Robert Buckland, FT, Friday, May 9, 2025
In this insightful Markets Insight column in the Financial Times, Robert Buckland highlights a familiar but poorly understood phenomenon in financial markets: pain trades.
For various reasons — sometimes grounded in fundamentals, sometimes based on momentum or crowd behavior — investors take large, crowded positions. When markets move against them, these positions must be unwound rapidly, triggering sharp corrections, spikes in volatility, and considerable pain for the traders involved.
As many of us learned in university that markets are efficient, we often try to rationalize these corrections by citing changing fundamentals. But Buckland rightly challenges this reflex. In his words:
“Traders moved to price Trump’s latest announcement…” might make for a good story, but in my experience, traders only ever move to price in the behaviour of other traders.
These painful episodes are part of a broader, flawed learning process through which markets attempt to discover fair value. This process involves:
- “Fundamentalists”, who estimate asset value from discounted future cash flows,
- “Trend followers”, who observe momentum in market dynamics,
- And more cynical or pragmatic “contrarians”, who understand — like Buckland — the structural role of pain trades. As the saying goes:
“Markets tend to move in the direction that hurts the most.”
Surprisingly, this complex mechanism is still poorly captured by academic literature, which often simplifies the debate as a binary: rational fundamentalists vs irrational trend-followers — leaving no room for contrarians or for dynamic learning through mistakes.
Yet, if one looks deeper, markets are constantly trying to converge toward the right risk premia — the excess returns required by investors to hold risky assets. These premia, unlike short-term interest rates controlled by central banks, are not directly observable. And this invisibility is, in our view, a central driver of excess volatility in asset prices.
This interpretation — of asset pricing as an imperfect, endogenous discovery of risk premia — is developed in the forthcoming article “Excess Volatility and the Credibility Challenges of Fundamentalist Investors”, to be published in Bankers, Markets and Investors. A preprint is available via SSRN:
👉 https://papers.ssrn.com/sol3/papers.cfm?abstract_id=5040735
In addition to his take on short-term volatility, Robert Buckland introduces another valuable idea: the distinction between short-term pain trades and longer-term pain trades, which stem from flawed strategic asset allocation and again another complex learning process.
He recalls the 1990s, when many UK defined benefit pension funds were heavily strategically overexposed to equities, under the belief that “stocks always win in the long run.” But the 2000-03 bear market caused so much damage to UK pension funds that they radically cut their domestic equity exposure, permanently reshaping the UK investment landscape.
This example — where long-term misallocation distorted pricing — is also discussed in our forthcoming paper.
Finally, Buckland draws a timely parallel between that episode and the recent enthusiasm for private assets. Because their risks are opaque (valuation uncertainty) and their liquidity risks were long ignored, private assets have artificially benefitted from the illusion of stability. Once again, flawed allocation decisions are distorting pricing. And once again, a long-term pain trade may be brewing.
Have we reached the tipping point? Probably not yet. But the pressure may be building.