The Precious Metals Week in Review – March 3rd, 2023

1. There’s something of a ritual performed each time Federal Reserve Chair Jerome Powell speaks to the press: A reporter asks Powell about financial conditions; he says they’ve tightened a lot; the Wall Street crowd snickers. To them, the notion seems ludicrous. Notwithstanding the selloff over the past few weeks, markets have rallied in start-and-stop spurts for four months, swelling equity valuations and making it easier for companies to raise cash in stock and bond markets. The implication is that the Fed is letting investors undermine its efforts to choke off the flow of money and tame inflation. The answer has a lot to do with the way each side defines financial conditions. Investors tend to look at indexes created by the financial community. There’s a certain high-finance flair to them. The gap between corporate and Treasury bond rates plays a crucial role in each. So does the VIX, a measure of stock market volatility. The Fed, it would appear, keeps it a lot simpler. Lael Brainard provided a window into policymakers’ thinking on the topic last month in her final speech as Fed vice chair. In unveiling evidence of tightening financial conditions, she cited, among other things, the two-fold surge in mortgage rates over the past year as well as the fact that short-term interest rates are now higher than inflation. Her message was clear: The Fed focuses a lot more on the one variable it controls in determining financial conditions, benchmark interest rates, and a lot less on the things that trader’s control. Put differently, the Fed doesn’t seem to worry about what happens on Wall Street as much as Wall Street thinks it does. While financial conditions remain “much tighter” than a year ago, these members said, it’s important that they be “consistent with the degree of policy restraint that the Committee is putting into place.” But, in general, the indexes seem to have been relegated to second or third-tier status.

2. In the worst political showdown over the US debt limit to date, a little-known former Treasury official in 2011 helped convince lawmakers that raising the ceiling was the only option. He’s back at it now, but from a much higher perch: chair of the Federal Reserve. Jerome Powell, a financier who was also then serving at a Washington think-tank, crisscrossed Capitol Hill in 2011 to shoot down alternatives to boosting the debt limit. Then, as now, some lawmakers were starting to question whether a payments default would really be so bad. Powell rattled the cage until a last-minute deal averted a default. While his interventions didn’t forestall a damaging downgrade of the US sovereign credit rating, they did pave Powell’s path to join the Fed board. Next week, the Fed chair will be heading to Capitol Hill to testify on the economy just as US central bankers fret over another debt-limit showdown. Parallels to 2011 run deep, with Republicans again in charge of the House and again seeking sweeping cuts to spending as a condition for raising the ceiling. One complication for Powell as he heads back to Congress next week is that the public is now aware of detailed discussions that Fed policymakers, including Powell himself, had in 2013 about dealing with a potential debt-limit disaster. Fast-forward more than nine years, and Powell in his Feb. 1 press-conference remarks said, “No one should assume that the Fed can protect the economy from the consequences of failing to act in a timely manner.”

3. The headwinds for US equities are set to increase even further in March, with stocks coming under pressure from faltering earnings and high valuations, according to Morgan Stanley strategists. “Given our view that the earnings recession is far from over, we think March is a high-risk month for the next leg lower in stocks,” strategists led by Michael Wilson, ranked No. 1 in last year’s Institutional Investor survey wrote in a note Monday. Analysts pausing earnings estimates cuts over the next 12 months has stoked some investor optimism, Wilson said. However, bear markets typically feature a flattening out in outlook between quarterly earnings seasons before the downward trend resumes, he wrote. “Stocks tend to figure it out a month early and trade lower and this cycle has illustrated that pattern perfectly.” The S&P 500 has dropped for three straight weeks amid concerns that sticky US inflation increases the prospect of more Federal Reserve rate hikes. That followed a rally of as much as 17% from October lows, spurred by hopes that the US central bank will soon pivot away from its hawkish stance. “With uncertainty on the fundamentals rarely this high, the technical may determine the market’s next big move,” Wilson said, noting that the S&P 500 has recaptured its 200-day moving average. “We think this rally is a bull trap but recognize if these levels can hold, the equity market may have one last stand before we fully price the earnings downside.” The strategist has previously mentioned that he expects equities to bottom in the spring, forecasting the S&P 500 will slide as much as 24% to 3,000 points in the first half of this year. He also reiterated a call from last week, saying “valuation is broadly expensive.” Strategists at Credit Suisse Group AG are also cautious about stocks, saying there are a lot more negative tactical and technical indicators than positive ones for global equities.

4. The bankrupt crypto exchange FTX has said $8.8 billion in customer funds are unaccounted for in a ‘massive shortfall’ that casts doubt on whether bilked clients will ever see their money back. In a presentation to creditors, the auditors leading FTX through bankruptcy said they had identified just $2.8 billion in assets towards the $11.6 billion that customers are owed from their accounts. If that $8.8 billion was used fraudulently, FTX would rank as one of the biggest scams in US history, behind the $78 billion Enron scandal, as well as the $65 billion Bernie Madoff is estimated to have stolen from his clients. Three of Bankman-Fried’s top lieutenants at FTX, including his former lover, Alameda boss Caroline Ellison, have pleaded guilty to fraud charges and agreed to cooperate with the investigation. Earlier this week, former FTX engineering director Nishad Singh became another high-level executive to plead guilty to criminal charges in the case. It also confirmed that a total of $432 million in FTX assets disappeared in ‘unauthorized transfers’ in the midst of the bankruptcy chaos. The financial report cautioned that the latest figures are ‘preliminary and subject to material change as new, additional or conflicting information is identified.’

5. US pending home sales rose by the most since June 2020, potentially a temporary reprieve as lower mortgage rates in the month helped prop up demand. The National Association of Realtor’s index of contract signings to purchase previously owned homes increased 8.1% in January from a month earlier to 82.5, according to data released Monday. The jump beat all estimates in a survey of economists, which called for a 1% advance. Even with the surge at the start of the year, contract signings were down 22.4% from January 2022 on an unadjusted basis. While high borrowing costs continue to pose a challenge for the housing sector, an easing in mortgage rates last month supported the pickup in buyer demand. Price cuts are also becoming more common, aiding affordability. That said, mortgage rates have begun to tick back up, and the Federal Reserve is intent on jacking up interest rates even further, so it’s unclear when the housing market will truly turn around. The contract rate on a 30-year fixed mortgage rose 9 basis points to 6.71%, the highest since the week ended Nov. 11. Separate data out last week showed that sales of previously owned US homes fell for a 12th-straight month in January, extending a record decline. Still, the pace of monthly sales declines has slowed. The pending home sales report is often seen as a leading indicator of existing home sales given homes typically go under contract a month or two before they’re sold.

6. Humanity is on the cusp of something phenomenal: harnessing the same power source that lights the stars for nearly limitless, carbon-free energy. Scientists recently proved that a dream, nuclear fusion for energy generation, is possible. Now, going from a lab experiment to building a commercial plant will be a race that pits giant lasers against powerful magnets. After decades of experiments, two competing designs for fusion plants have emerged. One call for high-intensity lasers to trigger a series of reactions that slam atoms together many times per second. The other would use super-strong magnets to contain a cloud of plasma that burns hotter than the sun. While lasers were used in the recent breakthrough, many experts are skeptical of the commercial prospects. The better bet, they say, is magnets. The stakes couldn’t be higher. If researchers can make fusion work at scale, it would open the door to power plants that supply cheap, plentiful electricity day and night without emitting greenhouse gases and with no danger of nuclear meltdown. The idea of recreating the extreme conditions of the stars in a power plant might sound like something out of science fiction, yet the most-optimistic experts say we’re only about a decade away from that threshold. “Fusion has always been the apex predator of energy technologies,” said Bob Mumgaard, chief executive officer of Commonwealth Fusion Systems. “It’s a very hard problem with a big payoff.”

7. In the week ending February 25, the advance figure for seasonally adjusted initial claims was 190,000, a decrease of 2,000 from the previous week’s unrevised level of 192,000. The 4-week moving average was 193,000, an increase of 1,750 from the previous week’s unrevised average of 191,250.

8. Oil prices slumped on Friday after the Wall Street Journal reported that the United Arab Emirates had an internal debate about leaving OPEC and pumping more oil, but retraced some losses after a source told Reuters this was not true. Brent crude futures were down 71 cents, or 0.8%, at $84.04 a barrel. U.S. West Texas Intermediate (WTI) crude futures dipped 57 cents, or 0.7%, to $77.59. Both benchmarks had dropped more than $2 earlier. Oil prices this week had been boosted by strong Chinese economic data, underpinning hopes for oil demand growth, but those gains were all but erased on Friday.

9. The Euro fell significantly during the day on Thursday to almost wipe out the gains from the Wednesday session against the greenback. At this point, the market seems as if it is trying to determine what to do next, as we are below the 50-Day EMA and above the 200-Day EMA, which quite often causes a bit of noisy behavior. With that in mind, it is more likely than not to continue to be a market that is very choppy.

