Decarbonization reaches a turning point

The Fed will cut earlier and faster # # --------------------------------------------------------------- The key takeaways today: - The affordability of clean tech may have turned a corner - Why M&A activity is expected to pick up in 2024 - The Fed will cut earlier and faster than expected - Middle East risks: 'Anything can happen' - Should we worry about private credit? - Briefings Brainteaser: Which region exhibits the highest demand for LNG? --------------------------------------------------------------- Decarbonization is reaching a turning point In 2023, some clean technologies became more expensive while others became more affordable. [Our analysts' Carbonomics cost curve for 2023]( shows the impact of lower energy prices from fossil fuels (which can make renewable energy comparatively more expensive), higher interest rates (which can increase construction costs for infrastructure like offshore wind energy), as well as declining battery costs and economies of scale in electric vehicles, making those technologies more affordable. Put it all together, and there are signs that the affordability of clean tech has turned a corner, says Michele Della Vigna, head of Natural Resources Research in Europe, the Middle East, and Asia for [Goldman Sachs Research](. “The deflationary forces are likely to win, and this brings back an affordability to the decarbonization path that not only accelerates it but makes it more attractive to the consumer,” he says. A big factor to watch in 2024 — an election year in the US — will be policy support for decarbonization. But Della Vigna also expects more investment from the financial and corporate sectors, especially in the areas of decarbonization that are becoming cheaper and more affordable, such as solar installations and electric vehicles. When it comes to the COP28 climate summit in Dubai, Della Vigna says three announcements have the most concrete consequences: the step-up in green capex in the Gulf Coast region, which Goldman Sachs Research estimates at greater than $600 billion over the coming decade; the commitment to triple renewable power, linked to better affordability; and the oil and gas decarbonization charter, committing 50 companies to end routine flaring and methane emissions. --------------------------------------------------------------- The outlook for M&As in 2024 is cautiously optimistic Against a macroeconomic backdrop of falling inflation and normalizing interest rates, the outlook for mergers and acquisitions in 2024 looks cautiously optimistic, according to Stephan Feldgoise and Mark Sorrell, the co-heads of Goldman Sachs' Global Mergers & Acquisitions business. The level of dialogue among dealmakers is at levels last seen in 2021 and the first half of 2022, the most active periods for M&As in history, Feldgoise says on [Goldman Sachs Exchanges](. But translating those discussions into actual deals will require buyers and sellers to come to terms with lower transactions and valuations, Feldgoise says. “If you look at M&A cycles over time,” he says, “there's a psychological period of time where founders, owners, board members, [and] management teams need to come to a realization of a new paradigm.” Meanwhile, the M&A cycle in Europe and Asia will likely lag the US by six to nine months, given weaker economic growth, Sorrell adds. “Corporate sentiment outside the US is a little bit more risk-averse than in the US,” he says. “The underlying themes are the same.” --------------------------------------------------------------- Forecast change: Faster and earlier Fed cuts After softer-than-anticipated US inflation data this week, Goldman Sachs Research expects the Federal Reserve to cut its policy rate earlier and faster than our economists had previously forecast. By some measures, inflation is already at or near policymakers' target of 2%, [David Mericle, Chief US Economist, writes in the team's report](. - Goldman Sachs economists now predict the Federal Open Market Committee will make three consecutive 25-basis-point cuts in March, May, and June. (The previous forecast was for the Fed to keep rates steady until the third quarter of 2024.) They expect this to be followed by quarterly cuts until reaching a terminal rate of 3.25-3.5%, 25 basis points lower than previously expected. - Financial conditions eased further after the policy decision. Goldman Sachs Research expects the large easing trend since October will prove durable now that the lower inflation path makes substantial rate cuts more likely next year. - Our economists incorporated that easing into their US GDP forecast. They've now bumped up their estimate for 2024 Q4/Q4 GDP growth by 0.2 percentage points to 2% [(up from 1.8%)]( about double the consensus forecast and above the FOMC's 1.4% forecast. --------------------------------------------------------------- The risks of greater instability in the Middle East Hamas' October 7 attacks on Israel and Israel's response have thrust the Middle East back into focus, raising concerns that the ongoing conflict could erupt into a wider regional or even broader war. Two Middle East experts, featured in Goldman Sachs Research's [Top of Mind report]( break down the risks of the conflict on [Goldman Sachs Exchanges](. While neither side considers it in its interests to escalate the fighting, “anything can happen” in the fog of war, including major miscalculations that lead to escalation, explains Edward P. Djerejian, who has served as the US Ambassador to Israel and Syria, as well as the US Assistant Secretary of State for Near Eastern Affairs. But the longer the war in Gaza rages on — and the worse the humanitarian crisis there becomes — the greater the political pressure that various actors may face to widen the conflict, he notes. A stable outcome for the region looks elusive, says Emile Hokayem, director of regional security and senior fellow for Middle East security at the International Institute for Strategic Studies. “Middle East conflicts are really hard. They are about land, they are about identity, they are about ideology,” Hokayem says. “So sadly, what I see in months and years ahead is more conflict, more regional instability. And importantly, the externalities, the second-order effects of these conflicts directly impact the world in the form of migration and refugees. [and] in the form of terrorism and transnational dynamics.” --------------------------------------------------------------- Should we worry about private credit? Systemic concerns over the rise of private credit are largely overblown, according to Goldman Sachs Research's chief credit strategist Lotfi Karoui. Rising interest rates have been a boon for private credit investors, particularly because most private credit borrowing occurs in floating-rate form. But some investors are questioning the ability of borrowers to weather higher interest payments. Some even wonder whether a substantial rise in defaults could pose a risk to financial stability. [Karoui believes private credit will actually be more robust than public credit in transitioning to a higher cost-of-capital environment](. “On the private side," he says, "oftentimes it's one lender, one borrower,” which allows for faster and less costly resolutions of financial distress. Lenders in private markets also have more control over covenants and amortization payments, which typically leads to better recovery values. “Private debt markets,” concludes Karoui, “will continue to grow as a scalable and distinct asset class for capital allocators.” --------------------------------------------------------------- Briefings Brainteaser: Demand for gas Which of these regions is expected to have the highest demand for liquefied natural gas in 2024 and 2025, according to Goldman Sachs Research's LNG outlook? A) India B) China C) OECD Europe D) South Korea [Check the answer here](. --------------------------------------------------------------- Goldman Sachs in the news [Barron's]( December 13 [Op-Ed: Cash is about to be dethroned. Bonds are the place to be]( --------------------------------------------------------------- --------------------------------------------------------------- Some of the images used in this newsletter are sourced via Getty Images. 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