Precious metals prices moved higher overnight, as the much awaited September Federal Reserve meeting came to a close, with no rate hike announced. Gold, which had been trading back around USD $1100oz at the start of the week, jumped back above USD $1130oz, whilst silver was also up, last trading around USD $15.27oz.

In Australian dollars, gold headed back above $1550oz, last trading at $1576oz, whilst silver is now back above AUD $21oz.

Starting with the Fed, and in news that surprised no one who follows the precious metal market, or even the broader economic and financial landscape with open eyes for that matter, Janet Yellen and her team decided to hold fire on any potential interest rate increase.

Not only have stocks, bonds, commodity and currency markets been more volatile of late, but economic data the world over, and even in the United States, has been underwhelming at best.

In the last few days alone in the United States, we’ve seen;

• Retail sales rise by just 0.2% for the month, below expectations – highlighting the clouded outlook for consumers. Ex autos the number was just 0.1%

• A crash in the NY Empire State manufacturing index, which fell to -14.67 points

• Industrial production fell -0.4% for the month, which was worse than forecast

• Capacity utilization came in at just 77.6%, again below expectations

• CPI figures which came in at -0.1% for the month, and just 0.2% for the year

• A crash in the Philadelphia Fed manufacturing survey, which came in at -6 for the month of August

All in all a story of below average growth, a cautious (at best) consumer, and no official inflationary pressure in the economy at all, though part of that is tied in with the collapsing commodity prices we’ve seen the past year.

How anyone thought the Fed would hike is beyond me, though Deutsche Bank were convinced they should, noting that, in their opinion at least (the following came from an article on Business Insider)

• US and global growth prospects remain solid

• Labour market slack was diminishing, and will be overheating soon

• Low inflation is mostly due to transitory factors

• The economic backdrop is consistent with more ‘normalized’ policy, not the continuation of extreme accommodation

• Monetary policy operates with long and variable lags

• Waiting to hike risks further excessive risk taking and financial stability concerns

• Potential for a negative market reaction should not delay rate hikes

And whilst I agree with the second to last point in particular above, Deutsche definitely went out on a limb there, with the decision to hold largely expected by most market participants. In saying that, there was some surprise at just how uncertain, and how dovish the Fed appeared, with the odds of a rate hike in December falling below 50%.

That was no doubt a major contributor to the gold rally overnight, and also manifested itself in lower bond yields.

This was especially at the short end of the curve – where 2 year yields fell by over 10bps. According to Zerohedge, that is the largest single day plunge since QE1 was unleased all the way back in early 2009.

Still Waiting – How the World has Changed

The decision by the Fed to hold fire this week means it’s now been just over nine years since the Fed last raised interest rates, all the way back on June 29th 2006. Back then, the Ben Bernanke led Federal Reserve raised interest rates to 5.25% - a number that seems impossibly high now.

As a way of visualising those kind of rates, consider that an average borrowing cost of 5.25% for the US Governments current debt pile would cost some $945 billion in annual interest repayments. That is more than double what the bill for 2014 actually was, and would push US budget deficits back toward US $1 Trillion straight away.

Of course, it was this tightening cycle that helped topple the sub-prime housing loan market, and ultimately culminated in the GFC.

Nine years on from that last rate hike and it’s safe to say that the Fed has changed. Not in that they are necessarily better economic forecasters, or any better at managing the economy (they’re not in my opinion), but at least they seem a lot more humble, and aware of the risks in the market today.

Prior to the GFC, Bernanke was famously flippant about the risks building in the subprime market, dismissive of the notion of a nationwide house price correction, and indeed the idea of a broader economic slowdown.

The Mises institute has a handy refresher on a couple of Bernanke’s more notable errors here, including the famous comment that the housing market wouldn’t “drive the economy too far from its full employment path”, though a quick Google search will bring up many others.

Bernanke of course wasn’t the only one who failed to heed any of the warning signs, with then Treasury Secretary Hank Paulson also dismissing warning after warning. Indeed Paulson was so confident that he stated that the “signs I look at show the housing market is at or near the bottom”.

That was in early 2007, not long before all hell broke loose in the US housing market and broader economy.

For reference, here is what has happened to Gold (in USD), the Federal Funds rate, 10 year bond yields, the Dow Jones Industrial Index, and perhaps most importantly, US Public Debt over this time period.

This time around, Yellen and her colleagues at least seem more aware of the risks of hiking interest rates into a weak economy, though they remain blind to the risk of continued monetary stimulus.

And on that note, perhaps the biggest news out of the overnight FOMC meeting was the new ‘dot plot’, which shows where the individual members of the FOMC think interest rates should be at various points in the future.

There are three observations to note from the latest dot plot. The first is that the new dot plot is noticeably more dovish than the previous one, with the median FOMC member now seeing rates at 0.50% maximum by the end of the year.

Whilst that means the meetings between now and December remain ‘live’ for a rate hike, it’s a downgrade from June, when most participants saw the cash rate finishing the year between 0.5% and 0.75%.

The second noticeable thing is that most FOMC members still see rates heading somewhere between 3 and 4% by 2018. We think that is wildly optimistic – and that there is no way higher economic growth will lead to those kind of monetary settings. Indeed the only thing that might cause that to happen would be a potential inflationary crisis and/or loss of faith in the US Dollar, a more likely outcome in our view, were we forced to bet on it.

But the final, and arguably most noticeable thing about the new dot plot was that one FOMC member actually sees the need for NEGATIVE interest rates in the United States, not just now, but into 2016.

Were the Fed to do this, they’d be joining the Europeans, who ‘ve already crossed that particular Rubicon.

At the press conference following the FOMC decision, Yellen was probed about the possibility of negative interest rate policy (NIRP), and was quick to point out that; “negative interest rates was not something that we considered very seriously at all today. It was not one of our main policy options”. Yellen also went on to note that “I don’t expect that we’re going to be in a path of providing additional accommodation. But if the outlook were to change in a way that most of my colleagues and I do not expect, and we found ourselves with a weak economy that needed additional stimulus, we would look at all of our available tools. And that would be something that we would evaluate in that kind of context.”

In short, whilst NIRP won’t be coming anytime soon – it is now well and truly out there as a monetary policy option, and we won’t be at all surprised to see it deployed should the US, and indeed broader global economy continue to stagnate.

Whether it occurs alongside QE4, which titans of the investing world like Ray Dalio now expect, or some other new stimulus measure (QE for the people perhaps as they’re now suggesting in the UK) remains to be seen.

Either way, one can’t help feel more confident as a physical gold and silver holder today.

And that is not because the price went up overnight, or because the lack of a rate hike means gold and silver prices can’t pull back further in the short-term. They certainly can, and we’d welcome the opportunity to buy some more if they do.

Nope, that added confidence comes with the realisation that what happened overnight reinforces the reality that this era of monetary debauchery has many years to run, and many chapters left to be written.

The unintended, and most likely negative consequences of these desperate policy measures will manifest themselves in the years to come, and they will not be pretty.

Greater financial market volatility, constrained if not outright negative returns in real terms, and most importantly, continued economic stagnation and declining standards of living for most people.

Taking risk off the table in the form of physical precious metal ownership, is more important than ever

Until Next Week

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