It Hasn’t Hit Yet – May 31, 2024

Wealth Management • Jun 01 2024
It Hasn’t Hit Yet – May 31, 2024
Morgan Lewis Posted on June 1, 2024

It Hasn’t Hit Yet

Two weeks ago, HAI referenced comments from Western financial behemoth BlackRock managing Director Rick Rieder as evidence that the all-important Western investor is beginning to wake up to the powerful fundamentals now driving a significant breakout higher in the price of gold.

Commentary out of BlackRock offers a relatively direct line of insight into the collective mind of the Western investor. Rieder’s acknowledgement that “the debt’s too darn big” and that the U.S. “can’t” refinance the rollover of its massive debt pile without lowering interest rates (regardless of the state of inflation) was, in HAI’s view, very revealing. It offered confirmation that both fiscal and monetary policy are off the rails, and, importantly, it was a huge tell that the Western investor is finally catching on to the new set of rules that come with a whole new paradigm. 

Increasing confirmation of that new paradigm argues strongly that the breakout in the gold price and other hard assets is only in its infancy. Since Rieder’s comments were made, compelling evidence continues to mount: the West is beginning to catch on to a pending monetary and fiscal train wreck. 

Speaking at a recent panel discussion focused on the changing environment in macroeconomics and fiscal and monetary policy, former Fed governor Kevin Warsh didn’t mince words. On the ballooning interest expense on rapidly increasing U.S. debt, Warsh said, “This crowds out things that we need: a stronger military, a stronger safety net. And this is creating a new $34 trillion entitlement that someone needs to pay for. Imagine that we’re not at a time of full employment. Imagine a time when things are worse. Imagine a time that these wars just aren’t in some faraway place. We need to have the fiscal capability and credibility to tackle it.” Warsh continued, “This is a hinge point in history… This is as consequential a moment for the United States and the world as we’ve had in my adult lifetime… That’s what the country needs, I think, new thinking across fiscal and monetary policy.” This is important language. It’s not coming from outside critics, it’s coming from insiders. Western investors, take note.

On Friday, even the active U.S. Treasury Secretary, Janet Yellen, admitted in an interview with Bloomberg that recent increases in interest rates are complicating her job. Referring to higher rates, Yellen said, “That does make a difference. It makes it somewhat more challenging to keep deficits and interest expense under control.” Yellen is downplaying concerns for obvious reasons, but, in HAI’s view, the fact that the U.S. Treasury Secretary is publicly saying anything other than “we’re just fine and in great shape, thank you very much” is telling. Certainly over at the Fed Jay Powell is hearing Yellen’s comments and noting that he’s caught between needing to raise rates to combat an inflation problem and needing to cut them to ease Yellen’s challenge. This is what happens when policy is unsustainable, you eventually have nowhere to turn, nowhere to run. 

Taken together, that a former Fed governor and the current Treasury secretary are talking about a “hinge point in history” and the challenge “to keep deficits and interest expense under control,” all on the heels of Rick Rieder’s comments from two-weeks ago, is very much headline news in HAI’s view. 

It strongly suggests that the West is waking up to reality; we have a serious monetary and fiscal problem, and the country needs “new thinking across fiscal and monetary policy.” The troublesome aspect of this slowly emerging revelation is that we’re well past the point of an easy way out. We’re blinking awake at the end of the plank, with a sword at our back. That fact is what’s likely to drive the Western investor back into gold and gold stocks with vigor. 

If the imminent return of the Western investor isn’t enough to convince the reader that the move higher in the precious metals sector is still in its infancy, last week Jeff Currie offered another reason.

Currie is the former Global Head of Commodities Research at another Western financial behemoth—Goldman Sachs. After correctly forecasting the 2000s commodity super-cycle, Currie has emerged as one of the most prominent, vocal, and respected commodity experts on Wall Street. 

