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SEMI-MONTHLY FISCAL/MONETARY REPORT – GOLD LOOKS GREAT TECHNICALLY, HERE ARE THE FUNDAMENTALS!!

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SEMI-MONTHLY FISCAL/MONETARY REPORT – GOLD LOOKS GREAT TECHNICALLY, HERE ARE THE FUNDAMENTALS!!

The capital markets these days are driven by computers, and their technical charting algorithms (“algos”). We believe, however, that over the long term it’s the fundamentals that matter. Chart patterns can carry the day, but at some point the fundamentals have to support the valuation. It’s been a painful six or seven years for investors in gold related securities, from 2011 when gold bullion topped out at $1850 and when the gold miners peaked a year later. Six years, though, within the context of modern economic and political history since 1913 when the Federal Reserve Bank was established, is obviously a small part. We believe that, even a few years from now,  2011-2018 will be viewed as a relatively brief price consolidation in the long term bull market for gold-related assets.

As we discuss the last 95 years of fiscal/monetary history, please refer to the chart we have provided below.

The Fed was established in 1913, to manage the money supply, in those days (since 1792) backed by gold, with the single stated objective of controlling inflation. It was hoped that management of the economy by the Fed would reduce the likelihood and severity of financial cycles (i.e.panics, booms, busts, etc.). In those days, it was a single mandate: inflation control, not including employment as is the case today.  105 years later, while we can’t say definitively whether more booms and busts would have taken place without the Fed, inflation control has been dismal. The 1913 US Dollar is worth about $.02 today. We suggest that the way we are going, in a lot less than 100 years from now, the US Dollar will be worth 2% of today’s paper currency. Our overriding thesis is that “gold is the real money”, as proven over 5,000 years of economic history. The fact is that there has never been an unbacked currency (“fiat” money) that has survived. It’s just a question of how long the politicians of the day take to destroy it. Every indication continues to be that the current crop of politicians, around the world, will be no different.

The table below shows, since 1929, the amount of debt the US owes (without unfunded entitlements). We have provided a commentary as to major economic and political events, especially relating to the status of gold in relation to the economy.

As a broad overview of the last ninety years in the table below, you can see that the debt as a percentage of GDP started rising materially through the depression of the 1930’s, peaked at over 100% of GDP when we were paying for WWII, came down materially until the late 1960s when LBJ instituted his “great society” and was paying for the Vietnam war. The Bretton Woods Agreement of 1944 created the US Dollar as the world’s reserve currency, to be the primary unit of exchange for worldwide trade. The US, in return for this huge privilege, was obligated to manage our economy, money supply, and spending in a responsible fashion. The US had the largest stash of gold among the world’s trading partners, with over 20,000 tons,  and our dollar was convertible into gold, at $34/oz. (after FDR raised the exchange rate from $20.67 during the depression).

The Bretton Woods Agreement worked fairly well, and the US, including the Fed, managed fairly well through the postwar rebuilding, until the late 1960s under LBJ. As spending increased and deficits loomed, major countries around the world, led by France’s Charles DeGaulle, started exchanging dollars for gold. The gold backing of our dollar, got down to about 6-7% of our currency in circulation, from the area of 25-30% in the postwar period. (It is worth noting that 6-7% is approximately the percentage where it is today, in the US and among major worldwide economies in total).  The US stash of gold was taken down to about 8,400 tons from over 20,000 tons in just a few years prior to 1971. Richard Nixon, his Treasury Secretary, John Connally, and Fed Chairman, Arthur Burns, made the decision in August’71 to “close the gold window”, ending convertibility into gold. Nixon, naturally, told the American public it was all for the best, would strengthen the economy, etc.. Predictably, however, over the next eight years, the price of gold went from $35 to $850, stagflation set in as the inflation rate went into the teens, interest rates went to the high teens by the time Jimmy Carter hired Paul Volcker in 1979.

Volcker started raising interest rates further, to squeeze out inflation, and Ronald Reagan,  taking office in early 1981, backed him in that process, tolerating the three year recession that ended in 1983. The stock market took off in August, 1982, anticipating the economic upturn.

At this point, you might suggest that a dedicated Fed chief today, backed by a financially astute President and legislative branch, could correct today’s problems, just as in the 1980s.

The problem is that debt as a percentage of GDP is over 100% today, versus 32% in 1980, the annual deficit is about 13-14x as big ( in an economy that is 6x as big), interest rates are very, very low now, so can’t be lowered by much to help the rebound, versus very, very high in the early 1980s, and the unfunded entitlements overhanging us now are a huge headwind that didn’t exist 39 years ago. You also didn’t have today’s worldwide co-dependency that complicates our ability to manage our own economy.

Moving on: from 1980 to 2000, with some fits and starts, the US economy grew fairly steadily, especially under Reagan and later under Clinton. While the debt was still rising, it was well below the 100% of GDP thought to be a troubling level. Relative to gold, the urgency of the 1970s had dissipated, with good reason as stagflation had been defeated, so gold retreated from $850 to a low around $250 by 2000.

From 2000 to 2009 gold went from $250 to $900 as GW Bush, financed by Alan Greenspan and then Ben Bernanke, spent money to offset the dotcom bust of 2001, the war on terrorism after 9/11 and the financial crisis of 2008-2009. The US Debt as a percentage of GDP went from the mid 50s to almost 100%, closely correlating with the rising gold price. When President Obama was elected, and it became clear that spending would continue, not only to close out the wars but on health care and other social initiatives, gold doubled again to over $1800/oz.

From 2011-2012 until today, gold and gold miners have suffered, because the annual deficits came down, from about $1.4T in 2010, to about $400B by fiscal 2015, and still “only” about $800B in fiscal 2018. This modest progress in controlling spending (we suggest “on the surface”) reduced the urgency for gold as a “safe haven”, an “uncorrelated asset”, or the “real money” (which is our primary motivation). At the same time, the stock market has risen steadily, as the Fed  (joined by other central banks) have provided minimal interest rates, to drive a stated “wealth effect”, also reducing the demand for gold. Even bitcoin, now largely abandoned, provided an alternative to traditional precious metals. It is noteworthy that the stated “on budget” deficits, have almost always been substantially exceeded by the increase in the total debt which includes borrowing from the social security trust fund and other emergency measures. You can see from the table below that, even with the lack of concern over deficits,  the total debt/GDP % never came down between 2011 and 2018, continuing to rise above the 100% danger threshold where it seriously drags on an economy.

Which brings us to where we are today:  We can anticipate, as far as the eye can see, sharply rising deficits and total debt, an economy that is already slowing from the 2.9-3.0% peak of calendar 2018, not much above the 2.3% of the Obama years. We note that a material portion of the modest 0.6-0.7% improvement has come from higher government spending, and the balance in a one time benefit from lower taxes. The public has spent their tax windfall on carefully selected items with Amazon, value meals at restaurants, and more pizza delivered from Domino’s. Businesses have spent their repatriated dollars and tax savings to a major extent on stock buybacks rather than capex. Government receipts are down, spending is up for defense, health care, interest payments and storm remediation (but not Nancy Pelosi’s travel). All projections call for a slowing economy over the next several years as well as higher deficits, which will be substantially exceeded by the increase in total debt. Of course, something like $100 Trillion of unfunded entitlements still loom.

In conclusion: The fundamental stage seems to be set for higher gold prices, which should carry gold mining stocks (even more depressed than bullion) much higher as well. In a long term sense, gold had a twelve year bull market from 2000-2011, has gone through a consolidation, in our view, unjustified by fundamentals. Justified or not, market place inefficiencies get corrected over time, the long term fiscal/monetary fundamentals support a much higher gold price, and most technical signals indicate that the long term bull market is about to resume.

