Sive Morten
Special Consultant to the FPA
- Messages
- 18,635
Fundamentals
As we've got more or less positive NFP data, logically it has made some pressure on gold market last week. Positive data suggests that no hurt yet comes to economy from Fed tightening policy and Fed has more room to proceed and push rates higher. This theoretically should increase real interest rates and makes short-term negative impact on the gold. The major question is to how treat current statistics. Positive numbers accompanied with dangerous moments on the US bond market and Fed has very limited tools to control it, as we've discussed on our FX weekly report. But, as we know, the bond market and interest rates is the major driving factor for the gold. The deteriorating processes are going in the US economy, but they are not visible yet in statistics, partially because Fed tries to hide it and minimize negative effect. But the changes that we see this week makes us to follow our long-term view and no reasons by far to change it.
Market overview
Right before NFP release gold edged higher to build on last week’s advance as the dollar declined amid buoyant risk sentiment in other markets. European stocks and US futures gained on Monday after China relaxed some of the strictest virus controls of the pandemic. The greenback retreated as demand for the haven currency diminished.
The precious metal rose last week on signs the Federal Reserve’s tightening path may not be as aggressive as feared. The personal consumption expenditures price index, a gauge favored by the Fed, showed inflation cooling in April from March, according to data released Friday, while minutes of the central bank’s latest meeting were less hawkish than expected.
Bullion has risen past $1,850 an ounce in the second half of May as concerns about aggressive Fed rate hikes are balanced by the possibility they’ll lead to a recession in the US.
U.S. dollar advanced on Wednesday after stronger-than-expected economic data was unable to assuage investor concerns of high inflation and an impending recession driven partly by rising oil prices. A report by the Institute for Supply Management (ISM) showed U.S. manufacturing activity picked up in May as demand for goods remained strong even with rising prices.
The survey followed data released last Friday showing U.S. consumer spending, the largest contributor to American economic output, increased in April even amid growing concerns of a recession. Market sentiment, however, has remained bearish due to the prevailing uncertainty caused by the pace of the U.S. Federal Reserve's interest rate hikes, and the impact of the Russia-Ukraine war on food and commodity prices.
Global equity markets fell as U.S. Treasury yields reached two-week highs on Friday after data showed the American economy generated a greater-than-expected number of jobs in May, signaling the Federal Reserve will likely continue raising interest rates in its effort to curb inflation. The Labor Department's closely watched employment report showed the U.S. economy added 390,000 jobs in May, with the unemployment rate holding steady at 3.6% for a third straight month, beating most analyst estimates.
Traders were hoping the jobs report would reveal stronger signs of weakness in the U.S. economy that would help persuade the Fed to soften its stance on inflation and interest rates to avoid triggering a recession.
U.S. Treasury yields advanced to two-week highs after the strong jobs data. Benchmark 10-year notes were up at 2.946%, while the rate-sensitive two-year year note gained and was up at 2.6606%. Gold prices fell nearly 1% after bullion's appeal was dented by the rise in the U.S. dollar and Treasury yields following the strong jobs data.
Data for commodity funds showed investors exited gold and precious metal funds worth $521 billion after purchases of $1.33 billion in the previous week.
Different look at inflation
So, the belief is taking hold that economic growth is already being choked out of the system, and that inflation is already over. That’s very questionable. The following chart is from a fascinating Man Group paper on investing in inflationary regimes by Teun Draaisma, Campbell R. Harvey, Henry Neville, Ben Funnell and Otto van Hemert, which can be found in summary form here, and with all the statistics you could possibly want here. The researchers identified six inflationary eras since the 1920s. Here they are, along with the performance of the stock market, and the recession periods when growth was negative:
Several things jump out from this. First, inflation regimes seldom overlap with recessions, with the stagflationary 1970s the significant exception. Usually, inflationary eras tend to last somewhat longer than recessions (the Great Depression was the major outlier) and to end immediately before the recession starts. Second, the volatility of inflation has reduced dramatically in the last three decades. Typically when inflation is let out of the bottle, a period of sharply varying inflation ensues, with several separate peaks. This was the pattern both around World War II and during the “Great Inflation” era of the 1970s. Inflation may well have just made a peak; history suggests that we can expect subsequent waves and heightened volatility before it’s over.
If we look at the US and the UK, which has tended to have a worse problem with rising prices and has now seen headline inflation reach double figures, it’s again clear that inflation tends to move in waves. It doesn’t reach a higher plateau and stay there:
That suggests that even though the focus is already shifting to whether there is evidence of a growth slowdown — and a lot of measures are slowing down, but nothing yet suggests outright sustained negative growth — there’s a strong chance that by the end of the year we’ll be waiting to see how low inflation can go, and then bracing for another “wave.” Even if inflation does continue to decline for the next few months, which is likely, it would be wise to position for further bouts before this inflationary era is over.
