Jerome Powell This Week: Hawk Or Dove?

Weekly Commentary • Mar 20 2024
Jerome Powell This Week: Hawk Or Dove?
David McAlvany Posted on March 20, 2024
  • Japan Raises Interest Rate For First Time In 17 Years
  • Central Banks Continue To Buy 2x The Gold Of Pre-Pandemic Buying
  • Will Nvidia & Other Techs Tumble If Fed Goes Tight?

“Today’s 7% deficit relative to GDP exceeds the levels as a percentage of GDP that we had in the 1930s, that we had in the 1970s, that we had in the 1980s. It’s only exceeded by a handful of the most destructive events in modern history, World War, pandemic, and financial collapse. Curious, isn’t it, how we trivialize this? So long as equities are moving higher, the bond market isn’t flexing its muscles in protest, we assume that this is fine and we’ll just muddle through when, in fact, we are in the eye of the storm, exponentially growing obligations tied to increasing commitments on an annual basis and increasing interest rates guiding us towards a dead end.” —David McAlvany

Kevin: Welcome to the McAlvany Weekly Commentary. I’m Kevin Orrick, along with David McAlvany.

David, this is a big week, the Federal Reserve, with Powell talking, and we were talking about gold just a few minutes ago before we came into the studio. And I am reminded of going sailing. I was down in Puerto Vallarta out on a Hobie Cat. There was an old, old sailor who took me sailing, and he saw that I’m pretty much a neophyte. Even though we’ve sailed, you and I both, I haven’t done enough of it to where I really had it in my bones. And he said, “Kevin, you need to know where you’re going. Stop changing things just based on the wind. We change with the wind only based on where we’re planning on ending up.” And I thought that that was really good advice because a week like this, you could say, “Oh my gosh, the wind is shifting here. The wind is shifting there.” You wonder what you should do, but you should always keep in mind, you change the sails to get where you have already decided to go, not vice versa.

David: It’s funny you mentioned a voyage that began in Puerto Vallarta. I had a voyage that began 25 years ago in Puerto Vallarta. That’s where I was engaged to be married.

Kevin: That’s right. You and Mary.

David: And so different voyage, but understanding where you’re going, I think that is a part of creating legacy. Yeah. This week, we’ve got the Fed, we’ve got the Bank of Japan. And just a sort of a preview, we want to talk about both of those. For Japan, it’s the first increase in rates in nearly two decades, 17 years. And then also want to spend some time talking about the critical nature of the gold markets and give a Commitment of Traders [COT] update. And so I would encourage you to hang in there for the final comments as we end talking about gold today.

Kevin: Yeah. Let’s just jump in on that. Just briefly though before we get there, because big money right now, central banks are buying twice the amount of gold that they were even pre-pandemic, but central banks have been net buyers of gold since 2008, so we have big money going into gold right now. But when you’re talking about the wind, you watch the Commitment of Traders. You like to see what the speculative guys are doing, and then you also like to look at what the minds and some of the more established group is doing.

David: Yeah. We had the conversation with Edward Chancellor. We talked about his book, The Price of Time. And as you know, I’m somewhat obsessed with bibliographies. So I began to get the books in that I ordered.

Kevin: Is that what this stack is here?

David: This is just a small part of it. But the introduction to one of the books is written by Alex Pollock. He was also a guest on the Commentary.

Kevin: He was a great guest.

David: And he starts by asking the question, what is the most financially dangerous institution in the world? It is the Federal Reserve. Nothing else can or does create as much systemic financial risk as the Fed does by its monetary manipulations. Since the dollar is the dominant international currency, the risk is created not only for Americans, but for people all over the world.

Kevin: And I loved that interview because you and he hit it off so well because he is a philosopher. He’s not only an economist/banker, but he’s a philosopher. I was likening some of the changing things in the markets, the Commitment of Traders and things like that, to sailing. But here’s what makes it different, Dave. In sailing, you can look at the clouds and you can see naturally what is coming. With the Federal Reserve, you can’t always do that. What if there was a man who had control of the wind on a continual basis? How in the world would you set those sails?

David: That’s a good question. Well, we’re well anchored with facts and figures. And we look at what’s happening on the fiscal front and know that this is a part of the problem that the Fed has. They’re navigating a really tough spot. If they continue to raise rates, they have one version of a squeeze. If they lower rates, they accelerate inflation. And so they’re in kind of a catch-22 position.

