Preparing for Pain
Nothing like a 1000 point fall on the US Dow on a Friday night to get the weekend party started. It’s been a surreal few weeks since the first Fed rate hike.
Headwinds for markets abound, geopolitical uncertainty moving closer to a WW3 situation, rampant inflation, rising rates, over inflated asset prices everywhere and both the World Bank and the IMF (why would they both release similar messages just days apart after all this time) aggressively lowering world growth forecasts just this week.
None of this was able to bring equity markets down, until Friday’s fall. In fact, we’ve found recent market strength in the face of serious headwinds eerily similar to the build-up to Lehmann. It took 18 months from the first Bear Sterns fund collapse for equities really get going.
For traditional “Balanced” funds though, it’s been one of the worst starts to a year on record. We wonder if investors are finally starting to understand the inverse relationship between bond yields and prices!!
Still, before we go on, lets acknowledge the Peoples Bank of China (PBOC) for its major contribution to market “stability” over the last few weeks.
Remarkably underreported in Western Media was a set of remarkable comments and policy changes by the PBOC ON THE MORNING OF THE FIRST FED RATE HIKE! (Thanks to Weston Nakamura for the following analysis).
- PBOC to actively release policies favourable to asset markets, regulatory, monetary and fiscal polices
- Gone is the tech crackdown, now PBOC supports the platform economy.
- Deleveraging of property market has now moved to protecting the property market from risks and encouragement of new loan growth.
- New support for overseas equity listings, including newly discovered regulatory co-operation with US regulators.
- And finally, explicit encouragement (and promise of support) of long term foreign investors to increase their shareholdings.
They basically covered every market overhang of the last 12 months in one foul swoop. The market reaction?
- Hang Seng up 9% on the day, highest volume in a decade.
- China A shares up 12.5% on the day.
- Hang Seng Tech index up 20%, on the day.
- China “Giants” component up 25% on the day.
- Plus all other markets up higher substantially for the day, Europe, Japan, everywhere, all just before the Fed meeting.
It’s no wonder the market had no reaction the most flagged Fed rate hike ever.
What spooked the PBoC to act so decisively? What did they see? Was it what they were seeing domestically or co-ordination with another entity? Anything to do with this below? It’s hard to know what is happening in the all important Middle Kingdom.
Back to the Fed and pesky interest rates.
The US Fed raises by 25points (0.25%) to 0.50% but in Bond world the 2 and 10 year Bond yields are already where they were when markets flipped out last time in 2018. Where will rates go before markets flip out this time, given markets are even more choked up with debt and derivatives?
Just look at this below for example, no need for words. Very few countries have the tax receipts to deal with high rates whilst maintaining social commitments.
As we’ve mentioned before, Fed raising cycles tend to end with a “bang”!! This one will be no different.
We know that Central banks will raise rates until markets break, the biggest question is around “the when” and what will be the policy response.
Maybe scroll back up the page to the 2008 market comparison.
One of the major events playing out in markets as we speak has been a strengthening the Russian rouble after a partial pegging to Gold and Energy. Russia was forced to start selling its Energy in Roubles, the only problem being is there isn’t enough Roubles around!! Story for another day but it’s fair to say the Russian Central Bank will buy your gold for Roubles, think about that!
Russia took these steps after the Europe/US decided to sanction the Russian Central Bank FX reserves for obvious reasons. To think that this move did not send shock waves through the corridors of power in countries across the world is naïve. Whose FX reserves will be targeted next? We will look back on these events and the Russian response in a few years as a turning point for Central Bank FX management.
Central Banks are now forced to seek a quickening in the pace of their Gold repatriation (EVEN AUSTRALIA) as well as existing outright purchases. These moves are certain to apply pressure to aging paper gold fractional pricing platforms in London and New York, where commodity warehouse shortages have been well reported.
So far, the price of Gold and Gold stocks have performed about “ok” but we see a real possibility of asset managers joining Central banks in a quest for exposure to the “useless yellow metal”. Large Asset managers are usually a little slower to the party but their size when they enter upsets any established equilibrium.
Furthermore, we can’t wait to see what market/currency reactions will be when Central banks embark on one last another effort to stimulate their economies though more QE (or equivilant) post the next equity market capitulation. We think the thought of it is enough to ponder what many are considering as options to pacify/stabilise markets when things really heat up again.
Talk of reshaping the global monetary system will grow louder through 2022 and it’s little bit of fun to consider what the implications are for gold should the a new monetary system require an anchor.
This is how that anchor looks now for the US.
This what an increase would mean to the gold price at various levels.
Again, at 40% backing, this is what Gold price would be needed.
In terms of portfolio management, there has been no change to our precious metal exposure at around 20%. We have recently taken some profits out of some profitable commodity producers for cash as our shopping list to buy on weakness grows longer. As usual low cost, dividend paying gold producers offer the best risk/reward for those seeking to increase exposure to precious metals. Good luck over the coming months, it’s going to be quite a ride for investors.
Below, we’ll leave you with some “food” for thought as to who may be most effected by Central Europe’s current turmoil.
Peace.
