tokenized fixed income (corporate credit, asset-backed credit, and money market fund holdings) accounts for about $48 billion of tokenized assets outside repos. - Within tokenized credit, tokenized credit accounted for $30.4 billion, with asset-backed credit the largest share. - Tokenized money market funds were about $17.5 billion. - Tokenized equity markets were estimated at $2.3 billion. - Two platforms, Ondo Finance and Backed Finance, together accounted for more than 70 percent of tokenized equity value. - Trading and repo activity: - The 30-day average daily volume of tokenized repos reached $303 billion. - Tokenized repo volumes remain small relative to traditional repo markets and remain largely concentrated among affiliated entities (Duffie 2026; Patel and others 2026; Box 3.2). - Market concentration and geography: - Most tokenized asset value originates from issuers in the United States, followed by issuers with undisclosed domiciles and a long tail of smaller financial centers (for example, Liechtenstein and the British Virgin Islands). - The large share of issuers with undisclosed domiciles highlights transparency gaps and potential for regulatory arbitrage or synthetic derivatives (World Federation of Exchanges 2025). - Data specifics: - Total tokenized asset value reported as $65.10 billion. - The size of the market as a percent of outstanding US Treasuries and the S&P 500 market capitalization is 0.20 percent and 0.12 percent, respectively. - Data are a 30-day moving average; data as of July 31, 2026 (RWA.xyz; IMF staff calculations). ### Tokenization of Debt Securities and Issuance Trends - Tokenized bond issuance: - Issuance has scaled since 2022, with cumulative issuance reaching about $8 billion, driven primarily by government and private sector issuers. - Issuances are concentrated around shorter maturities, with most transactions maturing within five years. - Most activity is concentrated in advanced economies, though some emerging market and developing economies have begun tokenizing debt securities. - The number of issuers and the range of maturities remained limited to date (Box 3.3; De Luna Martinez and Zhang forthcoming; IMF staff calculations). ### Structure and Concentration of Tokenized Market Infrastructure - Tokenized market infrastructure organizes around leading chains, platforms, custodians, oracles, and bridges: - Most activity occurs on a handful of key blockchain networks and platforms; off-chain data (prices, corporate actions, collateral) often rely on a single provider. - Concentration coexists with fragmentation: dozens of smaller networks and platforms remain weakly interoperable. - Tokenized assets are concentrated by blockchain network (for example, Ethereum, Solana, Avalanche, Stellar, BNB Chain, XRP Ledger) and by platforms (for example, Circle, Tether Holdings, Securitize, Justoken, Ondo). ### Key Constraints to the Growth of Tokenized Markets - Four interdependent constraints identified by IMF staff: - Legal certainty: - Market participants need confidence that tokenized assets confer enforceable rights and obligations. - Legal frameworks must establish clear rights over tokens and underlying assets, define the legal relationship between them, and clarify whether ledger transfers constitute legally effective transfers of ownership and settlement finality—and at what point. - The framework must address enforceability of smart contracts, distributed records, ledger entries, and responsibilities of custodians and service providers; risks include insolvency, enforcement, fraud, and cyber incidents (see Online Annex 3.3). - In cross-border transactions, differences in property laws and conflict-of-law rules may create uncertainty over ownership, jurisdiction, and enforceability of claims. - Regulatory clarity: - Global standard-setters apply the principle of “same activity, same risk, same regulatory outcome,” using a technology-neutral, look-through approach that maps existing securities, banking, and payments rules onto tokenized products. - Frictions arise mainly at the back end of the asset life cycle—clearing, settlement, and reporting—and around DLT-specific features where existing frameworks are less readily applicable. - Authorities are using policy sandboxes (testing regulation itself as part of the drafting process) to identify gaps; inconsistent rules across economies could create unnecessary complexity unless regulatory approaches are more coordinated globally. - Interoperability: - Fragmented networks can trap liquidity and reduce secondary market depth, limiting participation by larger investors. - A coordination problem exists (Agur and Copestake 2025): low liquidity discourages participation by investors who could deepen markets. - Scaling depends on greater interoperability across networks and protocols, common standards, and support for interoperable settlement assets. - Safe, sound, and scalable settlement: - Tokenized trading without a trusted cash leg may increase settlement risks and limit delivery versus payment, end-to-end programmability, and realization of tokenization benefits. - Emerging private settlement assets (tokenized deposits, stablecoins) introduce