Kevin: Doesn’t the deficit force the Fed into a corner? And the deficit is huge at this point. Granted, as a percentage of our GDP, it doesn’t look that huge, but when you look at it from trillions and trillions, I mean a trillion dollars every 100 days is what we’re adding.

David: That’s what we’re beginning to see in the investment community, is this awareness that they are in this tough spot. Debt spiral on the one hand, inflation on the other. Which do you choose? Well, they’d rather not choose either, but they have basically those two choices in front of them. And our deficit quoted as a percent of GDP doesn’t seem that bad compared to the nominal figure. It’s minus 7%. And again, that’s not as extreme as the nominal figure of 1.6 to two trillion. 830 billion just here in the first five months of the fiscal year, according to the Congressional Budget Office.

Economists recognize its abnormality outside of recession or war. And when you see 7%, maybe you’re like, “Well, I don’t even know if that’s a big number or small number.” But for anyone with a sense of economic history, it’s a big deal. Because truly outside of not even a recession, but depression or war, the Great Depression took us to negative 5%. And the World War II, that era took us past negative 25%. The mid-’70s recession, and at that point an ill-fated attempt at debt monetization, returned us to negative 5%. More recently, we had the global financial crisis, and again, as a percentage of GDP, our deficit went to minus 10.

Kevin: And then we had Covid.

David: Minus 15. So hopefully that gives you some perspective. If you shut the economy down or move to wartime price controls and massive munitions spending, it’s double-digit. Otherwise, you rarely exceed 5%. Even during depression, you barely made it to 5%.

Kevin: You bring up guests, but James Grant is a great guest. And we read his book The Forgotten Depression. Remember 1921 was a depression, but it was self-correcting. In fact, going back to sailing, there are self-correcting mechanisms to the boat. And when you’re on a gold standard and when you don’t have a Federal Reserve Chairman who plans on monkeying with the economy, a depression may last, what, 18 months? 20, 22 months, something like that. That’s what we had in 1921. Gosh, I wouldn’t mind a depression like that now, to be honest with you.

David: Well, what Giulio Gallarotti pointed out in our interview with him was that things changed considerably, particularly in terms of monetary policy, as the budget became politicized, and as politicians had to pay attention to the economic variables, which prior to there being universal suffrage they could just ignore. No one really cared about the ebbs and flows of the economy because it wasn’t like you could be voted out of office. It was still sort of the minority vote, less people voting, that is. So arguably, had we been off the gold standard, and this goes back to that depression era, fiscal spending could and would’ve been a lot easier.

So maybe we would’ve seen a different number than that 5%. Maybe it would’ve been more extreme. But even in the forgotten depression of 1921, given the limits of the gold standard era, government leaders chose a different course. They cut the budget. And that, of course, negatively impacted employment for six to 12 months. But that was on the table because politics was not dominating our monetary policy landscape. We like to think of political independence, but truly things have shifted as we moved from the ’20s, ’30s, ’40s, ’50s into the ’60s and ’70s, when you see the vote count, and you also see, again, as Gallarotti would describe it, the politicization of the budget. So we did have that negative impact. Unemployment spiked for six to 12 months, but after that 1921 depression, the economy quickly returned to health.

Kevin: Things have changed so much since then, though. Like you said, people can vote, universal suffrage. And so with the assumption that we’ve got a Federal Reserve that’s politicized, then they are paying attention to what the vote is. But back in the 1920s, I bet you they didn’t even know who the Federal Reserve Chairman was.

David: No way. In that era, less than one in a million— I mean, if you think about Keynes’ famous quote of less than one in a million, even understanding inflation, there’s got to be even less than the one in a million who understands who’s causing the inflation. Could they name their chief central banker—

Kevin: I’ll bet not.

David: —back in the day?

Kevin: Yeah.

David: Does McAdoo ring a bell? Does Hamlin ring a bell? Does Harding ring a bell? I think probably more familiar was—in the New York circles and in banking circles—Benjamin Strong, Paul Warburg.

Kevin: The private bankers, yeah.

David: Yeah. But the point being that obscurity to stardom, central banks have emerged in prominence with the impact—on a similar track with the impact—of their ideas on the monetary system, and therefore upon the financial markets and economy, sort of in that order.

Kevin: Yeah. Doug Noland was talking about the natural correctives of a gold standard. And central bankers hate that because they don’t want to have that constraint. But the government hates it even more because they don’t want to have any strain on how much money they spend on what.