Roger Lipton

FISCAL/MONETARY HISTORY – 1929 TO PRESENT
Fiscal Yr. 9/30 Debt ($Billions) Debt/GDP Percentage MAJOR EVENTS BY PRESIDENTIAL TERM
1929 $17 16% Market crash. Depression reduced tax receipts.
1930 $16 18% Hoover raises taxes, worsens depression
1931 $17 22% Smoot Hawley tariffs don’t help
1932 $19 33%
1933 $23 39%
1934 $27 40% FDR’s New Deal increased both GDP and debt.
1935 $29 39% GOLD AT $35/OZ.-FDR HAS OUTLAWED PRIVATE OWNERSHIP
1936 $34 40% HOMESTAKE MINING GOES UP IN PRICE BY 7X from 1930-35
1937 $36 39% US OWNS OVER 20,000 TONS
1938 $37 43% FDR cuts spending, Fed tightens. Serious recession.
1939 $40 43% Debt & GDP start rising, preparing for war.
1940 $51 50% Depression ends though employment doesn’t recover
1941 $58 45%        until after war, US enters war after Pearl Harbor in Dec.’41
1942 $79 48% Increased debt and GDP to support war effort
1943 $143 70%
1944 $204 91% BRETTON WOODS GOLD/MONETARY ACCORD –
1945 $260 114%  US DOLLAR TO BE WORLDWIDE RESERVE CURRENCY
1946 $271 119% Truman’s 1st term tight  budget. Peacetime recession
1947 $257 104%  US STILL OWNS OVER 20,000 TONS
1948 $252 92%
1949 $253 93%
1950 $257 89% Truman’s 2nd term. Korean War(1950-1953) higher debt & GDP
1951 $255 74% Recession after Korean War ends.
1952 $259 72%
1953 $266 68% Korean war ends
1954 $271 70% Eisenhower’s budget. Rate rise worsened recession.
1955 $274 65%
1956 $273 61% POST WAR DEBT FAIRLY CONSTANT
1957 $271 57%
1958 $276 58% Eisenhower’s 2nd term. Recession.
1959 $285 54%
1960 $286 53%
1961 $289 52%
1962 $298 49% JFK budgets. Cuban Missile Crisis. U.S. aided Vietnam coup.
1963 $306 48%
1964 $312 46%
1965 $317 43% LBJ’s budget. War on Poverty. Vietnam War. Fed raised rates.
1966 $320 40%
1967 $326 38%
1968 $348 37%
1969 $354 35% DEBT RISING, EXPECTATIONS WORSE, GOLD FLOWING OUT
1970 $371 35% Recession. Wage-price controls. Oil embargo. Int.rate double.
1971 $398 34% US GOLD DOWN TO 8400 TONS, NIXON ENDS CONVERTIBILITY
1972 $427 34% INFLATION TAKES OFF, GOLD GOES FROM $35 TO $850 BY 1979
1973 $458 32%
1974 $475 31% Stagflation. Watergate.
1975 $533 32% Ford budget.
1976 $620 33%
1977 $699 33%
1978 $772 32% Carter budget.
1979 $827 31% GOLD PEAKS AT $850/OZ.
1980 $908 32% Volcker raises rates to 20%. Iran oil embargo. Recession.
1981 $998 31% Reagan budgets 1st term.
1982 $1,142 34% Recessionn continues, stock market ramps in August.
1983 $1,377 37% Recession ends.
1984 $1,572 38%
1985 $1,823 42%
1986 $2,125 46% Reagan lowers taxes.
1987 $2,340 48% S&L crisis costs US gov. $50B
1988 $2,602 49% NO URGENCY TO OWN GOLD, FOR TWENTY YEARS (1980-2000)
1989 $2,857 50% DEFICITS RISING BUT ECONOMY IS STRONG
1990 $3,233 54% Bush 41 budget. Desert Storm. Recession.
1991 $3,665 59%
1992 $4,065 62%
1993 $4,411 64%
1994 $4,693 64% Clinton budget.
1995 $4,974 65%
1996 $5,225 64% Budget Act reduced deficit spending.
1997 $5,413 62%
1998 $5,526 61% No defict, but debt still up. Last Clinton budget.  Recession.
1999 $5,656 58% No deficit, but debt still up
2000 $5,674 55% NO DEFICIT, BUT DEBT STILL UP – GOLD AT $250/OZ.
2001 $5,807 55% Bust adds $22.9B to ’01 budget for War on Terror
2002 $6,228 57% First GW Bush budget.
2003 $6,783 59% War on Terror costs $409.2B. Bank bailout costs $350B.
2004 $7,379 60% Bush Tax cuts.
2005 $7,933 60%
2006 $8,507 61% Wars cost $752.2 billion.
2007 $9,008 62% Katrina Costs $24.7B
2008 $10,025 68% FINANCIAL CRISIS COSTS $242B, GOLD AT $900/OZ.
2009 $11,910 83% Great Recession and tax cuts reduce revenues.
2010 $13,562 90% Obama Stimulus Act cost $400 billion.  War cost $512.6 billion.
2011 $14,790 95% DEBT APPROACHING 100% OF GDP, GOLD  AT $1850/OZ.
2012 $16,066 99%  US CONTINUES TO ABUSE RESERVE CURRENCY PRIVILEGE…………
2013 $16,738 99% BY PRINTING TRILLIONS OF NEW DOLLARS
2014 $17,824 101% War cost $309 billion. QE ended. Strong dollar hurt exports.
2015 $18,151 99% FOR SIX YEARS, DEBT STILL RISING, BUT AT SLOWER PACE
2016 $19,573 104% NO URGENCY TO OWN GOLD, CORRECTS TO LOW OF $1050
2017 $20,245 103% Congress raises debt ceiling, again.
2018 $21,658 99% Trump tax cuts,spending up. Debt ceiling suspended ’til 2019.
HERE WE GO AGAIN! THE STIMULUS, AND DEFICITS, HAS NEVER, IN PEACETIME,
BEEN SO LARGE AND ACCELERATING,
ESPECIALLY IN THE MIDST OF SUPPOSED PROSPERITY
2019 $23,000 109% assumes no recession, $1.1T deficit, debt up by $1.342
2020 $24,500 111% assuming no recession, $1.2T deficit, debt up by $1.5T
2021 $26,000 113% assuming no recession, $1.2T deficit, debt up by $1.5T
YOU CAN MAKE YOUR OWN ASSUMPTIONS AS TO WHAT THE PRICE OF GOLD DOES FROM HERE!
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SEMI-MONTHLY FISCAL/MONETARY UPDATE – IT’S GETTING INTENSE!

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The general equity market had its worst December on record, with the averages down 10% and more. Gold related securities, however, began to prove their worth as an undervalued “safe haven” and an “uncorrelated” asset class. Gold bullion was up 4.9% and the gold mining stocks were up more than double that. One month of outperformance is not enough to establish a new trend, and the gold miners were still down for the entire year, but December does demonstrate how quickly trends can change. For lots of reasons which we outline below, we believe December may have been just the beginning of the resumption in the long-term bull market for gold related securities. The charts below provide a vivid picture of the most important long-term trends, and the prospects for substantial gains in our portfolio of gold mining stocks.                                                                               

While short term fluctuations and volatility can often dominate our thinking, we think the following charts provide valuable long-term context. There is no question that gold related securities are influenced by trends in the general capital markets, viewed as a “safe haven” from a decline in other assets, and heavily influenced by the direction of the US Dollar. The recent strength in the US Dollar, and the continuous rise in the general market have clearly undermined the performance of gold related assets. We believe the charts below show that the S&P average is likely closer to a long term high than a low, that the US Dollar is closer to a high than a low, gold bullion has been “consolidating” for 4-5 years, while gold related securities (represented here by the GDX ETF), are clearly near a long-term low, and may be emerging from its base.

