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Saxo Q2 Outlook: The end of a cycle like no other

Saxo Q2 Outlook: The end of a cycle like no other

Saxo Bank, the leading Fintech specialist focused on multi-asset trading and investment, has today published its quarterly outlook for global markets and key trading ideas for Q2 2018. The focus of the report is how we are nearing the end of the largest monetary policy experiment of all time in a backdrop of ascendant nationalism, staggering inequality and a widespread loss of hope among the younger generation.

In its Q1 report, Saxo Bank highlighted bubbles in financial markets and now wants to alert investors to the fact that we are at the end of a cycle like no other. Central banks have replaced politicians as decision-makers and their maintaining of low and negative interest rate policies and quantitative easing – for far longer than the normal business cycle would dictate – was necessary and kept markets in a good mood, but with the unfortunate side effects.

Today’s capital markets are in a zombie-like state, with low volatility and extreme valuations in all assets with no net increase in growth and productivity, and a massive increase in inequality.

Saxo Bank’s Q2 Outlook covers the bank’s main asset classes: FX, equities, commodities and bonds as well as a range of central macro themes and tactical asset allocation models.

Commenting on this quarter’s outlook, Steen Jakobsen, Chief Economist and CIO, Saxo Bank, said:

”The benefits from the globalised system and particularly from the central banks’ asset-pumping response accrued near-entirely to the already wealthy, while the average economic participant lost out. This is the process that drove the advent of Brexit and Trump. So now we have our first great new showdown since the Cold War, which saw the victory of capitalism over communism. Now comes the fight between nationalism and globalism. Nationalism is winning big, as country by country the outlook is turning inwards, with an increase in placing the blame on external forces from immigrants to the real and imagined misbehaviour of trade partners. Talk of trade policy and protectionism is now labelled ‘trade wars’.”

”In our view, the implications of a global trade war and the world possibly having reached peak globalism have super-cycle implications. On the interest rate front and due to the excess of central bank policy, we are likely about to see the end of the 35-year downward trend in interest rates, the price of money. This has enormous implications, as the world has amassed $237 trillion of debt with little growth to show for it. At the same time, we have seen an information technology revolution in which technology companies have become monopolies of a size not seen since the 19th century, with their dominance of the market and downright scary data-gathering capacity more powerful than that of governments.“

”This is now changing with the European initiative to both enforce GDPR, the General Data Protection Regulation, and the 4% turnover tax applied to technology companies.  This will reprice technology, as (at a bare minimum) growth is now taxed higher with more spending needed on data protection, which is not ‘sales’ but costs.”

 Tactical asset allocation in economic cycles 

As this current economic cycle draws towards its close, preserving capital becomes an increasingly important metric. But how to achieve this? One method is tactical asset allocation and the key to success here is to identify the asset classes which relatively outperform during the different periods of an economic cycle. One strategy is to construct a framework in which portfolio weights deviate from the asset allocation policy throughout the economic cycle, also called tactical asset allocation. The key to success in tactical asset allocation is to identify the asset classes which relatively outperform during the different periods of an economic cycle.

Anders Nysteen, Quantitative Analyst, said:

”It is important in this environment to have a portfolio not just with “soft” assets but to be prepared for sudden market changes with a more diversified portfolio including some of the “hard” assets such as commodities, real estate, and emerging market exposure. With the current slightly negative credit impulse and highly indebted financial system, minor events could trigger increased uncertainty in the market, leading to a further expansion of the corporate spreads. A potential trade war between the US and China could increase the risk premium in credit markets. This would trigger a slowdown in the economy as companies would face higher financing costs.

”Saxo Bank’s forecast is that credit spreads will widen and the yearly change in gold prices will stay positive. However, the consensus is looking for credit spreads to remain low and not expanding much while inflation will pick up.”

Macro – Credit impulse is heading south

As we enter the second quarter of 2018, the hopes of synchronised growth are vanishing quickly as the global economy suffers a loss of momentum (global PMI has plunged to a 16-month low) and warning signs of an imminent slowdown are popping up in the US. Economic indicators ranging from Saxo Bank’s proprietary credit impulse to the yield curve and credit card delinquencies all point in a single direction – the US is heading for recession.

