Sive Morten
Special Consultant to the FPA
- Messages
- 18,654
Fundamentals
For the Gold market there are two events that most important on this week. First is J.Powell's commitment of Fed aiming on inflation fighting, second - tragedy in GB Royal family that will get important political consequences. If, ECB decision and Fed assurance on inflation make direct impact on interest rates performance, which are, in turn, the major gold market driving factor. Latter event hardly makes impact immediately but it is called to change UK political establishment. B. Johnson retirement, appointment of L. Truss and Queen Elizabeth II death are the parts of the same chain.
Just to close this topic and keep it short, let's say that it is not economic news, but in reality everyone understands that London's policy can fundamentally and radically change as a result of this event. Because Great Britain is the one of the three sovereign players in Europe (the other two are Russia and the Vatican). Other countries are vassals and can't make an independent policy.
Johnson's resignation (that was actively forced by certain power in the British elites) can be seen as the elimination of a strong player at the eve of the change of the monarch. Johnson is not just a man who was personally playing politics at the world level for four years, but he is also a part of the British establishment since his birth (a distant relative of the queen by non-official information). Unlike L. Truss, who has a fairly simple origin.
Johnson's resignation not only shows that he has been removed from the most relevant layouts. But also that the group in the British elite that exercises real governance after the death of the queen is not focused on the Tory party (Conservative). And, accordingly, to the policy of uncompromised confrontation againt Russia, including the sanctions war, which Johnson was the leader.
Note that this does not mean that they will not continue the sanctions war. But, with a high probability, they will embed this particular policy in a completely different context, including the economic one. So we are very likely to face a serious change in UK policy and in the very near future the contours of this policy will begin to form. In other words, both events can be viewed as a precursor to serious changes in world politics and the economy. And these changes may begin in the coming weeks.
Market overview
Gold advanced to the highest since late August, as the dollar weakened and expectations firmed for a super-sized interest rate increase from the Federal Reserve later this month. Bullion has risen from around $1,700 an ounce earlier this week, a level one senior market analyst described as a “danger zone” as it could lose investor support should it fall below that level. Gold rose as much as 1.2% on Friday to head for the first weekly gain in four.
A deluge of corporate debt offerings and a stronger-than-expected gauge of service-sector activity saw Treasury yields advance Tuesday. This helped buoy the greenback against almost all of its major developed-market counterparts, and spurred bets for another 75 basis-point Fed hike.
Federal Reserve Chair Jerome Powell said Thursday the central bank needed to “act now” and “forthrightly” to bring inflation under control, boosting the prospect of a 75 basis point hike when it meets on Sept. 21-22. Expectations also grew that the European Central Bank will lift rates by the same amount in October.
US Federal Reserve Vice Chair Lail Brainard said Wednesday monetary policy would “need to be restrictive for some time” in order to tame inflation. The central bank will meet on Sept. 20-21, with a three-quarter point interest rate hike widely predicted.
So, based on recent hawkish Powell's comments and involving of all major central banks in process of interest rates' tightening, market expectations are growing correspondingly. This week, based on our "magic" chart, investors add 0.2% more to 1-month perspective, which means two 0.75% changes in nearest two Fed meetings. Just to remind you that next Fed meeting comes in 1st-2nd of November, right before the elections. Next one will be in December but I'm dare to suggest what will be in December...
Meantime, crisis processes are keep going according to our long-term expectations. Households start losing wealth and now it is visible. People has lost 6 Trln in IIQ of 2022:
US Initial claims as a stormbinger of coming unemployment also keep going higher:
Inflation hits all possible and reasonable limits. Here is by the way interesting visual comparison what you could buy for 1 USD and 1 gramme in 1971 and now:
The Real Estate market in the US starts blowing up. The housing affordability index in the United States has collapsed to its lowest level since 1986, but the rate of change of the index over the past year is the highest in the history of the United States – housing affordability has never deteriorated so quickly and on such a large scale. There are three main reasons: a slowdown in the growth of nominal wages, an exorbitant growth in real estate prices and an increase in mortgage rates.
Median prices for new homes in the United States reached $ 428K, prices for existing homes reached $ 382K – an increase of 40% in two years, and annual growth rates reached 20% by May 2022, slightly reducing the intensity of growth to 17.3% YoY by July.
What has been shown over the past two years has no analogues in modern history in terms of the scale of real estate price growth, both in a year and in two years.
At the same time, mortgage rates are rising. So a 30-year loan has market rates averaging 6.18% - these are the highest levels since August 2008. It is worth noting that since 2001, the rates on a 30-year mortgage have never exceeded 7%, and now everything is going exactly to this milestone.
