The Precious Metals Week in Review – May 26th, 2023

1. The battle over raising the debt ceiling has threatened to rattle markets and wreak havoc on the U.S. Economy. Political leaders in Washington have been arguing for months over the federal debt limit and the conditions under which to raise it. The debt ceiling is essentially a cap on U.S. government borrowing, right now at nearly $31.4 trillion. Since January, Treasury Secretary Janet Yellen has been using special measures to avoid a payment default, but she’s warned that the Treasury risks running out of cash for its obligations as soon as June 1. House Speaker Kevin McCarthy said last Thursday negotiators could agree on a deal in principle as soon as last weekend, but then talks broke down on Friday, with Republican Representative Garret Graves saying the White House was being “unreasonable.” Here’s everything you need to know about what this means for you: A partisan stalemate is the issue. Republicans want the deal to raise the debt limit to include spending cuts. They’re pushing for other measures like adding new work requirements for Medicaid and applying existing work requirements to older individuals who receive food stamps. Negotiations also involve a retracement of unspent Covid-19 funds and a process for accelerating permits for energy projects. A default would mean that those owed money by the federal government won’t get it, at least not on time. Those parties include holders of Treasury securities, Social Security recipients, members of the military, and Medicare providers. Marc Lescarret, founder of Marc Alan Wealth Management said there’s “a good chance” that the U.S. credit rating will be downgraded again, as it was during the last standoff in 2011. That in turn would result in higher borrowing costs for the government as well as everyday businesses and would almost certainly lead to a recession. In addition to higher borrowing costs for the government, that would also likely trickle down to consumers, with mortgage rates potentially rising to 8.4%, according to a report from the real estate firm Zillow. It’s especially important to have a diversified portfolio. Some investors are also turning to gold as a hedge against a potential default or downgrade. More than half of finance professionals in a recent survey said gold is what they would buy in the event of a default. “For investors that have a history with non-traditional asset classes, like gold, it could be a good time to look at opportunities,” said Mike Bailey, director of research at FBB Capital Partners.

2. Major U.S. stock-market strategists are starting a bull-bear debate, with pessimist Michael Wilson of Morgan Stanley warned that the latest rally is a head fake, while Bank of America’s Savita Subramanian raises her 2023 target for the S&P 500 Index. Wilson was one of the few Wall Street strategists to see the 2022 meltdown coming, earning him the top spot in last year’s Institutional Investor magazine survey, and has remained one of the most bearish voices in the market. At this point, he sees too many troubling triggers to believe the gains will stick. “Is this finally the breakout to confirm a new bull market?” Wilson wrote a note to clients Monday. “The short answer is no.” In particular, he sees risks in lofty valuations, a narrow breadth of stocks driving the gains, and the outperformance of defensive stocks. But where Wilson is looking at a half-empty glass, Subramanian says she sees a “half-full” one. She raised her 2023 year-end price target for the S&P 500 to 4,300 from 4,000. The equities benchmark topped 4,200 on Friday before drifting lower. “The era of easy money is behind us, but that might be a good thing,” she wrote in a note on Sunday. “Corporate America has shifted focus to structural benefits — efficiency/automation/AI — and have bought themselves time to adapt via long-dated fixed-rate debt. Old economy cyclical, capital-starved since 2008, have become disciplined and self-sufficient, evidenced by lower betas and more stable earnings.” One short-term risk for the market is the ongoing debate in Washington over raising the U.S. debt ceiling. Wilson said a resolution in the negotiations may briefly drive stocks higher, but “we would view that as a false breakout/bull trap.” Others, including JPMorgan Chase strategists led by, are also warning about more market volatility as the talks drag on. President Joe Biden and Republican House Speaker Kevin McCarthy are set to meet Monday.

3. U.S. mortgage rates rose to a more than two-month high, reducing home purchase and refinance activity. The contract rate on a 30-year fixed mortgage increased 12 basis points to 6.69%, according to Mortgage Bankers Association data out Wednesday. The index of applications for home purchases fell 4.3% in the week ended May 19 to the lowest level since early March. Mortgage rates have been climbing in recent weeks alongside the yield on the 10-year Treasury note as negotiations over raising the US debt ceiling remain at an impasse. High borrowing costs have given homeowners little incentive to list their properties and move, pushing more prospective buyers to new construction. The MBA’s index of refinancing applications also declined, falling 5.4% from the prior week — also to the lowest level in more than two months. That contributed to a 4.6% drop in the overall measure of mortgage applications.

4. Federal Reserve Bank of St. Louis President James Bullard said he expects the central bank will need to raise interest rates twice more this year to quell inflation. “I think we’re going to have to grind higher with the policy rate in order to put enough downward pressure on inflation and to return inflation to target in a timely manner,” he said Monday during a moderated discussion in Fort Lauderdale, Florida. “I’m thinking two more moves this year – exactly where those would be this year I don’t know – but I’ve often advocated sooner rather than later.” Bullard is a closely watched hawk who was an early advocate for aggressive rate hikes before the central bank began lifting borrowing costs last year. Policymakers raised rates aggressively since early last year, bringing their benchmark to a range of 5% to 5.25% from near zero. They’ve slowed down this year, delivering three consecutive quarter-point hikes after rising at a faster clip for much of 2022, and some officials have signaled support for a pause at their June 13-14 meeting. Bullard said the March forecast was based on a U.S. economy that was barely growing with inflation falling fast instead growth had been pretty robust and price pressures were not cooling as quickly as hoped. “As long as the labor market is so good it’s a great time to fight inflation, get it back to target,” he said. “Get this problem behind us and not replay the 1970s.”