Christopher Dembik, Head of Macroeconomic Analysis, said: ”Based on up-to-date domestic nonfinancial loans data, such as C&I loans in the US, there is every reason to believe that the sluggish momentum will remain in place in both China and the US on the back of deleveraging and monetary policy normalisation. In a highly leveraged economy like the US, credit is a key determinant of growth. The main risk for investors is the increasing mismatch between the optimistic view of the market that considers the risk of recession as being less than 10% and what recession indicators are saying about the economy. These indicators suggest that the US is at the end of the business cycle – which is not much of a surprise – and hint that recession is just around the corner and Trump’s economic policy does not seem able to avert it.

FX – The US dollar is a time bomb

Ten years after the start of the global financial crisis, President Trump has turbocharged the search for a replacement for the US dollar as the world’s chief reserve currency with his total abandonment of fiscal discipline at what could prove the tail end of the US recovery. The USD is destined for pronounced weakness in purchasing power as reserve status begins to slip away – now sooner than before. But the real devil is in the detail of how we get there.

John Hardy, Head of FX Strategy, said: “As we look to the rest of 2018 and beyond, we suspect we are nearing the beginning of the endgame for the USD’s role in the global economy. The financial world risks another liquidity crisis linked to the US dollar if we see another financial panic or turn in the global credit cycle. Some new reserve asset will have to be at the centre of that new system – some have argued for a Special Drawing Right, a gold-backed SDR or similar. Otherwise, a new USD crisis could overwhelm the financial system without a coordinated response, risking a mass of defaults, unprecedented exchange rate volatility and a Balkanisation of the global financial system with no single reserve asset and division of the world into spheres of influence.

“The question is whether global elites can move to short circuit the inevitable USD crisis in launching such a monumental reconfiguring of the global financial system without the permission/consent/direction of political authorities in countries with democratic leaders.”

Equities – The battleground in Q2 will be that of fundamentals against the outlook

Equities are under pressure on many fronts, ranging from a potential trade war to disappointing macro numbers and technology regulation. Caution is critical in such an environment and portfolio diversification and defensive choices therefore make sense. Saxo Bank believes that the battleground in Q2 will be fundamentals against outlook.

Peter Garnry, Head of Equity Strategy, said: “Our dynamic asset allocation has gone moderately defensive in February and as a result we remain negative on equities as the risk-reward ratio seems low at this point.We recommend investors to be overweight defensive sectors such as health care and consumer staples, as well as interest rate-sensitive sectors including utilities and telecoms as rate expectations could take a hit in Q2 while markets digest the changing landscape. Portfolios should be more balanced and tilted towards defensive industries in the portfolio’s equity exposure.”

Commodities – Investors will continue to see safety in gold 

The turbulent turn that geopolitics took in recent weeks has had a severe impact on commodities. But while crude oil and gold benefitted from these tensions, industrial metals suffered on the outlook to lower economic growth. The agriculture sector, meanwhile, was ruled by the weather.

Ole Hansen, Head of Commodity Strategy, said;

”Commodities got off to a strong start in 2018 but have since come under heavy pressure as rising trade tensions threatened to further undermine already slowing economic growth momentum. The focus on a commodity-supportive rise in inflation has also faded with current and forward projections not showing much sign of a pickup in global price pressure.”

”Against these developments we are facing multiple sources of geopolitical risk including Russia and the West on opposing sides in Syria, as well as Iran against Saudi Arabia and the US. While increasing the level of uncertainty, these simmering tensions have also been providing some underlying support for crude oil and, to a certain extent, gold. For this reason, these two commodities are among the very few cyclical commodities currently showing a plus on the year.  Given our worries about the outlook for global growth and inflation potentially not meeting expectations, we are turning our attention to the non-cyclical agriculture sector, which has underperformed almost against all other asset classes for several years.”

 Bonds – Time for bonds to join the volatility party

The economy is witnessing a gradual degradation of corporate credits, and an increase in bond market volatility appears likely over the coming months. With the Congressional Budget Office now saying that the US deficit will rise above $1 trillion by 2020 and warning of dangerous implications such as a sudden increase in interest rates, reduced policy flexibility and ultimately even a financial crisis, Saxo Bank cannot help but stay cautious. It believes that Q2 will see intensifying signs of distress in the corporate space which may provoke confined periods of volatility, but a more severe sell-off will not happen until the end of the year.