credit and liquidity risk into settlement unless properly mitigated. - Enabling settlement in safe and widely accepted forms of money could attract broader investors and provide clarity on on- and off-ramp stability. - The choice of settlement asset shapes interconnectedness with other asset classes (for example, sovereign bonds) and institutions (for example, banks and money market funds). - Safety, soundness, and scalability align with Principles for Financial Market Infrastructures (CPSS-IOSCO 2012). ### Current, Emerging, and Potential Benefits - IMF staff distinguish benefits that have already materialized, are currently emerging, and remain potential, mapping them across issuance, trading, clearing, settlement, servicing, and reporting: - Current benefits (efficiency and transparency): - Distributed ledger core properties have delivered efficiency and transparency gains. - Empirical evidence: Leung and others (2023) find underwriting fees of tokenized bonds were lower than those of traditional bonds in a sample from Hong Kong SAR. - Back-office operations (clearing and servicing) can be streamlined through a shared, auditable record. - Emerging and potential benefits: - Greater automation, real-time reporting, improved collateral mobility, and programmability across assets and payments on shared platforms. - Many benefits overlap with broader digitalization and can also be implemented using conventional technologies (for example, same-day settlement in India using conventional technology, and planned extended market hours in the United Kingdom and the United States). - The report emphasizes that tokenization can apply competitive pressure to transform traditional infrastructure and architecture but that realizing broader benefits depends on resolving legal, regulatory, interoperability, and settlement challenges. *Source: International Monetary Fund, Global Financial Stability Report, CHAPTER 3, October 2026.* ### CHAPTER 3 ScalIng TOkenIzaTIOn: new eFFIcIencIeS, new VulnerabIlITIeS ### CHAPTER 3 Scaling Tokenization: new efficiencies, new vulnerabilities ### Current, emerging, and potential benefits of tokenization - Current operational benefits identified: - Reductions in cost, time, and reconciliation frictions; transparency and lower reconciliation costs; settlement with delivery versus payment on common ledgers that minimizes counterparty-principal risk by construction. - 24/7 trading and transparency. - Emerging benefits as tokenization scales and market infrastructure adapts: - Fractionalization broadening the investor base for traditionally illiquid instruments (footnote: "Fractionalization allows high-priced equities to be divided into smaller units, lowering the entry threshold for investors who might be unable to afford whole shares."). - Continuous on-chain trading generating observable market signals that can improve pricing. - Programmability enhancing collateral mobility across venues, strengthening counterparty risk management, shortening settlement cycles, and automating corporate actions (coupons, dividends, and redemptions) through smart contracts (Cabedo and others 2026). - Potential benefits at scale: - Programmable logic enabling tailored financial products and contingent payoffs. - Broader market access and programmability deepening liquidity. - Automated margining, programmable settlement, and real-time regulatory reporting shifting oversight toward more continuous supervision and monitoring. ### Empirical assessment of tokenized equity markets (IMF staff analysis) - Sample description: - Five most liquid tokenized US equities across two issuers (Ondo and xStocks) compared with their corresponding underlying equity traded on traditional markets. - Sample covers 11 trading venues across centralized and decentralized networks. - Sample represents approximately $345 million in reported market value, or about 15 percent of the $2.3 billion tokenized equity market. - Data set covers 365 trading days and more than 2 million observations of price and volume fluctuations during five-minute intervals. - The analysis uses data compiled by RWA.xyz and comprises about 930,000 investors, with the holder count representing unique on-chain addresses holding a nonzero token balance as of July 31, 2026. - Market structure and venue definitions: - Centralized exchanges hold tokens for identified customers and settle trades on their own books. - Decentralized exchanges settle each trade on the blockchain; users keep custody, access requires only a wallet, and holders are identified by address rather than name. - Tokens can also move directly between wallets without any venue. - Key empirical findings: - More than 50 percent of activity in tokenized equities occurs outside regular US market hours, indicating that 24/7 availability attracts demand. - About 80 percent of tokenized equity trades are executed in sizes below one share, indicating strong demand for fractionalization and a current user base dominated by smaller retail-oriented participants. - Price signal pass-through: regression of each underlying equity’s cumulative return over the first five minutes of the US trading session on the overnight return