Gold: The Fed Wreaked Havoc on the Precious Metals

However, we should stay alert to any possible changes, as no market moves in a straight line. Tread carefully.

On a side note, while I didn’t check it myself (well, it’s impossible to read every article out there), based on the correspondence I’m receiving, it appears I’ve been the only one of the more popular authors to be actually bearish on gold before the start of this week. Please keep that in mind, along with me saying that yesterday’s decline is just the beginning, even though a short-term correction might start soon. Having that in mind, let’s discuss what the Fed did (and what it didn’t do) in greater detail.

Look What You Did

With the U.S. Federal Reserve’s (FED) reverse-repo nightmare frightening the liquidity out of the system, I highlighted on Jun. 17 that the FED raised the interest rate on excess reserves (IOER) from 0.10% to 0.15%.

I wrote:

The FED hopes that by offering a higher interest rate that it will deter counterparties from participating in the reverse repo transactions. However, whether it will or whether it won’t is not important. The headline is that the FED is draining liquidity from the system and increasing the IOER is another sign that the U.S. federal funds rate could soon seek higher ground.

Please see below:

To explain, the red line above tracks the U.S. federal funds rate, while the green line above tracks the IOER. If you analyze the behavior, you can see that the two have a rather close connection. And while we don’t expect the FED to raise interest rates anytime soon, officials’ words, actions and the macroeconomic data signal that the taper is likely coming in September.

And in an ironic twist, while the question of whether it will or whether it won’t seemed reasonable at the time, the tsunami of reverse repurchase agreements on Jun. 17 signal that 0.15% just isn’t going to cut it. Case in point: while the FED hoped that the five-basis-point olive branch would calm institutions’ nerves, a record $756 billion in excess liquidly was shipped to the FED on Jun. 17 . For context, it was nearly $235 billion more than the daily amount recorded on Jun. 16.

Please see below:

To explain the significance, I wrote previously:

A reverse repurchase agreement (repo) occurs when an institution offloads cash to the FED in exchange for a Treasury security (on an overnight or short-term basis). And with U.S. financial institutions currently flooded with excess liquidity, they’re shipping cash to the FED at an alarming rate.

The green line above tracks the daily reverse repo transactions executed by the FED, while the red line above tracks the U.S. federal funds rate. Moreover, notice what happened the last time reverse repos moved above 400 billion? If you focus your attention on the red line, you can see that after the $400 billion level was breached in December 2015, the FED’s rate-hike cycle began. Thus, with current inflation dwarfing 2015 levels and U.S. banks practically throwing cash at the FED, is this time really different?

Furthermore, I noted on Jun. 17 that the FED’s latest ‘dot plot’ was a hawkish shift that market participants were not expecting.

I wrote:

The perceived probability of a rate hike by the end of 2022 sunk to a 2021 low on Jun. 12. However, after the FED’s material about-face on Jun. 16, I’m sure these positions have been recalibrated.

Please see below:

And as if the chart above had been inverted, the perceived probability of a rate hike by the end of 2022 has now surged to more than 90%.

The Death Toll of June 17th

In addition, while I’ve been warning for months that the bond market’s fury would eventually upend the PMs, not only has the FED’s inflationary misstep rattled the financial markets, but the U.S. 30-year fixed-rate mortgage (FRM) jumped to 3.25% on Jun. 17.

Please see below:

Source: Mortgage News Daily

Furthermore, please read what Matthew Graham, COO of Mortgage News Daily, had to say:

“Markets were somewhat surprised by the Fed’s rate hike outlook. Granted, the Fed Funds Rate (the thing the Fed would actually be hiking) doesn’t control mortgage rates, but the outlook speaks to how quickly the Fed would need to dial back its bond buying programs (aka “tapering”). Those programs definitely help keep rates low. The sooner the Fed begins tapering, the sooner mortgage rates will see some upward pressure .”

To that point, with tapering prophecies officially morphing from the minority into the consensus, the PMs weren’t the only commodities sent to slaughter on Jun. 17. For example, the S&P Goldman Sachs Commodity Index (S&P GSCI) plunged by 2.37% as the inflationary unwind spread. For context, the S&P GSCI contains 24 commodities from all sectors: six energy products, five industrial metals, eight agricultural products, three livestock products and two precious metals.

Exacerbating the selling pressure, China’s National Food and Strategic Reserves Administration announced on Jun. 17 that it would release its copper, aluminum and zinc supplies “in the near future” in a bid to contain the inflationary surge that’s plaguing the region. As a result, if the psychological forces that led to the surge in cost-push inflation come undone, the USD Index could move from the outhouse to the penthouse.

To explain, I wrote on Apr. 27:

Why is the behavior of the S&P GSCI so important? Well, if you analyze the chart below, you can see that the S&P GSCI’s pain is often the USD Index’s gain.

To explain, the red line above tracks the USD Index, while the green line above tracks the inverted S&P GSCI. For context, inverted means that the S&P GSCI’s scale is flipped upside down and that a rising green line represents a falling S&P GSCI, while a falling green line represents a rising S&P GSCI. More importantly, though, since 2010, it’s been a near splitting image.

Inflation Is Still There

In the meantime, though, inflationary pressures are far from contained. And while the S&P GSCI’s plight would be a boon for the USD Index, the greenback still has plenty of other bullets in its chamber. Case in point: with the FED poised to taper in September and investors underpricing the relative outperformance of the U.S. economy, VANDA Research’s latest FX Outlook signals that over-optimism abroad could lead to a material re-rating over the summer.

Please see below:

To explain, the chart on the right depicts investors’ expectations of economic strength across various regions. If you analyze the second (CAD) and the third (GBP) bars from the right, you can see that positioning is more optimistic than the economic growth that’s likely to materialize. Conversely, if you analyze the first bar (USD) from the left, you can see that positioning is more pessimistic than the economic growth that’s likely to materialize. As a result, with U.S. GDP growth poised to outperform the U.K., Canada, and the Eurozone, an upward re-rating of the USD Index could intensify the PMs selling pressure over the medium term.

On top of that, while the inflation story is far from over (and will pressure the FED to taper in September), the Philadelphia FED released its Manufacturing Business Outlook Survey on Jun. 17. And while manufacturing activity dipped in June, “the diffusion index for future general activity increased 17 points from its May reading, reaching 69.2, its highest level in nearly 30 years .”

In addition, “the employment index increased 11 points, recovering its losses from last month,” and “the future employment index rose 2 points … [as] over 59 percent of the firms expect to increase employment in their manufacturing plants over the next six months, compared with only 5% that anticipates employment declines.” For context, employment is extremely important because a strengthening U.S. labor market will likely put the final nail in QE’s coffin.

But saving the best for last:

“The prices paid diffusion index rose for the second consecutive month, 4 points to 80.7, its highest reading since June 1979 . The percentage of firms reporting increases in input prices (82 percent) was higher than the percentage reporting decreases (1 percent). The current prices received index rose for the fourth consecutive month, moving up 9 points to 49.7, its highest reading since October 1980 .”

Please see below:

Source: Philadelphia FED

Investment Clock Is Ticking

Also, signaling that QE is living on borrowed time, Bank of America’s ‘Investment Clock’ is ticking toward a bear flattener in the second half of 2021. For context, the term implies that short-term interest rates will rise at a faster pace than long-term interest rates and result in a ‘flattening’ of the U.S. yield curve.

Please see below:

To explain, the circular reference above depicts the appropriate positioning during various stages of the economic cycle. If you focus your attention on the red box, you can see that BofA forecasts higher interest rates and lower earnings per share (EPS) for S&P 500 companies during the back half of the year.

As further evidence, not only is the FED’s faucet likely to creak in the coming months, but fiscal stimulus may be nearing the dry season as well.

Please see below:

To explain, the blue bars above track the U.S. budget deficit as a percentage of the GDP. If you analyze the red circle on the right side of the chart, you can see that coronavirus-induced spending was only superseded by World War Two. Moreover, with the law of gravity implying that ‘what goes up must come down,’ the forthcoming infrastructure package could be investors’ final fiscal withdrawal.

The Housing Market

Last but not least, while the S&P 500 has remained relatively upbeat in recent days, weakness in the U.S. housing market could shift the narrative over the medium term.

Please see below:

To explain, the red line above tracks the S&P 500, while the green line above tracks U.S. private building permits (released on Jun. 16). If you analyze the arrows, you can see that the former nearly always rolls over in advance of the latter . For context, the S&P 500 initially peaked before building permits in 2018 and alongside in 2015. However, in 2018, when the S&P 500 recovered and continued its ascent – while building permits did not – the U.S. equity benchmark suffered a roughly 20% drawdown. Thus, if you analyze the right side of the chart, you can see that building permits peaked in January and have declined significantly. And if history is any indication, the S&P 500 will eventually follow suit.

In conclusion, the PMs imploded on Jun. 17, as taper trepidation and the USD Index’s sharp re-rating dropped the guillotine on the metals. And with the FED’s latest ‘dot plot’ akin to bullet holes in the PMs, the walking wounded is still far from a recovery. With inflation surging and the FED likely to become even more hawkish in the coming months, the cycle has materially shifted from the goldilocks environment that the metals once enjoyed. And with the two-day price action likely the opening act of a much larger play, the PMs could be waiting months for another round of applause.

Thank you for reading our free analysis today. Please note that the above is just a small fraction of today’s all-encompassing Gold & Silver Trading Alert. The latter includes multiple premium details such as the targets for gold and mining stocks that could be reached in the next few weeks. If you’d like to read those premium details, we have good news for you. As soon as you sign up for our free gold newsletter, you’ll get a free 7-day no-obligation trial access to our premium Gold & Silver Trading Alerts. It’s really free – sign up today.

For a look at all of today’s economic events, check out our economic calendar.

