Today's edition of the Saxo Morning Call features the SaxoStrats team discussing the continuing weakness of the US dollar as commodity prices recover ground and in the wake of key US equity indices hitting all-time highs Thursday.
Article / 29 September 2016 at 10:00 GMT

Quarterly Outlook: Don the helmets

Chief Economist & CIO / Saxo Bank
  • US presidential election battle the defining moment of the fourth quarter
  • Donald Trump can win on anti-establishment platform
  • Breakdown of the social contract has opened up path for crucial change
  • The limits of central-bank policy unveiled for all to see
  • Historical macro change only ever truly comes from political mistakes

By Steen Jakobsen

We enter the fourth quarter with extreme low volatility, interest rates, inflation and growth, combined with high anxiety and social inequality. Q4 can and must be about the US Presidential election which looks tighter and tighter but it is also a time of the year which seasonally is weak for risk-on as well when governments typically become evasive on how little money they will spend on the budget. In other words ‘It's show time!’

I remained convinced the world can't survive on a stronger US dollar, but despite this, we at Saxo Bank have been laser-focused the past few months on how the 'cost of capital' has risen for non-government and how funding in dollar has been slowly but surely drying up. This has led us to a positive short- and medium-term position on dollar possibly sending EURUSD towards a test of 1.00 and some stabilisation of USDJPY around 100.00, and more against our core long-term view, we’re short gold and silver.

Another reason for this end-of-year belief in a higher dollar lies with the credit market. The TED spread, which traditionally illustrates credit stress, has risen 40 basis points during the year, and likewise the related LIBOR, which relates to the price of money between banks.

The Federal Reserve is yet to deliver a rate hike this year, but the market has done not one, but two hikes for the small amount of money which trades freely without government intervention. It’s also highly likely that post the US election, the Fed will move one more time with a 25-bps hike in December at a 60% chance.

The Fed still wants to hike, while counterparts the European Central Bank, the Bank of England and the Bank of Japan are running out of options meaning the support or Put for the market is weakening. We have seen recently that even the policy makers indirectly acknowledge that not only is quantitative easing and QQE not working, it could feed bubbles in the housing sector and markets. It’s finally dawning on them that something else is needed.

 The chap with the fine head of hair could be running things
from the White House come November 8. Photo: iStock

But what is the something else?

Well the new is the old – don’t lose me here – as the world is once again dreaming of a fiscal expansion to save the world. This is the very remedy which was used back in 2009 when this most unusual business cycle was kicked into gear, but there is one caveat we have to make.

Fiscal deficits sit with the politicians and most governments are on a diet when it comes to spending, especially the major economies in the West. The US, France and Germany are all going into election. Typically, nothing happens during an election and in the ensuing 100 days, so while the rest of 2016 will see talk about one day getting more fiscal stimulus and about how we should invest more infrastructure, the political calendar will straitjacket action essentially postponing policy until...this time next year!

Already, 2017 has the look of another lost year for growth, but I get the feeling that 2017 will create enough disruption, noise and marginal change, to set in motion what I have been calling for, for years – the need for change.

Republican candidate Donald Trump may or may not win the US election but his voters and support cannot be ignored. The social contract remains broken and the implications abound.

For the record, I think Trump will be the next US President, not because of what he stands for and certainly not for what he says, but because he is so anti-establishment. If Trump takes the White House, it will not be because of him but because of the deep unpopularity of his Democratic opponent Hillary Clinton who represents 100% more of the same, a course which has left many Americans poorer.

Don’t forget that the social contract through the centuries has been built on the trust that both the ruler and ruled would benefit, not through this cycle of pretend-and-extend. The ruled have lost jobs, disposable income and their belief in the future.

The breaking of the social contract has left a generation eager for change and happy
to tack on to any anti-establishment bandwagon around the globe. Photo: iStock

Anyone running for office anywhere in the world on an anti-establishment platform will be elected I will argue. This again is neither on merit nor ideas, but merely because this world can no longer deal with more of the same. More of the same means a world where we have the highest inequality ever, lowest productivity, steering rates and inflation, coupled with all-time low volatility and maximum complacency.

I think Q4 will bring the first sign of change to the political process and hence will bring about higher volatility in markets. Initially, the market will be shocked to find that their portfolio is so correlated that hiding in bonds, or gold does not work.

The final warning we have is the fact that we today have cross-asset correlations in the high 60s% meaning there is no hedge to be had as all assets are moving in the same direction. In other words, we have come full circle having not moved anywhere in eight long years. Exhaustion with turning the wheel is at maximum and there’s no-one left who wants to send it spinning again.

All macro changes in history originate from political mistakes. Trump becoming president may be a big mistake, but it will set in motion the disruption which the world needs.

We are headed for a bumpy ride and we’d advise helmets. But, this is also a ride which will clear out a lot of the false premises on which this market has been built.

 It could be a very rough ride ahead but the rewards eventually could be worth it. Photo: iStock

- Edited by Martin O’Rourke

Steen Jakobsen is Saxo Bank CIO and chief economist.

Can you give more comments on the traditional safe heavens (gold and bond) if Trump wins the election? Many people think that "a Trump victory would be bullish for gold prices"..
FxCox FxCox
Clinton will win. Trump is only a confortable pawn for turn Us elections
Dobbsy Dobbsy
Great post. I couldn't agree more with everything you've said. We're heading into a period of real change, which won't be easy and will in fact be very messy, but it has to happen. The road we've all been traveling down this past couple of decades is not working for the masses. That always leads to carnage.
YT78 YT78
Nice posts ., but I am not agree about Gold and Silver !! Gold will move 1800 -1900 in 2017 and silver 30-35
Paper money will not be in favour in the market in the future.
FxCox FxCox
Gold 'll arrive to 2300 at end of 2017 or at Q1 of 2018.
hersh hersh
I believe Thrump will win the election but I wonder whether the world has the stomach for his mistakes and autocratic rulings.
Robert87 Robert87
This comment has been redacted


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