Sive Morten
Special Consultant to the FPA
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Fundamentals
Gold market has shown impressive rally this week, stronger than currency markets and stock market. Hopefully, there is something else on the back, beyond just US Dollar weakness. In general we have friendly background for changing of investors' mind and take a fresh look at the gold market. Technical picture also doesn't contradict to idea of major reversal. As we've mentioned in our Telegram channel, US domestic political struggle accelerates. D. Trump, Reps and his followers have got a second breath after publication of censored Twitter files that put the shadow on 2020 elections, J&H Biden and its activity on Ukraine. Where this road will lead is yet to be seen. But any instability inside the US could lead to big shifts in global policy, to say the least, especially if it will be accompanied by political elites replacement. It is interesting by the way, whether it will make any impact on markets on Monday's open.
Market overview
Gold prices rose 2% on Thursday to climb above the key $1,800 per ounce pivot, as the dollar weakened on the prospect of slower rate hikes from the Federal Reserve and signs of cooling U.S. inflation.
Powell on Wednesday said it was time to slow the pace of interest rate hikes, but added that controlling inflation "will require holding policy at a restrictive level for some time". The dollar fell more than 1% to a near four-month low against rival currencies, making gold less expensive for overseas buyers.Traders are pricing in a 91% probability that the Fed increases rates by 50 basis points on Dec. 14.
Further supporting bets around slower rate hikes, data showed moderation in the inflation trend last month, boosting interest in gold, analysts said. On the technical front, gold is trading above its 50-day, 100-day and 200-day moving averages, which is considered a bullish signal by traders.
JPMorgan will join HSBC in storing bullion for the world's biggest gold-backed exchange-traded fund (ETF), the fund's operator said on Thursday, ending its rival's sole guardianship of the $52-billion stash of gold. The change, which begins on Dec. 6, is a boon for JPMorgan, which could rake in millions of dollars of storage fees.
HSBC had been the sole custodian for SPDR Gold Trust, also known as GLD, since it launched in 2004. The bank currently stores about 910 tonnes of gold for GLD in London -- around a quarter of all the gold held for ETFs globally.
"The addition of JPM will change the current, single-custodian and vault operating model, to accommodate the activity of the fund in anticipation of future growth," the World Gold Council (WGC), which runs the fund, said in a statement. WGC executive Joe Cavatoni said the council wanted to diversify its storage and adding JPMorgan "gives us another commercial entity with a vested interest in supporting the product."
He said the WGC would seek to funnel gold to JPMorgan, for example by sending it new metal added to the fund, and held out the possibility of an eventual even split between the two banks.
Typical fees for large clients like GLD are around 0.03-0.04% of the value of the gold stored, a market source said. That means equal division of the fund's 910 tonnes would see JPMorgan take revenue of around $8-10 million a year from HSBC. Cavatoni said the WGC's agreement with JPMorgan allowed it to store gold in the United States and Switzerland but for the time the fund intended continue storing all its gold in London.
Meantime SPDR Fund reserves do not show yet any shifts and response on recent rally, keeping amount of reserves around the same 905-910 tonnes:
What many people saw as an open goal for the Federal Reserve chair on Wednesday, it seems Jerome Powell saw as a potential own goal. Nearly everyone expected him to use his eagerly awaited speech on the economic outlook and the labor market at the Brookings Institution think tank to push back on the significant easing of U.S. financial conditions in recent weeks.
Looser financial conditions - higher equities, lower dollar and bond yields, tighter credit spreads - make it harder for the Fed to succeed in its fight to cool the economy and get inflation back down towards target. According to Goldman Sachs's financial conditions index (FCI), they have loosened over the last two months despite two 75-basis points rate hikes and promises from Fed officials - including Powell - of more tightening to come.
They have loosened significantly since Wall Street's cycle low in mid-October, and since the Fed's Nov. 2 policy meeting, leading most observers to think Powell would lean against markets on Wednesday, at least a bit. But he refused to do so and investors were caught miles offside: the S&P 500 and Nasdaq both recorded their second biggest rises in over two years, adding 3.1% and 4.4%, respectively.
