Andrew Bailey raised concerns over the growing influence of non-bank financial (NBFIs) institutions in global markets. He pointed out that hedge funds, systematic trading strategies, and decentralized finance have transformed the landscape, shifting risk outside the traditional banking sector.

Overview of UK Non-Banking Financial Sub Sector with estimated asset values | Source: ONS Financial Accounts Update

Before the 2008 financial crisis, non-bank financial institutions held about 40% of global financial assets. Today, that figure has surged to nearly 50%, signaling a significant redistribution of financial power. This shift has altered how risks emerge, requiring central banks to adapt their oversight strategies beyond conventional banking institutions.

“With the non-bank sector now making up nearly 50% of global financial assets compared to 40% for the banking sector. And so for the last fifteen years we have increasingly seen the emergence of risks to financial stability originating in the non-bank system,” said Bailey.

Bailey warned that without proper intervention, regulators could lose sight of systemic vulnerabilities brewing outside the banking framework.

The Rise of Hedge Funds and Systematic Trading

Bailey highlighted how multi-manager hedge funds and systematic trading strategies have increased market speed, complexity, and leverage. These funds thrive on high bank financing, but in times of stress, they can swiftly deleverage, triggering wider market instability. Their reliance on statistical models can result in liquidity crunches and unpredictable price swings, further amplifying market risks.

Analyst Brett Caughran discusses how market structure has shifted over the last decade, with these funds becoming the dominant price setters, changing how risk is managed and opportunities are captured.

P&L with different leverage levels and returns on GMV | Source: Brett Caughran

The interconnected nature of hedge funds, high-frequency traders, and systematic funds has only intensified the problem. When large players use similar trading strategies, markets become more prone to synchronized sell-offs. In crisis situations, this can create a domino effect, accelerating instability across global financial systems. Bailey stressed that regulators must address these risks before they spiral out of control.

Regulatory gaps remain a major concern. After the global financial crisis, banks faced stringent regulations, but non-banks continue to operate under far looser supervision. The lack of oversight means that many hedge funds hold high levels of leverage without clear transparency, creating hidden vulnerabilities that could threaten market stability.

Stress Testing a Changing Market

To tackle these rising risks, the Bank of England introduced the System-Wide Exploratory Scenario (SWES)—a stress-testing framework designed to monitor how financial shocks travel beyond banks. Unlike traditional stress tests, SWES evaluates how liquidity moves across different financial institutions and how market reactions can amplify risks.

Bailey underscored that liquidity vulnerabilities have grown, challenging past assumptions. The “Heineken Principle”—which suggests that central bank liquidity naturally reaches all corners of the financial system—no longer holds. Market crises in recent years, such as the Dash for Cash (2020) and LDI crisis (2022), revealed that non-banks often struggle to access liquidity, forcing them into desperate asset sell-offs that disrupt markets.

In response, the Contingent NBFI Repo Facility (CNRF) was introduced. This backstop facility provides liquidity to insurance companies, pension funds, and liability-driven investment (LDI) funds during market stress. However, Bailey clarified that CNRF is not a permanent liquidity solution but an emergency intervention tool, only to be used when financial stability is at risk.

“We have developed the Contingent NBFI Repo Facility, or CNRF, to tackle severe disruption in the gilt market that threatens financial stability due to shocks that increase the demand of NBFIs for liquidity,” said Bailey.

Stablecoins and DeFi Risks

Bailey also turned attention to decentralized finance (DeFi) and stablecoins, which he described as a growing regulatory challenge. Unlike traditional financial instruments, DeFi assets operate without centralized control, leading to rapid leverage accumulation and opaque liquidity structures.

The integration of stablecoins into mainstream finance adds another layer of complexity. With their increasing use in payments, with companies like PayPal embracing the stablecoin, clear regulatory frameworks are essential to prevent them from becoming a destabilizing force.

BoE Chief calls for strict stablecoin regulations, UK exploring digital pound | Source: ThePortablePortfolio

Cross-border coordination remains critical. Many hedge funds depend on US repo markets, making financial shocks in one region quickly spill over into another. Effective surveillance and risk-sharing mechanisms between global regulators could help contain risks before they escalate.