of its tokenized counterpart yields pass-through coefficients ranging from 87 percent to 99 percent, suggesting traditional and tokenized markets respond to similar information sets. - Caveat: - Findings are early and should be interpreted with caution given the incipient nature of the market; market structure and operations can change significantly if tokenization scales (see discussion in "Potential Scenarios for the Evolution of Tokenized Markets"). ### Financial stability implications and risk framework - Overarching insight: - Tokenization does not necessarily change the nature of financial stability risks but reshapes channels through which vulnerabilities accumulate and shocks are transmitted, increasing prominence of technology and infrastructure risks and creating new amplification channels for liquidity, interconnectedness, and leverage risks. - Framework approach: - The framework links core tokenization features and market-design choices to mechanisms through which risks are generated directly and secondary channels through which existing risks are amplified or transmitted across the asset life cycle (see Table 3.1 and Online Annex 3.2). - The discussion is organized by prominence and directness of risks rather than overall importance; prominence may evolve as tokenization progresses. - Primary risk categories and features: - Operational, technology, and governance risks are the most direct sources of risk associated with distributed technologies, smart contracts, oracles, and code-based execution (Online Annex 3.3). - Market structure and infrastructure risks are linked to validators, interoperability arrangements, cloud providers, and tokenization platforms. - Illustrative feature-to-risk linkages (as summarized in Table 3.1): - DLT-based recordkeeping and transfer: direct operational risks (outages and failures); mitigation through reduced reconciliation. - Programmability and automation: direct contagion risk via automated execution; amplification of leverage and contagion through collateral mobility and reuse. - Composability: direct leverage risk and amplification via interaction with other protocols. - Access model (permissionless vs permissioned): permissionless access can heighten coordination frictions, diffuse accountability, and increase cyber and governance risks. - Oracle dependence, decentralized governance, interoperability, and settlement finality choices each map to direct operational or infrastructure risks and to amplifying channels such as liquidity stress, contagion, single-point failures, and concentration. - Systemic implications if markets scale: - Smart contracts, composability, and reliance on shared governance arrangements could create new amplification channels that increase financial sector leverage and liquidity risks and create new critical infrastructure nodes, adding a new dimension to operational risks. - Note on related concerns: - Private settlement assets such as stablecoins, depending on their backing, could face challenges if large-scale redemptions affect their reserve backing (see Patel and others [2026] and Cabedo and others [2026]). _International Monetary Fund, Global Financial Stability Report (October 2026), IMF staff analysis._ ### CHAPTER 3 ScalIng TOkenIzaTIOn: new eFFIcIencIeS, new VulnerabIlITIeS ### CHAPTER 3 ScalIng TOkenIzaTIOn: new eFFIcIencIeS, new VulnerabIlITIeS ### Traditional financial stability risks and new transmission mechanisms - Traditional risks—fire sales and liquidity runs, contagion through heightened interconnectedness, and leverage—can arise in tokenized markets through new transmission and amplification mechanisms (Table 3.1). - Examples and channels: - Greater collateral mobility with tokenized repo can facilitate the use of collateral across platforms, supporting larger leverage positions and potentially amplifying deleveraging pressures (Table 3.1, code F1). - Tokenized money market funds or other tokenized assets could be programmed to serve as margin collateral and reused across multiple transactions, creating collateral chains across interconnected platforms (Table 3.1, codes C3, F1, and F2). - Automated programmable collateral management can accelerate margin calls and asset liquidations compared with traditional arrangements, intensifying liquidity strains during stress (Table 3.1, codes C2 and F2). - Real-time settlement, 24/7 trading, and automated liquidation mechanisms may increase redemption pressures in tokenized investment vehicles, accelerating liquidity stress and transmitting shocks to tokenized and traditional markets (Table 3.1, codes C2, C4, I1, and T3). - Contagion may spread through interoperable platforms, composable applications, and automated collateral-management arrangements that facilitate rapid transmission of shocks across markets and infrastructures (Table 3.1, codes T2, C3, and F1). - The analysis emphasizes that traditional risks often act as propagation and amplification mechanisms rather than originating sources; these risks intensify as tokenized assets become integrated into trading, settlement, funding, and collateral-management activities. ### Tokenization features: trade-offs between mitigation and