 Althea Spinozzi, Fixed Income Specialist, said:

”We believe that investors’ focus will remain on inflation and the supply/demand of Treasuries, and any surprise in this data may cause volatility within the sovereign space. However, this will most likely not cause a sell-off in the corporate space until the 10-year Treasury yield hits the 3% psychological level or there is a more significant sell-off within the equity market. In Q2 we will see increased, yet limited, episodes of volatility which will provide investors with a window of opportunity in which to carefully select risk ahead of the stormier waters to come.”

Currency – A regime change lower in AUD

In the long term, Asia’s enviable demographics see the APAC region enjoying some of the best returns across asset classes compared to its global peers. Not only does the populous region have more economic “chips on the table” in weighted terms, but it also has more time to place those chips, employ its strategies, and – perhaps most importantly – make mistakes.

Kay Van-Petersen, Global Macro Strategist, said:

”For the first time in nearly 20 years, we see a yield differential between the Reserve Bank of Australia and the Federal Reserve that actually favours the Fed. At present, the Federal Funds rate sits at 1.75% versus the RBA’s 1.50% – a 25 basis point premium towards the Fed, USD, and US assets versus their Australian counterparts.”

”Policy divergence between the Fed and other central banks is projected to increase as well, particularly given the likelihood of another Fed rate hike on June 13. The RBA, by contrast, has been in neutral-to-dovish mode for well over 18 months and this is unlikely to change. After all, Australia is an economy flush with high levels of consumer debt, a fragile and over-extended property market, stretched bank balance sheets, and the risk that comes with not having endured recession in more than 25 years.” 

Are cryptocurrencies entering a new cycle?

Cryptocurrencies fell back to earth with a bang in the first months of this year, having enjoyed exponential growth in 2017. The situation remains fragile, given the outlook to increased regulation and social media advertising bans. That said, we can’t rule out the possibility of a comeback.

Jacob Pouncey, Cryptocurrency Analyst, said:

“If there is a significant pullback in the equity markets, there will be an inflow of money into uncorrelated assets, or assets that lie outside the reach of the traditional financial system in which cryptocurrencies are a potential alternative. The inflow of institutional capital to the cryptocurrency market due to the increase in regulation and investor protection could lead cryptocurrencies to a positive quarter.”

To access Saxo Bank’s full Q2 2018 outlook, with more in-depth pieces and videos from our analysts and strategists, please go to


Economic recovery likely to prove a ‘stuttering’ affair

Economic recovery likely to prove a ‘stuttering’ affair 1

By Rupert Thompson, Chief Investment Officer at Kingswood

Equity markets continued their upward trend last week, with global equities gaining 1.2% in local currency terms. Beneath the surface, however, the recovery has been a choppy affair of late. China and the technology sector, the big outperformers year-to-date, retreated last week whereas the UK and Europe, the laggards so far this year, led the gains.

As for US equities, they have re-tested, but so far failed to break above, their post-Covid high in early June and their end-2019 level. The recent choppiness of markets is not that surprising given they are being buffeted by a whole series of conflicting forces.

Developments regarding Covid-19 as ever remain absolutely critical and it is a mixture of bad and good news at the moment. There have been reports of encouraging early trial results for a new treatment and potential vaccine but infection rates continue to climb in the US. Reopening has now been halted or reversed in states accounting for 80% of the population.

We are a long way away from a complete lockdown being re-imposed and these moves are not expected to throw the economy back into reverse. But they do emphasise that the economic recovery, not only in the US but also elsewhere, is likely to prove a ‘stuttering’ affair.

Indeed, the May GDP numbers in the UK undid some of the optimism which had been building recently. Rather than bouncing 5% m/m in May as had been expected, GDP rose a more meagre 1.8% and remains a massive 24.5% below its pre-Covid level in February.

Even in China, where the recovery is now well underway, there is room for some caution. GDP rose a larger than expected 11.5% q/q in the second quarter and regained all of its decline the previous quarter. However, the bounce back is being led by manufacturing and public sector investment, and the recovery in retail sales is proving much more hesitant.

