Sive Morten
Special Consultant to the FPA
- Messages
- 18,651
Fundamentals
Well, as on any other market this week, situation around the gold one was relatively quiet. We've explained already, and did it many times, why gold remains under pressure in nearest few months. The major reason is - high nominal rate in the US and changing of market's sentiment - people start understand that high rate is for long and even could be increased more. Yesterday we've explained why we think that high rate now is more the geopolitical weapon rather that the instrument to put inflation down. Because it would be naive to suggest that as the Fed as Ministry of Finance do not see obvious signs of deterioration in manufacturing, real estate market and households' finance spheres. But this time period will last only until the moment when the new inflation spiral starts spinning up. This is unavoidably and we think that it is not too long to wait. Once this will happen, gold should get twofold support. First is - real rates will turn down again, second - this probably will happen on a background of destruction global finances and jeopardy becomes another supportive factor for gold demand.
A BIT OF POLITICS - OUR 2nd Factor
Yesterday we've discussed in details US-China confrontation and situation slowly is going to hot conflict. Smart people already understand where all this stuff is going to and protests against AUKUS already are started in Australia and slowly spreading across the world. Now US are trying to involve in conflict their allies - Japan and S. Korea, to finalize tight belt around China. In September 2022, Pentagon Chief Lloyd Austin, after a meeting with Japanese Defense Minister Yasukaza Hamada, said that Washington would defend the country using "the entire arsenal of traditional weapons and nuclear capabilities." The Pentagon chief did not specify who exactly could threaten Japan.
In May, Pyongyang, Tokyo and Washington agreed to strengthen trilateral security cooperation and exchange data on missile launches from North Korea.
In the spring, the United States and South Korea adopted the Washington Declaration, in which Seoul pledged to promptly use "all the strength of the alliance," including atomic weapons, in the event of a nuclear attack by North Korea. Of course Japan understands everything and does not want to war, but who will be asking them?
North Korean Defense Minister Kang Sun Nam said on Tuesday that a nuclear war on the Korean peninsula will inevitably begin. The Minister said this in his address to the participants of the XI Moscow Conference on International Security. According to him, such a war on the Korean peninsula "is no longer a question of whether it will be, but a question of who will start it and when. The mania of nuclear war on the part of the United States" and their "puppets" in Pyongyang "are turning the Korean Peninsula and Northeast Asia into a new hotbed of nuclear war."
As a response, China launched military drills around Taiwan on Saturday as a "serious warning" to separatist forces in an angry but widely expected response to Vice President William Lai's visit to the United States, drawing condemnation from Taipei.
If we deep Chinese economy conditions a bit deeper than it should make worry the majority of economists. By and large, China's past successes are, on the one hand, the low base effect and, on the other hand, the wildest combination of the savings behavior of the population (providing financial resources) and the investment model on the part of the state (using resources).
Construction of various types generates almost a third of GDP, while, say in Russia, it is only 5%. The problem is that this housing/infrastructure development is mostly a non-productive investment. Yes, for residential real estate the multiplier is rather big, but in itself it does not bring money. Infrastructure in a broad sense too. And we are not talking about power generation. If we stop excess construction and GDP will go down by 20%, and after it the financial markets will be blown away with consumption. And with recent Evergrande incident, it seems that this process is starting.
Exports are slowly declining, the debt is larger than that of the United States. The currency has no reserve status. The share of household consumption in GDP, by the way, is one of the lowest in the world, about 38% - the same level as was in the US in 1950s.
It is not clear how to redistribute GDP into consumption. It would be nice if the debt was low, then it would be possible to increase demand at the expense of debt, but household debt to GDP is the same as in the US, about 67%. In short, It is unclear what they really can do. I heard an interesting opinion that it takes about 1.5 generations, that is, 30 years, to radically change the people behavioral habits. But if these changes take 30 years, then the economy will die to that moment. Besides, if the war for Taiwan also starts, then these same 30 years may well become a lost ones.