amplification - Key tokenization features can both mitigate and amplify risks (Table 3.1): - Programmability: - Mitigation: can lower operational risk and legal uncertainty by automating issuance, settlement, and corporate actions. - Amplification: can increase procyclicality and contagion and introduce vulnerabilities from smart contract design flaws or cyber incidents (Table 3.1, code C2). - Composability: - Mitigation: can improve coordination and capital efficiency. - Amplification: can propagate contagion and leverage across interconnected applications and expand the operational attack surface (Table 3.1, code C3). - Atomicity: - Mitigation: reduces counterparty and principal risk by ensuring near-simultaneous transfers. - Amplification: heightens dependency on underlying infrastructure and removes temporal buffers that absorb operational disruptions and liquidity shocks (Table 3.1, code C4 and S2; Box 3.2). - Overall effect: reducing friction, buffers, and intermediation can alter how vulnerabilities accumulate and how shocks are transmitted across markets and infrastructures. ### Supervision, AML/CFT, and operational challenges - Use of public networks may improve transparency, but market participants may prefer private networks or privacy technologies to maintain proprietary and client confidentiality. - Tokenization is not inherently a risk for anti-money laundering/combating the financing of terrorism (AML/CFT); however, registration or servicing of tokenized assets through offshore jurisdictions can increase vulnerabilities by creating regulatory, supervisory, or transparency gaps (FATF 2026). - Supervisory implications: - Supervisors may need to expand monitoring across new trading venues and asset classes and understand market infrastructure and protocols (like smart contracts) and their effects on market integrity rules. - Challenges include assessing whether existing tools (such as circuit breakers) remain effective, reconciling on-ledger and off-ledger data, and potentially dealing with entities domiciled outside supervisors’ jurisdictions. - These demands may strain resources and expertise. ### Empirical evidence: fragmentation, liquidity, and volatility in tokenized equity markets - Liquidity (Amihud measure) and trading venues: - Tokenized equity markets are considerably less liquid than traditional markets, especially on decentralized exchanges (Figure 3.9, panel 1). - Using the Amihud measure (median absolute five-minute price change per $1 billion of daily volume), traditional markets are the most liquid, centralized exchanges materially less so, and decentralized exchanges the least liquid by a wide margin. - Volatility: - Tokenized equities exhibit higher volatility than equivalent equities in traditional markets. - Realized volatility is approximately 1.5 times higher in tokenized markets (Figure 3.9, panel 2). - Volatility increases from traditional markets to centralized exchanges and is highest on decentralized exchanges; part of the gap reflects continuous 24/7 trading capturing overnight and weekend price movements. - Price alignment and pricing errors: - Despite higher volatility and lower liquidity, tokenized equities generally remain closely aligned with prices in traditional markets (Figure 3.9, panel 3). - Distributions of five-minute price differences show peaks close to zero for both centralized and decentralized exchanges, though decentralized exchanges display a flatter, wider distribution indicating larger and more frequent deviations. - Price alignment is strongly linked to trading activity: venues with higher median daily volume per token track traditional prices more closely, whereas low-volume venues have substantially larger pricing errors (Figure 3.9, panel 4). - Data and methodology notes (as presented): - Amihud illiquidity: median absolute five-minute price change divided by median daily volume, scaled per $1 trillion for traditional markets (market hours) and per $1 billion for centralized and decentralized exchanges (24/7). Measures use volume-weighted venue prices within five-minute bins, winsorized at the 1st/99th percentile, require more than one trade per decentralized exchange bin, and report medians. - Realized volatility: median across token-days of the square root of the sum of squared five-minute log returns (Andersen-Bollerslev-Diebold-Labys), in percentage per day; traditional markets cover US market hours, centralized and decentralized exchanges cover all hours (24/7). Measures are winsorized at the 1st/99th percentile and report medians. - Price deviation: median absolute five-minute deviation from traditional prices versus median daily volume per token; bubble sizes represent average trades per token; trendline is a log-log fit across venues. - Sources cited in calculations: Allium; Bloomberg Finance L.P.; CoinDesk; and IMF staff calculations. ### Potential scenarios for the evolution of tokenized markets - Adoption depends more on incentives, legal and regulatory frameworks, and availability of safe settlement assets than on technology alone (Adrian 2026). - Current stance: Niche tokenization - Characteristics: - Tokenization largely confined to specific use