Bond. Long bond(s) Bond. Long bond(s) Bond. Long bond(s)

Bond. Long bond(s)

Steen Jakobsen

Chief Investment Officer

Summary:  With real rates being too positive, we see three scenarios: Opportunity to lock in rates at cycle high, government overreach to keep the economy afloat or a complete reset of the economy.


We are either at a four-decade opportunity to lock in rates at cycle high or at an inflection point where we have a full paradigm shift to a Schumpeter moment of creative destruction in economic policy via a government overreach.

Opportunity or destruction? Sounds like an easy choice, but the problem is that the opportunity is a function of a malfunctioning market and economic model built on state interventionism, whereas the Schumpeter creative destruction is the natural process of economic and social evolution.

We see three distinct scenarios with attached probabilities:

  • Opportunity – the world has indeed reached peak policy rates (50%)
  • Government overreach – ever-increasing intervention and regulation to keep the economy afloat under the old model (35%)
  • Creative destruction (15%) - resetting the economy to market-based distribution, accepting full economic cycles

Opportunity 

Based on real rates being too positive, we see a fallout from sectors and consumers with financing needs. Fallouts are already starting among green transformation companies such as offshore wind developers, as their projects’ economic value goes deep into the red under current interest rates.

The consumers may have spent their Covid savings and with the cost of credit cards, mortgages and cars at two times the historical average, they must slow down their spending.

There is also risk of a liquidity event as governments continue to issue debt at a speed which leaves traditional buyers of their credit bloated with underwater titles.

We see both an economic slowdown and a liquidity event as equally likely.

Government overreach

It’s kind of ironic to write about a government overreach as a future event as it is already happening. The amount of new regulation is concerning, not for its intentions, but for its execution, which is red tape to infinity.

Europe will introduce their Carbon Border Adjustment Mechanism from 1 October, which is really an old classic trade term for a protectionist tax barrier. Green regulations and ESG measurements are the talk of town in the ivory towers of politics and central banks. They want to be seen as ‘doing something’ and in that process, they are distorting private solutions and initiatives. But despite the failure to change the direction, they will argue, “The problem is not too much focus on regulations and government policies, but rather that there is too little!”

Maybe a quick ‘Economics 101’ is needed. Anything which is not productive will fail, unless, of course, governments keep them artificially alive. That is a very likely scenario.

Crowding out private capital and initiative is never a good idea. It will lead to rising deficits, unsustainable debt levels and a need to introduce maximum cost to everything from capital to prices. Think price, rent and yield-curve-controls, as politicians centrally steer the economy to align and ‘protect’ the voters. In this scenario, terminal rates will go higher, probably to 500-550 bps in the US 10-year benchmark yield.

Creative destruction

The libertarian economists continue to return to Schumpeter’s theory of an economic model that needs a recurrent forest fire which resets the parameters and advances through innovation and more productive methods. A crisis which create a new foundation for an upswing.

The risk here is probably that it needs to be induced from the ever-growing inequality. Between young and old generations, and between small and mid-sized enterprises and multinational companies, and between the haves and have-nots. I doubt the economic model will move to this scenario. Too much political capital is invested in the current belief of keeping everything steady and avoiding recessions at all cost.

There is a chance that voters have had enough. For now, the right wing, particularly in Europe, is gaining in polls with their commitments to the individual over the government. 

For an old-timer like me, this smells a lot like the 1980s, when Arthur Laffer’s supply economics became the economic fashion and post the Great Financial Crisis in 2008, when Koo introduced the concept of balance sheet recessions. Fast forward to today, who is in the economic headlights again? Laffer and Koo!

The 1980s was the antidote to 1970s big government of price control, high energy prices, breakup of Bretton Woods, high wages and inflation and devaluations.

Remind you of something?

The exercise for all of us is to figure out what the next cycle is, based on the doctrine that it is often the opposite of what was just there.

Maybe the right answer is that we will see all three scenarios over the next ten years?

First the opportunity, then the government overreach and then the transition to Schumpeter’s creative destruction.