The rate of change of rates from January 2022 to September 2022 sets a record for 50 years, the last time this was in the early 70s. The spread between the rates on a 30-year mortgage and 10-year treasuries is 290 p.p., which is the maximum spread since March 2020 and since the crisis of January 2009. The mortgage securities market is at its maximum tension for 20 years. That is why the Fed failed the MBS sales plan from the balance sheet. Earlier we have shown that since June Fed has increased the MBS on the balance sheet.
Thus, there is the fastest acceleration of rates in 50 years, an unprecedented bubble (there was no such thing even in 2007), which creates the worst conditions in the real estate market for 35 years, and the scale of the shock has no analogues in the history of the United States.
This mostly explains recent behavior of the Fed and US Treasury on the bond market. We have big changes last month there. In general, for all types of bonds, we see the collapse of placements by 37% from 1.37 trillion to 1 trillion is comparable to 2008, when the collapse of placements was 38%, there has not been a larger compression of demand yet. Given the trend, 2022 will be worse than 2008.
The reasons for such tinplate on the market are record negative real rates on the market, which makes any investment in bonds unprofitable at the start and the "draining" of liquidity in the system after the printing press is turned off. There is less money, there are a lot of requests. The situation is potentially explosive - debt relief goes to the group of the most vulnerable, who are loaded to the eyeballs with debts and do not generate a steady positive cash flow. Defaults are inevitable...
Particularly speaking, the largest contraction in a sector of High Yield (Junk) Bonds - the issue of new debt dropped for 4.1 times, to ~90 Bln, instead of 330-350 Bln usually. In 2022 about 330 Bln in HY debt has to be paid, but it is no ability to replace it. Investment grade bonds contract for ~ 8.5% this year.
Using positive dynamic of stock markets, US Treasury has come with new big debt issues after long term of silence. Around 294 Bln of new debt have been placed, 72% of new debt are US Treasury 1-year Bills, around $210 Bln. This structure of placement is important, it explains that no real demand for longer-term bond because of deep negative rates and uncertainty. As a result, US Treasury was able to increase its balance slightly but it again starts dropping already. The bulk of demand was provided by primary dealers - big authorized banks, such as BofA, JP Morgan etc.
Thus, the US Treasury has about 600 billion in cash on September 1st and a support group of primary dealers with $2 Trln – it should be enough for now, and then... emptiness. In September, the Fed has reached a sales plan of 95 billion, but given the current outstanding obligations of 90 billion, there is no doubt that the plan will fail, and the gap will increase every month.
This can be called a "conditional default" on obligations, when the Fed radically (twice or more) departs from its own protocol, which in the future will undermine confidence in this organization, which has arranged monstrous imbalances in the market, despite of more than enough excess liquidity in the banking system – 2.2 trillion and, as we've said - the US Treasury's cache at the Fed grew at the end of August (+140 billion) against the background of the maximum placements for the year and the absorption of part of the liquidity into the cash, but in early September again a reduction of 90 billion, which fixes the cache at 583 billion. This should be enough until the end of 2022, even if there will be no placements at all, but "back to back".
In general, the system is disbalanced, the Fed does not fulfill its obligations, the fight against inflation is being imitated, there is even more than enough liquidity. The further they continue, the greater the tension in the debt markets will be.
Conclusion:
On Tuesday, we will get new CPI August report. As we've mentioned yesterday, in our FX research, number could remain at the same level or even ease a bit, because the US was able to stabilize gasoline prices, while gas prices rise slowly, mostly because of sending all valid gas to Europe even with some hurt to domestic consumers - "you can postpone a war but never alunch business". Although major CPI easing effect should start coming in September, August numbers also could show some stabilization. This provides some relief to Gold market, decreasing expectations on two 75 b.p. rate change this year, especially on a background of recession fears. But, this is what we have in short term.