First, the chart below shows the performance of the S&P 500 index, virtually straight up from the bottom in 2009, an unprecedented continuous rise. Most important, of course, is the decline which began in December, the sharpest correction in the last decade, and that has continued the first day of 2019. Should this decline continue, and there are lots of reasons why it should, gold related securities may be one of the very few safe havens.

The next chart is the performance of the DXY, the ETF representing the performance of the US Dollar, since 2005, versus other major trading currencies. You can see that the US Dollar has been trading very near its high and that has no doubt undermined the price of gold bullion in US Dollars. There is a lot of discussion as to whether our Fed, led by Jerome Powell, will be able to raise interest rates further at the same time the Fed balance sheet is reduced, both of which has contributed to the strong US Dollar. Should he decide to back off these programs, which we believe will be the case, that should contribute to a weaker US Dollar, and the chart shows the downside risk over time. A materially weaker US Dollar would be a strong tailwind to the price of gold related securities.

The next chart shows the price of gold bullion, represented by the GLD ETF, since its decline in 2012. You can see that the decline was 39% from the high to low. Since 2013, GLD has been in a trading range of about 20% from a little over 130 to a low of 105.  Right now GLD is trading about 8% below its “breakout” point of just over 130.

The following chart shows the performance of gold mining stocks, represented by the GDX ETF. You can see how substantially GDX has underperformed gold bullion, down 75% from the high of 2012 to the low in late 2015. The “trading range” since 2013 has been a very wide 56%, and you can see that GDX is still a lot closer to its low within the trading range than GLD. The “catchup” in GDX to get back to the high of the trading range in 2016, when GLD was a little over 130, would imply a 48% move, versus only 8% in GLD. We believe that December may have demonstrated the beginning of a positive move in GLD, and the beginning of the inherent upside leverage in GDX. We believe that the gold miners, which declined twice as much as GLD on the downside, could demonstrate even more leverage on the upside from this historically low base. Their December performance begins to demonstrate that potential.

Lastly, we provide a chart of Homestake Mining versus the Dow Jones Average during the depression of the 1930s, so even the prohibition of private gold ownership in 1934 was not sufficient to end that bull market in gold mining companies, even as the official gold price remained at $34./oz.

In terms of current news that supports our long term conviction, both bond and stock markets have had to digest lots of news in recent weeks, and it hasn’t always been pretty. Capital markets don’t like uncertainty, which exist relative to trade tariffs, the clearly slowing economies worldwide (US, Europe, Japan, China), the uncertainty regarding our Fed’s plan relative to interest rates, the exploding US deficits, Mario Draghi’s announcement of an end to QE in Europe, the ongoing political turmoil in and out of the White House, the collapse of Bitcoin and the crypto-currency market. The result has been more volatility, especially in the stock market, than we have seen in years. Intra-day moves of 3-4% have become common place, which in and of itself creates a level of discomfort among investors.

There are major macro developments, within the broad brush concerns above:

  • The new US fiscal year started in October, and the stated (now called “on-budget” by some) deficit was $100.5B in October, versus $63.2B last year. November came in at $205B vs. $139B last year. For two months, the deficit is $305B. vs. $202B, up 51%. The actual debt is up $334B, reflecting “off-budget” items, the largest of which is Social Security obligations. We continue to suggest that the “on-budget” deficit will be closer to $1.5 trillion in the current fiscal year, and the total debt will be well over $1.5 trillion, due to government spending (up 18% so far YTY),  higher interest costs, higher defense spending, higher VA support, health care support, THE WALL, etc. There seems to be rare bipartisan agreement right now regarding an unwillingness to talk about the explosion of the deficit and the debt. It is just too disturbing. All the deficit hawks have put their heads in the ground. THERE IS NO POLITICAL WILL in this area.
  • There is an ongoing move away from the US Dollar, the world’s dominant reserve currency since 1944. China, Russia, and mid-east countries are increasingly using the Yuan and gold for oil trades. There is also a consistent reduction within foreign exchange reserves, of US denominated securities. This has been accompanied by accumulation of physical gold, which can’t be diluted by a computer key-tap.
  • There are many indications that China is accumulating far more gold than they have announced. Recall that three years ago China announced that their Peoples Bank of China (PBOC) had increased ownership to 1600 tons from 1000 tons over the previous five years. Considering that China is the largest miner of gold on the planet, 400 tons per year, and nothing leaves the country, an increase of 600 tons over five years is obviously an understatement. It may be Chinese government agencies other than the PBOC that is holding it, but they are government “affiliates”. Various sources have reported that thousands of incremental tons have moved into the hands of various government agencies in recent years, and we would not be shocked if China announces at some point soon that they own 10,000 tons or more.  This would be substantially more than the 8,400 tons owned by the US, currently assumed to be the largest holder.  This would allow the Chinese to create a trading currency backed in some way by their gold ownership, joining, or even replacing the US Dollar as the primary trading currency worldwide. Surprisingly, based on reported gold holdings, Russia (which continues its aggressive gold purchase program) is in the best position to make their currency convertible into gold. Both China and Russia could have multiple political reasons to link the Ruble or Yuan to gold, provide more credibility to their currency than the US can provide.
  • Jay Powell’s newfound uncertainty over the pace of further rate increase provides the possibility that Quantitative Tightening is slowing down, if not stopping altogether should our economy weaken further. It is now clear that fourth quarter GDP will be more like 2% or so than the 4.5% in Q3. Especially in light of slowing economies elsewhere in the world, which will slow further if interest rates are moved higher, Powell may find that the next important course of action is “QE4” or whatever they choose to call the new monetary accommodation.
  • Since September, foreign purchases of US Treasury securities can no longer be made, financed by low interest (or negative interest) borrowing abroad, with currency hedging providing an overall positive carry. Borrowing costs abroad have gone up modestly, hedging costs as well, so the guaranteed positive return has gone away, removing some material portion of the $5-6 trillion of annual demand for US Treasury securities. Since $5-6T of US Treasury Securities have to be “rolled” over the next twelve months, the $1.5T of incremental government debt has to be financed, and the absence of perhaps $2-3T that was previously invested (and hedged) by foreigners, provide a total of something like an incremental TEN TRILLION of US securities that has to be bought in the next twelve months. People… ($10,000,000,000,000) this is a lot of money and could be a strain on the financial system, to put it really mildly.
  • The market for “leveraged loans” and high yield loans has shown serious signs of strain in just the last sixty days. Wells Fargo and Barclays Bank failed to sell $415 million of debt on Ulterra Drilling Technologies, a manufacturer of drilling bits. Blackstone received their funds to help in their buyout of Ulterra, but WF and BB are hoping to market the debt in a better environment in ’19. There were a number of other deals actually pulled from the market in Europe over the last several weeks. The Financial Times said today that the “’junk bond’ market, whether in loans or bonds – has frozen up, and the US credit markets have ground to a halt….not a single company has borrowed money through the $1.2T US high-yield corporate bond market through mid-December…..we haven’t seen the results at yearend, but if the freeze remained in place, it would be first month since November 2008 that not a single high-yield bond priced in the market..”