According to Morgan Stanley, the relief rally that engulfed risk assets produced the second-largest year-to-date easing in U.S. financial conditions, worth 30 basis points. Goldman's FCI fell 21 bps to its lowest since Sept. 12, overwhelmingly led by the move in equities. By this measure, financial conditions now are easier than they were before the Fed's September and November rate hikes.
The lagged effects of this year's 425 bps of rate hikes have still to play out in the economy and the "pain" that Powell has previously warned is coming will be felt next year. Several measures of inflation suggest price pressures have peaked and are now steadily declining. Economic and labor market data this week suggest the Fed's most aggressive rate-hiking cycle in four decades is starting to bite.
The Chicago purchasing managers index, a measure of factory activity in the Midwest, and the national ISM manufacturing index both slumped in November to levels typically associated with recession.
Meanwhile, private sector job growth across the country last month was far weaker than expected too.
To be clear, the Fed isn't completely turning its back on financial conditions. In his Q&A on Wednesday Powell repeated his view that a better barometer for policymakers is the extent to which real rates are positive.
By this measure, financial conditions have tightened considerably in recent months. Inflation-adjusted Treasury yields hit their highest in over a decade last month, rebounding sharply from historically negative levels earlier this year.
Economists at Piper Sandler argue that Powell did not say anything new, and note that markets usually rally after his public communications. If the Fed decides it does want to push back against the market's interpretation of his latest comments, it might have to wait.
CHINA
In recent month we talk a lot about the US, EU, like world crisis is limited only there. But, it is not correct that 2nd largest economy remains in shadow and not properly considered. Commonly it is counted that China is OK after pandemic was defeated, and it is strong foundation of global economy that could smooth and minimize crisis as the world largest production cluster. But, with closer look at Chinese economy, it becomes evident that not everything is good, and, in fact, China also could become the side where crisis could come from. This is not just our observation.
International Monetary Fund Managing Director Kristalina Georgieva flagged rising inflationary pressures and China's economic slowdown as risks to Asia's economic outlook, calling on policymakers to rebuild their buffers against future shocks. China's strict COVID lockdowns have weighted on already slowing global growth by dampening domestic economic activity and disrupting supply chains for manufacturers across the world. The fallout from China's slowdown has been particularly painful in Asia, where factory activity slumped across the region in November.
Of course, this is huge topic for discussion, and today we take a look at some "painful" moments of Chinese economy. Better understanding of this subject covers the waterfront of gold importance, how its role appears from multiple economic and politics aspects across the Globe. Dealing with Chinese statistics is a big challenge as not correct a bit, as country takes the way to become a close-end and provide as less statistics as it could. First of all, let's take a look at bulk of data. Even without some details, the average tendency is clear:
Macroeconomic data shows a serious deterioration of the situation in the entire global economy. In the US, this is primarily construction data, industrial production, labor statistics are also suspicious, in the EU — data on sales and inflation. Industrial stagnation has clearly begun in China, not to say "recession". And there are serious reasons to believe that this is the reason for the unrest in China: objective economic indicators require the closure of a number of enterprises, and it is very scary to do this.
Risks to the stability of China's financial system are rising on continued sluggishness in its property sector and an economic slowdown, making smaller banks more vulnerable, rating agency Moody's said on Friday. China's property sector has slowed sharply this year after Beijing's efforts reined in excessive borrowing by developers. The clamp down has triggered falls in property investment, sales and prices, and a growing number of bond defaults.
Recent CV19 protests in China mostly come due total intolerance of the government to the human rights and using the same strict measures as in 2020 when they are not needed anymore. Now 100% of Chinese are vaccinated few times, no lethal cases, very low ratio of diseased and very light symptoms make unnecessary strict isolation, hourly testing etc. Totalitarian methods of struggle hurt people life. Speaking on economical effect - it crushes personal consumption and hurt retail sales, destroying sport, culture, entertainments, outside food spheres as you could see on the chart. The concept of focusing on domestic demand and the development of the middle class is being destroyed through the collapse of the consumer market. We could call it as CV-19 terror probably. China is becoming a textbook example when the fight against COVID produces more damage and casualties than COVID itself.
