Poor Roger Federer. The Swiss maestro tennis player, arguably the greatest of all time, has taken a massive haircut in the past week on any future earnings he’ll generate outside of his native Switzerland.

The reason for that of course was the Swiss National Banks bombshell decision last week to un-peg the Swiss Franc to the Euro, which led to sharp rally in the value of the Franc.

This week’s report, which comes at a time when AUD Gold is breaking above $1600 per ounce, and USD gold is back above USD $1300 per ounce, looks at the Swiss decision, what happened overnight in Europe with the launch of the European Central Banks QE programme, as well as some news from the United States, including sad developments highlighting the death of American business, and the Federal Reserves massive gift to Washington and the Federal Treasury

Let's start with the latest on Gold

The Gold Move

Gold’s great start to 2015 has continued this week, with prices currently trading at roughly USD $1302oz. Unsurprisingly, it was a volatile 24 hours, with prices at one point trading as low as USD $1279oz, as the ECB decision to print $60 billion Euros a month knocked markets around a bit.

This helps highlight how difficult it is to day trade the gold market, and whilst sensible investors who are looking to profit over the medium to long-term are better off, especially in this environment, dollar cost averaging into their positions over time.

What has been particularly pleasing about gold’s recent strength is the fact that it is occurring alongside a strengthening USD, something that would be confounding many market participants who only see gold as an anti-USD play.

On that note, the strength of the dollar has been something to behold, with the EUR breaking below 1.14 vs. the USD, with some banks now forecasting that this will drop below 1.10 in the not too distant future.

Over the last year, we’ve seen a substantial devaluation in the EUR, and a corresponding dollar rally. The chart below highlights just how strong that dollar rally has been over the past year, with the US Dollar Index rising from around 80 to the mid 90’s today.

Consensus would tell you that this dollar rally, combined with the fall in official inflation and the bloodbath in oil, iron-ore, copper and other commodities should have seen gold sell off violently.

The fact that it has strengthened, not weakened in the face of such headwinds, is a sure sign of an underlying bid in the gold market. Despite the potential for short-term weakness, and a largely overdue pullback, the gold story is looking better by the day, with technicals also more supportive than they’ve been in some time.

That doesn’t mean one should pile into bullion today, but it should give you some encouragement that the long term trend for bullion is still higher, and that what has happened over the past few years is nothing but a typical mid cycle correction that is part and parcel of any multi decade bull market.

Silver too has picked up, and is currently back above USD $18 per ounce, whilst AUD investors have now more than recouped all their losses from the 2013 correction in gold prices.

We hope you were able to hold onto your positions through that correction, and potentially even added to them, as those additional purchases would now be solidly in the black.

The Swiss

The last several days amazing trading action all started with the shock move by the Swiss National Bank (SNB) to unpeg the Swiss Franc (CHF), from the Euro (EUR). Since 2011, the SNB had been trying to maintain the CHF at a level of 1.20 vs. the EUR, and this had required a huge expansion of their balance sheet, and the purchase of European government bonds.

Most likely in anticipation of Draghi’s overnight QE announcement, the Swiss folded, judging that it was now too expensive and too risky to maintain the peg. Markets were stunned, and there was no shortage of criticism for the SNB, with Swiss CEO’s, PHD economists and financial commentators the world over commenting on the impending doom of Swiss industry and tourism, and a supposedly unforgiveable mistake by the SNB.

We are not so sure, for we see the world in simpler eyes, viewing currency strength, as well, strength! To help explain why the SNB decision might not be the disaster for the Swiss many are predicting, we turn to Charles Gave, of Gavekal research, who noted the following (again via Mauldin Economics)

“They [the SNB] didn’t mind pegging the Swiss franc to the Deutsche mark, but it is becoming more and more obvious that the euro is more a lira than a mark. A clear sign is the decline of the euro against the US dollar.

Mr. Draghi has been trying to talk the euro down for at least a year. This should not come as a surprise. After all, in the old pre-euro days, every time Italy had a problem, the solution was always to devalue.

