Gold Is The Go-To Safe Haven Investment Of
2019
2019 is looking like it will be one of those
either-or years, but no matter which scenario plays-out, both scenarios are
good for gold. Here are the details… 2019 is looking like
one of those either/or years, where growing financial instability leads to
either a 2008-style financial crash or another round of asset inflation.
In Jay Taylor’s latest
newsletter, he concludes that both scenarios are good for gold:
If we are, as I
believe, on the precipice of a major decline in stocks, the question in my mind
as we head into 2019 is to what extent U.S. Treasuries will continue to be the
main go-to market in the risk-off trade and to what extent might a loss of
confidence in the dollar as the world’s reserve currency lead to a rise in the
price of gold?
The answer requires an
examination of likely flows of money in 2019 and beyond, and those flows are
very much determined by the point at which we exist in the current credit
cycle.
We are in one of the
longest credit cycles on record, with 2018 being the tenth year of
expansion. GoldMoney’s Alasdair Macleod quite correctly points out
that in the late stages of the credit cycle money flows out of the financial
sector into the real economy and with the flow out of financial assets, interest
rates begin to rise.
10-Year U.S. Treasury
yields rose from 1.385% on July 5, 2016, to 3.227% on October 1, 2018. The
10-year rate has corrected to 2.652% as of this writing, but it is clear that
with the real economy doing better, interest rates have risen, which in turn
has put downward pressure on stocks. With increased volatility in U.S.
equities, the recent decline in rates reflects the safe haven risk off
attitude.
But should we take it
as a given, as most mainstream analysts do, that a flow out of stocks
automatically means the only safety bunker to hide out in when stocks collapse
is the U.S. Treasury market? The answer is an unequivocal “NO!” As Alasdair
points out, in the late stages of a credit cycle, Main Street bids the total
flows of money away from financial assets. So yes, some money has flowed from
stocks to U.S. Treasuries in the latest equity market decline, thus providing
the “correction” noted above since October 2018 in the 10-Year Treasury. But
the point remains that in the late stages of the credit cycle, less money flows
into financial assets, thus causing their prices to decline.
Once a major crash
occurs and a new round of QE is administered, a new cycle usually begins. But
can we assume that will happen again, especially with the existing credit cycle
bubble, which is now the biggest global bubble yet by far?
Given its confidence
in the ability of the PhD standard to replace the gold standard, mainstream
pundits assume the U.S. Treasury market is better than gold. And the standard
answer to my question is a resounding “Yes!” Taylor, can’t you see the performance
of geniuses like Greenspan and Bernanke? Well, this 71-year-old author is old
enough to remember when the gods of money were not able to hold the system
together. During the late 1970s, there was a massive exodus from both stocks
and bonds, while at the same time, gold rose from $35 to a momentary $850 price
tag.
Might we now be facing
a replay of the late 1970s when confidence is lost in the government’s ability
to repay its debt obligations? And given the magnitude of much greater debt and
debt to GDP ratios, might the pathology be many, many times greater than the
late 1970s when confidence was lost in the dollar and gold skyrocketed from $38
to $850 in just a couple of years? Alasdair noted in his January 3 missive that
“The credibility of government debt is based on the assumption the issuer can
afford to continue to roll it over rather than repay it.”
Everyone knows the
U.S. debt of $22 trillion will never be repaid, but at present the assumption
remains that it can always be rolled over. But that assumption was lost in the
late 1970s after Nixon removed the gold standard from international trade and
the U.S. began printing mountains of dollars out of thin air to pay for
socialism and Vietnam. Years of con-artistry since then by Keynesian central
banks have left most investors confident that elitist bankers can always save
the day.
But now take a look at
the exponential level of debt since the late 1970s until now and note how much
faster debt is growing relative to GDP (yellow line). You don’t have to be a
rocket scientist to realize at some point if debt is growing exponentially and
income (GDP) on at some low level of linear growth, a day of bankruptcy lies
ahead. Yet with each bubble, the U.S. continues to pile more debt upon debt,
and the ratio of Debt to GDP continues to grow still further.
Over time, more and
more debt-based money becomes less productive and eventually counterproductive
so that the more debt owed, the less income is generated. We are clearly at the
counter-productive level now, not only because of mal investment that occurs
with artificially low interest rates, but also because the cost of servicing
the debt becomes greater and greater at the expense of productive use of
capital. What happens is that income declines to such an extent that the only
way debt can be serviced is one of two ways: (1) Either rates must rise to
levels that reward savers, resulting in horrendous depression, necessary to set
the table for long-term honest growth; or (2) Governments/central banks engage
in hyperinflationary money growth that totally destroys the fabric of society
and sets the stage for radical changes of government. I believe the U.S. is at
such a crucial point of time now.
In the 1970s when
double digit interest rates were required to dampen rising levels of inflation,
the problems faced by then Chairman Volcker were “kids’ stuff” compared to the
problems Jay Powell faces now. Even so, Treasury rates north of 12% were
required to dampen excess consumption caused by excess government spending and
a lack of monetary discipline by the Fed, which was pushed by President Nixon,
much as President Trump is pushing Jay Powell now. But the Federal debt then
was just a few hundred billion dollars, not $22 trillion as it is now! A mere
1% rise in interest rates now leads to $220 billion of additional government
expense, without the government providing any additional services! To add to
the problems of Jay Powell, the U.S. continues to spend trillions on wasteful
military excursions, and aging baby boomers are now leading to a spiral of
debt, taking the U.S. debt levels north of $50 trillion over the next 30 years.
But that’s not all. In
the past, the U.S. has gotten away with living beyond its means because
foreigners like Japan and China have been willing and even eager to buy U.S.
Treasuries. That began to change in earnest with the financial crisis of 2008
in no small part because of the financial injury to foreigners by dishonest
U.S. bankers. Also, the rest of the world was then realizing that the U.S.