Everything starts smelling so that China slowly, and not evidently but is coming to the point where it could become a trigger of huge global financial crisis. The US knows that and keep rates high, apply financial restrictions, cut money supply to accelerate the capital offload out from China.
And with such a background, some analysts still make forecasts that gold could fall to $1100-1250. It is difficult to agree, because oil should fall to $55-60 at the same time, which is hard to imagine even in a scenario without money emission and current oil market conjuncture. And even more so in the super-QE variant.
However, it is an interesting information on the distribution of world gold reserves - in 2019:
View attachment 1692526887024.png
The top five holders are the United States, France, Germany, the IMF and the ECB. So, they drive gold derivatives, such as futures/options among themselves, manipulating gold prices. And articles periodically appearing in the press that "Russia and China are buying up gold ah-ah-ah" are most likely due to the fact that sometimes you have to make physical deliveries and spend some part of the reserves, which nobody wants. And take a look, as Russia as China have not too much gold. There is something, but Italy, for example, has more. By looking at the whole history of the world and recalling mid centuries colonial order, it is become evident who was robbing and whom - just take a look at Africa and Latin America. Huge continents are totally indigent despite that they have one of the biggest mineral deposits, including gold.
ABOUT SILVER
Some analysts suggest that silver is significantly undervalued right now. One analyst called the current price in the $22 an ounce range “inexcusably low.” But many analysts are bullish on silver in the medium term with projections of prices climbing to $50 to $100 an ounce over the next two to five years.
The question is when will we finally start to see this correction?
We can see the growing spread between silver and gold in the silver-gold ratio, currently running at over 84-1. That means it takes over 84 ounces of silver to buy one ounce of gold. To put the current ratio into perspective, the average in the modern era has been between 40:1 and 50:1. Historically, the ratio has always returned to that mean. And when it does, it does it with a vengeance. The ratio fell to 30-1 in 2011 and below 20-1 in 1979.
When the spread gets this wide, silver doesn’t just outperform gold, it goes on a massive run in a short period of time. Since January 2000, this has happened four times. As this chart shows, the snapback is swift and strong.
The widening spread is mostly the result of tighter relation of silver to production sphere. Sagging demand for consumer electronics has impacted industrial demand for both silver and gold. BMO Capital Markets commodities analyst Colin Hamilton noted that while the global economy has held up better than expected in the face of monetary tightening, “This is almost solely down to resiliency in the services economy while the manufacturing side is clearly feeling the strain.”
We’re already seeing a tightening silver supply. While silver demand set records in every category in 2022, supply was flat with mine output falling by 0.6%. This resulted in a 237.7 million ounce market deficit in 2022. It was the second consecutive annual deficit in a row. The Silver Institute called it “possibly the most significant deficit on record.” It also noted that “the combined shortfalls of the previous two years comfortably offset the cumulative surpluses of the last 11 years.”
This trend is not expected to reverse. Silver Bullion Pte Ltd. CEO Gregor Gregersen recently noted that silver mine production has fallen due to a lack of investment.
Meanwhile, we are likely about to see a huge increase in demand for the white metal thanks to the push for green energy. According to a research paper by scientists at the University of New South Wales, solar manufacturers will likely require over 20% of the current annual silver supply by 2027. And by 2050, solar panel production will use approximately 85–98% of the current global silver reserves.
And it’s important to keep in mind that while silver is an industrial metal, more fundamentally, it is money. Despite being more volatile in the short term, silver tends to track with gold over time. If you are inclined to think the Federal Reserve will lose the inflation fight, you should be bullish on both gold and silver.
At some point, investors will have to reckon with the shrinking supply of silver coupled with rising demand, along with the Fed’s inability to bring inflation back to its 2% target. When that happens, the price of silver will likely take off. Given the supply and demand dynamics, the skewed silver-gold ratio and the likelihood that the Fed will not beat price inflation, $22 silver looks like a great buying opportunity. At least we do not see any reasons why not include some part of silver in long-term physical investing portfolio together with gold coins and bullions.