Our conclusion from all of the above is that our economy and, indeed, the worldwide economy will have very modest growth, at best. The debt load is too heavy, and the unintended consequences of ten years of monetary promiscuity have yet to play out. Equity investors right now assume that Jay Powell will more or less stick to his plan of generally higher interest rates, even if at a much slower pace. If he “cries wolf”, however, the equity markets would rally, but we don’t think for long. The last recession of ’08-’09 required “monetary heroin” to the tune of $4T in the US alone, but each hit has to be bigger to keep the addict functioning. Once capital markets realize that, a more major downdraft is likely. 

In the long run: we believe there will be a new monetary paradigm, and gold related securities will be an important part of a more disciplined fiscal/monetary approach. The ownership of gold has protected one’s purchasing power for the last five thousand years, the last two hundred years, the last 105 years (since the Fed allowed the US Dollar to be diluted by 98%), the last 47 years (since 1971, when the gold window was closed), the last 18 years (since 2000, when deficit spending accelerated once again).

It is of course true that since 2012 gold and gold related securities have been poor investments, but, in the sweep of history, that is a mere blip. With a new level of financial uncertainty compounded by geopolitical concerns and fiat currency dilution rampant around the world, it is only a matter of time before gold establishes itself again as “the real money”. Gold is not the only hedge against inflation, but, among the possibilities, it is currently the most undervalued.  As James Grant, the preeminent monetary historian has said: “A gold backed monetary system is not perfect, but it is the least imperfect system”. We don’t expect a new gold backed monetary system to be in place any time soon, but any small progress in that direction will allow for substantial appreciation in gold related assets.

Best wishes for a healthy, happy, and prosperous New Year!

Roger Lipton

 

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SEMI-MONTHLY FISCAL/MONETARY UPDATE – MAJOR RISKS SURFACE

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SEMI-MONTHLY FISCAL/MONETARY UPDATE – RISK & REWARD IN NEWLY VOLATILE MARKETS

Both bond and stock markets have had to digest lots of news in recent weeks, and it hasn’t always been pretty. Capital markets don’t like uncertainty, which exist relative to trade tariffs, the clearly slowing economies worldwide (US, Europe, Japan, China), the uncertainty regarding our Fed’s plan relative to interest rates, the exploding US deficits, Mario Draghi’s announcement of an end to QE in Europe, the ongoing political turmoil in and out of the White House, the collapse of Bitcoin and the crypto-currency market. The result has been more volatility, especially in the stock market, than we have seen in years. Intra day moves of 3-4% have become common place, which in and of itself creates a level of discomfort among investors.

There are major macro developments, within the broad brush concerns mentioned above:

  • The new US fiscal year started in October, and the stated (now called “on-budget” by some) deficit was $100.5B in October, versus $63.2B last year. November came in at $205B vs. $139B last year. For two months, the deficit is $305B. vs. $202B, up 51%. The actual debt is up $334B, reflecting “off-budget” items, the largest of which is Social Security obligations. We continue to suggest that the “on-budget” deficit will be closer to $1.5 trillion in the current fiscal year, and the total debt will be well over $1.5 trillion, due to government spending (up 18% so far YTY), higher interest costs, higher defense spending, higher VA support, health care support, THE WALL, etc. There seems to be rare bipartisan agreement right now regarding an unwillingness to talk about the explosion of the deficit and the debt. It is just too disturbing. All the deficit hawks have put their heads in the ground. THERE IS NO POLITICAL WILL in this area.
  • There is an ongoing move away from the US Dollar, the world’s reserve currency since 1944. China, Russia, and mideast countries are increasingly using the Yuan and gold for oil trades. There is also a consistent reduction within foreign exchange reserves, of US denominated securities. This has been accompanied by accumulation of physical gold, which can’t be diluted by a computer keytap.
  • There are many indications that China is accumulating far more gold than they have announced. Recall that three years ago China announced that their Peoples Bank of China (PBOC) had increased ownership to 1600 tons from 1000 tons over the previous five years. Considering that China is the largest miner of gold on the planet, 400 tons per year, and nothing leaves the country, an increase of 600 tons over five years is obviously an understatement. It may be Chinese government agencies other than the PBOC that is holding it, but they are government “affiliates”. Various sources have reported that thousands of incremental tons have moved into the hands of various government agencies in recent years, and we would not be shocked if China announces at some point soon that they own 10,000 tons or more. This would be substantially more than the 8,400 tons owned by the US, currently assumed to be the largest holder.  This would allow the Chinese to create a trading currency backed in some way by their gold ownership, joining, or even replacing the US Dollar as the primary trading currency worldwide. Surprisingly, based on reported gold holdings, Russia is in the best position to make their currency convertible into gold. Both China and Russia could have multiple political reasons to link the Ruble or Yuan to gold, provide more credibility to their currency than the US can provide.
  • Jay Powell’s newfound uncertainty over the pace of further rate increase provides the possibility that Quantitative Tightening is slowing down, if not stopping altogether should our economy weaken further. It is now clear that fourth quarter GDP will be more like 2% or so than the 4.5% in Q3. Especially in light of slowing economies elsewhere in the world, which will slow further if interest rates are moved higher, Powell may find that the next important course of action is “QE4” or whatever they choose to call the new monetary accommodation.
  • Since September, foreign purchases of US Treasury securities can no longer be made, financed by low interest (or negative interest) borrowing abroad, with currency hedging providing an overall positive carry. Borrowing costs abroad have gone up modestly, hedging costs as well, so the guaranteed positive return has gone away, removing some material portion of the $5-6 trillion of annual demand for US Treasury securities. Since $5-6T of US Treasury Securities have to be “rolled” over the next twelve months, the $1.5T of incremental government debt has to be financed, and the absence of perhaps $2-3T that was previously invested (and hedged) by foreigners, provide a total of something like an incremental TEN TRILLION of US securities that has to be bought in the next twelve months. People… ($10,000,000,000,000) this is a lot of money and could be a strain on the financial system.
  • The market for “leveraged loans” and high yield loans has shown serious signs of strain in just the last sixty days. Wells Fargo and Barclays Bank failed to sell $415 million of debt on Ulterra Drilling Technologies, a manufacturer of drilling bits. Blackstone received their funds to help in their buyout of Ulterra, but WF and BB are hoping to market the debt in a better environment in ’19. There were a number of other deals actually pulled from the market in Europe over the last several weeks. The Financial Times said today that the “’junk bond’ market, whether in loans or bonds – has frozen up, and the US credit markets have ground to a halt….not a single company has borrowed money through the $1.2T US high-yield corporate bond market this month….if the freeze continues until yearend, it would be first month since November 2008 that not a single high-yield bond priced in the market..”

Our conclusion from all of the above is that our economy and, indeed, the worldwide economy will have very modest growth, at best. The debt load is too heavy, and the unintended consequences of ten years of monetary promiscuity have yet to play out. Equity investors right now assume that Jay Powell will more or less stick to his plan of higher interest rates, even if at a slower pace. If he “cries wolf”, however, the equity markets would rally, but we don’t think for long. The last recession of ’08-’09 required “monetary heroin” to the tune of $4T in the US alone, but each hit has to be bigger to keep the addict functioning. Once capital markets realize that, a more major downdraft is likely.

In the long run: we believe there will be a new monetary paradigm, and gold related securities will be an important part of a more disciplined fiscal/monetary approach. The ownership of gold has protected one’s purchasing power for the last five thousand years, the last two hundred years, the last 105 years (since the Fed allowed the US Dollar to be diluted by 98%), the last 47 years (since 1971, when the gold window was closed), the last 18 years (since 2000, when deficit spending again took off).