China is not just a focus of attention at the moment because its economy is leading the global upturn but because of the increasing tensions with Hong Kong, the US and UK. UK telecoms companies have now been banned from using Huawei’s 5G equipment in the future and the US is talking of imposing restrictions on Tik Tok, the Chinese social media platform. While this escalation is not as yet a major problem, it is a potential source of market volatility and another, albeit as yet relatively small, unwelcome drag on the global economy.

Government support will be critical over coming months and longer if the global recovery is to be sustained. This week will be crucial in this respect for Europe and the US. The EU, at the time of writing, is still engaged in a marathon four-day summit, trying to reach an agreement on an economic recovery fund.  As is almost always the case, a messy compromise will probably end up being hammered out.

An agreement will be positive but the difficulty in reaching it does highlight the underlying tensions in the EU which have far from gone away with the departure of the UK. Meanwhile in the US, the Democrats and Republicans will this week be engaged in their own battle over extending the government support schemes which would otherwise come to an end this month.

Most of these tensions and uncertainties are not going away any time soon. Markets face a choppy period over the summer and autumn with equities remaining at risk of a correction.

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European trading firms begin coming to terms with the new normal

European trading firms begin coming to terms with the new normal 2

By Terry Ewin, Vice President EMEA, IPC

In recent weeks, the phrase ‘never let a good crisis go to waste’ has received a large amount of usage. Management consultancies, industry associations and organisations, including the Organisation for Economic Co-operation and Development (OECD) have all used it in order to discuss how the current crisis, caused by the Coronavirus pandemic, presents an opportunity for new and worthwhile change.

The saying is also commonly used to indicate that the destruction and damage that is caused by a crisis gives organisations the chance to rebuild, and to do things that would not have previously been possible. This has the potential to impact financial trading firms, where projects that this time last year would not have made much sense now appearing to be as clear as day. In Europe, banks and brokers alike are beginning to think about what life will look like post-pandemic, and how their technology strategies may need changing.

We can think of three distinct phases when it comes to a crisis. Firstly, there is the emergency phase. This is followed by the transition period before we come to the post-crisis period.

Starting with the emergency phases, this is when firms are in critical crisis management mode. Plans are activated to ensure business continuity, and banks and brokers work to ensure critical functions can still take place so as to continue servicing their clients. With regards to the current crisis period, both large and small European banks and brokers were able to handle this phase relatively well, partly due to the fact that communications technology has reached the point where productive Work From Home (WFH) strategies are in place. For example, cloud-connectivity, in addition to the use of soft turrets for trading, has enabled traders from across the continent to keep working throughout lockdown. From our work with clients, we know that they were able to make a relatively smooth transition to WFH operations.

In relation to the current coronavirus crisis, we are in the second phase – the transition period. This is the stage when financial companies begin figuring out how best to manage the worst effects of the ongoing crisis, whilst planning longer-term changes for a post-crisis world. One thing to note with this phase, is that no one knows how long it will last. There is still so much we don’t know about this virus. As such, this has an impact on when it will be safe for businesses to operate in a similar way to how they were run in a pre-pandemic world. But with restrictions across Europe starting to be eased, there is an expectation that companies will start to slowly work their way towards more on-site trading. For example, banks are starting to look at hybrid operations, whereby traders come in a couple of times a week, and WFH for the rest of the week. This will result in fewer people in the office building, which makes it easier to practise social distancing. It also means that there is a continued reliance on the technology that enables people to WFH effectively.

Finally, we have the post-crisis period. In terms of the current crisis, this stage is very unlikely to occur until a vaccine has been developed and distributed to the masses. Although COVID-19 has caused mass economic disruption, many analysts are predicting a strong rebound once the medical pieces of the puzzles are put into place. It may not be entirely V-shaped, but the resiliency displayed by the financial markets thus far suggests that it will be healthy.

Currently, many European trading firms are taking what could be described as a two-pronged approach.

