Despite the grim near-term outlook for precious metals expressed in this item the other day, the good news for gold and silver investors is that the longer term fundamental factors that favor better performance in the future are still firmly in place, namely, low real interest rates, the prospect of more massive money printing by central banks, and lingering questions about the solvency of governments and the sustainability of the world's monetary system.
These concerns have been fading rapidly in recent weeks but I think it's a big mistake to conclude that they've gone away.
We are sure to see "financial repression" for some time to come and, in my view, the only real question is one of degree.
In last week's Bloomberg commentary Financial Repression Has Come Back to Stay by Carmen Reinhart (of This Time is Different fame), the case was made that governments and central banks around the world will continue to take steps to ease the burden of liquidating and/or servicing the massive amount of debt accumulated over the years (as shown below) by, in essence, taxing the public by means other than raising taxes (a.k.a., financial repression).
This is, by far, the most politically acceptable way for governments to try to dig their way out of the hole they are in, that is, by using low or negative real interest rates (that effectively taxes savers) and by printing money to buy government securities (that acts like a tax through higher inflation).
While the situation in Europe is decidedly different, here in the U.S., the alternatives are either undesirable (i.e., cut spending, raise revenue via the tax code) or unlikely (i.e., much stronger economic growth).
As this relates to one's investment approach, it is important to understand that the form of financial repression that aids governments most in servicing their debt - low or negative real interest rates - has been the single best predictor of rising gold prices since gold began trading freely back in the 1970s and that is reason enough alone for having confidence that the gold bull market will continue.
But, in recent weeks, apparent improvements in the U.S. economy have analysts increasingly doubting the Federal Reserve's commitment to keep short-term rates low through 2014 and, when combined with the lack of talk about the central bank's next round of money printing, these have been major factors behind tumbling precious metals prices.
So, even over the longer term, it comes down to the question of the true health of the U.S. economy along with the sustainability of the current recovery and if/when further stimulative policies are enacted by the Federal Reserve and/or the Federal government.
Anyone of the belief that the U.S. economy has embarked on an enduring recovery, that inflation will be kept low, and that we are on our way back to the levels of real growth seen six or seven years ago would be a fool to own gold. Similarly, anyone thinking that the central bank and government will soon feel compelled to ratchet up their various financial repression programs would be a fool not to own the metal.
Though the case is not as easily made as it was months ago, big Wall Street investment banks continue to think the Fed will launch another round of money printing this spring - either at the April meeting or in June. I tend to agree with this outlook as it will take another month or two for the weight of less positive, and then negative, economic news to turn the tide of public opinion, though a continuation of rising gasoline prices could help speed that process along considerably.
Moreover, the Fed will probably want to avoid any new policy action close to the November election, meaning, it will likely act preemptively earlier in the year on any substantive sign of a change in economic conditions.
Adding to the intrigue in the months ahead will be a heating up of the U.S. election season and the difficult budget decisions that will soon loom large at year-end. Recall that, in what may turn out to be one of the worst examples of "kicking the can down the road" in recent years, elected officials in the U.S. decided to put off tough decisions about raising taxes and/or cutting spending until after the November elections but, as part of the deal, they included automatic triggers scheduled to go into effect in January 2013 - less than 10 months from now.
Clearly motivated, in part, by a desire to forestall further credit downgrades after Standard & Poor's stripped the U.S. of its triple-A rating, apparently the thinking at the time was that either a new deal would get done early in the year (which it didn't), that a lame duck session of Congress would somehow undo what was done last fall, or that the U.S. economy would have recovered sufficiently to allow less painful budget decisions.
In any case, sufficient time was bought in the process, which, it now seems clear, was really the main goal.
Simply put, if the current optimism about growth fades by the fall, look for elected officials in Washington to do what they did early in the year and simply repeal the "automatic" triggers and push the budget deficit and national debt ever higher. Credit downgrades will surely follow and the U.S. dollar will likely plunge and this could lead to the final phase of the great gold bull market that, for many years now, I've thought would reach a crescendo in 2013.
My investment approach has always been to find the market where you can just "buy and hold" for the duration of that bull market and, given the long-term factors that are now aligning for natural resources in general and precious metals in particular, there should be sufficient upside ahead that will equal or exceed any other investment sector and that is why I remain very optimistic about what lies ahead, despite being somewhat bearish about the near-term.
Additional disclosure: I also own gold and silver bars and coins
