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Even the most avid gold bugs,
who’ve been stockpiling vast quantities of the barbaric metal for
decades, and endured their fair share of panic shakeouts, were probably in a surreal
state of “shock and awe,” while watching the price of the yellow
metal soar to within 1% of the psychological $2,000 /oz
level this week. It’s as if somebody launched a rocket on the Fourth of
July. Since then, the price of gold has soared $400 /oz,
zooming higher in a parabolic pattern. After all the bullish chatter on the
blogosphere over the past decade, Gold, - the so-called barbaric metal, has
triumphed over the stock peddlers on Wall Street.
Undoubtedly, there will always be snake
oil salesmen, - who will tout blue-chip stocks as an effective hedge against
currency debasement, and a hedge against inflation. Money managers, whose
livelihood depends upon selling equities have been taken aback by
Gold’s historic surge, and are at a loss to explain to their clients,
why they missed the move. “Gold doesn’t have any intrinsic
value,” a bewildered money manger declared.
“Investing in gold is irrational because, compared to buying a
blue-chip stock whose value rises and falls based on what the company
produces, and the profit that it earns,” the equity salesmen says.
Thus, for all the talk of the Gold
market being in some type of speculative bubble, that could burst at a
moment’s notice, a contrary argument points to the fact that vast
legions of money managers, have yet to participate in Gold’s long-term
secular bull market. Furthermore,
there seems to be a misunderstanding about what drives the value of Gold,
which essentially is the reciprocal of the public’s trust in the
world’s central banks, and their paymasters, - the corrupt and inept
politicians, who drive their economies deeper into debt.
Undoubtedly, the skeptics who find
comfort in holding paper currency will soon be writing articles in the media,
warning that Gold’s latest upward explosion of $400 /oz in just seven weeks, to $1,900 /oz
has all the characteristics of a classic bubble that’s bound to burst.
Late comers to the game would be left holding a bag of “Fool’s
Gold,” and could suffer big losses if purchases are made now, and losses
that might never be recouped, - the skeptics say. Yet the most recent buyers
might not be small retail investors, but rather the powerful Asian central
banks, that control more than $5.5-trillion of foreign currency reserves.
They might be shifting their portfolio holdings, from troublesome Euros and
US-dollars, and into Gold.
On July 28th, Xia Bin, an
adviser to the People’s Bank of China (PBoC)
said Beijing should speed up reserve
diversification away from US-dollars to hedge against risks of the US
currency's long-term decline. Chinese officials have long pledged to
broaden the mix of the country's $3.2-trillion currency stash -- as much as
70% of which are now in US- dollar assets, but the process has been gradual.
“We will continue to diversify the asset allocation of our reserve
assets and continue to optimize the holdings based on market
conditions,” China’s Administration of Foreign Exchange said on
July 28th.
What many reporters in the Western
media, and what many money managers on Wall Street, who are wedded to
equities fail to realize, is that 57% of the Gold that was sold by miners in the
first quarter of 2011, was shipped to anxious buyers in China and India.
Asian giants India and China are the world’s two biggest buyers of the
precious metal, because paper money is increasingly worthless in economies
where there is runaway inflation. India
imported 959-tons of gold in 2010, up +72% from a year earlier, while
India’s wholesale price index is +9.5% higher than a year ago.
China’s gold demand is on pace to increase by +20% this year to around
700-tons, from 570-tons in 2010.
China’s M2 money supply has
increased +70% over the past three-years, expanding at an annualized +23%,
far exceeding the +9.5% annual growth rate of the Chinese economy. Consumer
inflation is reportedly +6.5% higher from a year ago, but China’s
citizens say the true rate of inflation is higher than what the government is
reporting. Beijing has lifted the 1-year bank deposit rate 125-basis points
higher to 3.50%, but that’s still -3% less than the so-called official
inflation rate of +6.5%. Therefore, the frenzy for gold has prompted the
Chinese central bank to step up sales of gold Panda Coins, to 500,000 1-ounce gold coins, or +66%
more than its earlier target of 300,000. It also tripled sales targets for
half-ounce, quarter-ounce, 1/10-ounce and 1/20-ounce gold coins to 600,000
each from 200,000 earlier.
Since the near
collapse of the Western banking system in 2008, the basic underpinning of the
floating currency rate system has been under severe stress, and is still in
danger of breaking down. Traders no longer trust central banks to keep their
money printing operations running at a slow speed, that’s basically in
line with the underlying growth rates of their economies. Instead, central
banks in England, Japan, and the US are all heavily addicted to nuclear QE,
and the European Central Bank has also joined the club, by agreeing to
monetize the debts of five Euro-zone countries, - Greece, Ireland, Italy,
Portugal, and Spain.