Longer term analysis shows that disbalances and major problems have not become easier, I would say even more. With rising rates by ECB big financial fragmentation of EU come on the first place as strong countries such as Germany and weak, highly indebted countries, such as Greece, Italy react differently. Besides, rate change doesn't resolve the structural problems. In fact - EU is yet to get bigger problems. Recent data shows that ECB balance turns up again, meaning that they have started to buy bonds, printing money. Bundesbank has big claims to other EU central banks, as we've mentioned yesterday in FX report, which means that other ones have liabilities. Now they stand for ~ EUR1.2 Trln. As ECB intends to rise rates 2-4 times more, it means that rate will be around 2.5-3% relatively soon, pushing higher all other rates in the union - mortgage, consumer credit, interbank swap and RePo rates, including debt service spendings. Average Debt /GDP ratio in EU stands around 80-90%, but such rates might be too heavy burden, say, for Italy. Besides, if we suggest total filling the gas storages - this only for the month of consumption. They are structured just to smooth short term supply breaks, not to replace supply. In winter time US domestic consumption will grow and flow to EU should narrow that unavoidable lead to new spiral of inflation, especially on the background of current ECB policy. In winter time situation in EU unfortunately will be worse. Equinor company reports on $1.5 Trln margin calls on energy futures contracts that are yet to come. If price will not turn south, it might be "big bada boom" on energy derivative market. Maybe sounds cynic, but all these factors are positive for the gold - interest rates will become more negative, inflation will be higher, as well as the demand for the gold, if EU investors will keep some free funds to invest of course...
In the US, as we've said, inflation has to go down by few reasons. First is, high CPI/PPI numbers mostly stand due to energy price, which have to be treated as temporal outbreak above average structural inflation of 7-8%. Gradually, because of too high prices, economy slowdown, demand for energy goes down, which, in turn, leads to decreasing of inflationary pressure and converging of the "energy" inflation to the average level. Meantime, basic 7-9% inflation is spreading across all sectors.
Although the nominal level of inflation is decreasing, the relative inflationary strength is increasing and rate change will not help to decrease it, until it will be around 6-7%. Recent Fed and US Treasury shifts are mostly tactical, showing that Fed tries to use any possible optimism splash to grab liquidity out of the market, selling new bulk of debt, which is mostly financing by existed reserves. So, they just move money from one pocket to another.
This background makes us to keep our long term view intact. Disbalances on bond market are not resolved. Everything looks more or less good just because of tactical reserves of liquidity that Fed and Treasury have. Thus, volatility could rise, but we suggest that gold should stay above major support of 1680 area. Situation could start changing closer to the end of the year and most interesting stuff still stands ahead:
For the Gold market there are two events that most important on this week. First is J.Powell's commitment of Fed aiming on inflation fighting, second - tragedy in GB Royal family that will get important political consequences. If, ECB decision and Fed assurance on inflation make direct impact on interest rates performance, which are, in turn, the major gold market driving factor. Latter event hardly makes impact immediately but it is called to change UK political establishment. B. Johnson retirement, appointment of L. Truss and Queen Elizabeth II death are the parts of the same chain.
Just to close this topic and keep it short, let's say that it is not economic news, but in reality everyone understands that London's policy can fundamentally and radically change as a result of this event. Because Great Britain is the one of the three sovereign players in Europe (the other two are Russia and the Vatican). Other countries are vassals and can't make an independent policy.
Johnson's resignation (that was actively forced by certain power in the British elites) can be seen as the elimination of a strong player at the eve of the change of the monarch. Johnson is not just a man who was personally playing politics at the world level for four years, but he is also a part of the British establishment since his birth (a distant relative of the queen by non-official information). Unlike L. Truss, who has a fairly simple origin.
Johnson's resignation not only shows that he has been removed from the most relevant layouts. But also that the group in the British elite that exercises real governance after the death of the queen is not focused on the Tory party (Conservative). And, accordingly, to the policy of uncompromised confrontation againt Russia, including the sanctions war, which Johnson was the leader.
Note that this does not mean that they will not continue the sanctions war. But, with a high probability, they will embed this particular policy in a completely different context, including the economic one. So we are very likely to face a serious change in UK policy and in the very near future the contours of this policy will begin to form. In other words, both events can be viewed as a precursor to serious changes in world politics and the economy. And these changes may begin in the coming weeks.
Market overview
Gold advanced to the highest since late August, as the dollar weakened and expectations firmed for a super-sized interest rate increase from the Federal Reserve later this month. Bullion has risen from around $1,700 an ounce earlier this week, a level one senior market analyst described as a “danger zone” as it could lose investor support should it fall below that level. Gold rose as much as 1.2% on Friday to head for the first weekly gain in four.
A deluge of corporate debt offerings and a stronger-than-expected gauge of service-sector activity saw Treasury yields advance Tuesday. This helped buoy the greenback against almost all of its major developed-market counterparts, and spurred bets for another 75 basis-point Fed hike.