As for commodities, substantially everything managed to protect you from inflation, but some (energy and precious metals) did much better than others:
The rally in commodities so far likely limits the gains that can be made from here. But it’s impossible to ignore this sector if you think inflation will keep rising.
higher food prices are having a disproportionate impact on inflation and incomes in the emerging world. Many of these commodities are priced in US dollars on global markets, and the strength of the dollar has further exacerbated the inflationary impact.
A sizeable share of household income is spent on food. Before prices began to rise, food already accounted for over 15% of the inflation basket in advanced economies, and this proportion will be higher for lower income individuals. That percentage jumps to around 20-25% of the inflation basket in the Latin America, emerging Asia and ‘Central & Eastern Europe, Middle East, North Africa’ regions, and a massive 40% in Sub-Saharan Africa
Rising food prices have historically been associated with political instability in developing countries. Surging prices of wheat in 2010 were said to have been a key driver behind the Arab Spring, while anger at record food prices contributed to recent protests against the government in Sri Lanka. Amid concerns about potential food shortages and rising prices, a number of countries have placed restrictions on the export of certain foods to other countries.
As inflation soars across the globe, the surge in food prices is exacerbating current economic and social problems in the developing world. Against this ominous backdrop, the risk of political instability is likely to be on the rise. According to Fathom’s Financial Vulnerability indicator, Western Asia and the Middle East & North Africa look especially at risk of a sovereign crisis. This is, however, a global story with the risk over the coming year now at its highest since 2012.
US Bond market problems
Last week, guys, we already have mentioned that Fed already has floating losses bonds that it has on its balance, standing for ~ $330 Bln. Treasuries dealers and big banks foresee liquidity problems in the US "Bond distribution" system, counted for more than $20 Trln. Dealers worry that Fed could not find the buyers for "toxic" US Treasury bonds with "-6%" yield. And this already comes to reality. We also have made the suggestion (Based on Spydell analysis), that Fed probably intends to use the US Treasury cash position to finance lack of demand on the bond market.
Besides, to the degree that the Fed’s retreat does impact yields, it will most likely be higher. Many analysts thought the Fed kept benchmark yields artificially low and contributed to a brief inversion of the Treasury yield curve in April.
When the BlackRock asset manager talked that yield hardly increases 3% this year, he means the same, that Fed tries to hold it under control, to hide recession processes in the economy and postpone inflation impact on post-election period, after November, or, at least, tries to keep it as long as possible.
Because, just take a look - the US government bond market, high yield market and US IPO are mostly paralyzed. Yes this happens before as well, but not three months in a row and with different economy conditions.
The same you could see on High Yield bonds. Previously it counts for 25% of total bonds issue, but now it is barely above the 4%:
But we see rally on the stock market and stable-to-low interest rates. Who is paying for this banket? The answer is - US Treasury. Last week its cash account was around 900+ Bln. Take a look - within a week it has dropped for ~ $140Bln:
This is the precise sum that the US financial system, banks have got within recent week. As a result, market "set the bottom" in mid-May, moving into growth. The total liquidity in the system from the Fed and Treasury has increased by 168 billion since the end of April in the absence of QE. The plan is to compensate (or cover) the reducing of the Fed's balance sheet by 190 billion in 3 months (QT programme) by the cash position of the US Treasury – they have 780 billion left there to balance.
Problems will begin when the cache will be spent. With closed capital markets and a frozen treasury market the road to hell is opened. Just control Treasury cash position on Fed Reserve account. Additionally we will update other indicators to understand the whole process in details.
Finally, the positive viewers appeal to strong consumption, speaking, where do you see the recession - take a look at employment, take a look at consumption. We already talked about employment. As stock market keep going lower, people who enjoy stocks "welfare" from invested Covid stimulus will lost them very soon. Approximately this is 5 Mln people, that should start searching job very soon. Now they are not included in unemployment statistics as they do not search for the job by far. As a result unemployment very fast should jump to 8-9%.
Speaking on consumption - yes, indeed, recent data looks not bad. But how people pay for consumed goods? They spend their savings, as prices rise:
Almost all "easy Covid money" from the Government are spent already. Inflation doesn't stop, Fed doesn't stop with rising interest rates and very soon we should see the drop in consumption. Walmart and Target already reports on big drop of retail sales. In fact, the drop in consumption is the way to healthy economy, as dollar should lose 50% of its value to balance real economy capacity and purchase power of population.
That's being said - we have just the vision of positivity. Fed uses fiscal tools that it has to hide bad processes in economy, but they can't hide forever. Very soon it comes to the surface. Meantime, while other investors believe that Fed policy brings the fruits and crisis is coming to an end, gold should remain under pressure. That's what we've talked about before, and everything goes with our plan. This situation stands in favor of those who understand what we're waiting for.