cases achieving immediate efficiency gains without broad coordination (tokenized repos, collateral management, tokenized money market funds, selected sovereign bond issuances). - Activity concentrated on private permissioned platforms, platforms largely siloed and operated by individual institutions or consortiums, with trading and settlement relying on traditional infrastructure. - Legal uncertainty across jurisdictions and fragmented regulatory treatment create doubts about ownership rights, custody, insolvency treatment, and cross-border enforceability. - Incumbents’ limited incentives for open interoperability sustain proprietary infrastructures and control over clients, deposits, and market access (Agur and Copestake 2025). - Result: systemic risks remain limited because adoption is small, but broader efficiency gains (composability, liquidity aggregation, integrated settlement) fail to materialize. - Medium-term scenario: Institutional infrastructure adoption - Characteristics: - Tokenization embedded in repo markets, collateral management, securities servicing, and cash management while remaining largely invisible to end investors. - Permissioned networks operated by banks, custodians, exchanges, and FMIs dominate activity. - Operational benefits include reduced reconciliation costs, more efficient collateral mobilization, shorter settlement timelines, and automation of selected post-trade functions. - This model can deliver meaningful benefits without fully harmonized regulation or universal interoperability. - Optimistic/broad tokenization scenario: High adoption and integrated markets - Preconditions: legal clarity, interoperability, and settlement in central bank money (CeBM). - Characteristics: - Tokenized sovereign bonds, equities, deposits, money market instruments, and other financial assets coexist on interconnected networks governed by common standards. - Settlement in central bank money provides a highly trusted and stable settlement option. - Liquidity could move seamlessly across platforms, collateral could be mobilized in real time, and secondary markets could deepen substantially. - Interoperability would reduce fragmentation of investors and trading order flow; legal frameworks would support cross-border trading and issuance. - Emerging markets could benefit disproportionately through lower issuance costs, broadened investor access, and facilitated participation in global capital markets. - Trade-off: many features that generate the largest efficiency gains could also create new vulnerabilities and amplify existing transmission channels. - Adoption dynamics: - Network effects can make adoption nonlinear: slow initial uptake may accelerate rapidly once a critical mass of participants is reached. - The current trajectory points to limited scaling and adoption absent resolution of fragmented regulation, limited interoperability, and uncertainty about suitable settlement assets. *International Monetary Fund | October 2026* ### CHAPTER 3 ScalIng TOkenIzaTIOn: new eFFIcIencIeS, new VulnerabIlITIeS ### CHAPTER 3 ScalIng TOkenIzaTIOn: new eFFIcIencIeS, new VulnerabIlITIeS ### Broad scenario and coordination challenges - The International Monetary Fund highlights that "further growth of tokenized finance also depends on coordination across institutions and jurisdictions." - "The benefits and risks of tokenization increase nonlinearly with adoption because liquidity, interoperability, and standardization reinforce each other." - Individual institutions may not have enough incentive to bear the initial cost of creating open standards or interoperable infrastructures if competitors can benefit. - "While coordination problems may be resolved in time by markets themselves, public policy may help expedite an optimal outcome." ### Policy Recommendations (high level) - Tokenization can help address inefficiencies in financial markets; policymakers should "adopt a technology-neutral approach that allows different technologies to compete on their merits." - Remove unnecessary constraints to tokenization while safeguarding financial stability as a first step to enable tokenized markets. - Key policy priorities: "assuring legal certainty and improving regulatory clarity, focusing on potential operational, governance, and infrastructure risks and upgrading supervisory capacity." ### Tokenization in emerging markets - Tokenization could support and complement capital market deepening but "fundamental reforms remain paramount." - Tokenization may allow some emerging market and developing economies to "leapfrog" legacy market infrastructure but not the broader process of capital market development itself. - Building tokenized infrastructure, adapting legal frameworks, and developing supervisory capacity require "substantial fixed investments, whereas efficiency gains tend to increase with transaction volumes." - In low-turnover markets, "whether the potential gains will outweigh the costs remains uncertain." - Authorities should advance foundational elements of capital market development—"a broad investor base, benchmark pricing, secondary market liquidity, and robust legal and supervisory safeguards"—in parallel with technology