“Gold is back in the danger zone as global bond yields are skyrocketing,” said Edward Moya, senior market analyst at Oanda Corp. “Central banks seem like they will be aggressive with front loading rate hikes right now. It could get ugly quickly if gold breaks below the $1,690 level as there isn’t much support until $1,650.”
Federal Reserve Chair Jerome Powell said Thursday the central bank needed to “act now” and “forthrightly” to bring inflation under control, boosting the prospect of a 75 basis point hike when it meets on Sept. 21-22. Expectations also grew that the European Central Bank will lift rates by the same amount in October.
US Federal Reserve Vice Chair Lail Brainard said Wednesday monetary policy would “need to be restrictive for some time” in order to tame inflation. The central bank will meet on Sept. 20-21, with a three-quarter point interest rate hike widely predicted.
“Gold’s demand due to its safe-haven attribute is valid, although the focus of investors has been glossed over by strength in the dollar and U.S. Treasury yields, which have weighed heavily on gold prices over the past month,” said Avtar Sandu, senior manager of commodities at Phillip Nova. Strong U.S. economic data and hawkish signals from the Fed drove up expectations of more sharp interest rate hikes, he said.
So, based on recent hawkish Powell's comments and involving of all major central banks in process of interest rates' tightening, market expectations are growing correspondingly. This week, based on our "magic" chart, investors add 0.2% more to 1-month perspective, which means two 0.75% changes in nearest two Fed meetings. Just to remind you that next Fed meeting comes in 1st-2nd of November, right before the elections. Next one will be in December but I'm dare to suggest what will be in December...
Meantime, crisis processes are keep going according to our long-term expectations. Households start losing wealth and now it is visible. People has lost 6 Trln in IIQ of 2022:
US Initial claims as a stormbinger of coming unemployment also keep going higher:
Inflation hits all possible and reasonable limits. Here is by the way interesting visual comparison what you could buy for 1 USD and 1 gramme in 1971 and now:
The Real Estate market in the US starts blowing up. The housing affordability index in the United States has collapsed to its lowest level since 1986, but the rate of change of the index over the past year is the highest in the history of the United States – housing affordability has never deteriorated so quickly and on such a large scale. There are three main reasons: a slowdown in the growth of nominal wages, an exorbitant growth in real estate prices and an increase in mortgage rates.
Median prices for new homes in the United States reached $ 428K, prices for existing homes reached $ 382K – an increase of 40% in two years, and annual growth rates reached 20% by May 2022, slightly reducing the intensity of growth to 17.3% YoY by July.
What has been shown over the past two years has no analogues in modern history in terms of the scale of real estate price growth, both in a year and in two years.
At the same time, mortgage rates are rising. So a 30-year loan has market rates averaging 6.18% - these are the highest levels since August 2008. It is worth noting that since 2001, the rates on a 30-year mortgage have never exceeded 7%, and now everything is going exactly to this milestone.
The rate of change of rates from January 2022 to September 2022 sets a record for 50 years, the last time this was in the early 70s. The spread between the rates on a 30-year mortgage and 10-year treasuries is 290 p.p., which is the maximum spread since March 2020 and since the crisis of January 2009. The mortgage securities market is at its maximum tension for 20 years. That is why the Fed failed the MBS sales plan from the balance sheet. Earlier we have shown that since June Fed has increased the MBS on the balance sheet.
Thus, there is the fastest acceleration of rates in 50 years, an unprecedented bubble (there was no such thing even in 2007), which creates the worst conditions in the real estate market for 35 years, and the scale of the shock has no analogues in the history of the United States.
This mostly explains recent behavior of the Fed and US Treasury on the bond market. We have big changes last month there. In general, for all types of bonds, we see the collapse of placements by 37% from 1.37 trillion to 1 trillion is comparable to 2008, when the collapse of placements was 38%, there has not been a larger compression of demand yet. Given the trend, 2022 will be worse than 2008.
The reasons for such tinplate on the market are record negative real rates on the market, which makes any investment in bonds unprofitable at the start and the "draining" of liquidity in the system after the printing press is turned off. There is less money, there are a lot of requests. The situation is potentially explosive - debt relief goes to the group of the most vulnerable, who are loaded to the eyeballs with debts and do not generate a steady positive cash flow. Defaults are inevitable...
Particularly speaking, the largest contraction in a sector of High Yield (Junk) Bonds - the issue of new debt dropped for 4.1 times, to ~90 Bln, instead of 330-350 Bln usually. In 2022 about 330 Bln in HY debt has to be paid, but it is no ability to replace it. Investment grade bonds contract for ~ 8.5% this year.