To be continued...
As we've got more or less positive NFP data, logically it has made some pressure on gold market last week. Positive data suggests that no hurt yet comes to economy from Fed tightening policy and Fed has more room to proceed and push rates higher. This theoretically should increase real interest rates and makes short-term negative impact on the gold. The major question is to how treat current statistics. Positive numbers accompanied with dangerous moments on the US bond market and Fed has very limited tools to control it, as we've discussed on our FX weekly report. But, as we know, the bond market and interest rates is the major driving factor for the gold. The deteriorating processes are going in the US economy, but they are not visible yet in statistics, partially because Fed tries to hide it and minimize negative effect. But the changes that we see this week makes us to follow our long-term view and no reasons by far to change it.
Market overview
Right before NFP release gold edged higher to build on last week’s advance as the dollar declined amid buoyant risk sentiment in other markets. European stocks and US futures gained on Monday after China relaxed some of the strictest virus controls of the pandemic. The greenback retreated as demand for the haven currency diminished.
The precious metal rose last week on signs the Federal Reserve’s tightening path may not be as aggressive as feared. The personal consumption expenditures price index, a gauge favored by the Fed, showed inflation cooling in April from March, according to data released Friday, while minutes of the central bank’s latest meeting were less hawkish than expected.
Bullion has risen past $1,850 an ounce in the second half of May as concerns about aggressive Fed rate hikes are balanced by the possibility they’ll lead to a recession in the US.
U.S. dollar advanced on Wednesday after stronger-than-expected economic data was unable to assuage investor concerns of high inflation and an impending recession driven partly by rising oil prices. A report by the Institute for Supply Management (ISM) showed U.S. manufacturing activity picked up in May as demand for goods remained strong even with rising prices.
The survey followed data released last Friday showing U.S. consumer spending, the largest contributor to American economic output, increased in April even amid growing concerns of a recession. Market sentiment, however, has remained bearish due to the prevailing uncertainty caused by the pace of the U.S. Federal Reserve's interest rate hikes, and the impact of the Russia-Ukraine war on food and commodity prices.
Global equity markets fell as U.S. Treasury yields reached two-week highs on Friday after data showed the American economy generated a greater-than-expected number of jobs in May, signaling the Federal Reserve will likely continue raising interest rates in its effort to curb inflation. The Labor Department's closely watched employment report showed the U.S. economy added 390,000 jobs in May, with the unemployment rate holding steady at 3.6% for a third straight month, beating most analyst estimates.
Traders were hoping the jobs report would reveal stronger signs of weakness in the U.S. economy that would help persuade the Fed to soften its stance on inflation and interest rates to avoid triggering a recession.
U.S. Treasury yields advanced to two-week highs after the strong jobs data. Benchmark 10-year notes were up at 2.946%, while the rate-sensitive two-year year note gained and was up at 2.6606%. Gold prices fell nearly 1% after bullion's appeal was dented by the rise in the U.S. dollar and Treasury yields following the strong jobs data.
Data for commodity funds showed investors exited gold and precious metal funds worth $521 billion after purchases of $1.33 billion in the previous week.
Different look at inflation
So, the belief is taking hold that economic growth is already being choked out of the system, and that inflation is already over. That’s very questionable. The following chart is from a fascinating Man Group paper on investing in inflationary regimes by Teun Draaisma, Campbell R. Harvey, Henry Neville, Ben Funnell and Otto van Hemert, which can be found in summary form here, and with all the statistics you could possibly want here. The researchers identified six inflationary eras since the 1920s. Here they are, along with the performance of the stock market, and the recession periods when growth was negative:
Several things jump out from this. First, inflation regimes seldom overlap with recessions, with the stagflationary 1970s the significant exception. Usually, inflationary eras tend to last somewhat longer than recessions (the Great Depression was the major outlier) and to end immediately before the recession starts. Second, the volatility of inflation has reduced dramatically in the last three decades. Typically when inflation is let out of the bottle, a period of sharply varying inflation ensues, with several separate peaks. This was the pattern both around World War II and during the “Great Inflation” era of the 1970s. Inflation may well have just made a peak; history suggests that we can expect subsequent waves and heightened volatility before it’s over.
If we look at the US and the UK, which has tended to have a worse problem with rising prices and has now seen headline inflation reach double figures, it’s again clear that inflation tends to move in waves. It doesn’t reach a higher plateau and stay there:
That suggests that even though the focus is already shifting to whether there is evidence of a growth slowdown — and a lot of measures are slowing down, but nothing yet suggests outright sustained negative growth — there’s a strong chance that by the end of the year we’ll be waiting to see how low inflation can go, and then bracing for another “wave.” Even if inflation does continue to decline for the next few months, which is likely, it would be wise to position for further bouts before this inflationary era is over.