10. The USD/JPY pair comes under some selling pressure on Friday and reverses the previous day’s positive move to its highest level since December 20 – just above the 137.00 mark. The intraday downfall picks up pace during the early European session and drags spot prices to a fresh daily low, around the 136.25-136.20 area in the last hour.

Expectations that the Federal Reserve could raise interest past 5% this year and maintain its aggressive monetary policy through 2023 are taking its toll on gold, pushing prices to their lowest point so far this year. However, one market analyst said gold remains an attractive asset as the global market is bigger than US monetary policy. In an interview, Joy Yang, global head at MarketVector Indexes, said that gold is struggling because investors and markets are hyper-focused on inflation and ignoring other risks. Yang noted that although bond yields have risen to multi-year highs, the yield curve remains at its most inverted level in 40 years, a strong recessionary signal. She added that this environment should continue to support higher gold prices. “There is more to gold than its lack of yield,” she said. “Equity market volatility, the threat of a global recession, and geopolitical uncertainty have investors running for the hills and that for me, is where gold shines. It remains an important safe-haven asset.”

Yang said that she is optimistic that the US economy can avoid a recession as the Federal Reserve continues to raise interest rates. However, she added that even in this scenario, there is going to be a lot of volatility, and investors should look at diversifying their portfolios, which includes holding precious metals, to protect themselves. Looking at the broader financial market landscape, Yang said that there is no guarantee that the Federal Reserve will be able to bring inflation down even if they push rates higher. Yang noted growing talk that the central bank could adjust its inflation target and raise it to 3% from 2%. Yang added that this move would be significant as the central bank would signal that the economy has entered a period of higher inflation. Bringing inflation down to only 3% would mean it wouldn’t have to aggressively raise interest rates as much as it has.

“Right now, the Federal Reserve is trying to balance a lot of different factors. We certainly must be careful of our debt,” she said. Another factor supporting the gold market’s long-term bullish case is the ongoing de-dollarization trend. Last year, central banks bought 1,136 tons of gold, the biggest annual purchase on record, going back to the 1950s. Yang said that she doesn’t expect the US dollar to lose its global reserve currency status anytime soon; however, she also noted that this trend is not going away either. “If you are a central bank holding U.S. dollars and you expect to see more volatility, it makes sense to diversify your reserves,” she said. Wherever gold is heading, Yang said that she expects the precious metal to continue to outperform equity markets, and that should attract investors.

When borrowing costs rise, governments end up paying more interest. That fiscal blow is now landing faster than it used to. The reason: Advanced economies are in effect paying floating rates on a large chunk of their national debts — the result of more than a decade of bond purchases by their central banks. And with short-term interest rates rising rapidly, floating-rate debt has gotten expensive. That’s worsening budget disputes in countries including the US, where a debt-ceiling standoff looms, and the UK, which has seen interest costs climb the most in generations. Meanwhile, banks are reaping windfall gains. Under quantitative easing, central banks bought lots of government debt and paid for it by creating reserves, a kind of deposit held by banks. With short-term interest rates at zero or thereabouts, the central banks paid hardly anything on those deposits. Meanwhile, they earned interest in the bonds they held. Technically, they were making a profit, except central banks don’t exist to make profits, and generally just refund them to the treasury. So, what was really going on was that governments were saving money on their interest bills, some $100 billion annually, in the US case. Now the dynamic has flipped. Central banks are still receiving roughly the same amount, but the interest they’re paying out on reserves has soared, in tandem with policy rates. In commercial terms, they’ve swung from profits to losses — which are set to deepen with rates increasingly expected to stay higher, for longer. “A lot of people thought, OK well the central banks bought these bonds, so they’re gone, they’ve disappeared,” said Christoph Rieger, head of rates and credit research at Commerzbank AG. “Get away from this thinking that there’s the central bank, and then there’s the finance ministry. This is all one consolidated balance sheet of the state. The debt is still there.”

Volatility should be expected to remain high as investors will be closely watching for hints on upcoming monetary policy direction. Many investors have redoubled their efforts to ensure that their portfolios are sufficiently diversified in the hopes that they will be able to withstand corrections in multiple market sectors. Many of these investors have included physical precious metals as part of their diversification plans, given their long history as a hedge against both inflation and during times of economic turmoil. Remember, the key to profitability through the ownership of physical precious metals is to own the physical product and hold it for the long term. Always remember that you should never overextend your ability to maintain ownership of your precious metals over the long run.

Trading Department – Precious Metals International, Ltd.

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