Przemyslaw Radomski, CFA
Founder, Editor-in-chief
Sunshine Profits: Effective Investment through Diligence & Care

* * * * *

All essays, research and information found above represent analyses and opinions of Przemyslaw Radomski, CFA and Sunshine Profits’ associates only. As such, it may prove wrong and be subject to change without notice. Opinions and analyses are based on data available to authors of respective essays at the time of writing. Although the information provided above is based on careful research and sources that are deemed to be accurate, Przemyslaw Radomski, CFA and his associates do not guarantee the accuracy or thoroughness of the data or information reported. The opinions published above are neither an offer nor a recommendation to purchase or sell any securities. Mr. Radomski is not a Registered Securities Advisor. By reading Przemyslaw Radomski’s, CFA reports you fully agree that he will not be held responsible or liable for any decisions you make regarding any information provided in these reports. Investing, trading and speculation in any financial markets may involve high risk of loss. Przemyslaw Radomski, CFA, Sunshine Profits’ employees and affiliates as well as members of their families may have a short or long position in any securities, including those mentioned in any of the reports or essays, and may make additional purchases and/or sales of those securities without notice.

 

Tech-Heavy Nasdaq Ignores Hawkish Fed News to Advance

The performance of the tech-heavy Nasdaq was in stark contrast to the S&P 500 and Dow, which slumped as investors reacted negatively to the Fedeignoral Reserve’s unexpectedly hawkish message on monetary policy on Wednesday.

Chipmaker Nvidia Corp jumped 5.4%, leading the charge among technology behemoths after Jefferies raised its price target on the stock.

Technology shares, which generally perform better when interest rates are low, powered a rally on Wall Street last year as investors flocked to stocks seen as relatively safe during times of economic turmoil.

The group has come under pressure this year on fears that rising inflation would lead the Fed to hike interest rates sooner than expected. The central bank on Wednesday moved its first projected rate increases from 2024 into 2023.

Still, shares of Apple Inc, Microsoft Corp, Amazon.com Inc and Facebook Inc reversed premarket declines to rise between 1.4% and 2% as investors bet that a steady economic rebound would boost demand for their products in the long run.

“Yes there is rising inflation but the market is focusing more on the positives of improving earnings, robust GDP growth and the wider economy getting stronger,” said Randy Frederick, vice president of trading and derivatives at Charles Schwab in Austin, Texas.

“Today’s action is indicative that the Fed hasn’t said anything that the market didn’t already know.”

The Nasdaq briefly advanced to within 16 points of its lifetime peak achieved on April 29, before pulling back a touch.

By 1:55PM ET, the Dow Jones Industrial Average fell 198.57 points, or 0.58%, to 33,835.1, the S&P 500 gained 0.24 points, or 0.01%, to 4,223.94 and the Nasdaq Composite added 127.04 points, or 0.9%, to 14,166.73.

Interest rate-sensitive bank stocks slumped -3.8% as longer dated U.S. Treasury yields dropped.

The strengthening dollar, another by-product of the previous day’s Fed news, pushed U.S. oil prices down from the multi-year high hit earlier in the week. The energy index, in turn, fell more than 3%, the biggest laggard among the 11 main S&P sectors.

Other economically sensitive stocks including materials and industrials fell 2.4% and 1.5% respectively, as data showed jobless claims rising last week for the first time in more than a month. Still, layoffs appeared to be easing amid a reopening economy and a shortage of people willing to work.

“In the balance of June and into the summer we anticipate continued volatility as we get more signals from economic data, Fed policy and as we get into the earnings season,” said Greg Bassuk, chief executive officer at AXS Investments in New York.

In corporate news, U.S.-listed shares of CureVac NV sank 41.5% after the German biotech said its COVID-19 vaccine was 47% effective in a late-stage trial, missing the study’s main goal.

For a look at all of today’s economic events, check out our economic calendar.

(Reporting by Shashank Nayar and Medha Singh in Bengaluru; Editing by Sriraj Kalluvila, Anil D’Silva, Maju Samuel and Dan Grebler)

 

U.S. Corporate Junk-Bond Spread Narrows, Lowest Since 2007

On the ICE BofA U.S. High Yield Index, a commonly used benchmark for the junk bond market, the spread dipped to 312 basis points, the lowest since July 2007. That was down from the prior day’s 317 basis points, which was the lowest since October 2018.

The narrowing of spreads, which refers to the interest rate premium investors demand to hold corporate debt over safer Treasuries, comes as low-yielding government debt is driving money into riskier securities.

The yield spread on the ICE BofA U.S Investment Grade Index has also contracted, reaching its lowest level since February 2007 this week.

The last time junk-bond spreads were this low was in July 2007, not long before the global financial crisis totally upended the perception of risk, catapulting the high-yield premium over Treasuries above 2,000 basis points by December 2008 and the investment-grade corporate bond premium above 600 basis points.

For a look at all of today’s economic events, check out our economic calendar.

(Reporting By Karen Pierog; Editing by Alden Bentley and Catherine Evans)

 

FOMC Maintains Stimulus, Brings Rate Hike Forecast Forward to 2023

New projections saw a majority of 11 Fed officials pencil in at least two quarter-point interest rate increases for 2023, even as officials in a statement after their two-day policy meeting pledged to keep policy supportive for now to encourage an ongoing jobs recovery.

The Fed also made technical adjustments to prevent its benchmark interest rates from falling too low. It raised the interest rate it pays banks on reserves – the IOER – held at the U.S. central bank by five basis points, and also lifted to 0.05% from zero the rate it pays on overnight reverse repurchase agreements, used to set a floor on short-term interest rates.

In a question and answer period after the statement, Chairman Jerome Powell said the Fed will provide advanced notice before changing asset purchases and that considering tapering of these purchases at coming meetings would be appropriate, if progress allows.

MARKET REACTION

STOCKS: The S&P 500 extended losses to -0.83%%

BONDS: The 10-year U.S. Treasury note yield jumped to 1.5720% and the 2-year yield rose to 0.1991%

FOREX: The dollar index turned higher. It was last up 0.72%

COMMENTS

PETER TUZ, PRESIDENT, CHASE INVESTMENT COUNSEL, CHARLOTTESVILLE, VIRGINIA

“I’m not too surprised by the statement or the reaction. You would have had to have your head pretty buried in the sand not to pick up on inflation rising in many parts of the U.S. economy. So the Fed acknowledged that. The market’s reaction to the Fed acknowledging rising inflation is also not a surprise because now people are wondering if and when are you going to do something.”

STEVEN RICCHIUTO, U.S. CHIEF ECONOMIST, MIZUHO SECURITIES USA LLC, NEW YORK

“The policy statement is verbatim from what we had last time, essentially. And that is going to drive the post-meeting press conference, which is going to drive home the point that this Fed is going to stay the course, which is not what the market wanted. A lot of people wanted the Fed to say something more aggressive and the Fed took the least aggressive tact that they could. That’s the right decision for them to make.

“If the Fed had told you that they’re going to be aggressive and start tapering, yields would have continued to move down. The fact that they’re not doing that means that yields, people were a little bit too aggressive in terms of what was going to happen.

GENNADIY GOLDBERG, INTEREST RATE STRATEGIST, TD SECURITIES, NEW YORK

“The market reacted quite hawkishly and I think that was largely to the 2023 dot actually moving up even more than we had anticipated. We had expected it to move to one hike, it actually moved to two, so certainly a bit more optimism there. The statement was a little bit more upbeat but I would say there weren’t that many changes there that warranted this kind of reaction. So really the crux of the reaction really came down to the dot.”

“On the front-end it does look like the Fed just decided to move preemptively. They effectively raised IOER and RRP and that should help support the money market complex and just prevent any further flirtation with negative rates, at least for now. I think everyone was basically anticipating this hike at some point, the move today was basically done just to be preemptive.”

JASON WARE, CHIEF INVESTMENT OFFICER & CHIEF ECONOMIST, ALBION FINANCIAL GROUP, SALT LAKE CITY

“I think the market is taking it as a bit more hawkish in the initial reaction. In the coming days we will see what investors truly think. The reason traders are a bit skittish is that in some ways the results of the meeting, at least so far in the statement and the pulling forward of the timeline of the first rate hike, just that change is enough to make those that are ultra-short-term-focused re-position. But for longer-term investors, it is still extremely loose financial conditions and ultra-accommodative for equity investors.

“Another element is they increased their headline inflation expectations which demonstrates they are paying attention to the latest CPI reports. They brought that up. That’s a good thing. That helps underscore and solidify the Fed’s credibility.”

“I think there were an increasing number of market participants that expected a more robust conversation about when tapering might begin. Our expectation is we will probably see the stage being set for tapering in August at Jackson Hole.”

STEPHEN MASSOCCA, SENIOR VICE PRESIDENT, WEDBUSH SECURITIES, SAN FRANCISCO

“Basically they are living off this theory that all these inflationary numbers are the result of a disorganized economy exiting Covid and that once the economy reorganizes price pressure will return and inflation will vanish, that is the argument they are making. I actually kind of think it is a good one. Before they react I think waiting for a few months is prudent and I think the market understands that.

“The one guy remaining in power, Powell, knows what he is doing. And if you scream PPI, look at that number, it is just because the economy is so disorganized now coming out of Covid that once it organizes that will be a mirage that goes away. It really does make a lot of sense. If it doesn’t happen that is going to be a real problem for the market. But right now that argument makes sense and everybody is buying it.”

GUY LEBAS, CHIEF FIXED INCOME STRATEGIST, JANNEY MONTGOMERY SCOTT, PHILADELPHIA

“The IOER hike is really about relieving some of the strains in the front-end of the curve related to a tsunami of cash in the financial system. Banks are overreserved, money market funds are finding it hard to get positive yield anywhere and so it addresses some of those problems. But it will also have the effect of pulling yields out the curve a little bit higher, probably out to about three years, because the relative value of a two-year or three year note is in part dependent on what a bank can get in overnight rates, which is now somewhat higher.”

“I don’t think that there’s a ton of information at this stage conveyed in the dots because you’re measuring a median forecast at a time when economic variability is massive.  It’s also a conditional forecast and I think the conditions on which the forecast is based are at best volatile and somewhat unlikely.”

KARL SCHAMOTTA, DIRECTOR OF GLOBAL PRODUCT AND MARKET STRATEGY, CAMBRIDGE GLOBAL PAYMENTS, TORONTO

“We may not be seeing a taper tantrum but we are seeing a hissy fit on currency markets. The interesting thing is that the Fed has gone beyond simply acknowledging that inflation is rising and that the U.S. economy has a lot of momentum, and it has essentially shifted to a much more hawkish stance in this set of projections.”

