Macro

Market Contagion

When a shock in one market or geography forces deleveraging or revaluation in nominally unrelated markets, usually via balance-sheet linkages.

Definition

Contagion is the spread of stress beyond the asset or region where it originated. It travels through three main channels: leverage (a fund sells liquid assets to cover losses elsewhere), counterparty exposure (banks pull lines), and correlation regime shifts (everything correlates in a crisis).

Contagion episodes are why diversification appears to fail exactly when investors need it.

Why it matters

Most large drawdowns are contagion events. Sizing risk by asset volatility alone ignores the cross-asset selling that defines crisis returns.

Worked example

LTCM 1998: a Russian sovereign default forced LTCM to liquidate emerging-market and developed-market positions simultaneously, transmitting stress to US credit, swap spreads, and equity volatility.

Frequently asked

How is contagion different from correlation?⌄

Correlation describes a statistical relationship. Contagion is the mechanism — usually forced selling — that causes correlations to spike.

Which markets transmit contagion fastest?⌄

FX, sovereign CDS, and credit default swaps; equity tends to follow.

Can central banks stop contagion?⌄

Liquidity facilities can break the bank-funding channel, but they don't reverse mark-to-market losses that have already triggered margin calls.

What signals contagion risk?⌄

Cross-asset basis dislocations, swap-spread widening, and a rising US dollar in stress.

Track it on Market Ontology

Geopolitical Transmission

Related terms

Transmission Mechanism

Macro

Tail-Risk Hedging

Geopolitics

Dollar Liquidity

EM Fragility

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