Since the
Federal Reserve began to telegraph QE-2 a year ago, the US’s MZM money
supply has increased by roughly $1-trillion, buoying the price of Gold. In
turn, many central banks in other countries that peg their currencies to the
US-dollar were forced to expand their money supplies, in order to keep their
currency exchange rate on an even keel with the massively inflated US-dollar.
Although the Fed was trying direct most of the high powered money into the
US-stock markets, much of it flowed into Gold, Silver, copper, soybeans,
corn, rubber, iron-ore, and North Sea Brent crude oil, which is trading
around $110 /barrel today.
Swiss
National Bank Injects 170-Billion Swiss francs into markets
The Swiss
franc soared to a once unthinkable $1.40 versus the US-dollar, as traders
clamored for a currency that was untainted by the stench of QE. Yet the soaring franc threatens to cause
enormous damage to the Swiss economy, which is mostly export oriented,
especially sales to the Euro-zone. Upon reaching near parity with the Euro,
the Swiss National Bank (SNB) felt compelled to set an upper limit on the value
of the franc, and injected an extra 170-billion Swiss francs into the Swiss
banking network, thus diluting the value of the franc in relation to other
paper currencies, and especially against the price of Gold.
Traders soon found out that trying to find
the ultimate safe haven from abusive central bankers is not to be found by
hoarding any type of paper currency, no matter how sterling its long-term
reputation. After the SNB unleash its plan to dilute the value of the Swiss
franc, its currency fell by roughly -10% against the Euro and US-dollar
within a matter of a few days. As long as central banks can print endless
amounts of paper currency, it can always enforce a ceiling for its currency.
The risk of doing so however, is flooding the local economy with a tsunami of
paper confetti that could threaten to ignite a new wave of inflation, and in
turn, zaps the disposable income of its citizens, and lifts the cost of input
prices for local producers.
But with the Swiss economy teetering on
the precipice of a recession, an outbreak of inflation is not at the top of
the SNB’s list of worries. Instead, the Swiss franc is still perched in
a dangerously high territory for the local economy that can hurt companies in
all sectors. Already, Swiss export volumes to the European Union, its biggest
trading partner, dropped by -14.6% in June. According to a recent study, a 10% appreciation in the franc’s trade weighted value, if
sustained, would erode Switzerland’s gross domestic product by roughly
-3% after two years. A Swiss
Multi-National, with half its earnings in dollars and half its earnings in
Euros would see a -15% drop in earnings linked to the effects of the stronger
currency.
Helping to
take the edge off the Swiss franc, the European Central Bank held an
emergency meeting on August 8th, and agreed for the first time to
monetize the debts of Italy and Spain, in its boldest attempt yet to tame the
sovereign debt crisis. Italian
and Spanish bond yields plunged as the ECB entered the market, sending their
yields down -1% within a matter of days. That helped to persuade many
speculators to lighten-up on the Swiss franc.
Because the ECB will have to spend
hundreds of billion of Euros to have an impact on
the Italian and Spanish bond markets,
it would amount to a huge swelling the Euro money supply, or quantitative
easing, which in turn, helped to fuel Gold’s rise to record highs of
1,325 Euro /oz this week. To help cement the Swiss
franc’s decline versus the US-dollar and Euro, the SNB said on August
17th, it would inject an extra 80-billion francs into the local
banking system, leaving flush with 200-billion francs of excess liquidity.
The creditworthiness of European banks
is still a major concern because of their heavy exposure to debt in countries
such as Spain, Greece and Italy, which are struggling to double digit jobless
rates, and buried in economic stagnation. German chancellor Angela Merkel and
France’s president Nicolas Sarkozy met in Paris on August 16th,
but failed to calm the latest bout of market anxiety. Global equity traders
are watching the share prices of European bank stocks slide to their lowest
levels since March 2009, and are becoming increasingly alarmed that the
Euro-zone crisis could trigger another credit squeeze.
In particular,
traders are worried about the exposure of French banks to Greek, Italian, and
Spanish debt.
French banks own €410-billion
of Italian debt, making them the most exposed banks in Europe to the
debt crisis in southern Europe. With
French banks alone holding more of their debts than the entire
€440-billion European Financial Stabilization Fund (EFSF) originally
designed to bailout Greece, Ireland, and Portugal, a default by either
Italy or Spain would likely bankrupt the French financial system. Under these
conditions, French financiers and
politicians are insisting that the ECB print Euros to buy Italian and Spanish
bonds.
The Euro-Stoxx Banking index has tumbled by -38%
in the past six months, led by Britain’s Barclays,
Germany’s Commerzbank, and the top French banks. Overall, the Euro-Stoxx banking Index is -75% below its peak value in 2007.
