EXIT: 2021 central banks’ megatrend EXIT: 2021 central banks’ megatrend EXIT: 2021 central banks’ megatrend

EXIT: 2021 central banks’ megatrend

Bonds
Althea Spinozzi

Head of Fixed Income Strategy

Summary:  A slightly hawkish Bank of England is telling the Federal Reserve that it is time to taper. Strengthening economic conditions and greater inflationary pressures demand aggressive monetary policies. The Fed's "dovish for longer" message poses a threat to the market because investors believe it too blindly. The longer central banks await to taper, the bigger the chance for a taper tantrum. Yields worldwide can only move higher; whichever starts first, it will drag the others.


The muted reaction of the market amid the Bank of England monetary policy meeting is eerie. The market was expecting some tapering, which the BOE delivered, but it didn’t exceed. Clearly, the market believes that ultra-low interest rates have priced whatever tapering will happen in the near future. It is also confident that central banks will announce any tapering well in advance, without provoking a taper tantrum such as we saw in 2013.

However, we believe that there are all the elements for the situation to get out of control.

1. There is no escaping from tapering

The Bank of England monetary policy meeting today was important because it confirmed one of the financial market’s most feared trends: central banks worldwide are about to reduce an unprecedented amount of stimulus.

It translates to the fact that if central banks do not taper today, they will taper later. The longer they wait to do that, the more fragile the financial market gets. Indeed as the economy recovers fast, there may be the need to tighten financial conditions more quickly than anticipated.

It is becoming a card game between central banks: who tapers first and who plays the tapering card at its best. Suppose the BOE was slightly more hawkish than the market wanted it to be today. Well, that could have provoked a selloff in Gilts that would have easily leaked to US Treasuries and European sovereigns as well. Indeed, a hawkish BOE implies that the Federal Reserve is behind the curve and that it should consider tapering earlier than what it has communicated to the market so far. If that were to happen, 10-year yields might break above the 1.75% resistance level to head towards the fear pivotal resistance f 2%.

It places the European Central Bank in an uncomfortable spot as Bund yields have risen for months. They are close to breaking above their resistance at -0.15% to head towards positive territory for the first time since 2019.

This week 10-year Bund yields broke their resistance at -0.20% to rise as much as 0.16%. If they break above this level, we might see them rising fast to 0%. Bund yields have been trading in a narrow ascending wedge while the RSI values have been falling, meaning that the uptrend is weakening and could reverse. If that were to happen, yields could fall to 0.40%.

Source: Bloomberg and Saxo Bank.

The Euro Bund futures contracts are telling us the same. Our Technical Analysis guru, Kim Cramer, says: “Over the past 4-6 weeks Euro Bund has been trading in a more and more narrow bearish range forming what looks like a Falling Wedge.  However, the RSI values have been rising, which means there is growing divergence. In other words, the downtrend is weakening, nearing exhaustion levels and could reverse. If Bunds breaks out to the upside, there is some resistance at 171.44 but room up till 171.91. A close below 169.47 will most likely result in Bunds to drop to around 168-167.50”.  

Source: Saxo Group.

Today's BOE meeting is a massive blow to the ECB's policies which have been trying for weeks to keep European yields in check. It is time to realize that there is no escaping the tapering anywhere globally, not even under the ultra-dovish monetary policies rules of the ECB.

2. Investors have chosen between credit or duration risk, and they are now waiting

Within this context, investors need to pick one of the two: credit or duration?

Both risks have a common goal: securing a yield high enough to hedge against a rise in inflation.

Yet, the difference between them is massive. It is like choosing to die a sudden death or slow death because interest rate risk punishes duration harshly, but credit risk may result in defaults.

Let’s take the Austria 2120 bonds, for example. These bonds were issued in June 2020 with a coupon of 0.85%. The low coupon provides a little buffer to protect against interest rates. Since Bund yields have started to point higher in December, the bonds have fallen substantially around 50 points in nominal terms, 35% of their price.

The issue is that Bund yields have just started to rise. Rising yields in the US and the German election in the fall are pointing to one only certainty: Bund yields are meant to turn positive. It will provoke pain to ultra-long bonds that have been issued under extraordinary circumstances while central banks accommodative measures where compressing risk premium worldwide. It means that the price of these bonds can easily fall another 20 to 30 full points, and the question that one should ask is: how long are you willing to hold on to this instrument?

Maybe pension funds and insurances might endure low valuations for quite sometimes but what about smaller investors? While big players have soaked in duration, the small crowd is in higher-yielding credits. Neither risks are optimal, but I know where my preference is. In a rising interest rates environment, I would shy from duration any day.

Source: Bloomberg and Saxo Group.

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 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 is not intended to and does not change or expand on this. 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 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 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 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 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 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-hk/legal/disclaimer/saxo-disclaimer)

None of the information contained here constitutes an offer to purchase or sell a financial instrument, or to make any investments. Saxo does not take into account your personal investment objectives or financial situation and makes no representation and assumes no liability as to the accuracy or completeness of the information nor for any loss arising from any investment made in reliance of this presentation. Any opinions made are subject to change and may be personal to the author. These may not necessarily reflect the opinion of Saxo or its affiliates.

Saxo Capital Markets HK Limited
19th Floor
Shanghai Commercial Bank Tower
12 Queen’s Road Central
Hong Kong

Contact Saxo

Select region

Hong Kong S.A.R
Hong Kong S.A.R

Saxo Capital Markets HK Limited (“Saxo”) is a company authorised and regulated by the Securities and Futures Commission of Hong Kong. Saxo holds a Type 1 Regulated Activity (Dealing in Securities); Type 2 Regulated Activity (Dealing in Futures Contract); Type 3 Regulated Activity (Leveraged Foreign Exchange Trading); Type 4 Regulated Activity (Advising on Securities) and Type 9 Regulated Activity (Asset Management) licenses (CE No. AVD061). Registered address: 19th Floor, Shanghai Commercial Bank Tower, 12 Queen’s Road Central, Hong Kong.

Trading in financial instruments carries various risks, and is not suitable for all investors. Please seek expert advice, and always ensure that you fully understand these risks before trading. Trading in leveraged products may result in your losses exceeding your initial deposits. Saxo does not provide financial advice, any information available on this website is ‘general’ in nature and for informational purposes only. Saxo does not take into account an individual’s needs, objectives or financial situation. Please click here to view the relevant risk disclosure statements.

The Saxo trading platform has received numerous awards and recognition. For details of these awards and information on awards visit www.home.saxo/en-hk/about-us/awards.

The information or the products and services referred to on this site may be accessed worldwide, however is only intended for distribution to and use by recipients located in countries where such use does not constitute a violation of applicable legislation or regulations. Products and services offered on this website are not directed at, or intended for distribution to or use by, any person or entity residing in the United States and Japan. Please click here to view our full disclaimer.

Apple, iPad and iPhone are trademarks of Apple Inc., registered in the US and other countries. AppStore is a service mark of Apple Inc. Android is a trademark of Google Inc.