One of China's main problems is the build–up of debt at a rate significantly exceeding the ability of the economy to absorb its obligations. The price of the COVID crisis for China is $16.5 trillion of debt momentum from December 2019 to March 2022. There is no comparable analogue in the world. (US - $10 Trln, EU - $3.1 Trln.) Before the 2008 financial crisis, China's non-financial debt was $5.7 trillion, 10 years ago (in 2012) non-financial debt increased 2.5 times to $14.5 trillion, 5 years ago it doubled to $28 trillion, now (at the beginning of Q2 2022) China's non-financial debt is $53.6 trillion dollars, i.e. almost doubling again. The growth of almost 10 times since 2008 is significant.
China is creating a "new Japan" in 4 years. The entire Eurozone is a "pathetic" 37 trillion that China has issued in 9 years. The critically over–indebted UK holds about 9 trillion in debt, while the US has 65 trillion in debt on the balance sheet. At this rate, by 2024, China will become the most over-credited country in the world, overtaking the United States. Here's an unexpected twist…
The extreme China debt ratio (I would say over-debt) is alarming, because the debt model of development in China works until the flywheel is actively spinning, i.e. while there is a GDP growth of 6-8%, an increase in industrial production and consumer demand of 8-10%. As long as the revenue of the business, the income of the state and the population grow – this allows you to hide inefficiency on the trajectory of extreme debt growth, but if it stops and problems may begin.
2022 will be very weak for China – no more than 3% of economic growth, not counting 2020, this will be the lowest growth rate in 50 years. The weakness of the economy, as we've said above is deteriorating of the growth fundamentals in China since 2009 - domestic consumption and a attempt to create healthy middle class. The unstoppable COVID terror destroyed the fragile structure of the consumer economy, and the export segment began to slow down sharply after demand cooled in developed countries due stopping of QE.
China's total non-financial debt reached 292% of GDP by the beginning of the second quarter of 2022. Among all the major countries in the world, only Japan (425%), France (353%) and Canada (325%) have a larger debt burden. China has overtaken countries and regions such as the USA (275% of GDP), the Eurozone (273%) and the UK (271%) in terms of debt burden.
However, in terms of the cost of debt servicing relative to the income of economic agents, China is ahead of all countries of the world, since the weighted average cost of debt servicing in Japan and France is lower than in China due to lower market and credit rates.
The system is stabilized by the fact that almost all of the debt is internal, distributed among state-controlled financial structures, as in Japan. However, this does not change the disposition with unacceptable debt servicing costs, which suppresses economic activity and increases the risk of defaults/bankruptcies. The rising cost of debt servicing, significant overproduction in many areas (real estate stands out especially), COVID terror with unacceptable and irrational quarantine restrictions, plus a decline in the export economy (due to falling demand in developed countries) - all this affects the braking momentum of China's economic development. China is like a running bycicle - it's stable until its running...
The only chance for political destabilization is if the opposition in China, which was defeated at the last congress of the Communist Party, starts shaking the boat, using the factor of discontent with lockdowns as a battering ram for the central government. But this scenario looks hardly likely. In the hierarchy of priorities of destabilizing factors, the debt burden is in the absolute first place and it is over-crediting that will become China's main problem in the medium and long term. It is becoming harder and harder for Chinese economy to transfer financial resources and debt into GDP growth. Slowdown is obvious now. Rising concerns around EU economy and general Global crisis could accelerate devastating processes inside China (especially on a background of geopolitical conflict) and it could become the major booster of global recession. Here we could see how the structure of global crisis, based of fundamentals, coming from different sides create the relative, indirect background for capital redistribution, where obviously gold should take larger part than it has now.
Gold market has shown impressive rally this week, stronger than currency markets and stock market. Hopefully, there is something else on the back, beyond just US Dollar weakness. In general we have friendly background for changing of investors' mind and take a fresh look at the gold market. Technical picture also doesn't contradict to idea of major reversal. As we've mentioned in our Telegram channel, US domestic political struggle accelerates. D. Trump, Reps and his followers have got a second breath after publication of censored Twitter files that put the shadow on 2020 elections, J&H Biden and its activity on Ukraine. Where this road will lead is yet to be seen. But any instability inside the US could lead to big shifts in global policy, to say the least, especially if it will be accompanied by political elites replacement. It is interesting by the way, whether it will make any impact on markets on Monday's open.