5. China has questioned the “sincerity” of the Biden administration, as it pushes to resume high-level diplomatic talks with Beijing while also heaping tech sanctions on its main economic rival. “The U.S. side asks for communication on the one side, yet on the other, suppresses and contains China by every possible means,” said Chinese Foreign Ministry spokeswoman Mao Ning on Monday. “It imposes sanctions on Chinese officials, entities and companies, what is the sincerity and meaning of such communication?” she added. “The U.S. should roll back sanctions immediately, clear the hurdles and create favorable conditions for dialog.” President Joe Biden said Sunday that he expected ties with China to improve “very shortly,” dismissing an alleged spy balloon that caused a diplomatic spat earlier this year as “silly.” The Biden administration has been trying to repair the diplomatic relationship with China by bombarding Beijing with meeting requests. At the same time, it has imposed curbs that thwart China from acquiring U.S. technology applicable to military modernization, citing national security concerns. Biden has rallied other nations to follow the U.S.’s strategy. The Group of Seven leaders released a communique over the weekend announcing a fresh initiative to counter Chinese “economic coercion” as they “de-risk” from China, while at the same time pledging to foster “constructive and stable” relations with Beijing. Shortly after that statement, China announced Micron Technology Inc. products had failed to pass a cybersecurity review, a move that appeared to be in retaliation to U.S. curbs. Washington has blacklisted Chinese tech firms, cut off the flow of sophisticated processors and banned its citizens from providing certain help to the Chinese chip industry.

6. Germany has been Europe’s economic engine for decades, pulling the region through one crisis after another. But that resilience is breaking down, and it spells danger for the whole continent. Decades of flawed energy policy, the demise of combustion-engine cars, and a sluggish transition to new technologies are converging to pose the most fundamental threat to the nation’s prosperity since reunification. But unlike in 1990, the political class lacks the leadership to tackle structural issues gnawing at the heart of the country’s competitiveness. “We’ve been naïve as a society because everything seems fine,” BASF SE Chief Executive Officer Martin Brudermüller said recently. “These problems we have in Germany are accumulating. We have a period of change ahead of us; I don’t know if everyone realizes this.” While Berlin has shown a knack for overcoming crises in the past, the question now is whether it can pursue a sustained strategy. Economists see German growth lagging behind the rest of the region for years to come, and the International Monetary Fund estimates Germany will be the worst-performing G-7 economy this year. Germany finds itself ill-suited to sustainably serve the energy needs of its industrial base; overly dependent on old-school engineering; and lacking the political and commercial agility to pivot to faster-growing sectors. The array of structural challenges points to a cold awakening for the center of European power, which has become accustomed to uninterrupted affluence.

7. Recent data on applications for U.S. unemployment benefits were revised substantially lower after one state detected a surge in fraud, suggesting the labor market isn’t softening as much as previously thought. In the week ending May 20, the advance figure for seasonally adjusted initial claims was 229,000, an increase of 4,000 from the previous week’s revised level. The previous week’s level was revised down by 17,000 from 242,000 to 225,000. The 4-week moving average was 231,750, unchanged from the previous week’s revised average. The previous week’s average was revised down by 12,500 from 244,250 to 231,750.

8. The price of Brent crude ended the week at $75.38 after closing the previous week at $74.17. The price of WTI ended the week at $71.55 after closing the previous week at $70.33. Oil prices increased despite several developments that are negative for oil prices. We are still holding our view that the price of Brent crude oil will move toward $90 during the second half of the year based on our reference forecast of supply/demand and other factors – with the caveat that is more downside risk than upside risk associated with the forecast.

9. EUR/USD came under renewed bearish pressure in the American session and dropped to its lowest level since late March near 1.0700. Stronger-than-forecast PCE inflation data and hawkish comments from Fed’s Mester provide a boost to the US Dollar and weigh on the pair. In the coming months, EUR/USD is likely to strengthen because the ECB’s monetary policy is likely to be more hawkish in the near future and therefore more attractive from a currency market perspective than that of the Fed. Initially, this apparent advantage will come from the fact that the ECB is likely to continue raising interest rates while the Fed is not, and later from the fact that the ECB is sticking to its maximum interest rate level while the Fed is likely to start cutting rates.

10. The USD/JPY pair reverses an intraday dip to the 139.50 area and climbs to a fresh YTD peak in reaction to the stronger US PCE Price Index. The pair is currently placed just above the 140.00 psychological mark and seems poised to prolong its recent upward trajectory witnessed over the past two weeks or so. The U.S. Dollar (USD) reverses a part of its modest intraday profit-taking slide after the US Bureau of Economic Analysis (BEA) reported that the headline PCE Price Index rose 0.4% in April as compared to 0.1% in the previous month. Adding to this, the yearly rate accelerated to 4.4% against expectations for a fall to 3.9% from 4.2% in March.