The first part of this consists of planning for the possibility of an extension to phase two. Medical experts have suggested that there could be some seasonality to the virus, with the threat of a second wave of COVID-19 cases in the Autumn meaning that the risk of new restrictions remains. If this comes to fruition, there would be a need for organisations to fine-tune their current WFH strategies and measures, and for them to take greater advantage of the cloud so as to power communications apps.

The second component consists of firms starting to think about the long-term needs of their trading systems. Simply put, they are preparing themselves for the third phase.

It is in this last sense, that the idea of never letting ‘a good crisis go to waste’ resonates most clearly.

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Currency movements and more: How Covid-19 has affected the financial markets

Currency movements and more: How Covid-19 has affected the financial markets 3

The COVID-19 pandemic has been more than a health crisis. With people forced to stay indoors and all but the most essential services stopped for multiple weeks, economies have suffered and financial markets have crashed. Perhaps the most public and spectacular fall from grace during the early stages of the pandemic was oil. With travel bans in place around the world and no one filling up at the pumps, the price of oil plummeted.

Prior to global lockdowns, US oil prices were trading at $18 per barrel. By mid-April, the value had dropped to -$38. The crash was not only a shocking demonstrating of COVID-19’s impact but the first time crude oil’s price had fallen below zero. A rebound was inevitable, and many traders were quick to take long positions, which meant futures prices remained high. However, with stocks piling up and demand sinking, trading prices suffered. Unsurprisingly, it’s not the only market that’s taken a knock since COVID-19 struck.

Financial Markets Fluctuate During Pandemic

Shares in major companies have dipped. The Institute for Fiscal Studies compiled a round-up of price movements for industries listed by the London Stock Exchange. Tourism and Leisure have seen share prices drop by more than 20%. Major airlines, including BA, EasyJet and Ryanair have all been forced to make redundancies in the wake of falling share prices. The automotive industry has also taken a knock, as have retailers, mining and the media. However, in among the dark, there have been some patches of light.

The forex market has been a mixed bag. As it always is, the US dollar has remained a strong investment option. With emerging markets feeling the strain, traders have poured their money into traditionally strong currency pairs like EUR/USD. Looking at the data, IG’s EUR/USD price charts show a sharp drop in mid-March from 1.14 to 1.07. However, after the initial shock of COVID-19 lockdowns, the currency pair has steadily increased in value back up to 1.12 (June 25, 2020). The dominance of the dollar has been seen as a cause for concern among some financial experts. In essence, the crisis has highlighted the world’s reliance on it.

Currency Movements Divide Economies

Currency movements and more: How Covid-19 has affected the financial markets 4

In any walk of life, a single point of authority is dangerous. Indeed, if reliance turns into overreliance, it can cause a supply issue (not enough dollars to go around. More significantly, it could cause a power shift that gives the US too much control over economic policies in other countries. Fortunately, other currencies have performed well during the pandemic. Alongside USD and EUR, the GBP has also shown a degree of strength throughout the crisis. However, these positive movements haven’t been shared by all currencies.

The South African rand took a 32% hit during the early stages of the pandemic, while the Mexican peso and Brazilian real dropped 24% and 23%, respectively. Like the forex market, other sectors have experienced contrasting fortunes. Yes, shares in airlines and automotive manufacturers have fallen, but food and drug retailers have seen stocks rise. In fact, at one point, orange juice was the top performer across multiple indices. With the health benefits of vitamin C a hot topic, futures prices for orange juice jump up by 30%. The sudden surge had analysts predicting 60% gains as we move into a post-COVID-19 world.

Looking Towards the Future through Financial Markets

The future is always unknown and, due to COVID-19, it’s more uncertain than ever. However, the financial markets do provide an indication of how things may change. The performance of USD and EUR in the forex markets suggest there could be a lot more trade deals negotiated between the US and Europe. The surge in orange juice futures suggest that health and wellness will become a much more important part of our lives. Even though it was already a multi-billion-dollar industry, the realisation that a virus can alter the face of humanity has given more people pause for thought.

Then, of course, there’s the move towards remote working and socially distance entertainment. From Zoom to Slack, more people will be working and playing from home in the coming years. The world is always changing, but recent have events have made us appreciate this fact more than ever. The financial markets aren’t a crystal ball, but they can offer a glimpse into what we can expect in a post-COVID-19 world.

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