David: The excesses we see today in the asset markets, which ultimately bleed into consumer price stresses and strains, are enabled by the fiat system that replaced the gold standard. Clearly, we’re not going back to the gold standard, but I think it’s worth recalling those natural disciplines and correctives which were on display in the early 1920s versus the early 20th century American experiments with fiat. Deficits are far more allowable. They’re facilitated by this age of fiat, so it’s no surprise that today’s 7% deficit relative to GDP exceeds the levels as a percentage of GDP that we had in the 1930s, that we had in the 1970s, that we had in the 1980s. It’s only exceeded by a handful of the most destructive events in modern history, world war, pandemic and financial collapse.

So curious, isn’t it, how we trivialize this? So long as equities are moving higher, the bond market isn’t flexing its muscles and protests, we assume that this is fine and we’ll just muddle through, when in fact we’re in the eye of the storm, exponentially growing obligations tied to increasing commitments on an annual basis, and increasing interest rates guiding us towards a dead end.

Kevin: Okay, but let’s play a thought experiment here. Let’s pretend instead that we’re Japan, because Japan is what’s credited over and over as a way of saying, “Hey, we don’t ever have to really pay the piper on this.”

David: Yeah, if that’s the counterargument as concern for debt to GDP ratios not being consequential, you look at their number, 230% debt to GDP, they’re virtually double the US debt predicament. This week is worth reviewing. That’s one of the reasons we want to talk about the BOJ. Not only have they met this week, but they’re discussing the end of the yield curve control. They’re discussing raising rates for the first time in over 17 years. So I would say no, they are not a counterargument because behind the scenes you look at the quantity of debt and that’s one factor. Then the interest paid on it, that’s the other. Any quantity of debt is manageable with a rate of interest less than zero.

But when rates go positive, there are real consequences emerging from your prior commitments. Fortunately for the Bank of Japan, it’s only 10 basis points. That’s a 10th of 1% what they’re raising rates. So first increase in 17 years, from 10 basis points under to a range of zero to 10 basis points over. And if you want, we can talk about the differential between our Treasurys and theirs in a minute because that’s really the consequential thing. If you’re talking about capital flows and the shift towards favoring the yen and disfavoring the dollar, that differential will have to close a little bit more.

Kevin: So last night we were at the restaurant that we’ve been at for many years, drinking Talisker, served neat with our soda back, and we were just talking about the history. I mean 17 years, Dave, that’s how long we’ve been doing the Commentary. And there are times when we drink 18-year-old scotch. We’re one year away from, “Hey, they bottled this when we first started.” But the Japanese started this experiment 17 years ago. So that’s all we know in the Commentary.

David: Exactly. Their legacy is a match for our Commentary— They may have beat us by a few months. But the interest rate experimentation began just prior to our launch of the Commentary. It was about the same time I became CEO of our family business, precious metals’ brokerage, and actually it was the same time we were planning and then launched our asset management company. So we had Shirakawa, then moved to Kuroda and now Ueda.

Kevin: In Japan. Yeah.

David: Only three central bank chiefs, but each adding to the list of monetary policy experiments. Kuroda and Ueda extended those experiments well beyond what any central bank in the world considered necessary in terms of timeframe. Maintaining that negative—that is below zero—rate structure even longer than anyone else.

Kevin: Okay, so I’m being nostalgic. I’m still going back 17 years when we started the Commentary. One of our first guests was a friend of yours. He was an older man. He smoked continually, one on the other. Ian McAvity. He was a great guest. He knew how to say things truthfully and clear. And I’m thinking of Japan right now. For the last 17 years, they’ve been working with zero interest rates and just going deep into debt. Ian McAvity, he was told by his doctor, do you remember what he was told by his doctor?

David: Of course.

Kevin: “You’ve done something terribly wrong to your body for so long, it would kill you to quit.”

David: This is back in the day when CEF was not owned and controlled by Sprott—frankly, I think a better day. We learned a lot from him. One of the things that he did when he was running the Central Fund of Canada is to create a blend between gold and silver. And he kept it at a 50 to one ratio, knowing that that was sort of dead center for the trading range. It can get high, in which case silver is really too cheap and it can drop into the thirties even. And so he was trying to pick a close to midpoint for that balance. But yeah, I mean his doctor told him at one point, “Ian, I don’t like your smoking, but it will kill you if at this point you try and quit.”

Kevin: Okay, so let’s go back 17 years. What if somebody said to Japan, “We don’t like that you are going into unlimited debt at zero interest rates, but trying to quit that, it may just kill you.”