Federal Reserve policymakers are increasingly grappling with a critical question: How much should they weigh the adverse impact of their interest-rate hikes on banks against the goal of containing the fastest price increases in decades? The answer will play a significant role in determining whether the Fed is steadfast in keeping rates elevated through year-end as officials expect or cuts them as traders are betting. Since U.S. banking turmoil flared in March, the Fed has raised interest rates twice to combat inflation while pumping emergency liquidity into the banking system, discrete actions that underscore officials’ long-standing habit of keeping financial-stability actions apart from monetary policy. The central bank’s 5 percentage points of rate increases helped trigger the failure of Silicon Valley Bank, the biggest bank collapse since 2008. Since then, the acute stress has eased, but emergency borrowing from the Fed remains elevated, regional bank stocks are down more than 20% this year and survey data suggest lenders are pulling back. Now, Fed officials are trying to figure out what further credit constraints and the contagion risk from more shaky banks mean for the economy and inflation, which is still too high. Ultimately, the Fed’s rate hikes could leave the financial system weaker, making it harder for the central bank to bring the labor market back to full strength, as was the case in the grindingly slow recovery following the global financial crisis. Other officials say the economic effect is probably small and see market expectations of a rate cut as misplaced, given how far they are from their inflation goal. The Fed’s preferred price measure rose at a 12-month rate of 4.2% in the latest reading, more than double their 2% target. “In the current inflationary environment, interventions to support financial stability must not inappropriately ease financial conditions,” Dallas Fed President Lorie Logan said at a Fed conference on May 16. “Even as we consider how best to manage the risks, they must not stop us from doing what’s necessary to achieve 2% inflation,” she said in separate remarks in San Antonio.

House Republicans aren’t buying Treasury Secretary Janet Yellen’s warning that the U.S. government will run out of money as soon as June 1, or her dire predictions of default, undercutting the urgency to raise the debt limit. “We’d like to see more transparency on how they came to that date,” House Majority Leader Steve Scalise told reporters after a closed meeting on Tuesday. “It looks like they’re hedging now and opening the door to move that date back.” One House Republican, who asked not to be named to speak candidly about his party’s assessment, said he believes the U.S. should stop paying government salaries first if the Treasury Department exhausts its extraordinary measures to pay bills before Congress allows it to borrow more. Representative Chip Roy of Texas called the default warnings a “manufactured crisis” to force Republicans to step back from some demands. “The fact is, we’re going to have cash in June,” Roy told reporters Tuesday. “The fact is, we’re not going to default on our debt. That’s just completely false. We’ve got the money to do it.” Roy and other conservatives like Matt Gaetz of Florida questioned Yellen’s designation of June 1 as the date and told reporters to “ask her about her Ouija board.” Speaking to reporters Monday night at the Capitol after he returned from the White House, McCarthy insisted that the real crisis is unsustainable levels of government spending that must be curtailed. Asked on Tuesday whether he believes that June 1 is, in fact, the deadline for his negotiations with President Joe Biden, McCarthy was noncommittal. McCarthy, who urged Biden to engage in talks for weeks even while Biden refused to negotiate directly on a debt limit increase, said he doesn’t like government ‘by chaos.’ “I don’t think it’s a revenue problem. It’s a spending problem,” McCarthy said. “So, if you don’t tackle the problems that have created the situation] you’re never going to solve it.”

House Speaker Kevin McCarthy’s optimism that White House and Republican negotiators would reach a deal in time to avert a potentially catastrophic default didn’t mollify analysts as the U.S. was put on sovereign ratings watch. The California lawmaker said Wednesday after a four-hour meeting between his and President Joe Biden’s hand-picked negotiators that a deal was possible before June — the date by which Treasury Secretary Janet Yellen has warned the U.S. could run out of money to pay its bills. “I still think we have time to get an agreement and get it done,” McCarthy said after the meeting concluded. Hours later, Fitch Ratings placed the AAA credit rating for the U.S. on watch, a sign of growing unease about the country’s ability to avert a first-ever default. The U.S. received a credit downgrade during similar turmoil in 2011. Fitch still expects a resolution to the debt limit before the June 1 so-called “X-date.” Another firm, DBRS Morningstar, took similar action Thursday, putting the AAA grade for the U.S. “under review with negative implications,” while still anticipating Congress to act in time.

It is relatively common that what should be recognized as a warning flag of major trouble is often ignored until things get so bad that it is almost impossible not to notice. Geopolitical, economic, and environmental uncertainty can be expected to continue in the near term. Astute investors continue to seek out alternative investments for their portfolios to aid in diversifying them away from overexposure to any single asset class. Some are seeking out buying opportunities from temporary price dips to add more physical precious metals into their portfolios. Remember that one of the keys to profitability through the ownership of physical precious metals is to acquire the physical product and hold on to it for the long term without overextending your ability to maintain its ownership.

Trading Department – Precious Metals International Ltd.

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