Market overview
Gold prices rose 2% on Thursday to climb above the key $1,800 per ounce pivot, as the dollar weakened on the prospect of slower rate hikes from the Federal Reserve and signs of cooling U.S. inflation.
"We've established a price uptrend on the daily chart which invited technical-based buying... we're seeing the dovish lean by (Fed Chair Jerome Powell) supporting the commodity markets and seen the U.S. dollar index back off," said Jim Wyckoff, senior analyst at Kitco Metals.
Powell on Wednesday said it was time to slow the pace of interest rate hikes, but added that controlling inflation "will require holding policy at a restrictive level for some time". The dollar fell more than 1% to a near four-month low against rival currencies, making gold less expensive for overseas buyers.Traders are pricing in a 91% probability that the Fed increases rates by 50 basis points on Dec. 14.
Further supporting bets around slower rate hikes, data showed moderation in the inflation trend last month, boosting interest in gold, analysts said. On the technical front, gold is trading above its 50-day, 100-day and 200-day moving averages, which is considered a bullish signal by traders.
"With the Fed on pause, decreasing U.S. real yields drive our bullish baseline outlook for gold and silver prices over the back half of next year," analysts at JP Morgan said in a note.
JPMorgan will join HSBC in storing bullion for the world's biggest gold-backed exchange-traded fund (ETF), the fund's operator said on Thursday, ending its rival's sole guardianship of the $52-billion stash of gold. The change, which begins on Dec. 6, is a boon for JPMorgan, which could rake in millions of dollars of storage fees.
HSBC had been the sole custodian for SPDR Gold Trust, also known as GLD, since it launched in 2004. The bank currently stores about 910 tonnes of gold for GLD in London -- around a quarter of all the gold held for ETFs globally.
"The addition of JPM will change the current, single-custodian and vault operating model, to accommodate the activity of the fund in anticipation of future growth," the World Gold Council (WGC), which runs the fund, said in a statement. WGC executive Joe Cavatoni said the council wanted to diversify its storage and adding JPMorgan "gives us another commercial entity with a vested interest in supporting the product."
He said the WGC would seek to funnel gold to JPMorgan, for example by sending it new metal added to the fund, and held out the possibility of an eventual even split between the two banks.
"If we get to the point where there's a very equal balance between the relationships, that would be exciting for us," he said.
Typical fees for large clients like GLD are around 0.03-0.04% of the value of the gold stored, a market source said. That means equal division of the fund's 910 tonnes would see JPMorgan take revenue of around $8-10 million a year from HSBC. Cavatoni said the WGC's agreement with JPMorgan allowed it to store gold in the United States and Switzerland but for the time the fund intended continue storing all its gold in London.
Meantime SPDR Fund reserves do not show yet any shifts and response on recent rally, keeping amount of reserves around the same 905-910 tonnes:
What many people saw as an open goal for the Federal Reserve chair on Wednesday, it seems Jerome Powell saw as a potential own goal. Nearly everyone expected him to use his eagerly awaited speech on the economic outlook and the labor market at the Brookings Institution think tank to push back on the significant easing of U.S. financial conditions in recent weeks.
Looser financial conditions - higher equities, lower dollar and bond yields, tighter credit spreads - make it harder for the Fed to succeed in its fight to cool the economy and get inflation back down towards target. According to Goldman Sachs's financial conditions index (FCI), they have loosened over the last two months despite two 75-basis points rate hikes and promises from Fed officials - including Powell - of more tightening to come.
They have loosened significantly since Wall Street's cycle low in mid-October, and since the Fed's Nov. 2 policy meeting, leading most observers to think Powell would lean against markets on Wednesday, at least a bit. But he refused to do so and investors were caught miles offside: the S&P 500 and Nasdaq both recorded their second biggest rises in over two years, adding 3.1% and 4.4%, respectively.
According to Morgan Stanley, the relief rally that engulfed risk assets produced the second-largest year-to-date easing in U.S. financial conditions, worth 30 basis points. Goldman's FCI fell 21 bps to its lowest since Sept. 12, overwhelmingly led by the move in equities. By this measure, financial conditions now are easier than they were before the Fed's September and November rate hikes.
The lagged effects of this year's 425 bps of rate hikes have still to play out in the economy and the "pain" that Powell has previously warned is coming will be felt next year. Several measures of inflation suggest price pressures have peaked and are now steadily declining. Economic and labor market data this week suggest the Fed's most aggressive rate-hiking cycle in four decades is starting to bite.
The Chicago purchasing managers index, a measure of factory activity in the Midwest, and the national ISM manufacturing index both slumped in November to levels typically associated with recession.
Meanwhile, private sector job growth across the country last month was far weaker than expected too.
To be clear, the Fed isn't completely turning its back on financial conditions. In his Q&A on Wednesday Powell repeated his view that a better barometer for policymakers is the extent to which real rates are positive.
By this measure, financial conditions have tightened considerably in recent months. Inflation-adjusted Treasury yields hit their highest in over a decade last month, rebounding sharply from historically negative levels earlier this year.
Economists at Piper Sandler argue that Powell did not say anything new, and note that markets usually rally after his public communications. If the Fed decides it does want to push back against the market's interpretation of his latest comments, it might have to wait.
"The December FOMC blackout period starts on Saturday, so realistically the next opportunity for the Fed to correct market perception, again if needed, is the FOMC statement and press conference on Dec. 14," they wrote in a note on Thursday.
CHINA
In recent month we talk a lot about the US, EU, like world crisis is limited only there. But, it is not correct that 2nd largest economy remains in shadow and not properly considered. Commonly it is counted that China is OK after pandemic was defeated, and it is strong foundation of global economy that could smooth and minimize crisis as the world largest production cluster. But, with closer look at Chinese economy, it becomes evident that not everything is good, and, in fact, China also could become the side where crisis could come from. This is not just our observation.
International Monetary Fund Managing Director Kristalina Georgieva flagged rising inflationary pressures and China's economic slowdown as risks to Asia's economic outlook, calling on policymakers to rebuild their buffers against future shocks. China's strict COVID lockdowns have weighted on already slowing global growth by dampening domestic economic activity and disrupting supply chains for manufacturers across the world. The fallout from China's slowdown has been particularly painful in Asia, where factory activity slumped across the region in November.
Of course, this is huge topic for discussion, and today we take a look at some "painful" moments of Chinese economy. Better understanding of this subject covers the waterfront of gold importance, how its role appears from multiple economic and politics aspects across the Globe. Dealing with Chinese statistics is a big challenge as not correct a bit, as country takes the way to become a close-end and provide as less statistics as it could. First of all, let's take a look at bulk of data. Even without some details, the average tendency is clear:
Macroeconomic data shows a serious deterioration of the situation in the entire global economy. In the US, this is primarily construction data, industrial production, labor statistics are also suspicious, in the EU — data on sales and inflation. Industrial stagnation has clearly begun in China, not to say "recession". And there are serious reasons to believe that this is the reason for the unrest in China: objective economic indicators require the closure of a number of enterprises, and it is very scary to do this.
Risks to the stability of China's financial system are rising on continued sluggishness in its property sector and an economic slowdown, making smaller banks more vulnerable, rating agency Moody's said on Friday. China's property sector has slowed sharply this year after Beijing's efforts reined in excessive borrowing by developers. The clamp down has triggered falls in property investment, sales and prices, and a growing number of bond defaults.
"Some buffers protecting the financial system are eroding, which would pose risks if the property downturn becomes protracted," Moody's said in a report, adding that sluggish demand kept the outlook negative for the real estate sector. Risks to the stability of China's financial system are rising amid a contraction in the property sector and the country's economic slowdown."