It is of course true that since 2012 gold and gold related securities have been poor investments, but, in the sweep of history, that is a mere blip. With a new level of financial uncertainty compounded by geopolitical concerns and fiat currency dilution rampant around the world, it is only a matter of time before gold establishes itself again as “the real money”. Gold is not the only hedge against inflation, but, among the possibilities, it is the most undervalued right now. As James Grant, the preeminent monetary historian has said: “A gold backed monetary system is not perfect, but it is the least imperfect system”. We don’t expect a new gold backed monetary system to be in place any time soon, but any small progress in that direction will allow for substantial appreciation in gold related assets.

Roger Lipton

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SEMI-MONTHLY FISCAL/MONETARY UPDATE – TRADE, IMMIGRATION, MUELLER, YADA, YADA, DEFICITS EXPLODE

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SEMI-MONTHLY FISCAL/MONETARY UPDATE – TRADE, IMMIGRATION, MUELLER, YADA, YADA, DEFICITS EXPLODE

There is lots of economic/political/social news day to day, but we believe the underlying fiscal/monetary problems will soon dwarf the currently discussed issues. In this country alone, billions of dollars per day (in deficit spending) are being created out of thin air.   It’s been said that “money is the source of all evil”. That may be true, but a currency of some sort is necessary to exchange goods and services to make social progress. Since we are in the midst of the largest monetary experiment in the history of the planet, and we don’t believe it will end well, unfortunately, we continue to monitor developments.

While there was quite a bit of intra-month volatility in the capital markets in November, the changes were minimal over the entire month. The precious metal markets were much quieter, but there was one notable down day, November 23rd, the reason not quite clear, with mining stocks down 3-4% which was not recovered by month end.  In any event, the gold mining industry, represented by GDXJ (the small to mid-cap miners) and the three prominent funds, Tocqueville, Oppenheimer and Van Eck were down about 2.7%.

Every indication is that the long-term financial issues overhanging the worldwide economy are becoming more intense every day, any one of which could ignite the monetary embers:

(1) The US Treasury must raise over $100B every week, to finance the growing deficit and refinance the maturing debt, and the Federal Reserve is no longer a buyer but a seller of securities. The “bid to cover” ratio for two-year US Treasuries has been coming down in recent months, and last month was the lowest since December 2008, the peak of the financial crisis.

(2) Major foreign purchasers of our debt, including China, Japan & Russia have backed off or eliminated entirely their purchases of US Treasury securities, to some extent replacing that portion of their foreign reserves with gold. As a corollary, the US trade balance that President Trump is so desperate to improve, would reduce the US dollars in foreign hands, which would in turn reduce the demand for our debt, contribute to higher interest rates, slow our economy, and trigger greater stimulus.

(3) Only six to nine months ago, reporters were talking about “worldwide synchronized growth” with no sign of inflation, truly a “goldilocks” situation. Just two weeks ago, headlines in the Wall Street Journal said “GLOBAL ECONOMIC SLOWDOWN DEEPENS”, “INFLATION TICKS HIGHER…”, “INTERNATIONAL FIRMS IN US SEE AUTO TARIFFS AS A THREAT”. As a corollary, Japan and Germany reported GDP contraction in Q3, Chinese growth continues to slow. So much for Goldilocks.

(4) The US current deficit, is exploding, will clearly be over $1 trillion in FY ending 9/30/19, with the total debt going up by more like $1.5T including borrowing from the Social Security Fund. There is no chance of less government spending, especially the next two years with the two houses of Congress split. According to the Wall Street Journal, the US will spend more on interest in 2020 than it spends on Medicaid, more in 2023 than it spends on national defense, and more in 2025 than it spends on all non defense discretionary programs combined. THIS IS SERIOUS, AND IT IS IMMINENT. The relevance of the deficits and debt is that the higher the debt load, the chance of the economy breaking out with productive expansion is reduced.

(5) The long-term suppression of interest rates has serious unintended consequences. Among them is the “misallocation of resources” as investors large and small “reach for yield”.  The current news flow is starting to reflect it. The Wall Street Journal two weeks ago had the headline DEMAND FOR RISKIER DEBT LETS COMPANIES SHIFT ASSETS.  The text ….” Investors are literally giving away the store to squeeze out meager returns from picked over market for corporate debt. Demand for riskier bonds and loans has been so intense that companies…are able to move valuable assets beyond the reach of creditors. Investors continue to make it easier for them to do so by agreeing to terms …that offer fewer and fewer protections.” The financial community has a very short memory. Ten years ago, the phrase was “covenant light”, and mortgage companies were making NINJA loans to homeowners with No Income No Job, and No Assets. Who said, “history doesn’t repeat, but it rhymes”? Just this morning, this was described in the Wall Street Journal in relation to sub-prime Auto Loans.

(6) Don’t take it from me. I’m just a veteran restaurant analyst. What could I know? However, within the last few months: Richard Fisher, former Dallas Fed Chair said: “…interest expense and healthcare expenditures will soon be more than 50% of revenues. At some point you have to pay the piper…We (the Fed) have been suppressing the yield curve. it’s a ticking time bomb”.

Ludwig von Mises, the legendary Austrian economist long ago taught us: “There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come soon as the result of voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.”

(7) Just last week Goldman Sachs came around (finally) to the view that markets offer an extremely attractive entry point for longs in goldWe see diversification value in adding gold to portfolios.” Goldman is (finally) forecasting a slowing US economy….at this stage of the business cycle, gold may be particularly appealing as a portfolio diversifier given that long-term bonds may be hurt if U.S inflation surprises to the upside … If U.S. growth slows down next year, as expected, gold would benefit from higher demand for defensive assets.”

Unfortunately, though Jay Powell, and other Central Bankers, might wish to persist in their collective attempt to contract credit, the politicians around the world can be expected to continue to kick the can down the road. Their unstated reality is “whatever happens will happen, but “not on my watch.” Politicians, economists, and capital market strategists, will soon be screaming “DO SOMETHING” and the Central Bankers will accommodate. Jay Powell gave us the first indication of that with his comments last week. Steven Mnuchin, Treasury Secretary, confirmed that just this morning, saying Powell is trying to position the Fed to stimulate when necessary.

Roger Lipton

 

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BITCOIN DOWN 75% FROM ITS HIGH – WHAT TO DO NOW?

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We don’t get them all right, but we’ve been consistently negative on the prospects for Bitcoin, ever since we started writing about it in August of 2017. Bitcoin was trading then almost exactly where it is at the moment, about $4,600. Among our articles was one written at $16,964 on 12/19.17, one day after the all time high of $18,674. We have provided, for your easy review, our writings that have included reference to Bitcoin, the most recent listed first. A summation of our opinion today, is exactly as we expressed it with our first mention back in August of 2017. “When the books are written about the financial follies of the early 21st century, the rise of bitcoin will be one of the ringing bells signaling the end”.  There was 100% risk in owning Bitcoin at $18,674 and there remains 100% risk at $4,500.