adoption. - Otherwise, tokenization may add "operational, cyber, and governance risks to shallow markets that lack legacy infrastructure and established institutional arrangements to fall back on." ### Promote Technology Neutrality by Removing Unnecessary Constraints - Legal Certainty - National authorities should review legal frameworks to "ensure that laws provide legal certainty for tokenized assets." - Law needs to "establish clear rights and claims over tokens and define the legal relationship between tokenized assets and their real-world equivalents." - Legal frameworks should address issuance, transfer, redemption, insolvency treatment, enforcement actions, and "jurisdictional and conflict-of-law rules in cross-border transactions." - Authorities should clarify "whether they confer direct rights over the underlying asset or claims against the issuer (Garrido 2023)." - Regulatory Clarity - Financial sector authorities should provide regulatory clarity and in the short term "existing securities, banking, and payments regulations can and should be applied to tokenized markets." - Apply the principle of "same activity, same risk, same regulatory outcome": tokenized securities to securities regulation; tokenized deposits to banking regulation; tokenized payment arrangements to payments regulation. - Continue requirements on "issuance, disclosure, transparency, market conduct, corporate governance, best execution, market surveillance, and consumer protection" in tokenized markets. - Medium term: custody may require adaptation; starting point should remain client asset rules, with additional considerations for "private key custody" and different wallet types (hot, cold, warm). - Supervisors should assess whether reporting frameworks capture intraday exposures associated with tokenized funding and securities markets (see also Singh 2026). - Longer term: recordkeeping, clearing, and settlement require greater regulatory review because "public permissionless networks for tokenized assets can challenge regulatory assumptions, particularly in areas of finality." - Where distributed ledgers perform recordkeeping functions, existing regulation can create friction with tokenization efficiencies (for example, requirements to use central securities depositories may need adaptation). - "Financial sector authorities with resources and expertise can use policy sandboxes to identify regulatory constraints and assess whether existing rules need to be adapted." - Sandboxes should have "clear objectives, realistic timelines, and a transparent process for translating lessons from testing into regulatory or legislative reforms." - International coordination is needed to prevent divergent national approaches and reduce "risk of global regulatory arbitrage and further fragmentation of tokenized markets." ### Interoperability - Policymakers should avoid unnecessary inhibitors to developing interoperability while safeguarding resilience. - Authorities, other relevant authorities, and market participants should support development of "common standards for asset representation and messaging along with resilient and scalable settlement arrangements." - Bridges and interoperability arrangements can introduce operational vulnerabilities and widen the surface for cyberattacks; efforts to promote interoperability should be accompanied by "robust standards and risk-management frameworks for bridges, oracles, message layers, and other cross-network connections." ### Safe, Sound, and Scalable Settlement - Authorities should ensure tokenized securities settle through "strong FMIs and in safe and widely accepted forms of money." - Securities settlement systems must comply with PFMIs; securities are settled using central bank money in wholesale capital markets "where practical and available." - Without interoperable central bank money, private settlement assets—"tokenized deposits or stablecoins—could become the preferred settlement instruments for capital market transactions," introducing credit and liquidity risks tied to their issuers. - Stress in one counterparty may be transmitted more rapidly to an FMI lacking adequate risk-management controls; FMIs may face heightened concentration risk if one private settlement asset becomes preferred. - Policymakers should consider supporting development of settlement assets underpinned by central bank money that is "either interoperable with existing forms of central bank money or issued directly on-chain (tokenized reserves)." - Ensure private settlement infrastructures conducting settlement with commercial bank money "mitigate risks carefully, aligning with the PFMIs and prudential standards." - These measures would "safeguard settlement finality and resilience without forcing tokenized assets to defer to legacy settlement methods, which may erode the efficiency gains from on-chain settlement." ### Safeguard Financial Stability: Operational, Governance, and Infrastructure Risks - Authorities should intensify monitoring and mitigation of operational, governance, and infrastructure risks as tokenized markets grow. - Actions for authorities: - "Adapt supervision to the operational and cyber risks of distributed