- Gold will keep us alive and our dreams intact by preserving the purchasing power.
- Gold is the best torchlight to illuminate the path ahead through the gathering dark clouds.
- Gold shows the decline of the financial system since September 2018; the slide is accelerating.
Regarding gold as the axis of investment simply means to measure other financial assets against gold in order to gauge the health of the assets within the global Fiat system.
Even though the central banks have some success in reflating the financial markets since late March, tough challenges remain because of depressed economies and future earnings. The root problems are record total debts and high asset prices. The efforts of the central banks to keep asset prices at the peaks result in an unprecedented amount of money printing. It is conceivable that asset prices can be kept at high levels longer, but eventually at the expense of the debasement of currencies. Gold being the outsider, a physical asset that is not faith and credit based, has always been the best and may be the only independent qualifier to compare with currencies, bonds and stocks. This article tries to provide visual tools based on gold for monitoring other major financial assets. Honest description of asset values is the intent.
Stocks and bonds have enjoyed favorable conditions for the past 12 years to reach peak prices. The virtuous part of the credit cycle, which started with quantitative easing and more credit available as shown in the diagram above. Derivatives also helped in boosting demands so that some assets prices became excessive.
The US repo mess in September 2019 was a reminder that both dollar liquidity and asset prices were in danger zones. Despite the Fed's effort to suppress the volatility by ending quantitative tightening earlier than planned and start quantitative easing, these moves were not enough to prevent stock prices from falling in February 2020. As fear surfaced, migration to safer assets began the vicious part of the credit cycle. This course appears to be ongoing in the foreseeable future despite the recent bounce in stocks.
The table above outlines some of the global troubles. Frankly, the world seldom encounters so much uncertainty and obstacles in the financial system. These obstacles in combination are bad news. The big question is how much the financial asset prices will be affected. Being aware of the issues above can help us in directing our investment choices forward.
Major asset classes
The charts in this article have a starting date of 06/08/2015.
The essence of my research rests on the belief that the data of major asset prices in entirety reflects the daily internals of the financial system. The processing of the data can provide useful insights both for tracking and clarification of changing trends. The goals are to provide reasonable impetus for investment actions.
The major assets of the above charts are the dollar, long-term Treasury bonds, S&P 500 and gold as represented by ETF UUP in light blue, TLT, SPY and GLD in gold color. $asset is just the multiplication of UUP * asset, e.g. $GLD is UUP * GLD.
Adding TLT to SPY, TLT + SPY, represents the pseudo-financial markets of bonds and stocks in dark green color. Correspondingly, multiplying UUP to the pseudo-financial markets becomes the $pseudo-financial markets in dark blue color. These indicators are at peaks and especially the $pseudo-financial markets in dark blue, showing the strength of the dollar since 04/2018 at the beginning of the trade war. The recent rebounds since the dips in March are the evidence that the Fed's monetary easing efforts are successful in boosting asset prices so far.
The rise in gold price since the August 2018 low has been steady and is accelerating lately. In comparing the pseudo-markets with gold, dividing the indicators by gold, both the light blue and light green curves decline since August 2018, and the slides are hastening. Gold being the origin of money which is fully convertible to other currencies to measure the major financial assets against gold is sensible. The exercise suggests that viewing an asset through the gold lens provides a different value realization. Additional benefit may include an effective monitoring tool for tracking the debasement of currencies as gold rises.
The 13-month data chart of the four major financial assets shows the transition from quantitative easing to tightening in September 2019. The Fed has been instrumental to arrest the fall in the stock market in September and again in March. With the Fed fund rate at zero percent, the only main tool left is money printing in ever larger quantities. Usually, the dollar will debase soon, but the timing is tricky because of the current relative weaknesses of the other currencies. The most rational way historically is to compare each currency with gold. This appears to be the effective and basic way to signal problems of the Fiat system over time. Interestingly, long-term bond, stocks and gold are at the same point now although the starting points were different 13 months ago. The dollar has held up quite well too.
The 13-month flattening chart above is the comparison between $TLT in gray and $SPY in beige, UUP*TLT and UUP*SPY respectively. The flattening operation is simply dividing each asset by the average of the major assets in the earlier data chart. The aim is to display the inverse and rotational aspects of $TLT vs $SPY. The inverse is almost perfect for the past 13 months as shown by the -0.98 correlation. The implications are plenty that can be useful for trading purposes. The most important point is to realize the dominant and yet opposite trend for each asset in any time period and to locate the reversals with other technical charts. The above visual is vivid for the tasks.
The eight-month flattening plot below extends the same processing to other major assets. The idea is to lay the curves horizontally for easier visual comparisons. The rise of other asset prices pale UUP. Stocks have recovered quite nicely. Long-term bond was the best performer but has been weak for the last two months mostly because of the stock's rise. Gold is by far the climber among the major assets since December, a testament to the adoption of the quantitative easing policy by the Fed.
The eight-month momentum chart below illustrates the movement of each of the major assets and their rotations among each other. Lately, the long-term bond seems promising and stock is erratic. Gold has been fluctuating for two months and seems to be gathering a rising trend. The dollar is holding up nicely too. This chart together with other price charts can be useful for timing purpose.