August 16, 2018

SEMI-MONTHLY FISCAL/MONETARY UPDATE – BITCOIN DOWN, GOLD ALSO – BUY ONE, AVOID OTHER BITCOIN – FLIRTING WITH A NEW LOW, A CORRECTION IN A LONG TERM BULL MARKET, OR AN END TO ITS RUN?

https://www.liptonfinancialservices.com/2018/08/semi-monthly-fiscal-monetary-update-bitcoin-down-gold-also-buy-one-avoid-the-other/

February 1, 2018

FISCAL-MONTHLY FISCAL/MONETARY UPDATE – GOLD FIRMS, US DOLLAR WILL REMAIN WEAK, BYE BYE BITCOIN (BLOCKCHAIN ADVOCATES WILL GO WITH THE GOLD) 

https://www.liptonfinancialservices.com/2018/02/semi-monthly-fiscal-monetary-update-gold-firms-us-dollar-will-remain-weak-bye-bye-bitcoin/

January 17, 2018

SEMI-MONTHLY FISCAL/MONETARY UPDATE – SOMETIMES A SIMPLE VIEW WORKS BEST, + BITCOIN UPDATE

https://www.liptonfinancialservices.com/2018/01/semi-monthly-fiscal-monetary-update-sometimes-simple-view-works-best-bitcoin-update/

December 19, 2017

BITCOIN REVISITED: THE FLAW IS REALLY SIMPLE !!

https://www.liptonfinancialservices.com/2017/12/semi-monthly-fiscal-monetary-update-bitcoin-revisited-flaw-really-simple/

September 5, 2017

SEMI-MONTHLY FISCAL/MONETARY UPDATE – GOLD VS. BITCOIN – ONE WILL BE UP, THE OTHER DOWN !!

https://www.liptonfinancialservices.com/2017/09/semi-monthly-fiscalmonetary-update-gold-vs-bitcoin-one-will/

August 15, 2017

BITCOIN MUST BE THE “NEXT BIG THING”, RIGHT?

https://www.liptonfinancialservices.com/2017/08/bitcoin-must-next-big-thing-right/

August 1, 2017

SEMI-MONTHLY FISCAL/MONETARY UPDATE – GOLD SLOWLY RISES – BITCOIN “ADJUSTMENTS” – BE CAREFUL OUT THERE!

https://www.liptonfinancialservices.com/2017/08/semi-monthly-fiscalmonetary-update-gold-slowly-rises-central-banks-buying-equities-sell/

 

 

 

 

 

 

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SEMI-MONTHLY FISCAL/MONETARY REPORT – CAPITAL MARKETS GYRATE – THE RUBBER MEETS THE ROAD!!

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SEMI-MONTHLY FISCAL/MONETARY REPORT – CAPITAL MARKETS GYRATE – THE RUBBER MEETS THE ROAD!!

Most of the trends we describe in this semi-monthly (or bi-weekly) column are very long term in nature. Day to day capital market trends are driven by short term trading techniques, often driven these days by computers that are making decisions based on price patterns, with no regard for the underlying fundamentals. I believe that the fundamentals drive the price patterns over the long term, not the reverse, and make my financial bets accordingly, in restaurant industry investments as well as broader decisions with my total capital. Lots of market commentators, including the infamous Jim Cramer who is a brilliant short term trader, fit their daily commentary to the daily price action, because there must be a reason that the market was strong or weak today. Trying to “game” the markets day to day is not the way to make money and keep it over the long term, and keeping it can be even tougher than making it, because there are lots of ways to lose.

We believe that a lot of the long term problems that have been overhanging the capital markets for decades are becoming very intense, and are likely to explode in the fairly short term, like a simmering ember prepare to ignite. The deficits, the debit, the spending, the money creation by Central Banks, the suppression of interest rates, the challenging worldwide economy, the wealth gap, the political dysfunction, the social unrest, and I could go on.

The current day to day news flow demonstrates the increasing intensity of the problems.

(1) The US Treasury must raise over $100B every week, to finance the annual deficit and refinance the maturing debt, and the Federal Reserve is no longer a buyer but a seller of securities. Last month’s “bid to cover” ratio for two year US Treasuries has been coming down in recent months, last month was the lowest since December 2008. You might remember that this was the peak of the financial crisis of ’08-’09.

(2) Major foreign purchasers of our debt, including China, Japan & Russia have backed off or eliminated entirely their purchases of US Treasury securities, to some extent replacing that portion of their foreign reserves with gold. As a corollary, the US trade balance that President Trump is so desperate to improve, would reduce the US dollars in foreign hands, in turn reducing the demand for our securities, contributing to higher interest rates here which slows our economy.

(3) Readers of this column know that we have been skeptical of the apparent strength in our economy, though only six to nine months ago, reporters were talking about “worldwide synchronized growth” with no sign of inflation, truly a “goldilocks” situation. Headlines in today’s Wall Street Journal say “GLOBAL ECONOMIC SLOWDOWN DEEPENS”, “INFLATION TICKS HIGHER…”, “INTERNATIONAL FIRMS IN US SEE AUTO TARIFFS AS A THREAT”. Japan and Germany reported GDP contraction in Q3, Chinese growth continues to slow. So much for Goldilocks.

(4) Jay Powell, our Fed Chairman, has a serious problem. He is committed to raise rates further, and continue to sell off assets (which are only down about 7% from the peak 14 months ago), but higher rates will further stall our economy. His other choice is to back off, even do QE4 in some form, ignite inflation (and a run on gold), but that has its own risk of economic disruption. We may already be in an  unrecognized “stagflation”.

(4) The US current deficit will clearly be over $1 trillion in FY ending 9/30/19, with the total debt going up by more like $1.5T including borrowing from the Social Security Fund. There is no chance of less government spending, especially the next two years with  the two houses of Congress split. According to the Wall Street Journal last week, the US will spend more on interest in 2020 than it spends on Medicaid, more in 2023 than  it spends on national defense, and more in 2025 than it spends on all nondefense discretionary programs combined. THIS IS SERIOUS, AND IT IS IMMINENT. The relevance of the deficits and debt is that the higher the debt load, the chance of the economy breaking out with productive expansion is reduced.

(5) The long term suppression of interest rates has serious unintended consequences. Among them is the “misallocation of resources” as investors large and small “reach for yield”.  The current news flow is starting to reflect it. Today’s Wall Street Journal has the headline DEMAND FOR RISKIER DEBT LETS COMPANIES SHIFT ASSETS.  The text starts….”Investors are literally giving away the store to squeeze out meager returns from picked over market for corporate debt. Demand for riskier bonds and loans has been so intense that companies…are able to move valuable assets beyond the reach of creditors. Investors continue to make it easier for them to do so by agreeing to terms …that offer fewer and fewer protections.” The financial community has a very short memory. Ten years ago, the phrase was “covenant light”, and mortgage companies were making NINJA loans to homeowners with No Income No Job, and No Assets. Who said, “history doesn’t repeat, but it rhymes”?

(5) Don’t take it from me. I’m  just a veteran restaurant analyst. What could I know? However, within the last few months: Richard Fisher, former Dallas Fed Chair said: “…interest expense and healthcare expenditures will soon be more than 50% of revenues. At some point you have to pay the piper…We (the Fed) have been suppressing the yield curve..if rates rise, it’s a ticking time bomb”.

Ludwig von Mises, the legendary Austrian economist long ago provided a succinct summary: “There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come soon as the result of voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.”

Unfortunately, though Jay Powell, and other Central Bankers,  might wish to persist in (just the beginning) of their collective attempt to contract credit, the politicians around the world can be expected to continue to kick the can down the road. Their unstated reality is “whatever happens will happen, but “not on my watch.” Politicians, economists, and capital market strategists, will soon be screaming “DO SOMETHING” and the Central Bankers will accomodate. The best we can do is to stay physically fit and financially flexible.