That’s my bet. The world wants to, and probably can, extend-and-pretend one more cycle, but in order to take one more round of the current economic model, it now must ‘protect’ everybody and everything. This means that the cost of capital can no longer rise, because otherwise we move directly to the Schumpeter moment.

The King is dead. Long live the King.

Quarterly Outlook 2024 Q3

Sandcastle economics

01 / 05

  • Macro: Sandcastle economics

    Invest wisely in Q3 2024: Discover SaxoStrats' insights on navigating a stable yet fragile global economy.

    Read article
  • Bonds: What to do until inflation stabilises

    Discover strategies for managing bonds as US and European yields remain rangebound due to uncertain inflation and evolving monetary policies.

    Read article
  • Equities: Are we blowing bubbles again

    Explore key trends and opportunities in European equities and electrification theme as market dynamics echo 2021's rally.

    Read article
  • FX: Risk-on currencies to surge against havens

    Explore the outlook for USD, AUD, NZD, and EM carry trades as risk-on currencies are set to outperform in Q3 2024.

    Read article
  • Commodities: Energy and grains in focus as metals pause

    Energy and grains to shine as metals pause. Discover key trends and market drivers for commodities in Q3 2024.

    Read article

Disclaimer

The Saxo Bank Group entities each provide execution-only service and access to Analysis permitting a person to view and/or use content available on or via the website. This content is not intended to and does not change or expand on the execution-only service. Such access and use are at all times subject to (i) The Terms of Use; (ii) Full Disclaimer; (iii) The Risk Warning; (iv) the Rules of Engagement and (v) Notices applying to Saxo News & Research and/or its content in addition (where relevant) to the terms governing the use of hyperlinks on the website of a member of the Saxo Bank Group by which access to Saxo News & Research is gained. Such content is therefore provided as no more than information. In particular no advice is intended to be provided or to be relied on as provided nor endorsed by any Saxo Bank Group entity; nor is it to be construed as solicitation or an incentive provided to subscribe for or sell or purchase any financial instrument. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. As such no Saxo Bank Group entity will have or be liable for any losses that you may sustain as a result of any investment decision made in reliance on information which is available on Saxo News & Research or as a result of the use of the Saxo News & Research. Orders given and trades effected are deemed intended to be given or effected for the account of the customer with the Saxo Bank Group entity operating in the jurisdiction in which the customer resides and/or with whom the customer opened and maintains his/her trading account. Saxo News & Research does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication under relevant laws.

Please read our disclaimers:
- Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)
- Full disclaimer (https://www.home.saxo/en-gb/legal/disclaimer/saxo-disclaimer)

Saxo
40 Bank Street, 26th floor
E14 5DA
London
United Kingdom

Contact Saxo

Select region

United Kingdom
United Kingdom

Trade Responsibly
All trading carries risk. To help you understand the risks involved we have put together a series of Key Information Documents (KIDs) highlighting the risks and rewards related to each product. Read more
Additional Key Information Documents are available in our trading platform.

Saxo is a registered Trading Name of Saxo Capital Markets UK Ltd (‘Saxo’). Saxo is authorised and regulated by the Financial Conduct Authority, Firm Reference Number 551422. Registered address: 26th Floor, 40 Bank Street, Canary Wharf, London E14 5DA. Company number 7413871. Registered in England & Wales.

This website, including the information and materials contained in it, are not directed at, or intended for distribution to or use by, any person or entity who is a citizen or resident of or located in the United States, Belgium or any other jurisdiction where such distribution, publication, availability or use would be contrary to applicable law or regulation.

It is important that you understand that with investments, your capital is at risk. Past performance is not a guide to future performance. It is your responsibility to ensure that you make an informed decision about whether or not to invest with us. If you are still unsure if investing is right for you, please seek independent advice. Saxo assumes no liability for any loss sustained from trading in accordance with a recommendation.

Apple, iPad and iPhone are trademarks of Apple Inc., registered in the U.S. and other countries. App Store is a service mark of Apple Inc. Android is a trademark of Google Inc.

©   since 1992