JACK ABLIN, CHIEF INVESTMENT OFFICER, CRESSET WEALTH ADVISORS

“I think this is pretty close to what the market wanted. The market wanted the Fed to tell investors that there is nothing to see here, keep moving, nothing going on in the economy or inflation, and we’re just going to stay aggressively easy.”

“The Fed is not in complete denial, the way the market would have liked. They do recognize that they will have to respond sometime in the future. But I will call that a tilt – not a change in direction. The Fed is still maintaining its head-in-the-sand policy.”

RYAN DETRICK, SENIOR MARKET STRATEGIST, LPL FINANCIAL, CHARLOTTE, NORTH CAROLINA

“The market’s a little lower but you see that on Fed days.

“There was a big jump in (the Fed’s) inflation expectations, a point above March projections, and with the likelihood of first rate hike now in 2023, there was a knee jerk reaction and the market is trying to digest it.

“But the market was expecting this. The market is having typical Fed day volatility.

“It’s like you get all worked up and excited when the Fed has an announcement and the market sleeps on it overnight and go the other way the very next day.

“They upped the GDP forecast, we’ve got a stronger economy and stronger inflation. Those shouldn’t be surprises to anyone.”

“The action in the bond market is pretty calm. The stock market is having typically volatile Fed day shake-out but the bond market seems to be taking it in stride, and that’s a key takeaway.

“There’s no sign of tapering, but we’ll see with the Q&A.”

FRANCES DONALD, GLOBAL CHIEF ECONOMIST, MANULIFE INVESTMENT MANAGEMENT, TORONTO

“The dot plot is now showing two rate hikes by 2023. That’s enough of a hawkish surprise for the bond market and its getting all of the attention.”

“What’s interesting here is that the Federal Reserve has increased its estimate of when the first rate hikes will come but not materially changed its 2022 and 2023 projections for growth and inflation. What that tells us is that while the outlook hasn’t dramatically changed it seems that the Fed’s confidence in returning to a normal environment has.”

“There has not been a material change of tone. This statement has only a few adjustments.

“The market is reacting to a few strands of information in the dot plot. Now it will be Powell’s time to try to dissuade the market from reading too much into the dot plot.”

TOM MARTIN, SENIOR PORTFOLIO MANAGER, GLOBALT INVESTMENTS, ATLANTA

“The market wants to see the Fed communicate that it’s going to provide the accommodation that the country will need while being on the lookout for inflation, and to me, what you got with this announcement is what the market wanted.

“On average, the market does want the Fed to be measured, which they absolutely were with this release.

“I don’t see that the movements in the S&P and Nasdaq mean much.”

For a look at all of today’s economic events, check out our economic calendar.

(Compiled by the U.S. Finance & Markets Breaking News team)

 

U.S. Corporate Bond Yield Spreads Unlikely to Bet ‘Meaningfully’ Tighter – Amundi

“Spreads can go tighter, though not meaningfully tighter,” Ken Monaghan, co-head of high yield at Amundi U.S. told the Reuters Global Markets Forum on Tuesday.

The additional yield, or the yield spread, that investors demand for holding riskier corporate bonds over U.S. Treasuries fell to near its tightest level since the Great Recession due to investors buying higher yielding assets.

Amundi’s Monaghan pointed to BB-rated bonds comprising a greater share of the high yield market as a primary reason why spreads are unlikely to tighten significantly.

He said the bonds are now nearly 55% of the market compared to about 45% a decade ago and pointed to demand by “crossover investors” seeking returns higher than those available in investment grade corporate credit and U.S. government debt markets.

“If nominal rates were to move meaningfully higher on an eventual Federal Reserve move, would those … who have ‘vacationed’ in high yield return to their home markets? Probably some would,” Monaghan said.

The Fed began unwinding its corporate bond portfolio last week, with markets focused on when it will taper its hefty asset buying program.

Monaghan said the Fed’s moves have had a less dramatic impact on high yield debt, with even a hawkish tone from the central bank not pushing up spreads significantly.

While many corporate defaults were expected due to the COVID-19 pandemic, Monaghan said default levels remained below expectations, thanks mainly to the Fed’s backstop and numerous “rescue” programs.

Despite current “risk-on” sentiment, Amundi’s Monaghan said aggressive borrowing seen in previous cycles has not materialized, with most companies focused on refinancing existing debt.

(Reporting by Lisa Pauline Mattackal and Aaron Saldanha in Bengaluru; Editing by Arun Koyyur)

 

Wall Street Slips as Fed Mulls Policy, Economic Data Disappoints

With the Fed kicking off a two-day policy meeting today, investors are balancing the central bank’s insistence inflation will be transitory with fresh data showing prices growing faster than expected.

In separate reports, U.S. economic data showed an acceleration in producer prices in May as supply chains try to keep up with surging demand with the pandemic easing, while retail sales dropped more than expected as consumers turned their attention back to service industries.

The readings have investors wondering if the Fed may come out of its meeting Wednesday with any indication it is tweaking its go-slow approach.

“Rising prices are expected to subside as the supply side of the economy recovers to meet demand and inventories are restocked, but accomplishing that will not be as easy as flipping a switch,” said Jim Baird, chief investment officer at Plante Moran Financial Advisors. “It will take some time for that gap to be filled. In the meantime, upward pressure on prices are likely to continue.”

The central bank is not expected to announce any plans to ease back on its bond purchases until August, but investors are looking for any indication the Fed has begun discussing such an exit. Nearly 60% of economists in a Reuters poll expect a taper announcement will come in the next quarter, despite a patchy recovery in the job market.

“To a large extent, high US inflation has to do with the massive US fiscal stimulus. Inflation has been increasing in most of G10, but the US clearly stands out,” wrote Bank of America Securities analysts in a note. “Assuming that some of the recent increase in inflation is indeed sustained, we would argue that the Fed will react to it, supporting the USD later this year.”

After markets reached new highs in Europe, U.S. markets eased following the economic reports. U.S. Treasury yields also dipped, while the dollar ticked up.

The MSCI world equity index, which tracks shares in 45 nations, fell 0.86 points or 0.12%.

The Dow Jones Industrial Average was down 114.95 points, or 0.33% in afternoon trading, while the S&P 500 lost 9 points, or 0.21%, and the Nasdaq Composite dropped 89.10 points, or 0.63%.

OIL GAINS

Oil prices hit their highest levels since 2019 during trading Tuesday on an expected demand surge that should accompany increased travel as pandemic restrictions ease.

Brent crude was last up $1.09, or up 1.5%, at $73.95 a barrel. U.S. crude was last up $1.16, or 1.64%, at $72.04 per barrel. It previously hit a session high of $72.16 a barrel, the highest level seen since October 2018.

In currency markets, the dollar hit a one-month high against a basket of currencies Tuesday on the back of the fresh economic data. The dollar index, which measures the greenback against a basket of six currencies, was 0.06% higher at 90.544, after rising as high as 90.677, its highest since May 14.

Spot gold prices fell $9.585 or 0.51%, to $1,856.41 an ounce, while U.S. gold futures were down 0.4% at $1,857.60.

Benchmark 10-year yields were 1.4939%, slightly lower than Monday, when they rebounded from Friday’s three-month low.

(Reporting Pete Schroeder in Washington; Editing by Kim Coghill, Alex Richardson, Barbara Lewis and Peter Graff)

 

Analysis: Transitory or Here-to-Stay? Investors Try to Read the Inflation Clues

The combination of supply bottlenecks from the reopening of the global economy and the resumption of economic growth sent consumer prices in May up by the largest annual jump in nearly 13 years. Employers are raising wages as they compete for scarce workers while retailers have limited inventories because of shipping and production delays.

As investors assess the risks of rising prices to financial markets, however, some think the biggest gains in inflation are already in the rear-view mirror. That is in line with the Federal Reserve’s notion that inflation will be “transitory.”

The Fed meets on Tuesday and Wednesday, and investors will parse every word of its post-meeting statement.

The Fed has been buying $80 billion in Treasuries and $40 billion in mortgage-backed securities monthly, putting downward pressure on longer-term borrowing costs to encourage investment and hiring. Discussions about tapering those purchases are likely at this week’s policy meeting.

“As long as the increase in inflation is modest, stocks could continue to move higher,” said Russ Koesterich, portfolio manager of the $27.6 billion BlackRock Global Allocation Fund.

Koesterich thinks inflation will likely run above trend lines well into 2022 given the bottlenecks in global supply chains. Yet disinflationary forces such as an aging global population and gains in efficiency due to technology will keep a lid on “any 1970s-style inflation scare,” he said.

Investors who bet on inflation typically move into groups better-positioned to weather price rises, like materials and energy and companies with pricing power. Value stocks, in contrast, benefit from a broad economic recovery that does not become weighed down by steeply rising prices.

Koesterich said his fund has been decreasing its positions in growth stocks like technology and adding to industrials and European banks.

Jeff Mayberry, portfolio manager of the DoubleLine Strategic Commodity fund, thinks May’s inflation numbers will be the highest for the remainder of the year and remains bullish on oil, which hit a multi-year high on Friday. He sees the commodity benefiting from economic growth.

“The market was looking for a reason for inflation to be transitory and they got it,” Mayberry said of May’s inflation number, noting that some of the larger contributors came from short-term factors such as a spike in the price of rental cars.

Ernesto Ramos, chief investment officer at BMO Global Asset Management, also sees price rises as transitory. He cites a drop in lumber prices from May’s high that suggests supply chain bottlenecks will subside and “give us another reason to believe that inflation will remain under control.” Lumber prices are down more than 40% from record highs hit in early May.

REASONS TO WORRY

While the majority of investors believe inflation is transitory, according to a Bank of America fund manager survey, worries remain.

“Inflation has been the most discussed topic with clients for weeks, bordering on obsession,” wrote analysts at Morgan Stanley led by Michael Wilson. Those analysts think the rate of change on inflation is peaking.

Greg Wilensky, head of U.S. Fixed Income at Janus Henderson, said he has been buying more Treasury-Inflation Protected Securities as the break-even rate – a measure of expected inflation in the bond market – has retreated to near its February levels.

While he is not “changing my base case” that high inflation will prove to be transitory, “the risks around the base case continue to skew toward the upside on inflation,” given the persistent difficulties companies are having hiring lower-paid workers, Wilensky said.

The Fed’s statement could give important clues.

“I’m going to watch the Fed on Wednesday and if they treat these numbers with nonchalance it is a green light to bet heavily on the inflation trade,” Paul Tudor Jones of Tudor Investment Corp told CNBC on Monday. He said he would be “really concerned arguing that inflation is transitory” with inventories at a “record low” while demand is “screaming.”

Morgan Stanley Chief Executive James Gorman told CNBC on Monday that “my gut tells me that this economy is recovering faster, inflation is moving quicker and inflation may not be as transitory as we all expect.” He cited the global economic recovery and record levels of fiscal and monetary support.

“Even if investors disagree with the Fed’s often-stated mantra that inflation is just transitory, they have learned to respect the massive influence the world’s most powerful central bank has when possessing such conviction that is not even ‘thinking about thinking’ about easing its foot off the stimulus accelerator,” said Mohamed El-Erian, chief economic adviser at Allianz. “The resulting comfort with continued ultra-loose financial conditions is supportive in the short run of elevated stock prices and low yields.”

For a look at all of today’s economic events, check out our economic calendar.

(Reporting by David Randall; Editing by Megan Davies and Dan Grebler)

Big Money Index Says Stocks Are Ready To Blast Off

Inflation, rising interest rates, or a new President has been some recent scary headlines I can remember. Many thought surely that markets would fall hard, but they didn’t.

They even said Software stocks would get crushed. But what did stocks do?

Source: MAPsignals.com

The market shrugged off the fears like it usually does. But, the above chart is only recent history. Let’s take a look at the last 10 years of spooky headlines I can remember.

There is pattern if you look closely: The stock market goes up and to the right most of the time.

Source: MAPsignals.com

I want less stress in my life. Turning off the headlines can help! Now, let’s take a look at what stocks did last week by sector.

Stocks Are Getting Scooped Up

Each week at my research firm, MAPsignals, we isolate the prior week’s buying and selling by sector. Anything that’s meaningful, we highlight in yellow. It marks that the sector saw 25%+ of its universe saw outsized buying or selling.

As you can see, lots of sectors had chunky buyers. I’ve been harping on this for many weeks. Look how most sectors saw big buying:

Source: MAPsignals.com

This just points to increasing momentum across the board. Also notice how sellers are no where to be found. That’s a recipe for a rally!

When buying in stocks gets wild, our most popular index ramps: The Big Money Index. It’s a smooth moving average of all of those buy and sell signals.

It’s been jumping:

Source: MAPsignals.com

If the BMI is heading up, chances are that stocks will follow…and vice versa.

But most of you know I look at the quality of stocks. I’m a growth stock guy. Last showed 25% of all buy signals had incredible sales and earnings growth.

The average 3-year sales growth of those 141 stocks was +28% and the 3-year average earning growth was +531%!

Source: MAPsignals, FactSet

Interestingly, 72% of the Technology stocks that saw green were Software stocks. That’s bullish, folks.

The bottom line is this: Buying has been lifting markets for weeks. If you’re a growth investor, smile. Odds suggest new highs for stocks soon. I focus less on headlines and follow the Big Money. Right now it says keep those rally hats on.

Disclosure: the author holds no position in SPY or the S&P 500 at the time of publication.

Learn more about the MAPsignals process here: www.mapsignals.com

Disclaimer

https://mapsignals.com/contact/

For a look at all of today’s economic events, check out our economic calendar.

Explainer-What’s at Stake for Markets as Debt Ceiling Looms

WHAT IS THE DEBT CEILING?

The debt ceiling is the maximum amount the U.S. government can borrow, as directed by Congress, to meet its financial obligations. When the ceiling is reached, the Treasury cannot issue any more bills, bonds, or notes. It can only pay bills through tax revenues.

Congress previously agreed to suspend the limit through July 31, at which point the Treasury has only a few months of “extraordinary measures” before lawmakers must either raise the amount, or face consequences of technical default.

WHAT CAN THE TREASURY DO AHEAD OF THAT?

Run down its cash. It has a target cash balance of $450 billion at the so-called Treasury General Account (TGA) on July 31. As of June 9, the Treasury’s cash balance was $674 billion, data from financial research firm Wrightson ICAP, down from $1.8 trillion last October.

It is not allowed to run up its cash balances ahead of the debt ceiling, analysts said, because doing so is viewed as circumventing the borrowing limit.

It has more than a month to pare back its cash, unless Congress raises or suspends the U.S. debt limit. If Congress does not, the Treasury has certain extraordinary measures at its disposal.

WHERE DOES THAT CASH GO?

As the Treasury spends money from its general account, the cash ends up on bank balance sheets, often in the form of money market funds. Wrightson said it expects bank reserves to average between $3.8 to $4.0 trillion in June.

With front money market yields so low – in some cases on the cusp of falling below zero — investors have opted to place cash with the Fed’s reverse repurchase facility, which pays zero interest rates.

Reverse repos have attracted record demand from financial institutions starved for short-term investment options.

On Thursday, the reverse repo volume hit a record $535 billion.

Analysts said massive volumes at the Fed facility suggest underlying market stress – causing pain for cash investors, savers and money markets.

WHAT CAN BE DONE TO ALLEVIATE MARKET STRESS?

Market participants see a possibility that the Fed, at its next policy meeting, raises the reverse repo rate and the interest on excess reserves (IOER), currently at 0.10%, two rates that influence the effective fed funds to trade within the target range. That should help lift repo and bill rates.

The fed funds rate is a key factor dictating rates on credit cards, mortgages, and bank loans.

For a look at all of today’s economic events, check out our economic calendar.

(Reporting by Gertrude Chavez-Dreyfuss; Editing by Megan Davies and Chizu Nomiyama)

 

Gold Goin’ Red Ahead of the Fed

As prior penned in “Gold’s June Swoon”, the technical and seasonal case was laid out for Gold to settle June “nearer to 1800” than to 1900. Thus far, that is the trend, albeit with 13 trading days remaining in June. And the Big One is this Wednesday (16 June) when the “FOMC-11” (Mmes Bowman, Brainard, Daly and Messrs Barkin, Bostic, Clarida, Evans, Powell, Quarles, Waller and Williams) vote to either maintain their Bank’s FedFunds target range at 0.00%-0.25% … else bump it up to 0.25%-0.50% … perhaps spiced with a bit of purchased paper taper.

This is the most important Federal Open Market Committee vote in better than a year (since 16 March 2020) when COVID convinced ’em to cut the rate down to the present target range. Further, Wednesday’s Policy Statement — should it incorporate a hike in the rate — is a key fundamental and uplifting case (given currency debasement otherwise being ignored) that can get Gold back onto a positive track into month’s end.

For as you regular readers know: Gold has proven to have done well when the short end of the yield curve actually rises; (recall the FedFunds rate and the price of Gold increasing together through the three-year stint from 2004-2006). Otherwise should the FOMC sit tight as they see, we ‘spect Gold’s “nearer to 1800” scenario shall be what we’ll see.

To be sure, the Fed now sits upon “A Delicate Balance”–[Marian McPartland, ’66]. In recent missives we’ve derogatorily referred to the Fed as being “scared s**tless” toward (finally) upsetting the outrageously overvalued stock market by merely increasing the cost of money. The last thing the Fed wants to do given the economy having recovered from COVID is to crash the now all-time high S&P 500 (4247), for which at this writing our “live” price/earnings ratio is 53.3x, with Bob Shiller’s non-cyclically-adjusted version not far behind at 45.1x.

Already for months, the yield on the riskfull S&P (now 1.375%) has trailed that of the riskless 10-Year U.S. Treasury Note (now 1.462%), let alone that of the 30-Year U.S. Treasury Bond (now 2.152%).

“But Gold itself has no yield, mmb…”

The perfect “leading statement” there, Squire. For if one defines “yield” as that rate of return to be realized upon Gold reaching up to our opening Scoreboard’s present valuation of 3861 (i.e. its “par value”), given price having actually settled yesterday (Friday) at 1880, that’s a 105.372% “yield”.

Indeed “To raise, or not to raise, [perchance to taper] that is the question: whether ’tis nobler in the mind to suffer the slings and arrows of outrageous debasement, or to take Gold against a sea of troubles, and by opposing, end them.” (Way to ad lib the Bard’s 1600 script there, Hamlet, back at a time when Gold was — as ’tis today — a currency).

To be sure, higher Dollar interest rates bring attraction to the Buck. And yet contra to conventional wisdom — given Gold plays no currency favourites — its price can rise right in stride with the so-called oxymoron “Dollar strength”, (recall for example their multi-month ascensions together in both 2010 and 2014).

Regardless of whether the FOMC votes to raise or not to raise or taper for a phase, we have to think this time ’round there shall be dissent amongst the ranks rather than the usual unanimous “voting for the monetary policy action were” … some may stand pat, some may vote taper, some may say hike. On verra.

Either way, here is the present state of Gold’s weekly bars from one year ago-to-date, the prior “outside week” having now been followed up with an “inside week”, (i.e. a “lower high” and “higher low”) as price continues red ahead of the Fed:

And for those of you thinking (perhaps skeptically) ahead, were Gold to settle June at, say 1800, might it still muster a 33% increase to reach our forecast 2401 high by year-end? It did such six-month stints in 2006, 2008 and 2011. Sprinkle in too the stagflation and stand by…

Meanwhile we continue to wonder how long ’twill be before the COVID-recovered economy next keels over. Confiscatory tax increases provenly are the killer regardless of how “compassionately” they’re couched. Most folks figure that out upon being laid off. The StateSide the capital gains tax is going up as is tax on corporations. And now, let’s add on to that a “G-7” global minimum tax. “Sorry, Chuck, we know you’re set for retirement and a pension next year, but we now have to instead divert that dough into some foreign thing.” Have a great day.

As comprehensively demonstrated throughout history, such tax increases are ultimately paid for by the elimination of jobs, without which the consumer still has to pay their tax bill on whatever they nonetheless earned. “Here we go again!” And here’s the Economic Barometer, for which 16 incoming metrics are due in the week ahead, not to mention the Fed (!):

Elsewhere, given the economically-weaker EuroZone, the European Central Bank is maintaining their stimulus policy, even as they’re a bit more upbeat in their outlook. Then over in China, ’tis said their producer prices are inflating more than they have in a dozen years. (And is COVID coming back in southern China? “Uhh boy…”)

Now let’s turn to the precious metals specifically from three months ago-to-date by their daily bars for Gold on the left and for Silver on the right. Notably for the yellow metal, its baby blue dots continue to cascade as the current price uptrend further loses its consistency, whereas price for the white metal is attempting to defy same. But as you regular readers well know, ’tis the “Baby Blues” which generally will out:

Then in looking at their 10-day Market Profiles, Gold (below left) has succumbed below its key 1895 trading resistor, whilst Silver (below right) is treading water above its 27.90 supporter. “Sink or swim, Sister Silver?”:

And thus here is how Gold stacks up at present:

The Gold Stack
Gold’s Value per Dollar Debasement, (from our opening “Scoreboard”): 3861
Gold’s All-Time Intra-Day High: 2089 (07 August 2020)
Gold’s All-Time Closing High: 2075 (06 August 2020)
2021’s High: 1963 (06 January)
The Gateway to 2000: 1900+
Trading Resistance: 1895 / 1902 / 1908
10-Session “volume-weighted” average price magnet: 1894
Gold Currently: 1880, (expected daily trading range [“EDTR”]: 25 points)
Trading Support: 1873
10-Session directional range: down to 1856 (from 1919) = -63 points or -3.3%
The 300-Day Moving Average: 1829 and rising
The Final Frontier: 1800-1900
The Northern Front: 1800-1750
The Weekly Parabolic Price to flip Short: 1750
On Maneuvers: 1750-1579
2021’s Low: 1673 (08 March)
The Floor: 1579-1466
Le Sous-sol: Sub-1466
The Support Shelf: 1454-1434
Base Camp: 1377
The 1360s Double-Top: 1369 in Apr ’18 preceded by 1362 in Sep ’17
Neverland: The Whiny 1290s
The Box: 1280-1240

Toward closing, we’re more stock market wary than ever. You already know of the beyond-belief level of the S&P’s P/E, and that its MoneyFlow is hardly supportive of the Index’s unsustainably high level in extremely thin trading conditions, (which for you WestPalmBeachers down there is like mowing your lawn pretending there’s gasoline in the empty tank). Indeed from our “You Won’t Find This Anywhere Else Dept.” today you personally (in a trading vacuum) can move the S&P 500 Index one full point with just 63% of the amount of money needed to so do just back on 08 April.

And if that doesn’t make the point of the market being thin, try this statistic: yesterday’s (11 June) total share volume traded for all of the S&P 500 constituents was 1.7 billion shares. The volume one year earlier to the day was 4.0 billion shares, well double that of today. Then on top of it all, this display popped up during our end-of-day data run on Friday night, (the “Spoo” is the S&P 500 futures contract):

And finally from the “Last to Figure It Out Dept.” this past week Deutsche Bank expressed concern over inflation as a global “time bomb”. (Nothing like realizing the obvious a year after everyone else). At least you realize that having some Gold is obvious!

Cheers! (And mind that Fed!)

The Gold Update by Mark Mead Baillie — 604th Edition — Monte-Carlo —

www.deMeadville.com
www.TheGoldUpdate.com

For a look at all of today’s economic events, check out our economic calendar.

Financials Look Ripe For A Reversal

The financials and banking stocks have been some of the best performing of the reflation trade since the second half of 2020. Banks in particular have benefitted handsomely from the rise in yields and steepening of the yield curve. Since last October, the KBE banks ETF is up roughly 100%, rewarding investors who saw fit to take advantage of the immense value on offer at the time. However, there are a number of signs suggesting now may be a prudent opportunity for investors to begin to take profits and redeploy capital elsewhere.

Firstly, from a valuation perspective, the group can no longer be considered cheap on a relative or absolute basis. Of the “big four” banks, JP Morgan Chase and Bank of America are trading at their highest valuations in a decade, as measured by price to book value.

On the whole, we know banks like to make their profits by lending long-term and borrowing short-term. With long-term yields looking to have stalled for the time being, or perhaps even rolling over, the yield curve did not confirm the recent highs in the sector. It looks as though banks may have some catching up to do on the downside.

As banks and financials have largely proven to be a de-facto short-bonds trade of late, the bond market is sending a similar message as the yield-curve.

For the banking sector to continue its outperformance, it needs the tailwind that rising yields provide. With the US 30-year yield recently breaking its uptrend to the downside, it is looking as though this tailwind may be turning into a headwind for the time being. A move down to the 200-day moving average would put the 30-year yield at around 1.9%.

Additionally, there is strong overhead resistance for yields around their current levels. This breakdown coincides with the 30-years recent rejection of said resistance.

Couple this with the fact that small speculators (i.e. the “dumb money”) in the 30-year treasury futures market remain nearly as short as they have ever been, all the while commercial hedgers (i.e. the “smart money”) remain heavily net-long. Such positioning in the past has usually preceded favourable performance for bonds, and thus seen yields fall.

What’s more, we are now entering a seasonally favourable period for bonds and conversely an unfavorable period for yields. This adds to the bearish headwinds for financials.

Turning to the technicals of the financials sector itself, a number of indicators are signaling exhaustion. We are seeing DeMark setup and countdown 9 and 13’s trigger on the daily, weekly and monthly charts. When such exhaustion signals begin to appear on multiple timeframes simultaneously, it is generally a fairly reliable indication a pullback, or at the very least a period of consolidation, is imminent. The 9-13-9 is considered one of the most reliable of the DeMark sequential indicators.

Focusing on the daily chart of the financials sector ETF, we have just seen a breakdown of its ascending wedge pattern. This coincides with bearish divergences in momentum (RSI) and money flow, in conjunction with the aforementioned daily DeMark 9-13-19 sequential sell signals.

A rally to test the underside of the broken trendline could be an attractive point for those looking to take profits, or for those who are so inclined to trade from the short-side. Additionally, seasonality of the financials sector is also signaling that it may be time to take a bearish, or less bullish, stance towards financial stocks.

In summary, the risk-reward setup for banks and financials in the short-term does not appear to be overly favourable, nor do these companies offer the kind value they provided last year. Depending on your intermediate to long-term outlook for the direction of interest rates and whether your are in the inflationary or deflationary camps, a potential pullback may provide an attractive buying opportunity for the inflationist. For the deflationists or for those who believe rates may be peaking, this may be a good time to take profits and redeploy capital in alternative opportunities set to benefit from falling rates.

For a look at all of today’s economic events, check out our economic calendar.

Stocks vs Bonds. A Portfolio Allocation Strategy

Summary

Bonds are purchased for capital gains.

Bonds outperform stocks for periods of up to two years.

The business cycle is the strategic tool to help you decide when to hold them.

There are periods lasting up to two years when bonds outperform the stock market (ETF: SPY). This article explores the timing model showing when bonds’ appreciation outpaces the market (SPY). The focus here is investors buy bonds for capital gains not for income, recognizing total return is an important metric.

Bond prices are driven by four basic factors: duration, risk, liquidity, and interest rates level. The impact of these variables on bond prices is studied in detail in the classic book by M. L. Leibovitz and S. Homer “Inside the yield curve”. The ETF TLT is used here as a proxy for bonds. TLT seeks to track the investment results of an index composed of U.S. Treasury bonds with remaining maturities greater than twenty years.

TLT is the safest bond portfolio because it is invested in US Treasury obligations. TLT holdings have a long maturity and long-maturity bonds have the greatest price change when interest rates change.

Source: St. Louis Fed, The Peter Dag Portfolio Strategy and Management

The above chart shows 10-year Treasury bond yields (blue line) and the growth of GDP after inflation (red line). The chart shows the long-term trend of yields follows closely the growth of real GDP. In other words, economic growth and inflation are the main determinants of the long-term trend of 10-year Treasury bonds.

If investors believe the long-term growth of the economy after inflation is 2.0%, they should also assume yields are likely to trade close to 2.0%. Of course, much is being said about the action of the Fed and the government. Whatever they do, the ultimate impact of their actions is on economic growth after inflation. Despite, or because of, the programs launched in the past two decades, the trend of economic growth has been declining and is now below its long-term average. I discussed in detail the reasons here.

From a portfolio strategy viewpoint, the profit and hedging opportunities arise by using the business cycle framework.

Source: The Peter Dag Portfolio Strategy and Management

The simplest way to look at the business cycle is to examine the decisions made by executives to control inventory levels. It is a way to relate price moves to business decisions rather than exogenous and unexpected events.

Business, following a period of protracted economic weakness (Phase 3 & 4) recognizes it does not have enough inventory to meet demand. The decision to increase inventory levels involves an increase in production (Phase 1). This process requires hiring new workers, boosting the purchase of raw materials (commodities), and raise the level of borrowing to meet current operations and invest to improve capacity.

The outcome of these decisions is to bolster demand as more workers find jobs, and place upward pressure on commodities and interest rates. This is the time the business cycle moves from Phase 1 to Phase 2.

The process reinforces itself until it reaches extreme conditions. Toward the end of Phase 2 inflation becomes a concern while interest rates reach levels discouraging the purchase of big-ticket items and new homes.

The decline in purchasing power forces the consumer to reduce spending. Business at first does not recognize this change. Eventually the rise in inventories has a negative impact on earnings. Business decides to reduce inventories to protect profitability. Workers are laid off, raw material purchases are reduced, borrowing is curtailed to reduce interest costs.

The business cycle is now going through Phase 3 and Phase 4 until wages, inflation, commodities, and interest rates decline enough to stimulate again consumers’ demand.

This is the time Phase 1 starts all over again. Economic strength improves and the markets react to these changing conditions.

Source: StockCharts.com, The Peter Dag Portfolio Strategy and Management

Let’s see now how these actions impact bond yields and their relationship with the stock market. The trend of bond yields reflects closely the business decisions to manage the inventory cycle. The above chart shows the yield on the 10-year Treasury bonds (upper panel) and the business cycle indicator updated in real-time and reviewed in each issue of The Peter Dag Portfolio Strategy and Management. (An exclusive complimentary subscription is available to the readers of this article.)

The chart shows yields rise when the business cycle rises, reflecting the efforts to finance the re-stocking of inventories and improve and increase productive capacity. Yields decline, however, when the business cycle declines, due to the reduction in production and financing needs. The point is bonds tend to appreciate (bond yields decline) when the business cycle declines. Bond prices are likely to decline (bond yields rise) when the business cycle rises.

The relationship is particularly noticeable because nothing has been said about the action of Congress or the Fed to “drive” the markets. The data to compute the business cycle graph come exclusively from real-time market data.

The relationship between bond prices (TLT) and the market (SPY) provides a useful strategic tool. TLT prices move inversely to the trend of yields ($TNX in the above chart).

Source: StockCharts.com, The Peter Dag Portfolio Strategy and Management

The ratio of SPY and TLT is shown in the upper panel. SPY outperforms TLT when the ratio rises. SPY underperforms TLT when the ratio declines. The lower panel shows the business cycle indicator discussed in every issue of The Peter Dag Portfolio Strategy and Management and is updated on a real time basis using market data on www.peterdag.com.

TLT has outperformed SPY for periods of up to two years during a complete business cycle. The relationship shown on the above chart is important for two major reasons. In a period when the economy slows down and the business cycle declines, a portfolio heavily exposed to long-term bonds such as TLT is likely to outperform SPY.

The second major advantage in overweighing bonds during a decline in the business cycle is its hedging features. For instance, during the business cycle decline of 2018-2020 a portfolio overweighted in TLT offered great strategic advantages due to the market collapse because of the economic slowdown started in 2018 and culminating with the crash of March 2020 due to the pandemic. This event signaled the bottom of the business cycle (see above chart).

Since March 2020, as the business cycle kept rising, SPY has outperformed TLT in line with previous patterns. A decline of the business cycle will cause TLT to outperform SPY as it did in 2018-2020, 2014-2015, and 2011-2012.

Key takeaways

  1. Bond prices rise and yields decline when the business cycle declines (Phases 3 & 4 of the business cycle).
  2. Bond prices decline and bond yields rise when the business cycle rises (Phases 1 & 2 of the business cycle).
  3. Bonds outperform stocks for their capital appreciation and are attractive for their hedging features when the business cycle declines.
  4. Stocks outperform bonds when the business cycle rises, signaling a stronger economy.

For a look at all of today’s economic events, check out our economic calendar.

As EU Preps Debut Recovery Bond, a Reality Check for ‘Safe Asset’ Hopes

Agreed in July as the pandemic raged, the deal sparked hopes among investors that Europe would finally have a large and liquid “safe” asset to rival U.S. Treasuries, in turn burnishing the euro‘s attraction as a reserve currency.

In short, some predicted, it would do for Europe what Treasury Secretary Alexander Hamilton did in 1790 for the newly formed United States — create a fiscal union.

Such optimism seemed exaggerated even then. A year on, as the European Commission prepares to sell bonds to finance the 800 billion euro fund, excitement has been tempered by doubts about the fund’s potential to become permanent.

Without that, according to Chris Iggo, chief investment officer for core investments at AXA Investment Managers, the issuance is destined to be “a historical anomaly and the bonds will just get tucked away in insurance company portfolios”.

“This has to be an ongoing thing, there has to be ongoing centralised borrowing capability … otherwise it becomes a one-off thing that’s not very interesting in the long run,” said Iggo, who helps manage 869 billion euros.

“They won’t trade and they won’t be liquid.”

As it stands, recovery fund borrowing will end in 2026. The debt pile will then shrink until the last bonds mature in 2058.

EU budget commissioner Johannes Hahn repeated this week that the bonds were a reaction to a one-off event. The fund was “a strong signal of solidarity” following the pandemic rather than a Hamiltonian moment, he said.

German government bonds are Europe’s fixed-income instrument of reference but at 1.5 trillion euros, the market is a fraction of the $20 trillion outstanding in U.S. Treasuries.

Some had hoped the recovery fund debt would form the basis of an issuance programme to eventually create a risk-free asset which, alongside Bunds, would eventually rival Treasuries.

BLUEPRINT

EU Commission Vice President Valdis Dombrovskis did recently hint that a successful recovery fund offered scope to develop a permanent instrument. Germany’s Green Party, which is likely to join the next government, also wants to make the fund permanent.

And the EU has done the groundwork, creating a debt office and a network of primary dealers banks to manage the programme and run debt auctions. Some 90 billion euros in bonds it has sold since October to back its SURE employment scheme already trade more like sovereign securities, enjoying robust liquidity.

But wealthier EU states are likely to oppose any bid to make the fund permanent, and even the current borrowing plan took national parliaments six months to approve.

A more immediate risk is lower-than-anticipated issuance volumes, with banks predicting as little as around 600 billion euros — 25% below the top amount.

That’s because governments show little interest in taking loans from the fund, which is set up to make grants as well as to lend. Of larger member states, only Italy so far has plans to use the 386 billion euro loan facility, according to Rabobank, although demand is likely to increase with time.

INTEGRATION

And old existential risks remain — without a fiscal union with common budget and tax-raising policies, the EU will remain a supranational, rather than sovereign borrower.

Moreover, the recovery fund lacks a “joint and several guarantee”, meaning that in event of default, each member state will be liable for only a part of, not the entire debt.

Future crises may induce the EU to top up the fund, leading eventually to permanency, said Nicola Mai, a member of the European portfolio committee at PIMCO, one of the world’s largest asset managers.

“If, over time you have a joint and several guarantee and more permanence, you can call it more strictly a sovereign-type issuer,” Mai said.

Until then, investors will demand a premium over Germany’s Bunds to compensate for the slightest risk of a euro break-up, further hampering EU bonds’ safe asset potential.

Currently, the EU pays 24 basis points more for 10-year debt than Germany.

Mike Riddell, who helps run almost 600 billion euros at Allianz Global Investors, sees EU debt becoming the risk-free benchmark “only in an environment where you have complete fiscal integration”.

“Germany is ultimately going to be the risk-free rate for the euro zone for the foreseeable future,” he said.

(Reporting by Yoruk Bahceli; Additional reporting by Dhara Ranasinghe; Editing by Sujata Rao and Catherine Evans)

 

Saudi Arabia Re-Enters Full Scale Financial Markets, Aramco $6 billion Sukuk and PIF Infrastructure Fund Stake

After a slight lull in the market, Saudi companies have again made headlines the last day. The world’s largest oil company Saudi Aramco’s dollar denominated Islamic bond sale (Sukuk) has raised $6 billion, while another Saudi sovereign wealth fund Public Investment Fund (PIF) took a major share in a new Gulf based infrastructure fund. The time that only oil prices made Saudi headlines is over since the Crown Prince Mohammed bin Salman took over.

Saudi Aramco’s financial attractiveness has not been dented lately, even that volatile oil markets and unilateral oil export cuts have put a dent in its profitability at present. With orders of between $33 -55 billion in place, the oil giant has been able to raise $6 billion with a new sukuk offering. The oil giant’s sukuk had a price guidance of under 70 basis points (bps) over US Treasuries (UST) for a 3-year tranche, 90 bps over UST for 5-year, and 125 bpd over UST for a ten-year tranche. On Monday June 7 Aramco’s first US dollar-denominated sukuk was launched. The total sukuk is launched in three tranches.

The sukuk is going to be used to pay for Aramco’s $75 billion in dividends per year, which was offered during the IPO to increase international interest. The oil company is already cutting on its overall spending, even in the upstream operations. To reap additional finances, Aramco has set up at the same time a major program to sell non-core assets. Even that the last months oil revenues have increased substantially, as price levels are again hovering around $70 per barrel, the company is still struggling with its free cash flow, which is short of the $18.75 billion it needs to pay each quarter.

Today Aramco also has appointed Morgan Stanley as lead adviser for the sale of a multi-billion dollar stake in its natural gas pipeline network. At present a deal is being made worth around $12.4 billion, in which investors will be able to hold a minority stake in a new Aramco subsidiary leasing the network. The network is the so-called Aramco’s Master Gas System, linking its production with processing sites throughout the kingdom, holding a total capacity of 9.6 billion cubic feet per day.

At the same time, Saudi SWF PIF has done a capital commitment to the $800 million ASIIP infrastructure fund. PIF will fund up to 20% of the total fund. ASIIP is a joint infrastructure fund between Bahrain based Investcorp and Aberdeen Standard Investments, focusing on infrastructure in the GCC region. The Asian Infrastructure Investment Bank (AIIB) also has committed around $90 million to the fund.

The infrastructure fund targets projects in line with the economic diversification plans of the GCC and MENA region, mainly by investing in sustainable core infrastructure projects. Taking into account ESG and UNSDG issues, ASIIP will focus on solutions in healthcare, education, water, mobility and digital infrastructure. A possible link between the PIF ASIIP option and other Saudi entities is clear, as the PIF is also owner of Aramco and other conglomerates in the region.

This week PIF also made clear that it will not anymore focus on US-EU-Asian markets but increasingly focus on regional opportunities. The coming months more PIF transactions are to be expected as it wants to increase a full-scale regional network to support economic diversification in the region, with Saudi Arabia as the pivotal center. Possible new fund transactions with Abu Dhabi are also in the offing, partly to strengthen the cooperation of both powers.

For a look at all of today’s economic events, check out our economic calendar.

Gold Rebounds After Fainting Due to Inflation Spike

Gold rebounded after an initially bearish reaction to the BLS report showing that inflation soared 4.2% in April year-to-year. This means we have an inflation annual rate doubling the Fed’s target and the highest since the Great Recession as the chart below shows.

It might now seem counterintuitive, but traders worried that the jump in the CPI would force the Fed to tighten its monetary policy earlier than anticipated. However, it seems that the US central bank managed to convince the markets that it would remain dovish for a very long period and that April’s inflation reading wouldn’t accelerate the first hike of the federal funds rate .

Indeed, on Thursday, Federal Reserve Governor Christopher Waller said that the Fed would need “several more months of data” before considering modifications to its stance. He added “now is the time we need to be patient, steely-eyed central bankers, and not be head-faked by temporary data surprises.” So, don’t fight the Fed, interest rates will stay at zero for several months, thus supporting the yellow metal!

After all, the Fed’s narrative is that the current inflation is transitory . Of course, the April surge was partially caused by a 10% increase in the cost of new, as well as used cars and trucks – this accounted for a great part of the overall rise. Interestingly enough, the massive spike in car prices was in part generated by temporary supply-chain disruptions, i.e., the shortage of microchips used in automobile production.

However, one can almost always find an element without which inflation is smaller. But one can also almost always find an element without which inflation is higher. This is how the consumer baskets work: some goods are getting more expensive, others are getting cheaper, etc.

So, although May’s inflation reading will likely be smaller, inflation may be more lasting than many analysts believe. There are many arguments for this. First, the surge in the broad money supply . Second, rising producer prices in China, so there might be an import of inflation. Third, the realization of the pent-up demand. Fourth, the rising input prices and more room for passing them on consumers. Fifth, April’s sluggish job creation signals that wages will have to rise to entice people to return to work (all the recent unemployment benefits have made current wages less appealing). So, producers could try to pass these increases in wages on consumers, just as with rising input prices.

Implications for Gold

What does inflation imply for the gold market? Well, from the fundamental perspective, higher and more permanent inflation is positive for the yellow metal . Inflation lowers the real interest rates and the purchasing power of the greenback , supporting gold. Of course, the short-term relationship between inflation and gold is more complicated (and less bullish than in theory), especially when higher inflation translates into higher nominal bond yields and expectations of a more hawkish Fed .

However, gold is a proven long-term hedge against inflation , so “gold can be a valuable component of an inflation-hedging basket”, as the WGC’s Investment Update shows . What is important here is that the Fed has become more tolerant of higher inflation. Therefore, we will have an environment of higher inflation and dovish Fed behind the curve, which implies lower real interest rates and a weaker dollar.

Hence, gold should attract attention as a hedge against inflation – actually, it’s already happening, as market sentiment toward gold has recently improved, while outflows in gold ETFs have slowed . And, as the chart below shows, the price of gold has jumped this week above $1,850.

So, as I repeated several times earlier, although the threat of higher interest rates will remain, the second quarter of 2021 should be better than the first one, unless the Fed radically changes its stance.

If you enjoyed today’s free gold report , we invite you to check out our premium services. We provide much more detailed fundamental analyses of the gold market in our monthly Gold Market Overview reports and we provide daily Gold & Silver Trading Alerts with clear buy and sell signals. In order to enjoy our gold analyses in their full scope, we invite you to subscribe today . If you’re not ready to subscribe yet though and are not on our gold mailing list yet, we urge you to sign up. It’s free and if you don’t like it, you can easily unsubscribe. Sign up today!

For a look at all of today’s economic events, check out our economic calendar.

Arkadiusz Sieron, PhD
Sunshine Profits: Effective Investment through Diligence & Care

Inflation Monster Rears Its Ugly Head. Will Gold Beat It?

Unbelievable! The “non-existent” inflation keeps getting stronger. The CPI increased 0.8% in April , after rising 0.6% in March. The pundits cannot blame energy prices for this jump, as the energy index decreased slightly. This shows that the surge in inflation wasn’t caused just by the base effect. Apart from energy, all major component indexes increased last month. In particular, the index for used cars and trucks rose 10.0%, which was the largest monthly increase since the series began in 1953.

As a result, the core CPI, which excludes food and energy, soared even stronger in April, i.e., 0.9%, following a 0.3% jump in March. It was the largest monthly increase since April 1982. But still, there is no inflationary pressure in the economy…

And now for the best part, the true crème de la crème of the recent BLS report on inflation : As the chart below shows, the overall CPI surged 4.2% over the 12 months ending in April , while the core CPI jumped 3.0%. These annual rates followed, respectively, 2.6% and 1.6% increases in March.

So, there was a huge acceleration in inflation last month! The last occurrence of such high inflation was in 2008 during the Great Recession . The quickening was a surprise for many analysts, but not for me. When analyzing the March CPI report , I wrote that it wasn’t an outlier:

“What’s important is that the recent jump in inflation is not a one-off event. We can expect that high inflation will stay with us for some time, or it can accelerate further next month.”

And indeed, inflation escalated in April. In May, however, inflation could be softer, but it will remain relatively elevated, in my view.

Implications for Gold

What does the hastening in inflation imply for the precious metals market? Well, the London P.M. Gold Fix has barely moved, as the chart below shows. What’s more, the New York spot gold prices have decreased in the aftermath of the April report on the CPI.

What happened? Shouldn’t gold have reacted more positively to the surprising speeding up of inflation? As an inflation hedge – it should. But this is far more complicated. First, the bond yields have increased to reflect higher inflation, as traders started to bet that the Fed would have to hike interest rates faster than previously expected.

But the April CPI report won’t force the U.S. central bank to alter its monetary policy and adopt a more hawkish line . After all, they expected acceleration in inflation, and they will simply describe it as a transitory development. As a reminder, the Fed focuses now more on the labor market than price stability – and with employment still more than 8 million short of the pre-pandemic level, the Fed will likely maintain its dovish stance .

Indeed, Fed Vice Chair Richard Clarida reiterated that the U.S. central bank is far away from tightening its monetary policy and confirmed that higher inflation than anticipated won’t alter the Fed’s course, as it would prove to be temporary:

The economy remains a long way from our goals, and it is likely to take some time for substantial further progress to be achieved (…) This is one data point, as was the labor report (…) We have been saying for some time that reopening the economy would put some upward pressure on prices.

What’s more, although traders focused initially on the implications of higher inflation on the federal funds rate and the U.S. monetary policy, in the longer-term gold should come into more favor as a hedge against higher inflation or even stagflation – after all, in April, we witnessed surprisingly disappointing nonfarm payrolls and a surge in inflation. Of course, single reports are not enough, but inflationary risks have definitely risen recently, and we could see some portfolio rebalancing toward gold later this year.

If you enjoyed today’s free gold report , we invite you to check out our premium services. We provide much more detailed fundamental analyses of the gold market in our monthly Gold Market Overview reports and we provide daily Gold & Silver Trading Alerts with clear buy and sell signals. In order to enjoy our gold analyses in their full scope, we invite you to subscribe today . If you’re not ready to subscribe yet though and are not on our gold mailing list yet, we urge you to sign up. It’s free and if you don’t like it, you can easily unsubscribe. Sign up today!

For a look at all of today’s economic events, check out our economic calendar.

Arkadiusz Sieron, PhD
Sunshine Profits: Effective Investment through Diligence & Care

 

Three Assets to Consider if Inflation Monster Attacks

If the value of the money you hold is falling, then its monster inflation is eating away your ability to purchase products and services. Inflation represents the rate at which prices of most goods and services increase over a given period, lowering purchasing power or you buy less for the same amount of money held before.

That means, with the rise in inflation, the money you save or invest from your regular income diminishes over time, emerging as a primary concern for investors and their portfolios. So, it is always wise to choose assets that earn you more than the inflation rate or at least keep pace with rising prices.

Here are three asset classes that will help you beat the inflation heat or at best help you hedge the growing risk at a time when global inflationary pressures are looming as major economies recover from the COVID-19 pandemic.

COMMODITIES

Commodities are the real assets; they tend to behave differently compared to bonds and stocks in a changing economic condition. For instance, commodities are the first to benefit from rising inflation as demand for goods and services increases, thereby, pushing the prices of commodities used to produce those goods and services. Commodities can range from a raw material used to produce consumer goods to crude oil, including gasoline or petrol, or metals such as gold, silver, copper, and aluminum.

Empirically, commodities have proved to be a rewarding investment in the long run and displayed their abilities to endure high inflation spikes, making it an efficient hedge against inflationary pressures. Most economists expect commodities to thrive over the coming year as fresh COVID-19 cases subsided by late April due to the lockdown measures and the vaccination program, helping major economies pick up growth due to recovery in demand, thereby, pushing prices higher.

“This environment is a sweet spot for commodities, as inflation is starting to rise, but monetary policy is not getting tighter for quite some time, leading to a virtuous cycle of higher commodity prices, stronger EM growth and rising global inflation, reinforcing the same positive feedback loop between commodities and the USD that happened in every other structural bull market, like the 1970s or 2000s,” noted economists at Goldman Sachs.

The New York City-based investment bank forecasts commodities to rise further 13.5% over the next six months due to the decline in infections and the countries easing some of the restrictions on movement and economic activity. The Bank expects Brent oil, the international benchmark, to hit $80 per barrel and West Texas Intermediate (WTI) to hit $77 per barrel over the six months. Goldman Sachs also forecasts gold prices to hit $2,000 an ounce over the next six months and copper price $11,000 per ton in 12-month time.

So, we think that a “supercycle” for commodities is around the corner which makes them a very attractive investment option now.

US TREASURY INFLATION-PROTECTED SECURITIES (TIPS)

Most bonds are not a true perfect hedge against inflation as coupon payments are generally fixed throughout their years- or decades-long lifespans. Regardless of the price movement in the secondary market, coupon payments remain the same or generally not adjusted.

But Treasury Inflation-Protected Securities (TIPS) are one of the only true real assets available that are indexed to inflation. That means the principal of a TIPS goes up with inflation and decreases with deflation, helping combat inflation risk that erodes the yield on fixed-rate bonds. It is worth noting that, TIPS are also highly safe as it is issued by the U.S. government, making it a better option for a conservative investor who aims for absolute safety. Although the real rate of return is guaranteed, TIPS could underperform compared to standard U.S. Treasuries during a period of low inflation.

“The view on US Treasuries is cautious and we prefer Treasury Inflation-Protected Securities (TIPS) as an attractive diversifier and agency mortgages, which may offer opportunities as the Fed remains active,” noted Eric Brard, head of fixed income at Europe’s largest asset manager Amundi.

So, you can consider adding TIPS to your portfolio if you are looking for protection against inflation and any risk of credit default.

VALUE STOCKS

Rising prices of goods and services can translate into more profit for companies, which in turn increases the stock price. In high inflation periods, value stocks are widely expected to perform better than growth stocks, which mostly outperform during the low inflation phase. Of course, there is no guarantee that most stocks will outperform at the time of rising inflation but empirically, returns from value stocks have comfortably beaten inflation over the years.

Investors have favored growth stocks, especially technology, over value stocks for more than a decade due to falling interest rates. That helped growth stocks soar but with the recent surge in bond yields on higher inflation expectations, the FANG and other high-growth stocks look more vulnerable to a heavy sell-off than before.

“The explosion of monetary and fiscal stimulus has put the U.S. and world economies on a much faster growth track than that prevailing before the pandemic. This means the near-term rise in nominal GDP, corporate revenues, and household incomes is much bigger. This stronger near-term rise in growth is evident in the rotation away from long-duration growth stocks toward short-duration cyclical and value stocks that benefit more from the big boost to the outlook for the next few years,” noted Niladri Mukherjee, head of CIO Portfolio Strategy at Merrill Lynch.

Investors should evaluate their portfolio and see whether any investment in growth stocks are highly overvalued and try to balance out that risk. But growth firms that have regularly given high profitability with attractive valuations and sustainable business models would be better positioned to fight the inflation monster.

Gold Forecast – Gold Prices Set to Soar Over Exploding Inflation Data

The Consumer Price Index rose 4.2% from a year ago, compared to economist’s estimate of 3.6%. The monthly increase blew away the forecasts of 0.3%, arriving at a blistering 0.8%. We have not seen numbers jump to this degree since 2009.

As inflation soars, real rates (Treasury yields minus inflation) will hurt bond and equity investors while benefiting hard assets like precious metals.

Our cycle work suggests gold formed a major low in March 2021, and prices are just beginning their next major advance. It is not too late to for long-term holdings – we prefer physical precious metals and view them as the original decentralized asset.

GOLD FUTURES DAILY: Gold is consolidating just below the intermediate trendline. A breakout above $1850 would be bullish and should trigger the next leg higher in the coming days. Prices would have to drop and close below $1800 to suggest a more profound pullback, which I view as highly unlikely given today’s data.

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GOLD BIG PICTURE: The big picture monthly chart of gold paints an incredibly bullish picture, in our opinion. After breaking out to new all-time highs last August, prices corrected back to the 20-month moving average. The last time we had a similar setup was in 2004. From here, our technical outlook anticipates a multi-year advance to a minimum target of $7500. However, given today’s monetary policy, a voyage to $10,000 or even $15,000 is not unreasonable by 2028 or 2030.

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Silver and platinum are also primed to explode higher over the coming weeks as inflation rages. Gold miners remain reasonably priced. Our Premium Metals Portfolio has been accumulating quality miners throughout the pullback and is well-positioned for this next advance.

AG Thorson is a registered CMT and expert in technical analysis. He believes we are in the final stages of a global debt super-cycle. For more information, please visit here.

For a look at all of today’s economic events, check out our economic calendar.

Gold Jumps above $1,800. What’s Next?

The gold market is a funny place. On Thursday (May 6), I complained that the yellow metal couldn’t surpass $1,800:

The price of gold has been trading sideways recently as it couldn’t break out of the $1,700-$1,800 price range. This inability can be frustrating, but the inflationary pressure could help the yellow metal to free itself from the shackles.

And voilà, just later that day, the price of gold finally jumped above $1,800, as the chart below shows. Hey, maybe I have to complain about gold more often?

But jokes aside. The move is a big deal, as gold has finally broken above the key resistance level. What’s important here is that the breakthrough wasn’t caused by some negative geopolitical or economic shock, but rather by fundamental and sentiment factors.

So, what happened? First, there is a weakness in the US dollar . With global economic recovery progressing, the safe-haven appeal of the greenback is simply vanishing. Another issue here is – and I pointed this out in the Fundamental Gold Report dedicated to the latest ECB’s meeting – that the pandemic in the Eurozone has reached its peak. So, the worst is already behind the euro area, and it can catch up with the US now, supporting the euro and gold against the dollar.

Second, the bond yields have been heading lower recently . As one can see in the chart below, the real interest rates have corrected significantly since their peak in March. In early May, the 10-year TIPS yields slid further, returning to almost -0.90 percent.

What is noteworthy here, the real interest rates declined more than the nominal interest rates. It resulted from the increase in the expected inflation. Indeed, as the chart below shows, the 10-year breakeven inflation rate jumped in early May . As a reminder, I wrote on Thursday that “the inflationary pressure could help the yellow metal to free itself from the shackles” and this is exactly what happened.

Implications for Gold

What does gold’s jump above $1,800 imply for its future? Well, the crossing of an important obstacle is always a positive development. The decline in the interest rates, coupled with the weakness in the US dollar, means that the markets are convinced that the Fed would remain very dovish, even despite the rising inflation .

Other positive news for the gold market is April’s nonfarm payrolls that came in below the forecasts. The US economy added only 266,000 jobs last month (see the chart below), although many analysts and even the FOMC members expected a nearly 1 million increase in employment. Such a disappointment made traders slash the bets on the pace of the Fed’s monetary tightening. A softer expected path of the federal funds rate is a fundamentally positive factor for gold.

In other words, the weak employment report relieves a lot of the pressure put on the Fed to tighten its monetary policy. So, the US central bank will continue to provide monetary support, despite all the progress observed in the economy, and that easy stance will stay with us for longer than previously expected. In that sense, April’s disappointing jobs data may be a game-changer for gold, and it could add fuel to the recent rally that started on Thursday.

Of course, one weak employment number doesn’t erase the impressive economic recovery. Moreover, I would like to see that gold hold the recent gains through the coming days before organizing a party for the gold bulls. However, it seems that I was right in saying that the second quarter would be much better than the first one. Gold is indeed gaining momentum! And, what’s really important, the yellow metal started to rise amid a strong economic recovery – it implies that we can be observing important, bullish shifts in the market sentiment towards gold.

If you enjoyed today’s free gold report , we invite you to check out our premium services. We provide much more detailed fundamental analyses of the gold market in our monthly Gold Market Overview reports and we provide daily Gold & Silver Trading Alerts with clear buy and sell signals. In order to enjoy our gold analyses in their full scope, we invite you to subscribe today . If you’re not ready to subscribe yet though and are not on our gold mailing list yet, we urge you to sign up. It’s free and if you don’t like it, you can easily unsubscribe. Sign up today!

For a look at all of today’s economic events, check out our economic calendar.

Arkadiusz Sieron, PhD
Sunshine Profits: Effective Investment through Diligence & Care

 

Lumber and Copper Are Surging. Will Gold Join the Party?

The rise in lumber prices can be seen in the chart below:

What a surge! It happened because of the limited supply and strong demand for new houses. But it’s not just lumber. Many raw commodities are rallying too. The price of copper, for example, has just approached its record height (from February 2011), as the recovery of the global economy boosted demand. Just take a look at the price below.

Indeed, the trend is up. Commodity prices are on the rise as a whole as the chart below clearly shows. Even Warren Buffet warned investors against a “red hot” recovery, saying that his portfolio companies were “seeing very substantial inflation” amid shortages of raw materials.

Of course, commodity price inflation and consumer price inflation are quite different phenomena, as consumers don’t buy lumber or copper directly but only finished products made from these materials. However, at least part of this producer price inflation may translate into higher consumer prices, as producers’ ability to pass higher costs on consumers has recently increased – people have a large holding of cash and are willing to spend it.

Implications for Gold

What do rallying commodity prices imply for the precious metals? Well, rising commodity prices signal higher inflation, which should increase the demand for gold as an inflation hedge . Of course, there might be some supply disruptions and bottlenecks in a few commodities. However, the widespread character and the extent of the increase in prices suggest that monetary policy is to blame here and that inflation won’t be just transitory as the Fed claims.

What’s more, the commodity boom is usually a good time for precious metals . As the chart below shows, there is a strong positive correlation between the broad commodity index and the precious metals index.

There was a big divergence during the pandemic when commodities plunged, while gold at the same time shined brightly as a safe-haven asset . So, the current lackluster performance of the yellow metal is perfectly understandable during the economic recovery.

Indeed, the rebound in gold has been weak, and gold hasn’t even crossed $1,800 yet, although it was close this week, as the chart below shows.

There was a rally on Monday (May 3) amid a retreat in the US dollar, but we were back in the doldrums on Tuesday, amid Yellen’s remarks about higher bond yields . She said that interest rates could rise to prevent the economy from overheating:

It may be that interest rates will have to rise somewhat to make sure that our economy doesn’t overheat, even though the additional spending is relatively small relative to the size of the economy

However, Yellen clarified her statements later, explaining that she was not recommending or predicting that the Fed should hike interest rates. Additionally, several FOMC members made their speeches, presenting the dovish view on the Fed’s monetary policy . For example, Richard Clarida, Fed Vice Chair, said that the economy was still a long way from the Fed’s goals and that the US central bank wasn’t thinking about reducing its quantitative easing program .

Anyway, the price of gold has been trading sideways recently as it couldn’t break out of the $1,700-$1,800 price range. This inability can be frustrating, but the inflationary pressure could help the yellow metal to free itself from the shackles. The bull market in gold started in 2019, well ahead of the commodities. Now, there is a correction , but gold may join the party later . It’s important to remember that reflation has two phases: the growth phase when raw materials outperform gold and the inflation phase when gold catches up with the commodities. So, we may have to wait for a breakout a little longer, but once we get it, new investors may flow into the market, strengthening the upward move.

If you enjoyed today’s free gold report , we invite you to check out our premium services. We provide much more detailed fundamental analyses of the gold market in our monthly Gold Market Overview reports and we provide daily Gold & Silver Trading Alerts with clear buy and sell signals. In order to enjoy our gold analyses in their full scope, we invite you to subscribe today . If you’re not ready to subscribe yet though and are not on our gold mailing list yet, we urge you to sign up. It’s free and if you don’t like it, you can easily unsubscribe. Sign up today!

For a look at all of today’s economic events, check out our economic calendar.

Arkadiusz Sieron, PhD
Sunshine Profits: Effective Investment through Diligence & Care