Roger Lipton

 

 

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SEMI-MONTHLY FISCAL/MONETARY REPORT – RISING DEFICITS, EVEN FASTER RISING DEBT – “WE’VE ONLY JUST BEGUN”

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SEMI-MONTHLY FISCAL/MONETARY REPORT – RISING DEFICITS, EVEN FASTER RISING DEBT – “WE’VE ONLY JUST BEGUN

September was basically flat in the equity markets, the Dow and S&P up slightly, the Russell and NASDAQ Composite indexes down a bit. Gold bullion and the gold miners were very, very quiet. Gold bullion was down 0.6%. The large and small gold mining ETFs, GDX and GDXJ, were down 0.2% and 1.1% respectively. The three gold mining mutual funds that we track, TGLDX, OPGSX and INIVX were up an average of .015%. The adjustment of the Vanguard Precious Metals Fund, which we discussed last month, has apparently run its course by the end of September, with them selling something like $1.5 billion of mining stocks. The last time they did this, in 2000, it was just prior to a twelve-year bull market, during which gold bullion went up six times in value and the mining stocks by a multiple of that.

We discussed last month how the price of gold has generally followed the increase in US debt, which itself is a precursor of an increase in inflation, the only politically acceptable way of dealing with that debt. In August, 1971, Richard Nixon closed the “gold window” because the prospect of rising deficits were creating “a run” on the US gold reserve. The price of gold went from $35 to a high of $850 per oz. in the 1970s. The gold price went from $250 to just under $1000 per oz. between 2000 and 2009 with the rising deficits created by the aftermath of 9/11 and the cost of two wars. The move from the 900s to a high of 1850 between 2009 and 2011 took place as the deficits rose sharply in the early years of the Obama administration. The decline since 2011 has coincided with less concern, misguided as shown below, over rising deficits. We want to “close the loop” with specific facts about deficits and debt over the last eleven years. In summation, the annual “deficit” has come down materially less than advertised, is now going up materially more than presented, and the result of annual deficits, namely the cumulative debt burden is a larger problem than ever before.

The following table shows, over the last eleven years, the stated annual deficit, as well as the year end debt. The increase in debt has far exceeded the reported deficit. Over eleven years, the difference is a monstrous $3.24 Trillion. It is interesting that in fiscal 2014 and 2016, two of the four years (from ’13 to ’16) when the annual deficit was so widely advertised as being “reduced”, the debt somehow went up by an “extra” $1.39 trillion, from what we call “non-budgeted” spending.

As the following table shows, the stated deficit for the fiscal year ending 9/30/18 will be something like $830 billion. The increase in the debt, however has been $1.29 trillion, with an extra $460 billon “needed”. It is interesting that the 9/30/19 Congressional Budget Office estimates when presented in Feb’17 called for a deficit of $526 billion. By Feb’18, the 9/30/19 estimate had been increased to $984 billion. Just yesterday, the official CBO estimate is now $1.085 trillion for the next twelve months, ending 9/30/19. Based on (1) the historical pattern (2) the obvious spending needs for defense, higher interest rates, health care and other entitlements, storm remediation, etc. (3) the current administration’s conviction that you have to “spend money to make money” and lack of fear of debt: we will “bet on the over” in terms of the cumulative debt growing materially more than $1.085 trillion deficit forecast. The CBO estimates, by the way, call for increasingly large numbers beyond fiscal ’19.

There is, lately, a bit more concern by the politicians, economists, and pundits about the reported and projected deficits and cumulative debt. However, because the inflation, as presented by government statistics, has been modest, the general assumption is that it can be “controlled”, and as, Dick Cheney suggested, the “deficits don’t matter”. Others (such as Stanley Drukenmiller, Ray Dalio and Howard Marx)  have said something like  “ignore history at your own peril”, and we are in that camp. In terms of the deficits: as the song goes “We’ve only just begun”.  We believe there will soon be a major price to be paid for the financial promiscuity of politicians and central bankers in recent decades, especially during the last ten years.  Governments can’t print their way out the problem. One doesn’t get out of a hole by continuing to dig.

We continue to believe that, as the distortions within the worldwide financial system become more apparent,  the gold price will catch up with the inflation of most other asset classes, and the gold mining stocks will move by a multiple of the gold price.

Roger Lipton

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SEMI-MONTHLY FISCAL/MONETARY UPDATE – THE DEFICITS AND DEBT – HERE WE GO AGAIN!

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SEMI-MONTHLY FISCAL/MONETARY UPDATE

The general capital markets were up modestly in July, gold bullion was down 2.3%. The gold mining stocks were down about 3.5%.  Most importantly, our conviction hasn’t changed regarding the long term outlook for our portfolio that is heavily invested in gold mining stocks.

While last month we outlined a group of tangible factors that support our thesis, it could be useful to go back to the biggest single reason that gold will be the surviving “currency”, protecting purchasing power best. The worldwide credit pyramid that has fueled the economic growth over the last forty years must be liquidated. Debts must be paid off, and the numbers are too large for the worldwide economy to grow out of the problem. “Default” will be the result, but refusal to pay is too obvious and makes the politicians look bad. Inflation is the only other solution since the voting public doesn’t understand who caused it. Gold has gone from $250/oz. to $1200/oz. since 2000, starting with the President GW Bush debts to finance the aftermath of 9/11 and then the two wars. Gold doubled from $900 in ’09 and the gold mining stocks quadrupled and more) as the deficit spending ramped up even further under President Obama.

Here we go again: The projected US deficit in the fiscal year ending 9/30/18 is projected to be about $800B, up from $600B last year. However, the cumulative debt in the 10 months ending today ($21.2 trillion) is already one trillion dollars higher than last September and is projected to be higher by $1.2 trillion by 9/30.

Only in governmental accounting can the annual deficits not total the cumulative increase in debt. This is not new. You have no doubt heard from politicians and economists who are concerned about the future deficit spending. Republicans are concerned when Democrats are in power, and now the situation is reversed. However, they don’t talk about the excess debt, on top of the budgeted spending, called other borrowing. Over the last ten years, the cumulative debt increase has exceeded the total of annual deficits by a cool three trillion dollars. People, this is a lot of money. While the annual deficits going forward are projected to be over a trillion dollars annually over the next decade, you can only imagine what the cumulative debt will look like after the other borrowing. We have described the situation in terms of US debts, but enormous potential credit problems also overhang the economies of China, Japan, and the Eurozone, the largest after the USA. What the endgame looks like is unknown, but it won’t be pretty.

Stay healthy. Stay financially flexible.

Roger Lipton

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SEMI-MONTHLY FISCAL/MONETARY UPDATE – YOU DON’T WANT TO KNOW HOW THE SAUSAGE IS MADE !!

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SEMI-MONTHLY FISCAL/MONETARY UPDATE – You Don’t Want to Know How the Sausage is Made !!

The general capital markets were fairly unchanged in June, gold bullion was down 3.4%. Interestingly, the gold mining stocks were down hardly at all. The gold mining ETFs, GDX and GDXJ, were almost exactly flat. The three major gold mining mutual funds were down an average of 0.8%.  Every indication is that substantial quantities of physical gold continues to move from West to East but the “paper” market, including options and futures, dominates the day to day price. The mining stocks acted noticeably better, when normally they could be down (or up) at least twice the price of gold. There was documented accumulation of GDX and GDXJ which is often a precursor of an upward move in bullion and an even larger move in the miners.

THERE IS NO SHORTAGE OF MACRO DEVELOPMENTS WITH LONG TERM IMPLICATIONS !!

In just the last few days, the following articles support our long held conclusions that a great deal of turmoil in the worldwide financial/capital markets is ahead, which we believe will cause our Fed and other Central Banks to “cave” and move back to monetary accommodation, which will spark a new run in gold related securities:

(1)    First Quarter GDP latest revision shows 2.0% real growth, down from the last estimate of 2.3% and the previous estimates in the high 2s. As for Q2’18, the latest NY Fed estimate is 2.7%, a lot lower than the highly touted 4% or more the Atlanta Fed and others have been talking about.  Even if Q2 comes in north of 4%, real GDP growth over the last year or so has been no higher that the “high 2s”, not much higher than the average of 2.3% average of the last 8-9 years and that modest increase from the “low 2s” is largely due to more government spending financed by more government debt and this is not healthy or sustainable over the longer term.

(2)  The global yield curve, the spread between 1-3 year and 7-10 year government securities, has just gone “negative”, per the JP Morgan GBI index. This yield curve “inversion” most of the time presages a recession within 6-12 months.

(3)    With the Chinese stock market down 20% from its early ’18 high, a Chinese government think tank (backed by the Chinese Academy of Social Science) has warned of a “financial panic” in the world’s second largest economy, caused by leveraged purchase of shares (as in 2015), rising US interest rates, trade tensions with the US, bond defaults and liquidity shortages in China. The Chinese government should “be willing to step in with full financial support, rather than taking piecemeal steps” the study said. Just yesterday, the Financial Times reported that the China Development Bank was tightening loan approvals for its “slum development” policy, a program which has provided (a cool) $1 trillion to homebuyers since (only) 2016. The implications of the monetary manipulations by the world’s second biggest economy are huuuge!. Our take: a much higher gold price will accompany future economic “adjustments” that will have been exacerbated by governmental interventions.

(4)    Russia has cut its US Treasury holdings over 50%, from $102.2B to $48.7B in just four months from 12/17 to 4/18. While these numbers are small relative to the trillions that China and Japan hold, US Treasury securities held by all foreigners, as a percent of their reserves, has declined from 64.59% in 2014 to 62.7% in 2017, so they are steadily diversifying away from dollar related securities. Gold, as a share of foreign exchange reserves has held steady. Central Banks have continued buying hundreds of tons annually, as they have since 2009. They bought 116.5 tons in Q1’18, the most in any Q1 since 2014 and up 42% YTY.

(5)    The Wall Street Journal, several days ago, headlined “UK Central Bank Warns on Debt Risk”. The article said “it sees pockets of risk to the stability of the financial system including US corporate borrowing, risky loans in Britain, foreign-currency lending and emerging markets….as central banks step back from the easy-money policies of the past decade and trade tensions escalate.” You can google the full article, but we don’t make this stuff up.

(6)    Just under the previous article, on June 28th, the headline read: “Fed’s Ability to Fine-Tune Interest Rates is Tested”. The Fed lost “control” of the markets in ’08, salvaged the situation with trillions of financial accommodation. In some ways, the problems are larger today and the Fed, with their hundreds of PHD economists, has had a poor forecasting record.

(7)    While many observers underplay “systemic” risks in today’s financial markets, leverage in derivative securities is larger, non-financial corporate debt is at a new high (exceeding the last high in ’08), ETFs made up of cap-weighted securities will have little liquidity in a downdraft, which especially could apply to high yield fixed income ETFs. Rising default rates on student loans and subprime auto loans, sharply rising US deficits, underfunded social security and federal health care obligations are all problematic whether the market overlooks these trends for the moment or not. The momentum in capital markets can turn, literally, on a dime. If someone doesn’t think the Chinese monetary manipulation has provided at least the possibility of “systemic risk” to the worldwide economy, they are living on the wrong planet.

(8)    The equity markets are highly valued by historical standards. Interest rates are still very low which means bond prices also have substantial downside risk, especially the high yield sector where investors around the world have been “reaching for yield” for a decade.

Conclusion:

Many of the above factors have been in play over the last four or five years, building over decades, and the timing of the unwinding of the worldwide credit bubble continues to be uncertain. It’s been said that in every crisis, you can look like a fool either before the event or after. Another advisor, when asked how a crisis develops, said “very slowly and then very quickly”. Just recently, we asked a highly regarded economist and market strategist, who agrees with us, when the turn will come. His response was as good as any: “On any given Sunday”. When it happens, a great number of people will say “how could I have not seen that?”

Roger Lipton

 

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SEMI-MONTHLY FISCAL/MONETARY REPORT – GOLD LOWER LAST FRIDAY – “MANIPULATION”???

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SEMI-MONTHLY FISCAL/MONETARY REPORT – GOLD LOWER LAST FRIDAY, “MANIPULATION” ???

Not much has changed fundamentally in the last couple of weeks. The economy is doing somewhat better, aided materially by increased government spending. Capex investment by corporations is still lagging, housing and auto activity are slowing as interest rates rise, the deficit moves predictably higher as health care costs, higher interest rates on the US debt, and much higher defense spending are long term facts of life. Though consumer sentiment and business optimism is much improved over the last year or so, consumers are still stretched financially and the possibility of a tariff “war” continues to unsettle capital markets and the business community.

Gold and gold miners have been quietly consolidating over the last few months, but had an uncharacteristically volatile day, on the downside last Friday.  That just happened to be an option expiration day, which often can generate unusually large price changes.  This type of volatility, heavy trading volume, especially at illiquid times of the day (“middle of the night”), and at inflection points for the technical chartists, used to be fairly frequent occurrences, in the gold markets in particular. It seemed like every time there was especially bullish news for gold, the price would get hit, with heavy volume in futures and options at times of the day when nobody “in their right mind” would be trying to liquidate a “real” physical position unless they were consciously trying to manipulate the short term price of “paper” gold. In any market where there are futures and options trading, aggressive traders of the “paper” who don’t have to immediately deliver the physical “underlying”, can trigger “stop loss” orders at certain predictable prices. Over time, these distortions get corrected, but the short term volatility can be unsettling. Longer term physical buyers use these distortions as buying opportunities, and it is no coincidence that China, India, Russia, and others have continued to be major buyers of physical gold, demonstrating their diversification of assets away from US Treasury issued securities. China and Russia, in particular, have clear reasons to undermine confidence in the US Dollar, improving trade and investment in the Yuan and Ruble, and a higher gold price would do just that. They understand the nature of the worldwide currency debasement and are doing what they can to cope, though our politicians lack the political will to do the same.

Friday, the fifteenth of June, was an option expiration day which, in and of itself, can increase price volatility. It cannot be coincidental that, after India and China had closed their physical trading markets, large quantities of gold futures contracts were dumped into the CME’s Globex computer trading system just before the Comex gold pit opened for the day (at 8:20 a.m. EST).  The chart below shows the price action, and note especially how the trading volume exploded higher from the typically much lower levels. IN ONE HOUR, from 8-9am EST, futures contracts representing 9.03 million oz. of gold traded, which is slightly more than the 9.01 million oz. of TOTAL GOLD STOCK in the Comex vaults, and 17.7x the number of gold oz. “available to deliver”. For the entire day, 49.5 million oz. worth of “paper” traded, the equivalent of about six months of entire worldwide production.

It does not seem farfetched to conclude that nobody in their right mind would choose this particular time of day and month to “dump” such a large quantity of “real” gold, unless the seller wanted the price lower. This has happened before, and an artificially low short term price gave way to much higher prices in the near future. No individual seller is larger than the worldwide market, over a reasonable period of time. A buyer at an artificially high price had better be prepared to buy “it all”, because they will own it. A seller, at a price lower than the true market would allow, had better have an enormous inventory because the buyers will keep coming. It will be interesting to see how this latest incident of seemingly irrational volatility gets resolved.

Roger Lipton

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