INFLATION WILL RETURN (looking from a bit different side)
Between 2015 and 2021 inflation in most industrialised countries was between 0% and 3%.
When inflation in 2021 shot up significantly, Powell and Lagarde (ECB) proclaimed that that was only “transitory”. Still inflation went up to around 10% before it started to retreat in 2022. As we were discussing this in recent 2 years and brought a lot of articles on this topic - the world is gradually moving from a financial and debt based economy to a one based on real assets and commodities. This will lead to a shift from a financially and morally bankrupt Western system to the East and South based on commodities and manufacturing. This is actually how D. Trump wants to change the US economy, but Democrats and bankers on the back just do not let him to do it.
An up move in commodity prices normally lead inflation by 6-9 months. So when commodity prices turned up in late 2019, inflation followed in most countries in early to mid 2020. After a correction, commodity prices bottomed in March-May 2023 so we could see inflation in the US and Europe turning during the autumn 2023.
So sadly for Powell and Lagarde, their 2% inflation targeting is going to fail again, however much they hypnotise the people to believe it! Instead high inflation and high interest rates will prevail for decades. But it will most certainly involve a very high level of volatility with fast up moves and violent corrections.
Stocks might benefit short term from higher inflation but over the medium and long term they will collapse. Buffett’s favourite indicator, Stocks to GDP is massively overvalued. To decline to the mean would involve a 50% fall. But overbought markets always overshoot. So a 70-90% decline would not be unrealistic. In such scenario, it won’t only be stock prices that decline but GDP could easily fall 10-20% in real terms.
So the conservative conclusion that we could make on long-term is - bonds, especially issued by governments, should be avoided like the plague. Inflation and potential defaults or moratoria will make them the worst investment ever. In addition the debasement of currencies will lead to the value of bonds in real terms reaching ZERO very quickly. It is possible to consider Precious Metals – especially gold and silver and other commodities – especially oil and uranium, but we can't buy them physically, and they care more risk, if even they will rise in price.
Well, as on any other market this week, situation around the gold one was relatively quiet. We've explained already, and did it many times, why gold remains under pressure in nearest few months. The major reason is - high nominal rate in the US and changing of market's sentiment - people start understand that high rate is for long and even could be increased more. Yesterday we've explained why we think that high rate now is more the geopolitical weapon rather that the instrument to put inflation down. Because it would be naive to suggest that as the Fed as Ministry of Finance do not see obvious signs of deterioration in manufacturing, real estate market and households' finance spheres. But this time period will last only until the moment when the new inflation spiral starts spinning up. This is unavoidably and we think that it is not too long to wait. Once this will happen, gold should get twofold support. First is - real rates will turn down again, second - this probably will happen on a background of destruction global finances and jeopardy becomes another supportive factor for gold demand.
A BIT OF POLITICS - OUR 2nd Factor
Yesterday we've discussed in details US-China confrontation and situation slowly is going to hot conflict. Smart people already understand where all this stuff is going to and protests against AUKUS already are started in Australia and slowly spreading across the world. Now US are trying to involve in conflict their allies - Japan and S. Korea, to finalize tight belt around China. In September 2022, Pentagon Chief Lloyd Austin, after a meeting with Japanese Defense Minister Yasukaza Hamada, said that Washington would defend the country using "the entire arsenal of traditional weapons and nuclear capabilities." The Pentagon chief did not specify who exactly could threaten Japan.
In May, Pyongyang, Tokyo and Washington agreed to strengthen trilateral security cooperation and exchange data on missile launches from North Korea. In the spring, the United States and South Korea adopted the Washington Declaration, in which Seoul pledged to promptly use "all the strength of the alliance," including atomic weapons, in the event of a nuclear attack by North Korea. Of course Japan understands everything and does not want to war, but who will be asking them?