Empire was expanding to the point where bankruptcy lay at some point in its
not-too-distant future.
So now late in the
current credit cycle, we are going to face a moment of truth. With interest
rates far from anything like the double digits of the late 1970s and with a
declining appetite to own U.S. Treasuries by foreigners, we are seeing rates
rise rather dramatically, leading to massive volatility in stocks and the
beginning of a very painful bear market in equities. At some point, history
suggests that the Fed will begin to print money in whatever quantity it takes
to keep the banks from going bankrupt, just as they did in 2008-09. The big
question is, at what point is it obvious that the Emperor is wearing no clothes
and there are no longer any takers of U.S. Treasuries, causing the Fed to print
so much money so rapidly that foreigners completely abandon the dollar, leaving
the Fed with no choice but to hyper-inflate?
Given the timing of
the current credit cycle, we are nearing a point in time when either the Fed is
somehow able to hold the dollar system together for another cycle or the system
itself blows up or implodes, leading to a new global monetary regime.
In the optimistic
scenario gold is likely to behave as it did after 2008, when it rose for the
next four years. If my more pessimistic (but very realistic) possible outcome
takes place, the dollar will be replaced as the world’s reserve currency and
gold will be the only safe haven, leaving it priced at levels in terms of
dollars that may be beyond the imagination of even the craziest gold bugs. It’s
simple math: if the dollar nears a state of worthlessness, gold rises to levels
approaching infinity.
John Rubino: What Blows-Up First? ‘Almost
Junk’ Bonds
Hundreds of US companies are about to have their
bond ratings cut to junk. Here’s why that’s a major problem for the markets and
the economy… The key insight of the Austrian School of Economics (maybe the
key insight of ALL economics) is that the amount you borrow matters, but so
does the use to which you put the money.
A case in point is US corporate debt, which has changed
structurally lately in very scary ways. The short version of the story is that
after the US cut interest rates to historically low levels to keep the Great
Recession from swapping it’s capital R for a capital D, public companies
figured out that they could borrow money for less than their stocks’ dividend
yield, use the proceeds to buy back their outstanding shares, and
generate free cash flow in the process. And – a nice added perk – the increased
demand pushed their share price up and landed their CEOs even bigger year-end
bonuses.
So that’s what they did, on an epic scale.
But – recall the Austrian School insight – the result was
soaring debt without any new productive assets to offset the cost.
Generally speaking, debt rising faster than operating income
equals diminished creditworthiness. So all that borrowing has produced several
trillion dollars of debt that’s just one step above junk. Here’s an excerpt
from money manager Louis Gave’s take on the subject.
Louis Gave at Gavekal
Research says the greatest source of potential instability in the years ahead
lies with the massive growth of the U.S. corporate debt market, particularly at
the BBB-rated (near junk) level.
Gave recently told FS
Insider that it has far outpaced the economy and could be due for a reset
during the next downturn, which is increasingly becoming a concern by other
strategists.
When it comes to
potential trouble spots brewing in the financial markets or global economy,
Gave said “if you ask a French client, they tend to point a finger at Italy. If
you ask Italian clients, they point a finger at Deutsche Bank; and if you ask
German clients, they point a finger at France. When I talk to my U.S. clients,
most of them point a finger at China, which they see as having unsustainable
high levels of debt and is an accident waiting to happen.”
However, Gave sees an
even source of potential problems since, as he points out, the “size of
corporate debt one rung above junk has never been greater” (see below).
The challenge today,
Gave said, “is that part of the massive growth we’ve seen in the U.S. corporate
bond market has really taken place in the BBB space. And so, if you start
seeing an economic downturn (and the usual type of downgrades that occur in a
downturn), then all of a sudden you have investment grade that becomes
non-investment grade.”
Gave worries this
could send shock waves through the financial markets since U.S. corporate debt
is widely held by pension funds, investment banks, and large institutions all
around the globe.
“There are real
questions about all the energy debt that’s being issued by a lot of negative
cash flow companies in the energy space,” he said, which also leads to
questions about industrial, auto and real estate debt.
Gave asked listeners
whether all this growth in debt has “funded the purchase of assets that allow
the servicing of the debt and then the reimbursement of the debt or has this
growth really funded a massive rise in share buybacks and financial
engineering?” Gave said if the answer is the latter it would signify that our
balance sheets are far more stretched out than they have been in previous cycles.
To sum up, hundreds of US companies are about to find their bond
ratings cut to junk. They’ll then have to pay way up to refinance their debts
(or in some cases to make payroll), setting off a death spiral that, if the
history of past debt binges is any indication, will end with mass bankruptcies.
And as Gave notes, a ton of these bonds reside in the very same
pension funds that are already due to implode in the next recession.
What The Latest Numbers Mean For Gold And
Silver – Eric Sprott On The Weekly Wrap-Up
It’s been a mediocre week for gold &
silver, but could we see a boost in prices next week, all because of the
Chinese? Here’s Eric’s insight… Feb 8, 2019
As the lunar New Year
celebration wraps up, it’s been a mediocre week for precious metals. But when
Chinese buyers re-enter the market, will gold and silver prices get a boost?
In this edition of the
Wrap-Up, Eric Sprott joins us once again to break down all the gold and silver
news you need to navigate the Year of the Pig, including:
- Why the U.S. “guns and butter”
approach won’t work
- How QE will affect markets
- Plus: the latest cryptocurrency
fail
“There are lots of
reasons to worry about where we’re all going. We’ve seen those downgrades, in
Europe, of the GDP. We see Chinese data that gets weaker all the time. We see
weakness in the U.S. in terms of industrial production and PMIs and things like
that. So, yeah, I think that stocks could easily roll over.”
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