David: Yeah. And I mean, 17 years ago they would’ve said, “Look, I just had my first smoke. What are you talking about?” But after 17 years, you wonder what happens if they actually do quit. If they try and stop controlling rates in Japan, the Japanese deficits, again, they’re not going to be greatly impacted by 10 basis points. The Japanese government bond market isn’t going to collapse in a heap with an increase of 10 basis points. But it does raise an interesting question. I mean, we pretend that they have control and for the last several decades they’ve been in sort of a deflation following the collapse of their stock market and their economy in the late ’80s.

But then we have this new question, and it’s not just a US question, it’s the question of inflation accelerating all over the world and how that is beginning to show itself in Japan. Now, they’re only too happy to begin raising interest rates because they’re satisfied that they’re no longer in a deflationary malaise. The question is, are they any better off? Do they have a greater set of levers to pull and buttons to push to maintain control over inflation?

Kevin: The yen had been plummeting against all the other currencies, especially the dollar. How does this look? Is the yen now going to strengthen against the dollar?

David: Well, it’s a fascinating thing because certainly there’s an argument for strengthening in the yen with an increase in interest rates—not on 10 basis points. But again, let’s remember our normalization of rates was something required of our central bank. They didn’t have a huge concern with inflation. It was going to be transitory until it got way ahead of them. And then an interest rate shock followed, a move in the inflation rate towards double digits forced their hands. So while you’re safe to assume the Bank of Japan can manage 10 basis points of interest, one is also safe to assume that there are factors beyond the control of a central bank. Certainly it was the case for the US, and it may well prove to be the case for the Bank of Japan. As we’ve seen here in the US, the Japanese are moving into a new era, one that may have more inflation than the Bank of Japan can handle.

Kevin: So the question is transitory/not transitory? Is the yen strengthening or weakening? Our own inflation story? I guess they used the terminology that they needed to at the time. I mean, transitory was the thing for a while.

David: Yeah, transitory/not transitory, dead/not dead, right? Our own inflation story reads like a tragic comedy of hubris, blindness, bias, incompetence. Maybe they’re all the same thing. They’re certainly related. Debt is a big issue, and deficits are now getting to the level of being crushing. When rates are forced to reflect or compensate for an inflationary backdrop, that’s when the rubber meets the road. So for us, we already see that. That’s very clear, and you can see the chatter amongst the Wall Street elite. There is a growing concern of fiscal crisis, and we’re not talking about the fiscal crisis of, will they raise the ceiling? Will they not raise the ceiling?

That’s only so much Kabuki theater. We’re talking about the decades of Japanese disinflation wrapping up, and things getting as interesting there as they have been here. And as rates begin to rise, now we are talking about an extra chapter where we should focus on the US, not just Japan. Because if the differential between their interest rates in ours begins to close, you do see the Japanese funds flowing, instead of to the rest of the world, maybe staying there; and deficits being financed elsewhere no longer being financed, only focusing on the Japanese market and money staying within the Japanese market. Why should it leave if it’s being adequately compensated?

Kevin: So let’s go ahead and go back to this week because this is a very interesting week. All the factors that you’re talking about that Powell’s got to look at. If we were sailing a boat right now and saying, all right, well, we’re either going to get a big gust of wind or we’re going to get a hurricane, what is Powell going to do this week with inflation, because US inflation is starting to creep back up? Does he become hawkish again, or does he stay a dove?

David: Well, the data is the data, and you can argue with the veracity of the data. In fact, even last week we had Larry Summers saying, “The CPI, well, isn’t that an interesting figure? There’s enough inconsistencies there to question it’s…”

Kevin: A little bit of sarcasm.

David: Yeah, I mean, it was fascinating because ordinarily if you call into question the CPI, you’re thought of as maybe a little different, a little off, maybe not the credible economist because obviously statistics put together by the government are legitimate.

Kevin: Thou shalt not take the CPI in vain.

David: But there Larry Summers is saying, “Yeah, it’s not particularly helpful. It doesn’t really reflect reality.” In essence, that’s what he was saying. US inflation last week, again, creeping higher. We had CPI, higher. PPI, the wholesale price index, higher. Supercore, which the Fed favors, higher. That’s not welcome. And it makes for the most interesting event of the week, maybe of the year. But as monumental a shift as it was for the Bank of Japan, because we haven’t seen them do this in almost two decades, I think maybe this one is even more monumental—the meeting here in the US with Jerome Powell. This is one to watch.

Kevin: It could go either way. I’m wondering, Dave, if this is a good time to say, let’s don’t do anything for a couple of days until we see actually what happens. Would it be a good time to not make a major change before Powell talks because it could go either way?

David: Yeah. If you’re an investor and you’re not very hedged, then you should be at least a little hedged. But there’s a lot that hangs on Powell’s performance and his representative message coming from the federal open market committee. The dovish tone, if he brings that, would drive asset prices wild. Unfortunately, that reinforces the inflationary trends he wants to curb.

So if he’s playing to the financial market audience, then you get the dovish tone. The hawkish tone, what you get with that is, frankly, he risks popping a bubble in the financial markets. Financial market asset appreciation depends more than ever on the steadily increasing flows of credit into them for this continuation of current trend. Therein is the problem. Inflation is loosely related to credit, particularly when credit is loosely handled.

Kevin: Well, inflation is also loosely related to credit, which is loosely related to politics, which is loosely related to an awful lot of other things. And a lot of times, inflation is chosen as the thing you get soft on when you are trying to stay politically popular. And we saw a shift in December with Powell, and he was fighting inflation until December.

David: And you have the Federal Reserve and many of the contributing members saying, “We need to wait to cut.” And they’re doing that with deference to the data, okay? The data is saying inflation is not going away. We’re not moving towards the 2% target. It’s not justified. We’ve got a strong economy, why would we cut rates here?

But this is an election year, and so you see the conflict, where, if you wait too long, you really can’t let things back up into the latter part of the year without it being an obvious hat tip to the incumbent party. Cutting rates is highly stimulative, and there isn’t a president who’s ever existed who wouldn’t love to see that because it makes them look good.

So, that’s the problem. December marked Powell’s departure from a proper path of higher-for-longer interest rates, and this is even as ample liquidity in the financial markets was signaling, was promoting the increase in inflation. We’ve had more of that support here recently, and that’s what’s showing up in the statistics.

So, by proper path, in our view, what that means is it’s tied to the need to moderate credit growth and moderate asset price appreciation lest we precipitate an economically destabilizing financial event. Bubbles burst, and as they say, there’s no joy in Mudville on the other side of a burst bubble. So, the pivot mid-December accelerated the boom in equities and bonds, and has now, here in the last month or two, drug the average investor back into their 60/40 portfolio mix, yet again.

Kevin: I was talking to a client yesterday about, I do feel very fortunate that I’ve been in the business since the ’87 crash, then through the tech stock bubble crash, then through 2008. To actually have been in the financial world for three major crashes, you start to realize— We were laughing together yesterday because he and I are about the same age, and I said, “There is a point about old age where you really should have learned your lesson when something smells like you’re going to have a major change.”

But what happens, Dave? I mean, it’s like we have amnesia. These things happen over and over and over again. You were talking about no joy in Mudville, but people are like, well, yes, but the mighty Powell is at bat. Maybe that’s the new poem, is The Mighty Powell Is at Bat.

David: The majority of the time it pays to be bullish, but if you’re going to ignore the signals of market excess, and ignore when a market is turning, that can be even more costly. It’s interesting because that’s where we’re at. We have the majority of people today, collective memory, amnesia. That’d be a topic worthy of a good book. If you know one other than Mackay’s— He wrote the book Extraordinary Popular Delusions and the Madness of Crowds. If you can think of a book recommendation for me, please send it. I’d love a title, preferably one with psychological depth to it. I mean—

Kevin: Well, how about a poem? You continually quote “The Gods of the Copybook Headings.”

David: And I think that’s a good description. What I’m looking for is an understanding and explanation, why does this keep on happening? Confirmation that mistakes are made again and again, even when informed by experience and education. That’s really the story of “The Gods of the Copybook Headings.”

So, Extraordinary Popular Delusions and the Madness of Crowds. Neil Howe’s book The Fourth Turning. On that note, we’ll be talking with Neil again in a few weeks. I think it’s our fourth or fifth conversation through the years.

Kevin: Those are great. Yeah.

David: As a preview, if you want to review, grab your copy of The Fourth Turning. I’ve talked about it enough through the years, I assume it’s on your bookshelf already, but we’ll look at Neil’s perspective on being in the fourth turning as opposed to anticipating it and seeing signs for entering it. Not as a theoretical exercise, but as a current unfolding reality.

So, blow off the dust, refresh your memory with a few of the Strauss and Howe ideas. It’ll be nice to have him back. But do send me any other titles that relate to, again, this issue of collective memory loss and amnesia.

Kevin: So, what if the Fed meeting is not consequential, Dave, what if we’ve entered a new era? This week is also a big week for Nvidia.

David: You make me laugh.

Kevin: And so, AI. I’m just wondering if AI now, since it’s the new trend, that it doesn’t matter what Powell says?

David: Well, I mean, we could ask a language model and see how important it is, and see if we get a more intriguing answer. My answer is pretty simple, and it doesn’t take artificial intelligence, I think it’s just raw intelligence. The Fed meeting is consequential.

Kevin: You think? Yeah.

David: Bloomberg has described this week as a split screen event, with Jerome Powell on stage Wednesday and the equally important developer conference put on by Nvidia with CEO Jensen Huang speaking. That’s not exactly how I’d characterize it. One frankly cannot live without the other. If not for Fed policy creating a ripe context for speculation, I doubt very seriously that Nvidia would be stretching towards a $3 trillion market cap and a PE ratio in the triple digits.

Granted, AI and the launch of ChatGPT certainly brought artificial intelligence and its uses out of the broom closet. It’s only been around for about 30 years, but its popularity with a public launch of ChatGPT, again, that’s what I would characterize as bringing into the light of modern consciousness— But I would suggest that monetary policy and Miracle-Gro have a lot in common these days. So, if I were focusing on one half of the split screen, I’d say focus on Jerome with all due respect to Jensen.

Kevin: And it’s times like these that I like to step aside into gold, whether the price goes up or down. And so, let’s go back to the Commitment of Traders because the price on gold, depending on what Powell says, we could see a correction here.

David: Absolutely.

Kevin: Or, we could see the justification for much higher levels.

David: Yeah. I mean, there is a difference between a correction of a bear market and I think that bear market is very clearly in the rear-view mirror. A correction could unfold, and here’s why. I mean, we look at the gold COT report this week, and it’s an important report. I have to insist if you do not read my colleague’s write-ups on Friday and Saturday, the Hard Asset Insights, Morgan does a great job, and I would suggest you read this weekend’s.

So, we’re like the one-stop shop for hard assets, and this week’s article was on gold and the bullish case for precious metals miners. It gets into some detail in terms of all-in sustaining cost, margin expansion, and where we’re at relative to the gold price. There’s a lot to absorb there that I think you will benefit greatly from. Our portfolio of miners is all world in terms of management balance sheets, cost profile, I mean, at the top of the list there’s about 35 trillion reasons to be enthusiastic about those allocations over the next several years. And frankly, more reasons, similar reasons, added every day.

Kevin: Well, we’re adding a trillion reasons every 100 days, but going back to the Commitment of Traders—

David: It comes at a critical moment.

Kevin: Yeah.

David: Following up on Morgan’s weekend report, Western investors are returning to the metals. The COT open interest went from a five-year low to a level of speculative long interest, managed money interest, frankly, that is a bit concerning. And I would just say that we, as a group, can be contrarian in both directions, and we’re looking at signs and signals which would indicate, should we be taking action or just being on pause for a moment?

Open interest since February 20th has increased 27%. If you needed confirmation that the Western investor is beginning to ease back in, there you have it. And the first-in won’t be the last-in, but the first-in is the speculative better, the momentum player. And I just want to qualify that by saying that the levels of open interest are high, they are still actually quite modest by historic standards, just high relative to recent measures.

Kevin: But you like watching the commercials. These are guys who are not speculating in the market, but they’re actually hedging positions. The commercials at this point, they have hedged for a correction, have they not?

David: They have, but it is interesting. I mean, you will see a lot of the major precious metals miners who’ve basically said, “We understand that our investors are interested in exposure to gold volatility and are willing to sit through the troughs in search of the peaks.”

And I’m reminded most recently of the Newmont mine CEO, who said exactly that, “We will not be hedging our production.” So, it’s a mixed bag. It’s a mixed bag. But commercial shorts jump considerably. Spec long—specifically the managed money, but even the subset within managed money—spec longs increased with an exuberance that to us feels more youthful than wise.

Kevin: Those are the momentum traders, right? Isn’t that where the momentum comes from, the speculative guys?

David: Yeah, the momentum traders, these are not your buy and hold crowd.

Kevin: Right.

David: Commercials tend to hedge production, usually add considerably to protect margin at what they consider to be an inflection point. So, gold this week is at an interesting juncture. Gold COTs moving very far, very fast. That opens the possibility of a distinct bifurcated outcome.