Recent CV19 protests in China mostly come due total intolerance of the government to the human rights and using the same strict measures as in 2020 when they are not needed anymore. Now 100% of Chinese are vaccinated few times, no lethal cases, very low ratio of diseased and very light symptoms make unnecessary strict isolation, hourly testing etc. Totalitarian methods of struggle hurt people life. Speaking on economical effect - it crushes personal consumption and hurt retail sales, destroying sport, culture, entertainments, outside food spheres as you could see on the chart. The concept of focusing on domestic demand and the development of the middle class is being destroyed through the collapse of the consumer market. We could call it as CV-19 terror probably. China is becoming a textbook example when the fight against COVID produces more damage and casualties than COVID itself.
One of China's main problems is the build–up of debt at a rate significantly exceeding the ability of the economy to absorb its obligations. The price of the COVID crisis for China is $16.5 trillion of debt momentum from December 2019 to March 2022. There is no comparable analogue in the world. (US - $10 Trln, EU - $3.1 Trln.) Before the 2008 financial crisis, China's non-financial debt was $5.7 trillion, 10 years ago (in 2012) non-financial debt increased 2.5 times to $14.5 trillion, 5 years ago it doubled to $28 trillion, now (at the beginning of Q2 2022) China's non-financial debt is $53.6 trillion dollars, i.e. almost doubling again. The growth of almost 10 times since 2008 is significant.
China is creating a "new Japan" in 4 years. The entire Eurozone is a "pathetic" 37 trillion that China has issued in 9 years. The critically over–indebted UK holds about 9 trillion in debt, while the US has 65 trillion in debt on the balance sheet. At this rate, by 2024, China will become the most over-credited country in the world, overtaking the United States. Here's an unexpected twist…
The extreme China debt ratio (I would say over-debt) is alarming, because the debt model of development in China works until the flywheel is actively spinning, i.e. while there is a GDP growth of 6-8%, an increase in industrial production and consumer demand of 8-10%. As long as the revenue of the business, the income of the state and the population grow – this allows you to hide inefficiency on the trajectory of extreme debt growth, but if it stops and problems may begin.
2022 will be very weak for China – no more than 3% of economic growth, not counting 2020, this will be the lowest growth rate in 50 years. The weakness of the economy, as we've said above is deteriorating of the growth fundamentals in China since 2009 - domestic consumption and a attempt to create healthy middle class. The unstoppable COVID terror destroyed the fragile structure of the consumer economy, and the export segment began to slow down sharply after demand cooled in developed countries due stopping of QE.
China's total non-financial debt reached 292% of GDP by the beginning of the second quarter of 2022. Among all the major countries in the world, only Japan (425%), France (353%) and Canada (325%) have a larger debt burden. China has overtaken countries and regions such as the USA (275% of GDP), the Eurozone (273%) and the UK (271%) in terms of debt burden.
However, in terms of the cost of debt servicing relative to the income of economic agents, China is ahead of all countries of the world, since the weighted average cost of debt servicing in Japan and France is lower than in China due to lower market and credit rates.
The system is stabilized by the fact that almost all of the debt is internal, distributed among state-controlled financial structures, as in Japan. However, this does not change the disposition with unacceptable debt servicing costs, which suppresses economic activity and increases the risk of defaults/bankruptcies. The rising cost of debt servicing, significant overproduction in many areas (real estate stands out especially), COVID terror with unacceptable and irrational quarantine restrictions, plus a decline in the export economy (due to falling demand in developed countries) - all this affects the braking momentum of China's economic development. China is like a running bycicle - it's stable until its running...
The only chance for political destabilization is if the opposition in China, which was defeated at the last congress of the Communist Party, starts shaking the boat, using the factor of discontent with lockdowns as a battering ram for the central government. But this scenario looks hardly likely. In the hierarchy of priorities of destabilizing factors, the debt burden is in the absolute first place and it is over-crediting that will become China's main problem in the medium and long term. It is becoming harder and harder for Chinese economy to transfer financial resources and debt into GDP growth. Slowdown is obvious now. Rising concerns around EU economy and general Global crisis could accelerate devastating processes inside China (especially on a background of geopolitical conflict) and it could become the major booster of global recession. Here we could see how the structure of global crisis, based of fundamentals, coming from different sides create the relative, indirect background for capital redistribution, where obviously gold should take larger part than it has now.