North Korean Defense Minister Kang Sun Nam said on Tuesday that a nuclear war on the Korean peninsula will inevitably begin. The Minister said this in his address to the participants of the XI Moscow Conference on International Security. According to him, such a war on the Korean peninsula "is no longer a question of whether it will be, but a question of who will start it and when. The mania of nuclear war on the part of the United States" and their "puppets" in Pyongyang "are turning the Korean Peninsula and Northeast Asia into a new hotbed of nuclear war."
As a response, China launched military drills around Taiwan on Saturday as a "serious warning" to separatist forces in an angry but widely expected response to Vice President William Lai's visit to the United States, drawing condemnation from Taipei.
If we deep Chinese economy conditions a bit deeper than it should make worry the majority of economists. By and large, China's past successes are, on the one hand, the low base effect and, on the other hand, the wildest combination of the savings behavior of the population (providing financial resources) and the investment model on the part of the state (using resources).
Construction of various types generates almost a third of GDP, while, say in Russia, it is only 5%. The problem is that this housing/infrastructure development is mostly a non-productive investment. Yes, for residential real estate the multiplier is rather big, but in itself it does not bring money. Infrastructure in a broad sense too. And we are not talking about power generation. If we stop excess construction and GDP will go down by 20%, and after it the financial markets will be blown away with consumption. And with recent Evergrande incident, it seems that this process is starting.
Exports are slowly declining, the debt is larger than that of the United States. The currency has no reserve status. The share of household consumption in GDP, by the way, is one of the lowest in the world, about 38% - the same level as was in the US in 1950s.
It is not clear how to redistribute GDP into consumption. It would be nice if the debt was low, then it would be possible to increase demand at the expense of debt, but household debt to GDP is the same as in the US, about 67%. In short, It is unclear what they really can do. I heard an interesting opinion that it takes about 1.5 generations, that is, 30 years, to radically change the people behavioral habits. But if these changes take 30 years, then the economy will die to that moment. Besides, if the war for Taiwan also starts, then these same 30 years may well become a lost ones.
Everything starts smelling so that China slowly, and not evidently but is coming to the point where it could become a trigger of huge global financial crisis. The US knows that and keep rates high, apply financial restrictions, cut money supply to accelerate the capital offload out from China.
And with such a background, some analysts still make forecasts that gold could fall to $1100-1250. It is difficult to agree, because oil should fall to $55-60 at the same time, which is hard to imagine even in a scenario without money emission and current oil market conjuncture. And even more so in the super-QE variant.
However, it is an interesting information on the distribution of world gold reserves - in 2019:
View attachment 1692526887024.png
The top five holders are the United States, France, Germany, the IMF and the ECB. So, they drive gold derivatives, such as futures/options among themselves, manipulating gold prices. And articles periodically appearing in the press that "Russia and China are buying up gold ah-ah-ah" are most likely due to the fact that sometimes you have to make physical deliveries and spend some part of the reserves, which nobody wants. And take a look, as Russia as China have not too much gold. There is something, but Italy, for example, has more. By looking at the whole history of the world and recalling mid centuries colonial order, it is become evident who was robbing and whom - just take a look at Africa and Latin America. Huge continents are totally indigent despite that they have one of the biggest mineral deposits, including gold.
ABOUT SILVER
Some analysts suggest that silver is significantly undervalued right now. One analyst called the current price in the $22 an ounce range “inexcusably low.” But many analysts are bullish on silver in the medium term with projections of prices climbing to $50 to $100 an ounce over the next two to five years.
The question is when will we finally start to see this correction?
We can see the growing spread between silver and gold in the silver-gold ratio, currently running at over 84-1. That means it takes over 84 ounces of silver to buy one ounce of gold. To put the current ratio into perspective, the average in the modern era has been between 40:1 and 50:1. Historically, the ratio has always returned to that mean. And when it does, it does it with a vengeance. The ratio fell to 30-1 in 2011 and below 20-1 in 1979.
When the spread gets this wide, silver doesn’t just outperform gold, it goes on a massive run in a short period of time. Since January 2000, this has happened four times. As this chart shows, the snapback is swift and strong.