Please, let me be clear, both of these outcomes end well. It’s just that one is more inviting than the other in the short run. And this does tie to the Fed’s decisions and actions this week. Commercials are net short over 218,000 contracts. Managed money, net long over 141,000 contracts. And our favorite category, the Other category, dropped their net long positioning by 21,000 contracts. That is your buy and hold crowd that has exited 21,000 contracts on a net basis. The contrarian read would be for gold to correct from here.

Kevin: So, since I’m going to continue to accumulate gold, maybe I wait a day or two, but keep the powder dry in the form of cash because it would be a good entry point.

David: Absolutely. To see this as sort of, “Yes, gold is going to correct.” Can you take that to the bank? Nope, you cannot. We go back to Jerome. If Powell cuts or implies a cut from the Fed, sort of satisfying the leveraged speculative community, tempting fate with the consequences of looser monetary policy, that would likely supercharge this gold move, and we wouldn’t see— We’re really not likely to see a correction. Quite the opposite. Short covering adding to longs could propel gold considerably higher in a brief period.

Kevin: But then on the other hand, anytime there’s central bank discussion, you’ve got the one hand and then the other.

David: Right. Well, if we knew what they were going to do, we could chart a very clear course. I know where I want to go with my portfolio. So, back to your idea of knowing the destination. Great, that’s already clear in my mind. Now, question is how we tack to get there.

Jerome could look at last week’s inflation numbers, and if he chooses to be as “data dependent” as he says he is, he would be maintaining the higher-for-longer stance. That would be enough for the specs to sell, for the dollar to rally, and gold to be on the run for a bit.

Kevin: And you talked about how quickly the Commitment of Traders jumped, but actually something that takes a long time to move from down to up, and then back down, and then back to up is the momentum. And you brought that up last week in the show. Momentum has shifted again, and we are seeing a bullish trend in gold. Really, the commitment of traders isn’t going to change that.

David: Well, keep in mind, part of our asset management protocols, we look at a variety of fundamental and financial market indicators, but one of our exercises on Mondays is to review the technicals both for each individual company within the portfolio, but also for a wide range of market indices. And so, we’re looking at momentum and technical analysis both in the short term, which would be your daily charts, your intermediate term, your weekly charts, and occasionally even on your longer-term basis, the monthly charts.

And what this does is it captures, again, sort of the short-term trends, the medium trends, and the longer-term trends. Momentum has already shifted on daily and weekly measures in terms of the gold market. So, on that basis, we have an established bull trend.

The idea that we presented last week on this being a multi-year move higher, with the monthly momentum indicators and charts turning bullish and confirming the strength of the move, that could take more time to develop in the case of a hawkish position taken by Powell this week—or even perceived hawkish set of remarks.

Kevin: So, let’s say that you own Nvidia. This investor that I was talking to yesterday, he had purchased Nvidia four years ago, so he’s ridden a nice wave. But the last thing he wants to hear Powell do this week, unless he sells today or tomorrow, is that he’s going to be raising rates or being hawkish on inflation. I say raising rates, just leaving them alone is the equivalent of raising them, isn’t it?

David: Well, listen, there’s the possibility that Bloomberg is right, and that religious fervor has migrated, and faith has moved from the money Mandarins and the keepers of our monetary code over to Nvidia. Maybe there is a new salvation for us, and it is in AI and all the things that AI can do to us—I mean for us. So now, you raise a good point.

Kevin: Come back to us. Yeah.

David: The higher-for-longer mantra would be very unwelcome in tech land, because the higher interest rates go, you have technology shares particularly which are sensitive to interest rate trends. And could that be a trigger point as a sell-off for Nvidia? Look, if there is a sell-off in Nvidia in the Mag 7, you’ve got a significant turn lower in equities, because these have been the generals out in front leading. Not very many of the troops have been following. And so, they will define the mood.

On the upside and the downside, if they fail, you’ve got a lot of smaller companies failing with them. And I mean failing in terms of performance, not failing as in Chapter 11. That’s not what I’m suggesting, but mood is everything to market.

Kevin: And I was just thinking of those old mood rings. Remember when you put that ring on and if it was blue, you were relaxed, if it was red, you were not relaxed? And so, the Commitment of Traders, yes, they’re higher, but actually, the altitude that Nvidia is sitting at, it’s going to take an awful lot of support to keep it going.