Using positive dynamic of stock markets, US Treasury has come with new big debt issues after long term of silence. Around 294 Bln of new debt have been placed, 72% of new debt are US Treasury 1-year Bills, around $210 Bln. This structure of placement is important, it explains that no real demand for longer-term bond because of deep negative rates and uncertainty. As a result, US Treasury was able to increase its balance slightly but it again starts dropping already. The bulk of demand was provided by primary dealers - big authorized banks, such as BofA, JP Morgan etc.
Thus, the US Treasury has about 600 billion in cash on September 1st and a support group of primary dealers with $2 Trln – it should be enough for now, and then... emptiness. In September, the Fed has reached a sales plan of 95 billion, but given the current outstanding obligations of 90 billion, there is no doubt that the plan will fail, and the gap will increase every month.
This can be called a "conditional default" on obligations, when the Fed radically (twice or more) departs from its own protocol, which in the future will undermine confidence in this organization, which has arranged monstrous imbalances in the market, despite of more than enough excess liquidity in the banking system – 2.2 trillion and, as we've said - the US Treasury's cache at the Fed grew at the end of August (+140 billion) against the background of the maximum placements for the year and the absorption of part of the liquidity into the cash, but in early September again a reduction of 90 billion, which fixes the cache at 583 billion. This should be enough until the end of 2022, even if there will be no placements at all, but "back to back".
In general, the system is disbalanced, the Fed does not fulfill its obligations, the fight against inflation is being imitated, there is even more than enough liquidity. The further they continue, the greater the tension in the debt markets will be.
Conclusion:
On Tuesday, we will get new CPI August report. As we've mentioned yesterday, in our FX research, number could remain at the same level or even ease a bit, because the US was able to stabilize gasoline prices, while gas prices rise slowly, mostly because of sending all valid gas to Europe even with some hurt to domestic consumers - "you can postpone a war but never a
Longer term analysis shows that disbalances and major problems have not become easier, I would say even more. With rising rates by ECB big financial fragmentation of EU come on the first place as strong countries such as Germany and weak, highly indebted countries, such as Greece, Italy react differently. Besides, rate change doesn't resolve the structural problems. In fact - EU is yet to get bigger problems. Recent data shows that ECB balance turns up again, meaning that they have started to buy bonds, printing money. Bundesbank has big claims to other EU central banks, as we've mentioned yesterday in FX report, which means that other ones have liabilities. Now they stand for ~ EUR1.2 Trln. As ECB intends to rise rates 2-4 times more, it means that rate will be around 2.5-3% relatively soon, pushing higher all other rates in the union - mortgage, consumer credit, interbank swap and RePo rates, including debt service spendings. Average Debt /GDP ratio in EU stands around 80-90%, but such rates might be too heavy burden, say, for Italy. Besides, if we suggest total filling the gas storages - this only for the month of consumption. They are structured just to smooth short term supply breaks, not to replace supply. In winter time US domestic consumption will grow and flow to EU should narrow that unavoidable lead to new spiral of inflation, especially on the background of current ECB policy. In winter time situation in EU unfortunately will be worse. Equinor company reports on $1.5 Trln margin calls on energy futures contracts that are yet to come. If price will not turn south, it might be "big bada boom" on energy derivative market. Maybe sounds cynic, but all these factors are positive for the gold - interest rates will become more negative, inflation will be higher, as well as the demand for the gold, if EU investors will keep some free funds to invest of course...
In the US, as we've said, inflation has to go down by few reasons. First is, high CPI/PPI numbers mostly stand due to energy price, which have to be treated as temporal outbreak above average structural inflation of 7-8%. Gradually, because of too high prices, economy slowdown, demand for energy goes down, which, in turn, leads to decreasing of inflationary pressure and converging of the "energy" inflation to the average level. Meantime, basic 7-9% inflation is spreading across all sectors.
Although the nominal level of inflation is decreasing, the relative inflationary strength is increasing and rate change will not help to decrease it, until it will be around 6-7%. Recent Fed and US Treasury shifts are mostly tactical, showing that Fed tries to use any possible optimism splash to grab liquidity out of the market, selling new bulk of debt, which is mostly financing by existed reserves. So, they just move money from one pocket to another.
This background makes us to keep our long term view intact. Disbalances on bond market are not resolved. Everything looks more or less good just because of tactical reserves of liquidity that Fed and Treasury have. Thus, volatility could rise, but we suggest that gold should stay above major support of 1680 area. Situation could start changing closer to the end of the year and most interesting stuff still stands ahead:
Last edited: