Time to Buy Gold?

By Mehran Bagherzadeh, MBA, Brazil Resources Inc.

The economy and gold

Are you ready for the first recession post the greatest money printing job of all time? If your answer is yes, then you have been taking advantage of the current ultra low gold price. And if your answer is no, then you need to befriend a gold bug right away.

You see, the current bull market in US stocks started in March 2009. The current run is 32 months longer than the average bull market and has had the second biggest run post World War II for the last 82 months, at the time of the writing of this article. And now, the asset bubble driven trickle-down economy that was deliberately planned and executed by the United States Federal Reserve (the Fed) has met its first interest rate hike in over nine years. Now what could go wrong with this picture? First off, bear with me while I outline the circumstances and events that impact the price of gold. (Prices in US dollars)

Labour Market

Has anyone seen the latest US job reports coming out for the months of November and December 2015? The US economy created 211,000 new jobs in November and 292,000 new jobs in December. Then something really interesting happened, the price of gold actually jumped 2.3% on December 4th, the day that the November jobs numbers came out. The biggest one-day gain since January 2015. I know what you are thinking; job numbers excellent, economy is doing great, rates are going up and gold had its biggest one day gain in almost a year? Yes, you guessed it – red flag. After all, higher rates cut the appeal of gold because it doesn’t pay interest or offer returns like competing assets.

Then, the spectacular December job numbers came out on January 8th, yet gold just took a temporary hit and still finished the day above $1,100 an ounce. The mainstream media will tell you that gold traded above $1,100 an ounce because of its safe haven shelter status thanks to the Chinese stock market meltdown. Perhaps that is a viable explanation, yet bullion investors, people who buy and sell gold for a living, saw past the headline numbers and paid attention to a very specific detail in both jobs reports – the underemployment rate.

The underemployment rate, reflecting a rise in the number working part-time for economic reasons moved higher in the month of November and held steady for the month of December. This number emphasises a measure of labor market slack, termed and closely monitored by the Fed Chair’s Janet Yellen. So job numbers high, yet full time high paying jobs not that high? Where have all the high paying full time jobs gone? Do we have new jobs, but not higher wages? You could be onto something.

The three culprits for low wages and fewer full time jobs, in my opinion, are outsourcing, technology and robotics. Outsourcing obviously needs no explanation. Technology application in everyday life on the other hand makes our daily routine ever more efficient by eliminating the middleman and, yes, killing jobs in the process. Moreover, current advances in robotics will only set the manufacturing sector at a much higher margin business, hence more efficient.

All of the above translates into a regular footing of employment downsizing that were previously serviced by the great North American workforce, also called the middle class. This obsessive compulsive behaviour in making the North American economy ever more efficient resulting in ever higher margins demanded by Wall Street not only eliminates jobs but also pulverizes any attempt for a run in the inflation rate. After all, one of the main criteria for inflation is a wage raise. Good luck trying to get a raise while you are competing on a wage basis with a worker out of India or efficiency basis with a software or robot. You do not stand a chance.

So what is the macro result of this? For starters, when a job seeker can’t find full time jobs, they hold several lower paying part time jobs on a regular basis termed ‘underemployment’ and seemingly on a steady trend according to monthly job stats coming out of the US.    Incidentally, the US had virtually no inflation in the month of November; the reading was 0.5% which can only mean, among other reasons, that we are currently going through a wage freeze, which can’t, by any stretch of the imagination, be a good indication for the economy. Lower wages translates into lower consumption, which translates into lower economic activity, which at the same time feeds into the underemployment rate all over again.

The asset bubble trickle-down economy driven by the Fed’s zero rate policy was supposed to counter all of this. The Fed had no option but to bet the farm on the theory that what’s economically good for the 1% will eventually trickle down into jobs and new opportunities for the 99%. Yet here we are with a steady labor market slack and virtually no inflation, 82 months in a stock bull market.