But the Swiss, not being as smart as the Italians, do not believe in devaluations. You see, in Switzerland they have never believed in the ‘euthanasia of the rentier’, nor have they believed in the Keynesian multiplier of government spending, nor have they accepted that the permanent growth of government spending as a proportion of gross domestic product is a social necessity. The benighted Swiss, just down from their mountains where it was difficult to survive the winters, have a strong Neanderthal bias and have never paid any attention to the luminaries teaching economics in Princeton or Cambridge. Strange as it may seem, they still believe in such queer, outdated notions as sound money, balanced budgets, local democracy, and the need for savings to finance investments. How quaint!

Of course, the Swiss are paying a huge price for their lack of enlightenment. For example, since the move to floating exchange rates in 1971, the Swiss franc has risen from CHF4.3 to the US dollar to CHF0.85 and appreciated from CHF10.5 to the British pound to CHF1.5. Naturally, such a protracted revaluation has destroyed the Swiss industrial base and greatly benefited British producers [not!]. Since 1971, the bilateral ratio of industrial production has gone from 100 to 175... in favor of Switzerland.

And for most of that time Switzerland ran a current account surplus, a balanced budget, and suffered almost no unemployment, all despite the fact that nobody knows the name of a single Swiss politician or central banker (or perhaps because nobody knows a single Swiss politician or central banker, since they have such limited power? And that all these marvelous results come from that one simple fact: their lack of power.)

The last time I looked, the Swiss population had the highest standard of living in the world – another disastrous long-term consequence of not having properly trained economists of the true faith.”

Charles is obviously being a little cheeky with his critique, but that doesn’t detract in the slightest from the accuracy of his observations. Good riddance to the peg, and if it means Roger Federer has to work a bit harder to win more matches, well that will be a joy to watch anyway.

This is “Whatever it Takes Looks Like”

Back in July 2012, ECB president Mario Draghi gave what many believe to be the most powerful central bankers talk of the entire post GFC environment. In this talk, Draghi almost totally quashed any questions about the future of the Euro, and whether or not the ECB could and would support the financial markets and economies of the Eurozone.

Famously, Draghi stated “The ECB is ready to do whatever it takes to preserve the euro. And believe me, it will be enough.”

The speech can be found at this link here for anyone interested in it

Since then, by and large we’ve seen a massive rally in risk markets the world over, and a subsequent decline in European government bond yields to their lowest levels on record, at least as low as those which occurred during the Black Death, according to Ambrose Evans Pritchard and this early January 2015 article in the Telegraph.

Well, overnight, we found out what “Whatever It Takes” will look like, with the ECB announcing a plan too:

• Expands purchases to include bonds issued by euro area central governments, agencies and European institutions

• Make combined monthly asset purchases to amount to €60 billion

• Continue these purchases until at least September 2016

• Ensure the programme meets its objective of fulfilling its price stability Mandate

The plan will commence in March of this year, with the breakdown of the 60 billion likely to be 45 billion in government debt, 5 billion per month for European institutions and agencies, and a further 10 billion for existing programs which cover asset backed securities and covered bonds.

Whilst this has given the markets a shot in the arm, with most major equity markets at least 1% higher on the news, there is already significant concern about how successful the announcements made by the ECB overnight will end up being. European stock markets might be continuing their run at seven-year highs, but if this post GFC world has taught us anything, it’s that the market isn’t the economy.

Indeed 80% of economists don’t think “whatever it takes” has what it takes, and that this won’t be enough to fight off the contractionary forces plaguing Europe, and that the ECB will need to commit to even more monetary madness.

SocGen have already stated that the potential amount of QE needed is in the vicinity of €2-3 trillion!

As for the risk of extremely high consumer price inflation, the ECB seems as unconcerned about this as all their other central banking counterparts, with the following question and answer taking place with Draghi post the ECB’s announcement

QUESTION: There's a big debate at the moment as to whether quantitative easing what matters most is the flow or the stock: the buying of assets or what is already held on the balance sheet. I'm curious as to where you come out on that particular debate? And second of all what would you say to those who are concerned that when the ECB buying up bonds, electronically printing money, whatever one calls it, is the first chapter in a story that leads inevitably towards hyperinflation. What is your response to that?