The widening spread is mostly the result of tighter relation of silver to production sphere. Sagging demand for consumer electronics has impacted industrial demand for both silver and gold. BMO Capital Markets commodities analyst Colin Hamilton noted that while the global economy has held up better than expected in the face of monetary tightening, “This is almost solely down to resiliency in the services economy while the manufacturing side is clearly feeling the strain.”
We’re already seeing a tightening silver supply. While silver demand set records in every category in 2022, supply was flat with mine output falling by 0.6%. This resulted in a 237.7 million ounce market deficit in 2022. It was the second consecutive annual deficit in a row. The Silver Institute called it “possibly the most significant deficit on record.” It also noted that “the combined shortfalls of the previous two years comfortably offset the cumulative surpluses of the last 11 years.”
This trend is not expected to reverse. Silver Bullion Pte Ltd. CEO Gregor Gregersen recently noted that silver mine production has fallen due to a lack of investment.
Meanwhile, we are likely about to see a huge increase in demand for the white metal thanks to the push for green energy. According to a research paper by scientists at the University of New South Wales, solar manufacturers will likely require over 20% of the current annual silver supply by 2027. And by 2050, solar panel production will use approximately 85–98% of the current global silver reserves.
And it’s important to keep in mind that while silver is an industrial metal, more fundamentally, it is money. Despite being more volatile in the short term, silver tends to track with gold over time. If you are inclined to think the Federal Reserve will lose the inflation fight, you should be bullish on both gold and silver.
At some point, investors will have to reckon with the shrinking supply of silver coupled with rising demand, along with the Fed’s inability to bring inflation back to its 2% target. When that happens, the price of silver will likely take off. Given the supply and demand dynamics, the skewed silver-gold ratio and the likelihood that the Fed will not beat price inflation, $22 silver looks like a great buying opportunity. At least we do not see any reasons why not include some part of silver in long-term physical investing portfolio together with gold coins and bullions.
INFLATION WILL RETURN (looking from a bit different side)
Between 2015 and 2021 inflation in most industrialised countries was between 0% and 3%.
When inflation in 2021 shot up significantly, Powell and Lagarde (ECB) proclaimed that that was only “transitory”. Still inflation went up to around 10% before it started to retreat in 2022. As we were discussing this in recent 2 years and brought a lot of articles on this topic - the world is gradually moving from a financial and debt based economy to a one based on real assets and commodities. This will lead to a shift from a financially and morally bankrupt Western system to the East and South based on commodities and manufacturing. This is actually how D. Trump wants to change the US economy, but Democrats and bankers on the back just do not let him to do it.
An up move in commodity prices normally lead inflation by 6-9 months. So when commodity prices turned up in late 2019, inflation followed in most countries in early to mid 2020. After a correction, commodity prices bottomed in March-May 2023 so we could see inflation in the US and Europe turning during the autumn 2023.
So sadly for Powell and Lagarde, their 2% inflation targeting is going to fail again, however much they hypnotise the people to believe it! Instead high inflation and high interest rates will prevail for decades. But it will most certainly involve a very high level of volatility with fast up moves and violent corrections.
Stocks might benefit short term from higher inflation but over the medium and long term they will collapse. Buffett’s favourite indicator, Stocks to GDP is massively overvalued. To decline to the mean would involve a 50% fall. But overbought markets always overshoot. So a 70-90% decline would not be unrealistic. In such scenario, it won’t only be stock prices that decline but GDP could easily fall 10-20% in real terms.
So the conservative conclusion that we could make on long-term is - bonds, especially issued by governments, should be avoided like the plague. Inflation and potential defaults or moratoria will make them the worst investment ever. In addition the debasement of currencies will lead to the value of bonds in real terms reaching ZERO very quickly. It is possible to consider Precious Metals – especially gold and silver and other commodities – especially oil and uranium, but we can't buy them physically, and they care more risk, if even they will rise in price.