The Fiat system has been functioning satisfactorily since the detachment from gold in 1971. During times of extreme financial and economic stresses when there are drastic changes such as the explosions of money printing among countries, an external measurement such as gold can be helpful to track the health of the Fiat system. The authorities justify the expansion of the base money, whether as an excuse or as a need, to keep asset prices at elevated levels to prevent asset deflation. The authorities regard asset price deflation as unacceptable because the reduction in tax revenue can exacerbate the budget deficit problem.
Converting other financial assets in the gold space, divided by gold, reveals a different performance perspective of each asset. The exercise can be insightful because gold is the value standard of money through history.
For the past eight months, UUP/GLD keeps sliding down. TLT/GLD outperforms gold since February but has been descending recently. SPY/GLD in beige color was leading over other major assets until mid-February and then crashed during the liquidity crisis in March. The injection of liquidity and then participation by the authorities have lifted stocks, but only about half-way from the peak. $SPY/GLD, UUP*SPY/GLD, fared better than SPY/GLD simply because of the strength of the dollar. $SPY/GLD started the descent on February 13, a week before the peak in SPY/GLD. Also, the compression of the brown and beige curves means that the dollar index was falling fast, before it bounced up after March 9 which marked the day of the liquidity crisis when SPY crashed and bottomed on March 23. Some of these useful observations are evident because the assets are based in gold. The characteristic that UUP fell a week to a month before corrections in SPY can be treated as a warning flag for stocks.
The new $SPY/GLD has two mathematical operations. The first part $SPY, UUP*SPY, which is the real or international value of SPY. This operation is confined within the Fiat system. $SPY/GLD converts it into the gold space. Since gold conveys the inverse of the overall values of the Fiat currencies, $SPY/GLD offers an alternative view aside from the Fiat system. Simply put, if gold rises rapidly, the Fiat system is weakening.
If the dollar falls rapidly in the future, $SPY/GLD will show the warning sign again like February 20. The ability to interpret many of the signs from $SPY/GLD will aid our investment decisions before and during turbulent times.
The gold basics composite indicator in the above chart is rising mainly because of the slide in the three-month LIBOR rate since March. The indicator has been quite accurate in pinpointing the favorable entry points for gold. If SPY and UUP fall again, gold will ascend further. This set-up appears promising.
The chart below outlines the uptrend for gold and $gold, UUP*GLD in brown. $gold, the real or international gold value, is much higher than gold due to the strength of the dollar since the beginning of trade war two years ago.
Going forward, with the $2.3 trillion stimulus package in place, and an additional $3.0 trillion stimulus package coming if approved by the senate, almost all the extra budgets are provided by the Fed's balance sheet expansion. These stimulus packages can elevate asset prices for a certain time. Eventually, erosion of confidence due to rapid base money creation will diminish the value of the dollar and Treasury bonds because they are fully convertible and backed by the same government.
Gold has the continuous uptrend since 12/2019. Finally, the miners leapt upward last month. The fundamentals for the upward march are sound because the miners are undervalued and have improving earnings. The upside remains good because this sector has been depressed for the past six years.
The odds are advantageous to have a greater emphasis of gold and miners in our portfolio for the coming year.
Gold will keep us alive and our dreams intact especially in times of turmoil. Many of our ancestors survived during periods of hyper-inflation and wars because they own a few pieces of gold. For the past 100 years till today, hyper-inflation of goods happened in many parts of the world, Germany, Israel and Argentina.
Confrontations are overtaking cooperation in geopolitics and politics, with widening polarity between the rich and the poor. All these negative backgrounds are dark clouds over stocks. Treasury bond prices are hitting the ceiling too when interest rates are close to zero, which link to limited upside and huge downside when interest rates rise again. Global currencies are undergoing debasement with torrents of money creation. Among major financial assets, gold is the best torchlight to illuminate the investment path ahead with the help of the charts.
Bonus: Professor Fekete on Hyper-Inflation, Hyper-Deflation and Negative Interest Rates
"But because of the ignorance of the Federal Reserve, over-boosting occurs: the periodic injection of excess credit kicks the system to ever higher energy levels. Empirical evidence is provided by the sloshing of excess money back and forth, like tide and ebb, between the commodity market and the bond market with increasing intensity, until the system breaks down. If breakdown occurs during the phase when the rate of interest is rising and money flows from the bond market to the commodity market, we talk about hyperinflation.
A second variety for which no precedent exists because we have no previous historic example of experimentation with global fiat paper money. If breakdown occurs during the phase when the rate of interest is falling and money flows from the commodity to the bond market, then we have what I call hyper-deflation." (Oil, April 2020)
"The theoretical case for the gradual suppression of the rate of interest to near zero rests on the fact that it increases the present value of durable goods, thus providing incentives for investments - as opposed to paying down debt.
Under a prolonged decline of interest rates capital is being eroded and, ultimately, destroyed. The rate of interest falls. The liquidation value of debt, contracted earlier at higher rates, rises. Why? Well, because now the stream of amortization payments is being discounted at a lower rate. Therefore, at maturity there appears a shortfall- impairment of capital."
This article was written by
Analyst’s Disclosure: I am/we are long GLD. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.