networks." Supervisors should assess how DLT design, "including their degree of decentralization and reliance on interoperability solutions such as bridges and oracles, affect operational and cyber resilience." Develop a systemwide map of DLT networks and interoperability arrangements to identify concentration risks, critical dependencies, and potential channels of contagion. - "Establish robust third-party risk and outsourcing frameworks." Ensure regulated entities remain accountable for operational and cyber risks in line with PFMI expectations. Key safeguards: "business continuity arrangements, smart contract audits, and resilient on- and off-chain data management." More direct oversight may be warranted where a small number of networks become dominant. - "Safeguard recordkeeping integrity and settlement infrastructure resilience." Require robust reconciliation between on- and off-chain records, clear legal recognition of the authoritative record of ownership, and resilience standards consistent with the PFMIs for settlement infrastructure. Bank resolution authorities might consider adapting frameworks to address transfer of tokenized assets during resolution. ### Supervisory Capacity - Supervisors need skills, tools, and resources to oversee tokenized markets; capacity building needed in custody, smart contracts, intraday liquidity, third-party dependencies, privacy technologies, and tokenized exposure reporting. - Supervisors must identify new channels of market abuse. - Given resource constraints, domestic and cross-border supervisory cooperation is increasingly important. - Blockchain analytics providers could be "one tool in a broader toolkit to assist in market monitoring." - Authorities should ensure anti-money laundering/combating the financing of terrorism frameworks remain effective in tokenized environments, including "effective customer due diligence measures, beneficial ownership transparency, and cross-border supervision." ### Liquidity Runs, Fire Sale Risk, and Atomic Settlement - Assess and manage liquidity implications of atomic settlement: "While atomicity reduces counterparty risk, it can increase intraday liquidity needs by requiring prefunding and eliminating timing gaps." - Authorities should ensure liquidity risk frameworks, including intraday liquidity monitoring and supervisory requirements, keep pace with atomic and near-instant settlement arrangements. - Financial institutions should "maintain sufficient liquidity buffers to meet prefunding obligations under stress without resorting to fire sales." - Authorities should strengthen intraday and out-of-hours liquidity monitoring and stress testing, incorporating tokenization-specific disruptions such as "smart contract failures and trading suspensions." ### Interconnectedness, Contagion, and Deleveraging Risk - Develop circuit breakers and liquidity safeguards for 24/7 tokenized trading environments; examine whether tools such as "circuit breakers, trading halts, liquidity fences, redemption gates and fees, and continuous margining remain effective" and adapt them where needed. - Enhance crisis-management arrangements for "continuous monitoring, expanded operational readiness, and intervention tools adapted to always-on financial markets." - Strengthen monitoring of linkages between tokenized and wider financial markets because "redemption pressures in tokenized vehicles (for example, tokenized money market funds) can transmit to the underlying assets they hold." - Monitor collateral reuse and procyclical deleveraging: "Greater collateral reuse—including through tokenized money market funds or other tokenized assets posted as margin and reused across platforms—can lengthen collateral chains and amplify deleveraging pressures during stress." - Authorities should monitor collateral velocity and reuse, consider limits or haircuts on reuse of tokenized collateral, and ensure automated margining does not trigger "simultaneous, self-reinforcing liquidations across interconnected protocols." ### Market structure, intermediation, and concentration risks - Tokenization "could structurally change financial infrastructure and the organization of financial services but may not eliminate the need for intermediaries." - Many operational functions may be automated, but "many activities may continue to require governance, legal accountability, risk management, and regulatory oversight (Cabedo and others 2026)." - Tokenization could enable unbundling of vertically integrated FMIs and service providers; for example, a CCP could "focus on contract novation and risk management" with services delivered on a shared market infrastructure. - Possible market models: - "One possibility is a single shared platform where all parties transact (IMF 2024)." This could "reduce the number of intermediaries involved" and maximize tokenization benefits but would "create concentration risks" and require agreement on governance and operating protocols. - A more likely medium-term outcome: "the emergence of multiple ledgers and networks serving different markets and assets (IMF 2024)." This will increase need for "bridges and interoperability mechanisms," potentially making the system "operationally more fragile and fragmenting liquidity." - Different ledger configurations may produce concentration in a small number of dominant networks that "effectively act as private 'public utilities.'" Concentration may reduce some operational and cybersecurity risks compared with fragmentation, but "a small number of network operators may acquire substantial influence over market rules, pricing structures, and access conditions." - Entities that remain legally responsible for critical functions of FMIs are still required (Cabedo and others 2026). *International Monetary Fund | October 2026* ### Box 3.1. Does Tokenization Change Market Structure? ### Box 3.1. Does Tokenization Change Market Structure? ### Tokenization and Repo Market Efficiency - Distributed ledger technology (DLT) is widely seen as boosting repo market efficiency through improved collateral mobility, with knock-on benefits for dealer balance sheet capacity. - Use case: tokenized repos (for example, platforms such as Broadridge’s Distributed Ledger Repo) can allow transactions to be settled with greater precision, including on an intraday basis and over weekends. - Potential mechanism: cash and collateral could exchange at a pre-agreed time, allowing dealers to shorten the time a position occupies balance sheet capacity. - Intraday repo can provide immediate liquidity for short intervals and reduce precautionary liquidity buffers, lowering effective balance sheet usage (DTCC 2026; Galper 2026; TBAC 2026). ### Netting versus Settlement Speed - Much of dealers’ current balance sheet efficiency comes from netting, not settlement speed. - In the conventional repo market, dealers design operations around matched trades to reap maximum benefits from netting procedures that offset cash and securities flows so that only a net balance needs to be settled (Bowman, Huh, and Infante 2024). - Shorter settlement cycles can reduce bilateral netting opportunities (McLaughlin 2023). - As settlement moves closer to real time, the share of transactions that can be netted could fall substantially, leaving a dealer running a matched book exposed to gross bilateral positions and higher balance sheet and liquidity needs. - Multiple intraday atomic bilateral settlements can require participants to prefund transactions by holding the full amount of cash or securities needed for settlement. ### Central Clearing versus Decentralized DLT Settlement - If transactions increasingly settle outside central clearing counterparties (CCPs), multilateral netting benefits may decline. - CCPs centralize trading exposures, enabling offset of positions across all clearing participants through multilateral netting. - Pure DLT-based market structures push toward gross, atomic, bilateral settlement. - CCPs could benefit from adopting tokenization and DLT technologies to enhance collateral management, margining, and post-trade processes, but the extent to which netting efficiencies are preserved depends on whether central clearing remains an integral part of the market structure (Eurex 2025). - Overall statement: the efficiencies gained from faster settlement may come at the cost of lower netting efficiency. ### Programmable Batching as a Design Choice - Tokenized market infrastructure can use smart contracts to separate the timing of trade execution from the timing of settlement. - Trades can be grouped and settled periodically in batches, allowing offsetting positions to be netted against each other and reducing the amount of cash and securities needed for settlement. - Evidence from equity trading suggests that, combined with central clearing, such arrangements may preserve substantial netting efficiencies even with settlement windows as short as one hour in an equity-trading setting (McLaughlin 2023). - Trade-off: programmable batching can partly restore netting efficiency at the cost of settlement speed. ### Empirical Evidence on Intraday Funding Demand - Both traditional and tokenized repo market data suggest that demand for intraday funding remains limited. - In the United States, a very small share of traditional bilateral repo trades are intraday transactions (see Figure 3.2.1, panel 1). - Use of Federal Reserve daylight overdrafts, a form of intraday credit, has remained at historically low levels (see Figure 3.2.1, panel 2). - Note on data: Values in Figure 3.2.1 are average daily outstanding and cover July 1, 2025, through March 31, 2026. - Anecdotal evidence points to a similar pattern in Europe, where same-day trades account for a small share of repo activity, despite some recent growth. ### Implications for Broker-Dealer Balance Sheet Utilization - Net effect: tokenized repo’s impact on broker-dealer balance sheet utilization can be constrained by the loss of netting efficiencies. - Settlement speed alone is unlikely to determine net benefits. - Key determinant: specific design choices embedded in tokenized infrastructure—particularly the extent to which such infrastructure preserves or recreates opportunities for bilateral or multilateral netting alongside faster settlement—remain key. --- _Source: https://www.imf.org/-/media/files/publications/gfsr/2026/october/english/text.pdf_