2020 – What to expect

Whilst 2020 got off to an explosive start for gold and silver it is worth pausing and looking to what could be in store this year.

As we sit here now the China US trade war looks to be easing, Iran and the US have taken a step back from the brink, US shares are routinely hitting all-time highs, and the US Fed has given the perception the repo market under control.  Hardly seems the time to need gold right?  And yet, despite correcting after war tensions eased, gold is still around 5% higher than when we said goodbye before Christmas.

The reason and indeed the likely theme for 2020 is not too different from that of 2019.  More and more investors are, whilst playing the ‘don’t fight the Fed’ Casino, getting their insurance in place given the certainty, not chance, that this will, indeed must, end and end badly. 

Those all-time high share prices are due solely to multiples expansions.  US corporate earnings have been down for 4 consecutive quarters and yet the S&P was up almost 30% in 2019 i.e. all due to multiple expansion.  Everyone is piling in on the basis that the Fed will maintain this bubble by pumping new money into it.  We can’t even look to corporate buy backs as the big buyer as they have reduced considerably.  Any wonder when we see the latest Deloittes CEO survey showing 97% of US CEO’s believe the US will be in a recession by the end of 2020.

The Fed pumped $413b, nearly half a trillion into the repo market in just the 4 months since they started up to 1 January this year, and yet it is still on full life support. 

One of the most respected financial analysts on Wall Street is David Rosenberg. When asked about his views on this current equities rally he summarises it perfectly:

“This is a liquidity and momentum driven market. It’s been that way for the past four months where the correlation between the S&P 500 and the Fed’s balance sheet has expanded to a 95% relationship. This is a case of a very accommodative Fed policy. The double-digit growth in the money supply is bypassing the real economy and has entered into asset markets broadly, and specifically into equities. So as long as the Fed is in the game priming the monetary pump, shorting stocks is going to be a very dangerous game to play.”

Rosenberg sheds some insight too on the fact so many indicators show the US in recession already (as we see here in Australia) and yet GDP, the accepted measure of a recession if 2 consecutive negative prints, remains positive:

“People will claim that there is no recession. Statistically speaking that’s true as far as GDP is concerned. But we know for a fact that we actually had a four-quarter earnings recession. I never quite understood why GDP is so important to an equity investor who is buying an earnings stream. There’s no ticker “GDP” on the New York Stock Exchange. So it’s not about the overall level of GDP, it’s really about earnings and about the fact that if you look at the 30% share of the U.S. economy that is outside of the consumer space, we actually have been in a recession in the past two quarters.”

We’ve discussed previously too that remove iron ore and government spending from Australia’s GDP and we are in the same boat.

When asked what are the opportunities for 2020 he was very clear:

“Gold is inversely correlated with either near zero rates, zero rates, or negative rates which makes it an ideal investment. Mark Twain coined the phrase "Lies, damned lies, and statistics". But the thing about charts is that they don’t lie. Gold went through a long-term, multi-year basing period. Now, it has broken out and the chart looks fantastic. Also, gold is no country’s liability. For example, in the United States M2 growth is running at double digits. So when you compare the new supply of gold against the supply of money coming into the system from Central Banks, to me it’s a very clear cut case that you want to have very high exposure to bullion.”

Indeed Rosenberg is calling a very aggressive $3000 gold:

“It’s just a matter of when, not if. Gold demand is predicated on the final act which is going to be right-out debt monetization. When we get to the lows of the next recession, we’re going to find that these Central Banks that already have been extremely aggressive are going to engage in what is otherwise known as the “debt jubilee” or a right-out debt monetization which was actually the final chapter of the Bernanke playbook. Remember, Ben Bernanke got his nickname “Helicopter Ben” because in a speech in 2002 he suggested that helicopter money could always be used to prevent deflation. So we’re going to have helicopter money.”

Topically that same ex Fed Chair Ben Bernanke was the topic of a piece in the Daily Reckoning by Jim Rickards recently:

“Bernanke gave a high-profile address to the American Economic Association at a meeting in San Diego on Jan. 4. In his address, Bernanke said the Fed has plenty of tools to fight a new recession.

He included quantitative easing (QE), negative interest rates and forward guidance among the tools in the toolkit. He estimates that combined, they’re equal to three percentage points of additional rate cuts. But that’s nonsense.”

Rickards goes on to completely dismantle that:

“Here’s the actual record…

That QE2 and QE3 did not stimulate the economy at all; this has been the weakest economic expansion in U.S. history. All QE did was create asset bubbles in stocks, bonds and real estate that have yet to deflate (if we’re lucky) or crash (if we’re not).

Meanwhile, negative interest rates do not encourage people to spend as Bernanke expects. Instead, people save more to make up for what the bank is confiscating as “negative” interest. That hurts growth and pushes the Fed even further away from its inflation target.

What about “forward guidance?”

Forward guidance lacks credibility because the Fed’s forecast record is abysmal. I’ve counted at least 13 times when the Fed flip-flopped on policy because they couldn’t get the forecast right.

So every single one of Bernanke’s claims is dubious. There’s just no realistic basis to argue that these combined policies are equal to three percentage points of additional rate cuts.

And the record is clear: The Fed needs interest rates to be between 4% and 5% to fight recession. That’s how much “dry powder” the Fed needs going into a recession.”

This view is shared by former US Treasury Secretary Larry Summers:

“[Bernanke] argued that monetary policy will be able to do it the next time. I think that’s pretty unlikely given that in recessions we usually cut interest rates by five percentage points and interest rates today are below 2%… I just don’t believe QE and that stuff is worth anything like another three percentage points.”

Summers went on to call Bernanke‘s speech “a kind of last hurrah for the central bankers.” and reinforced Rosenberg’s view that the only thing left is ‘helicopter money” whereby “We’re going to have to rely on putting money in people’s pockets, on direct government spending.”

That is desperation stuff and hence Rosenberg, and many others, believing gold will thrive amid such measures.

The Fed won’t be the only show in town this year though for shares.  We have a US election in November and Trump will be throwing the kitchen sink at keeping markets high and (in his mind a direct correlation of) Making America Great.

Throw in ongoing simmering geopolitical tensions across the globe and the ‘elephant in the room’ of how China’s massive debt issue is resolved and the cocktail remains a dangerous one.

And so we have all these distortionary forces in an unprecedently distorted market.  The bigger the bubble is blown, the bigger the pop and hence the enduring allure of gold right now, and most likely throughout 2020.