Société Générale’s
share price has lost -45% over the
past 2-½ -weeks, BNP’s share price has plunged -29%, and Credit Agricole has lost -38-percent. Seeking a safe haven from
the perceived risk of Euro-zone banks, many Europeans investors are plowing
their safe money into both German Bunds and Gold. In a virtuous cycle, as the
German Bund’s yield drops further below the Euro-zone’s inflation
rate, it makes Gold an increasingly more attractive alternative.
Over the past seven weeks, the price of
Gold has also been tracking the cost of insuring the subordinated debt of
perceived risky banks, such as Société
Générale. The cost of credit default
swaps (CDS) to insure €10-billion
of SocGen’s debt for the next two-years has
soared to €540,000. At
the same time, the value of SocGen’s shares has shrunk from €110-billion in
April 2007 to just €17.2-billion today, placing it behind
companies like cosmetics maker L’Oreal and dairy producer Danone.
And it’s not just the European
banks that are in trouble. The cost of insuring Bank of America’s
subordinated debt against the odds of default, an indicator of potential
trouble, rose to $436,000. BofA’s shares fell
to as low as $6 /share on August 23rd, it’s
lowest since March 2009. More than $32-billion of the company's market value
has been wiped out since August 3rd. President Barack Obama has
never understood that there can be no US-recovery until housing prices
stabilize. Printing more money will not help when 3.5-million foreclosures
are stacked in the pipeline, and continue to depress house prices and create
more bad debts. In turn, consumer confidence has plunged to its lowest since
the Great Depression.
Tokyo Prepares major Money Printing
Operation
In Tokyo, Japan’s Finance chief
Yoshihiko Noda is threatening to take decisive action if needed in
foreign-exchange markets, with the US-dollar pinned at ¥76.50, a record post-World War
II low, where Japan’s financial warlords have drawn a line in the sand.
“I have become more concerned about the worsening of the yen’s
one-sided movements. I will take bold actions if necessary and won’t
rule out any possible options,” Noda said. However, massive
intervention has failed to turn the tide against the beleaguered US-dollar,
which is hanging on a thread.
On August 5th, the Bank of Japan injected about
¥4.5-trillion, into the foreign exchange market, its largest intervention
operation on record, which for just a brief moment, lifted the US-dollar ¥2.5
higher to above ¥80. However, four days later, the US-dollar
tumbled to ¥76.50, after
the Fed pledged to keep the federal funds rate locked near zero-percent for
the next two years. As a result, the yield on the US Treasury’s 2-year
note fell to a record low of +4-basis points above Japanese 2-year yield,
weakening the value of the US-dollar.
Ironically, foreign investors bought a
record ¥3-trillion of Japanese short-term bills, during the week ending
August 16th, negating 2/3’s of the BoJ’s
intervention, while their net selling in Japanese equities hit the highest in
more than a year. Japan’s economy
is buried deep in a recession, contracting for a third straight quarter, at
an annualized -1.3% rate. To offset
lackluster demand at home Japanese Multi-Nationals have increasingly relied
on exports to drive growth. But exports dropped -5% during the latest
quarter, the sharpest decline in more than two years, due to a strong yen,
and slowing overseas economies.
Another round
of QE-3 would be devastating for Japan, and America’s #2 financier will argue strenuously against it at the
upcoming festival at Jackson Hole, Wyoming. “We must steer the economy very
carefully, because we still have downside risks including the problem of the
rising yen,” Noda warned. With the Fed pegging the fed funds rate at
zero-percent for the next two years, the BoJ would
probably have to dump ¥25-trillion into the money markets in order to
prevent the US-dollar from falling below 76-yen. Most likely, the
intervention won’t be sterilized, and would help to support the price
of Tokyo Gold. Japan’s ministry of finance is expected to recycle its
intervention stash into US Treasuries, to help finance America’s budget
deficit, yet is might start to surprise the markets, by shifting some funds
into Gold.
Is Gold in a Bubble that’s Ready
to Burst?
Nowadays, there’s an overload of
information that floods into the marketplace each day, - via the internet and
other news channels, and it’s easy to become distracted. The average
memory span of a S&P-500 trader lasts about
24-hours. Emotions are headline driven, and buying and selling is based on
the flavor of the day, with little long-term conviction about anything. But
before listening to the naysayers that say the Gold market is a bubble
that’s ready to burst, - take a quick look back at history.
It was 12-years ago, when the Dow Jones
Industrials first crossed the 11,000-level, roughly where it resides today.
During the Dow’s “Lost Decade of Growth,” its been trapped within the confines of a secular bear
market, - that is to say, gyrating violently within a sideways trading range,
yet ending up, going nowhere. Twelve-years ago, 1-Dow Industrial share could
purchase the equivalent of 42-ounces of Gold. Today, 1-Dow Industrial share
can only fetch 5.7-oz’s of Gold. When seen
through the prism of Gold, the Dow Jones Industrials have failed to act as an
effective hedge against monetary debasement by the Federal Reserve, contrary
to the traditional sales script on Wall Street.