In a crucially important interview with Bloomberg, Currie observed that we are seeing a key shift develop in our new paradigm regarding the changing nature of petrodollars. According to Currie, major commodity producers are no longer automatically recycling their dollar-denominated commodity and oil revenues back into US Treasurys as a reserve asset.

As Currie put it, “For the first time ever, that dollar recycling is not occurring. And what is replacing it? I like to call it gold recycling.” He continued, “It explains a lot, why gold prices are as strong as they are. And what is the evidence of that is that the emerging markets—the BRIC countries—all met with Saudi Arabia and other key participants [in] November of last year and discussed how they’re going to trade with one another using local currencies. And then, whatever it nets out in settling, they would settle in gold… You’re unlikely to see that dollar recycling playing out probably ever again.” 

In short, given an inflation problem, a debt problem, and a monetary and fiscal policy problem—all in the context of geopolitical fracturing and a weaponized U.S. dollar—global central banks are indeed diversifying away from dollar dependence and out of Treasurys as a reserve asset. Instead, they’re diversifying into gold as a global neutral reserve asset. The consequence? The gold market needs to get a lot bigger, and that means a much higher price on a limited supply of gold. 

Finally, Currie explained that beyond having a primary impact on the monetary metals, all strategic commodities could be impacted.

“We know they [BRIC countries] are doing it with gold… What if they start doing it with copper, oil, and other commodities and build strategic stockpiles or something like that? It starts to get pretty bullish.”

Jeff Currie is a mainstream Wall Street commodity legend. The fact that he is now openly discussing “gold recycling” replacing “dollar recycling” of commodity net settlement surpluses—after Zoltan Pozsar (another extremely sharp analyst on the Wall Street periphery) has been making the same case for several years—is, in HAI’s view, extremely significant. 

In HAI’s view, the return of the Western investor to the precious metals sector will follow an as yet undefined tipping point of broad recognition that we’re on an unsustainable policy path, and that we’re nearing the end of our ability to further extend and pretend the Goldilocks status quo. While not at that tipping point just yet, HAI suspects we are rapidly reaching a point of acceleration in the Western investor’s recognition of reality, and of the new set of rules likely to power gold and hard assets much higher. 

Of course, like a massive ocean liner, secular Western investing trends don’t turn on a dime. Still, as Western recognition of a large-scale paradigm shift grows, HAI expects much more institutional capital to flow towards hard assets. Furthermore, HAI expects gold will be the tip of that spear. 

As further confirmation, just as gold’s 50-year performance has now exceeded that of U.S. government bonds, consider the impact of this week’s Bloomberg article titled, “Bonds’ Decades-Long Lead Over Gold Vanishes as Debt Worries Grow.” Forty percent of the traditional Western investor’s 60/40 portfolio is now losing badly to gold, and Western investors never love a loser. As tipping point recognition increases, the yellow metal and its producers stand to benefit from what HAI expects will be the most dramatic capital reallocation since the 1970s. Best to be positioned ahead of the full force of that liquidity spigot. It hasn’t hit yet! 

Weekly performance: The S&P 500 was lower, down 0.51%. Gold was up 0.48%; silver was nearly flat, down 0.19%; platinum was slightly higher, up 0.33%; and palladium was off 5.89%. The HUI gold miners index was up 1.11%. The IFRA iShares US Infrastructure ETF was up 0.41%. Energy commodities were volatile and lower on the week. WTI crude oil was down 0.94%, while natural gas sunk by 6.71%. The CRB Commodity Index was flat on the week. Copper was down 3.19%. The Dow Jones US Specialty Real Estate Investment Trust Index rebounded by 2.30%. The Vanguard Utilities ETF gained 1.70%. The dollar index was nearly flat, down 0.01% to close the week at 104.63. The yield on the 10-yr U.S. Treasury was up 3 bps to close at 4.50%.

Have a wonderful weekend!

Best Regards,

Morgan Lewis
Investment Strategist & Co-Portfolio Manager

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