Key facts
- ESMA warned that elevated market valuations despite deteriorating macroeconomic conditions risk an abrupt market correction.
- The watchdog cited rising geopolitical tensions and a weakening economic outlook.
- Operational risks across financial markets are at a very high and rising level due to cyber threats and AI.
- ESMA expressed concern that crypto market shocks could spread to the wider financial system.
- The regulator noted increasing adoption of tokenized equities could affect market structure.
- ESMA highlighted risks of market manipulation and insider trading in prediction markets.
The European Union's financial watchdog warned on Thursday that a growing disconnect between deteriorating macroeconomic conditions and elevated market valuations poses a risk of an abrupt market correction. The European Securities and Markets Authority (ESMA) cited rising geopolitical tensions, particularly the conflict in the Middle East, and increasing energy prices as contributing factors to the weakening economic outlook.
ESMA Chair Verena Ross stated that the wider the gap becomes between investor optimism and the economic reality, the greater the risk of a sudden market downturn. The authority also highlighted that operational risks across financial markets are at a very high and rising level, exacerbated by increasing cyber threats and the advancements in artificial intelligence that can exploit vulnerabilities.
Furthermore, ESMA reiterated its long-standing concern that potential shocks within the crypto markets could spill over into the broader financial system due to their increasing interconnectedness. While acknowledging that tokenized equities are currently a negligible part of the global stock market, the regulator observed that their adoption is growing and could impact market structure. ESMA also pointed to the risks associated with growing institutional interest in prediction markets, noting that market infrastructure providers are seeking partnerships in this area. The authority warned that market manipulation and insider trading risks are amplified in prediction markets, where the ability of users to bet on real-world events using crypto hinders the detection of illicit trading activities.