The historic rise of gold towards $1,900
/oz this month occurred on the 40th
anniversary of President Richard Nixon’s decision to end the
decades-long fixed relationship between the value of the US-dollar and the
price of gold, - at $35 /ounce. When Nixon closed the gold window, the
US-dollar was essentially backed by the US Treasury’s willingness to
defend the purchasing power of the greenback. Gold began to rise and fall
freely, and a system of floating exchange rates tied to the US-dollar was
ushered in, - an arrangement that gave the US-dollar a privileged position,
due to its economic super power status.
Since then, the US-dollar has lost more
than 98% of its purchasing power compared to Gold. Furthermore, global
confidence in the US-dollar has progressively eroded as the US has gone from
being the world’s biggest creditor nation to its biggest debtor. The
recent downgrading of the US Treasury’s debt to A+ by China’s
rating agency is a watershed event signaling the inexorable decline of the
US-dollar as the world’s reserve currency. America’s industrial
base has withered away, and the US is now a food stamp nation - with almost
46-million of its citizens receiving food stamps, equaling 15% of the
US-population.
A US-family of four can receive $668
/month for food stamps that cost US-taxpayers about $68-billion /year. The
alternative, without food stamps, would be riots in the streets across
America, similar to what we’ve seen in Cairo and London this year.
Furthermore, one in four Americans receives a check from the US-government
each month, and half of its citizens pay no federal income tax at all, while
the US’s national debt is scheduled to increase by $2-trillion over the
next 18-months to $16.3-trillion, equaling about 110% of its GDP.
On August 8th, Beijing has
lashed out at the US’s “addiction to debt,” in a stinging
English-language commentary carried by the official Xinhua news agency that
it had “every right to demand Washington address its structural debt
problems and safeguard China’s dollar assets. Washington needs to come
to terms with the painful fact that the good old days when it could just
borrow its way out of messes of its own making are finally gone. To cure its
addiction to debts, the US has to re-establish the common sense principle
that one should live within one's means,” Xinhua said. The fear that
China might no longer finance America’s burgeoning debt, prompted US
vice president Joe Biden to meet with Chinese leaders this week.
If Beijing balks at financing the
US-government’s debt, it would put great pressure on the Fed to begin
monetizing more of the US-Treasury’s debt, with several more rounds of
QE. “Printing more money
to play politics at this particular time in American history is almost
treasonous in my opinion. Because we’ve already tried this, and all
that it’s doing is devaluing the dollar in your pocket. And we cannot
afford that. We have to learn the lessons of the past three years,”
said the governor of Texas, Rick Perry on August 16th.
Some traders
might view the unleashing of QE-3 as a “Bernanke Put,” or the
idea that the Fed will always print more money after a big stock-market
decline. On August 17th, Richard Fisher, the Dallas Fed chief,
warned the Fed “should never enact such asymmetric policies to protect
stock market traders and investors. The policy won’t help spur
growth,” he said. Philadelphia
Fed chief Charles Plosser said unleashing QE-3 after
the S&P-500 tumbled -18%, would “signal that we are in the business
of supporting the stock market.”
Wall Street money managers are betting
that Bernanke begins to print money again, to help bail them out of risky
bets that went sour. Yet if this wish comes true, it could send the price of
North Sea Brent crude oil soaring to $150 /barrel, which in turn, could push
the world economy into a sharp downturn. In that case, would you rather own
Gold or the Dow Jones Industrials? Yet it might be the case that Gold is
technically overbought after a parabolic increase to $1,900 /oz, and a sizeable pullback would wipe-out the
speculative froth. Long-term Gold bugs have seen that movie before.
Fed chief Bernanke could throw a curve
ball, by not hinting at QE-3 at Jackson Hole, Wyoming, causing a shake-out in
Gold, but also knocking the S&P-500 into bear market territory. However,
looking at the bigger picture, Asian central banks are just beginning to swap
out of US-dollars and Euros, and shifting more of their portfolios into Gold.
Undoubtedly, the Fed, the Bank of England, the Bank of Japan, and the ECB,
will find ways to keep printing money to monetize debts of bankrupt
governments, and lock short-term interest rates at near zero-percent, and
pegged far below the inflation rate. Thus, Gold is probably still in the
midst of a long-term secular bull markets that can last for several more
years.
“You have to choose between
trusting the natural stability of Gold and the honesty and intelligence of
members of the government. With due respect for these gentlemen, I advise
you, as long as the capitalist system lasts, to vote for Gold,” George
Bernard Shaw, 1928.
Gary Dorsch
Editor, Global Money Trends
www.sirchartsalot.com
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