Andrew Bailey, governor of the Bank of England and chair of the Financial Stability Board, has flagged mounting risks to the global financial system in a letter to G20 finance ministers. The board coordinates financial regulation across G20 nations, and AI sits at the centre of the letter.

The system absorbed the shock from the Middle East conflict, Bailey writes, but conditions remain tight: energy prices keep swinging, interest rates have climbed, and risky assets still carry high valuations.

The worry is leverage, not valuation

Alongside fragile government bond markets and opaque private credit, Bailey singles out inflated AI valuations. But what worries him most is not the valuation itself: it is how many investors are now speculating on borrowed money.

The elements he points to:

  • Leveraged ETFs and trend-following strategies pulling in more and more retail investors.
  • Hedge funds holding positions in both equities and government bonds at once — a mix that makes it easier for trouble in one market to spill into another.

His own phrasing: "As we have seen multiple times in the past, rising leverage is a feature of a maturing financial cycle. While it can reinforce rising markets, it can also intensify declines when sentiment turns, as recent weeks have demonstrated."

Where the chain gets long

The core issue is that all this leverage lands on top of high valuations and heavy market concentration.

Bailey draws particular attention to the growing web of cross-investments between AI companies and hyperscalers, and his warning is plain: one major AI company stumbling could drag down other tech giants and eventually the broader market.

This is a different worry from the familiar "is it a bubble" argument. The question is not whether prices are high but how far the damage travels when they fall. If companies are simultaneously each other's customers and each other's investors, a loss on one balance sheet erodes an asset on another.

Concentration is part of the same picture. When most of the market's value sits in a handful of companies, a portfolio that looks diversified may in fact be placing the same bet several times over. A retail investor buying an index fund ends up exposed to AI valuations without choosing to be.

The second warning: cyber risk

Bailey's other concern is frontier models. They are gaining autonomous capabilities, but they are also becoming more dangerous.

In his words, frontier AI could "materially alter the speed, scale and economics of cyber risk." Attacks get cheaper and faster. For banks, that means the nature of the threat does not change but its unit cost does — and when cost falls, volume rises.

The letter's final notable point is the regulatory gap: many countries still have no rules at all for advanced AI. A technology capable of threatening financial stability is developing unsupervised across most jurisdictions.