As for commodities, substantially everything managed to protect you from inflation, but some (energy and precious metals) did much better than others:
The rally in commodities so far likely limits the gains that can be made from here. But it’s impossible to ignore this sector if you think inflation will keep rising.
higher food prices are having a disproportionate impact on inflation and incomes in the emerging world. Many of these commodities are priced in US dollars on global markets, and the strength of the dollar has further exacerbated the inflationary impact.
A sizeable share of household income is spent on food. Before prices began to rise, food already accounted for over 15% of the inflation basket in advanced economies, and this proportion will be higher for lower income individuals. That percentage jumps to around 20-25% of the inflation basket in the Latin America, emerging Asia and ‘Central & Eastern Europe, Middle East, North Africa’ regions, and a massive 40% in Sub-Saharan Africa
Rising food prices have historically been associated with political instability in developing countries. Surging prices of wheat in 2010 were said to have been a key driver behind the Arab Spring, while anger at record food prices contributed to recent protests against the government in Sri Lanka. Amid concerns about potential food shortages and rising prices, a number of countries have placed restrictions on the export of certain foods to other countries.
As inflation soars across the globe, the surge in food prices is exacerbating current economic and social problems in the developing world. Against this ominous backdrop, the risk of political instability is likely to be on the rise. According to Fathom’s Financial Vulnerability indicator, Western Asia and the Middle East & North Africa look especially at risk of a sovereign crisis. This is, however, a global story with the risk over the coming year now at its highest since 2012.
US Bond market problems
Last week, guys, we already have mentioned that Fed already has floating losses bonds that it has on its balance, standing for ~ $330 Bln. Treasuries dealers and big banks foresee liquidity problems in the US "Bond distribution" system, counted for more than $20 Trln. Dealers worry that Fed could not find the buyers for "toxic" US Treasury bonds with "-6%" yield. And this already comes to reality. We also have made the suggestion (Based on Spydell analysis), that Fed probably intends to use the US Treasury cash position to finance lack of demand on the bond market.
Besides, to the degree that the Fed’s retreat does impact yields, it will most likely be higher. Many analysts thought the Fed kept benchmark yields artificially low and contributed to a brief inversion of the Treasury yield curve in April.
When the BlackRock asset manager talked that yield hardly increases 3% this year, he means the same, that Fed tries to hold it under control, to hide recession processes in the economy and postpone inflation impact on post-election period, after November, or, at least, tries to keep it as long as possible.
Because, just take a look - the US government bond market, high yield market and US IPO are mostly paralyzed. Yes this happens before as well, but not three months in a row and with different economy conditions.
The same you could see on High Yield bonds. Previously it counts for 25% of total bonds issue, but now it is barely above the 4%:
But we see rally on the stock market and stable-to-low interest rates. Who is paying for this banket? The answer is - US Treasury. Last week its cash account was around 900+ Bln. Take a look - within a week it has dropped for ~ $140Bln:
This is the precise sum that the US financial system, banks have got within recent week. As a result, market "set the bottom" in mid-May, moving into growth. The total liquidity in the system from the Fed and Treasury has increased by 168 billion since the end of April in the absence of QE. The plan is to compensate (or cover) the reducing of the Fed's balance sheet by 190 billion in 3 months (QT programme) by the cash position of the US Treasury – they have 780 billion left there to balance.
Problems will begin when the cache will be spent. With closed capital markets and a frozen treasury market the road to hell is opened. Just control Treasury cash position on Fed Reserve account. Additionally we will update other indicators to understand the whole process in details.
Finally, the positive viewers appeal to strong consumption, speaking, where do you see the recession - take a look at employment, take a look at consumption. We already talked about employment. As stock market keep going lower, people who enjoy stocks "welfare" from invested Covid stimulus will lost them very soon. Approximately this is 5 Mln people, that should start searching job very soon. Now they are not included in unemployment statistics as they do not search for the job by far. As a result unemployment very fast should jump to 8-9%.
Speaking on consumption - yes, indeed, recent data looks not bad. But how people pay for consumed goods? They spend their savings, as prices rise:
Almost all "easy Covid money" from the Government are spent already. Inflation doesn't stop, Fed doesn't stop with rising interest rates and very soon we should see the drop in consumption. Walmart and Target already reports on big drop of retail sales. In fact, the drop in consumption is the way to healthy economy, as dollar should lose 50% of its value to balance real economy capacity and purchase power of population.
That's being said - we have just the vision of positivity. Fed uses fiscal tools that it has to hide bad processes in economy, but they can't hide forever. Very soon it comes to the surface. Meantime, while other investors believe that Fed policy brings the fruits and crisis is coming to an end, gold should remain under pressure. That's what we've talked about before, and everything goes with our plan. This situation stands in favor of those who understand what we're waiting for.
To be continued...