David: Yeah, the COTs are marginally higher than where we were at the last recent peak in gold. So, again, there’s a reason for us to be cautious, but our view is that all eyes should be on the only show that matters this week—just to reiterate, probably disagreement here with Bloomberg—I’d say Jerome over Jensen.

Kevin: Well, and think of the Chinese central banks. The Chinese are buying gold as the new investment. Morgan was talking about that. Real estate was the investment, but that’s crashing in China. So, gold has got its own wave that has nothing to do with commitment of traders.

David: Well, and Morgan mentioned this in the HAI—the Hard Asset Insights—this weekend, a quote from a central bank leader in Hungary, and he says, “We’re adding to our gold reserves as a risk mitigator” during what they expect to be disruption during a period of transition in the international monetary system.

There you’re talking about an idea which is far beyond one set of statements from Powell and the FOMC, far beyond Jensen or Jerome. There is more afoot here, and we got here over a long period of time. There is a justification, a reason for gold ownership and the reason why central banks are doing so. I think that hits the nail on the head. Disruption during a period of transition in the international monetary system. Okay. Well, that is the insurance role that gold plays for reserve assets.

Kevin: And you’re going to be interviewing Neil Howe, and his latest book is called The Fourth Turning is Here. That’s really what that central banker in Hungary is saying as well.

David: Yeah. The added challenge is that gold—we’re talking about a short-term trip lower in the gold price, potentially. Put it at 50/50, I don’t know, but at 50/50 that it could have a short trip lower. The challenge is that gold remains very well-supported when you look at geopolitical concerns, and very well-supported by the breakdown in Central Bank credibility.

It’s not a time to sell. It may very well be a time to buy, but waiting until after Wednesday might provide either a trigger for the next leg higher in terms of a price move towards 3,000 an ounce, or maybe it gives you an opportunity to save a few dollars at lower numbers. I wouldn’t be afraid of acting, but I might wait and see how the Fed meeting plays out.

Kevin: Well, so let’s talk about the stocks, or equities, in gold. They can either go higher or lower based on what he has to say. But the stock market right now, what is the Shiller PE on the stock market? I mean, it’s over 30. I think we’re at 31, 32, maybe more. That’s always been high for the stock market. The stock market really likes 15, not 30 or 31, 32. Whether gold goes up or down, we’re in a bull market on gold, and it’s not priced over its earnings.

David: I got an E-mail note from Andrew Smithers last night, so I was reminded of his comment that he would favor cash over being invested in equities. Part of that was, as he admitted, a function of his advanced age, and he did not want to have to play a patience game when life was stacking up not enough years to be patient. And so, being in cash a number of years ago made a lot of sense to him. He said he’d take the ravages of a 1%, 2% inflation rate over the potential of a 30% to 50% decline in equities.

But he also commented, and I think this is worth remembering, if you have established positions in equities or are establishing them today, given the valuation metrics, you’re talking about an average rate of return over the next decade of between 0% and 2%. That’s on average. So, that would bring in lower numbers, maybe negative numbers, with positive numbers to give you a very disappointing result.

Is it really worth taking the risk here now? And I think the clear answer is no. So, as a reaction to a Fed comment, equities and gold can scream higher, one screaming higher on the basis of the Fed moving from losing street cred to having completely lost street cred. And, of course, equities would be moving higher on a different basis, but simultaneously as the punch bowl gets spiked again by Brother Powell. So, that is a possibility.

The flip side, frankly, is not dire for gold, but very well could be for equities. So, I would say this is one of the more important Fed meetings this year, maybe even this decade.

Kevin: And so, it goes back to sitting there on that Hobie Cat and being actually scolded by a guy who had been sailing all his life, saying, “Where do you want to go, Kevin? Don’t keep looking at the wind. Where do you want to end up?”

David: No, it’s great advice, because to me, I have a lifetime ounce goal. And in essence, I know where I want to go. And so, making too many mid-course corrections, it’s meaningless. It’s meaningless. We have to manage and micromanage portfolios. But if you know where you’re going, then I wouldn’t even worry about what happens this week.

*     *     *

You’ve been listening to the McAlvany Weekly Commentary. I’m Kevin Orrick, along with David McAlvany. You can find us at McAlvany.com. And you can call us at 800-525-9556.

This has been the McAlvany Weekly Commentary. The views expressed should not be considered to be a solicitation or a recommendation for your investment portfolio. You should consult a professional financial advisor to assess your suitability for risk and investment. Join us again next week for a new edition of the McAlvany Weekly Commentary.

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