The Fed and the economy

This is no longer your father’s or grandfather’s economy. While we probably are witnessing the incoming market corrections because of the Fed’s misguided policies, excluding for the resource sector where it has been done to the extreme, the S&P 500 at its present valuation, really has not yet priced in the new normal. The S&P 500 is one of the most commonly followed equity indices, and many consider it as the best representation of the US stock market. The index is based on the market capitalizations of the 500 largest companies having common stock listed on the NYSE or NASDAQ, weighted by company size. What that means is that bigger companies affect its performance far more than smaller companies. Hence, only a strong performance of more than 60% gains by the top 2% by size of the companies in the index, such as Google and Amazon, for example, kept 2015 for the S&P 500 in the bull market column. In other words, the majority of the equities in the index were down and in the red for 2015.

The stealth bear market

You guessed it; we are currently in a “stealth bear market” where many stocks are actually down 20% from their peaks. Moreover, stealth bear markets are usually followed by full-on bear markets eventually. So stay tuned – that correction is on its way, we are currently witnessing a bull market by name only. There clearly seems to be far greater risk than opportunity in U.S. stocks at the moment yet the Fed keeps on telling everyone that things are going fine. What remains clearly evident in all of this is that at the end of the day, the Fed had no choice but to raise rates to save face and to prove to itself and the rest of the world that it is still relevant. So where do we go from here?

The Fed and interest rates

For starters, could the above arguments finally represent the canary in the coal mine for the US economy? Are we heading on a one-way ticket towards a recession? If yes, then how will the US dollar perform in light of the incoming perceived recessionary market dynamics? The current argument is that with already the third-longest sustained greenback rally since 1971, the US currency is projected to strengthen versus most major currencies. That outlook is backed by the Fed’s stated intent to continue raising interest rates on four different occasions in 2016 while peers in the rest of the world keep them flat or lower. Many don’t think the Fed will do that.

But once again, will the Fed really raise rates in light of an incoming economic slowdown? The current US dollar rally kicked off in 2013 when the Fed began tapering its extraordinary monetary stimulus, termed Quantitative Easing I, II and III, put in place since the 2007-2009 recession. This then followed with speculation of higher incoming interest rates in the near future. That caused the US dollar to strengthen because it meant investors would be paid more to keep money in dollars compared with other currencies. With its historic inverse correlation to the price of gold, it also meant incoming lower gold prices. Then where is the price of gold heading in 2016? Where else, it’s all relative and really dependent upon the Fed.

In light of the recent sell-off of equities during the two first weeks of trading in 2016, one would think that the Fed will not be raising rates in the expected March meeting and might push the continuation of the lift-off further down the line. Or maybe we should call a spade a spade and go on record saying that this rate hike was supposed to be the “loosest” and, in turn, it will be the shortest lived credit tightening in US history.

Bull markets must end

The US stock bull market that started in March 2009 has had the second biggest run and rise in more than 50 years. The odds are against the US stock market with every day that passes because of its duration, because of its reverse pyramid status index value indication and because of zero incurring inflation, making it likely that a substantial correction is on its way.

Ultimately, all bull markets must end. That’s simply the nature of financial markets. The rate hike will be over and we will be back into emergency measures territory once more. Interest rates will be reversed back to zero or perhaps even into negative territory for that matter.

We could also have incoming Quantitative Easing IV to shore up economic activity by the Fed and hope that we have an eventual short recession ahead of us. Or we could have the ultimate wild card and see no intervention from the Fed leaving the financial markets for this occasion to correct themselves in their very special manner.

One thing that is certain is that all the mentioned emergency measures that the Fed will initiate or the no intervention option, in light of an in-coming recession, can only yield two sure results: the swift and effective devaluation of the US dollar and a rapid exodus of funds into safe haven investments. Both have historically proven sure indications of rise in price and accumulation of gold.

Why gold – why now?

In light of such doom and gloom predictions for the US economy and dollar, it’s time again to hold and horde one single hard asset that has been time tested and has eternally proved as the only type of investment during down and unpredictable economic times. It’s time to buy gold!