Recessions, rate cuts and gold!

In this week's market update:

• Precious metals prices continued to strengthen this week, with gold up 3% in USD terms, and threatening to push toward  USD $1950 per troy ounce (oz).

• Silver was also buoyant, silver rising by 1% in USD terms, though it is still yet to hold above USD $24oz, with the metal finding sellers in brief forays above that level.

• Equities were mixed, with the S&P 500 down 2% for the week, though the ASX 200 has so far proved more resilient, holding its ground in morning trade.

• Currency markets have been relatively stable, with the US dollar index (DXY) holding onto the 102 level, while the Australian dollar is approaching USD $0.70.

• Commodities have rallied, with oil +3% this week, and again trading above USD $80 per barrel.

• Crypto has continued its recent surge, with Bitcoin now +30% in the last month.

Gold buoyant, silver struggling to break through.

Precious metals have continued to trend higher this week, with gold and silver up 3% and 1% respectively in US terms. While overall movement across the week was to the upside, it wasn’t all plain sailing, with the metals under pressure earlier in the week, with gold at one point trading down toward USD $1900oz.

Skittishness around the pace of interest rate hikes was part of the reason for this move, and came after James Bullard, President of the St Louis Federal Reserve, indicated the US Federal Reserve may front load rate hikes, with Bullard stating that: “the Federal Reserve should move as rapidly as it can to get its policy rate over 5% and then it can react to the data”.
Bullard is not alone in his view, with Loretta Mester, President of the Cleveland Federal Reserve, offer a similar opinion on what the Fed should do with monetary policy in the coming months.

The potential for tighter policy than markets currently expect would heighten chances of a pullback in the precious metal sector.

To that end, silver’s inability to hold USD $24oz, and its recent underperformance relative to gold, reflected in a gold to silver ratio that has climbed back above 80 (it was 77 a month ago), is a sign we are not yet in a fully-fledged precious metal bull market.

A look at a longer-term chart of the silver price in USD per troy ounce also indicates that the precious metal has some work to do to get back up toward USD $30oz (a level its been unable to break for nigh on a decade), though that level, once decisively cleared, will likely become a supportive floor, rather than a ceiling.

The gold ETF market is also off to a subdued start in 2023, with the latest World Gold Council data suggesting these products continue to see small outflows. Given this sector of the market has historically been highly correlated to price (i.e. higher prices like we are seeing now typically coincide with inflows into these products), the outflows we are seeing are another sign that not all investors are on board when it comes to gold at present.

Cautionary notes aside, we’d note that many of the signs you’d want to see in a gold bull market are evident, including;

• A weakening US dollar

• A fall in real interest rates

• Gold outperforming the stock-market.

Inflation expectations have continued to ease too, with 10-year breakeven rates now sitting at just 2.20%. That means the market has largely priced in a collapse in inflation from current levels. If inflation does collapse, gold should wear that in its stride. If it proves stickier, expect to see gold catch a bid.

We’d also note that even if we do see a short-term pullback in the precious metal sector, history suggests its unlikely to be too severe, with corrections of around 8-10% the norm in such circumstances.

Those would likely be buying opportunities for accumulators of precious metals, especially if the United States does head into a recession, causing the Fed to switch to more dovish policy, subjects we discuss below.

Recession on the way in the USA

Many forecasters are expecting the United States to tip into a recession at some point.

There are a range of indicators supporting this notion, from the continued pain households are feeling as a result of high inflation and higher interest rates, to a cooling property market, to plunging prices for used cars, and now declining retail sales, which fell by 1.1% in December in the United States, their biggest decline in a year.

Markets have been foretelling the rising risk of a recession for some time, with the inversion of the yield curve (where the yield on a 2-year US Treasury is higher than the yield on a 10-year US Treasury), historically a major red-flag that only occurs in the lead in to a recession.

The recession of the early 1990s, the early 2000s and the GFC era were all preceded by an inverted yield curve, with the following table, sourced from Lance Roberts, Chief Strategist at RIA Advisors here, showing the number of months between the start of a recession, and the first month the yield curve inverted, going all the way back the 1950s.

The data suggests that it takes somewhere between 17-19 months from the time the yield curve first inverts to the time a recession is declared. Given the yield curve first inverted this time around in April 2022, that would suggest we may be just 8-10 months away from another recession.

If that indeed does come to pass, we can expect a rocky ride for risk assets like equities this year, a Fed that will be under immense pressure to cut interest rates, and significant support for safe haven assets like physical precious metals.

Rate cuts and gold bull markets

A picture tells a thousand words as the saying goes. In this case, thechart below, shared by Saxo Bank’s Ole Hansen, who is their head of commodity strategies, may speak of the gold price rallying by more than a thousand dollars.

The chart shows the gold price in USD terms (blue line), as well as movements in the Federal Funds rate in the United States (white line), dating back to the start the century. It highlights very clearly that previous peaks in the Fed Funds rate have coincided with the beginning of prodigious rallies in precious metal prices.

Given gold is already trading near USD $2,000oz, a Fed pivot, which appears likely to occur at some point in 2023, could see gold surge higher, at least if history is any guide.

Inside the office this week

Investors continue to accumulate precious metals, with 1kg ABC Bullion Silver Cast Bars, and a range of silver coins proving particularly popular. We’ve also seen online buying in the just released Royal Mint Britannia coins, the first featuring the effigy of King Charles III, as well as special ABC Bullion gold and silver offer, which incorporates coins featuring both the new King, and the late Queen Elizabeth II.

The 1/2oz The Royal Mint Britannia Coin King Charles III in Gold.

Warm Regards,

Jordan Eliseo
General Manager

ABC Bullion Australia

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