DRAGHI: On the first point, the way the introductory statement reads it says that both things are important, the overall amount but also the scale. The scale of these purchases, the monthly flows are quite meaningful as it is meaningful the overall amount. The second question, well the second question I think the best way to answer to this is have we seen lots of inflation since the QE program started? Have we seen that? And now it's quite a few years that we started. You know, our experience since we have these press conferences goes back to a little more than three years. In these 3 years we've lowered interest rates, I don't know how many times, 4 or 5 times, 6 times maybe. And each times someone was saying, this is going to be terrible expansionary, there will be inflation. Some people voted against lowering interest rates way back at the end of November 2013. We did OMP. We did the LTROs. We did TLTROs. And somehow this runaway inflation hasn't come yet. So the jury is still out, but there must be a statute of limitations. Also for the people who say that there would be inflation, yes When please. Tell me, within what?

Mario is of course right that for now we haven’t seen runaway consumer price inflation, for all the money has been channelled into equity and property markets, as well as fine art and other play things of the wealthy.

I think it’s too early to say though that just because higher and higher levels of inflation are yet to materialise, that they will never materialise.

Physical gold and silver seem the best investment to hold in the event of such inflation surging through the real economy

The Indians and the Russians

In other news directly relevant to gold this week, we’ve seen Indian financial markets rally following the Reserve Bank of India’s recent interest rate cut. They are expected to do more easing as the year progresses, something that will only help bolster support for physical gold there.

In Russia, whilst every other central bank is focused on cutting rates, printing money etc, they’re still quietly going about their gold accumulation, with Russian monetary gold holdings now sitting at 38.8 million troy ounces as of January 1st, up 600k ounces from last reports. More signs of the kinds of robust demand we expect to see for the yellow metal in 2015 and beyond

Death of American Business

Apart from home ownership, the American dream has long been about ‘being your own man’ or ‘being your own woman’, and starting up your own business. Historically, America’s love affair with private enterprise, and it’s promotion of its entrepreneurial class has been closely linked to their prosperity and their place on top of the global economic pie.

After all, the millions of small businesses that operate in the United States (and other countries for that matter), are the true drivers of economic growth, constantly creating job opportunities for others.

Sadly, today, despite all the focus on latest tech innovations and start ups based in Silicon Valley, the American entrepreneur is dying.

Evidence of this came from a recent Gallup article, which was picked by John Mauldin and his team at Mauldin economics.

Titled “American Entrepreneurship – Dead or Alive?” the article, published by Gallup CEO Jim Clifton, noted how, for the first time in over 30 years, the number of American business ‘deaths’ is now outpacing the number of American business ‘births’. We can see this captured in the following graph, which shows the ‘net new firms’ created in the USA. As you can see, this number has plummeted in the post GFC environment, and is now negative.

This is a truly terrible development, the implications of which Clifton is well aware of, stating that “Let's get one thing clear: This economy is never truly coming back unless we reverse the birth and death trends of American businesses.”

Wall Street may still be on a high, but Main Street is suffering, and suffering badly.

You can click here to read Mauldin economics take on the matter.

Too Good to be True

Another news item of note out of the United States since the start of the year concerns the repatriation of Federal Reserve ‘profits’ to the United States Treasury.

This is one of the truly magical (yes I’m being sarcastic) financial developments of this money printing era. The Fed prints money to buy bonds from the US Treasury so the government can go spend it.

The Treasury pays a coupon on that bond to the holder (in this case the Fed). At the end of the year, the Fed gets all the money its been paid by the Treasury, plus any other debtors whose bonds it owes, and, after deducting its costs,  gives the money as a gift back to Treasury itself.

It’s a virtuous merry go round of cash that effectively minimises the true deficit the government has to report, as they book the money that they are gifted by the Fed.

It’s not small change either. Last year, the Fed sent just shy of $100 billion to Washington, equivalent to a full year of JP Morgans earnings.

Since the GFC hit back in 2007, they’ve handed over some $535 billion, as the chart below, which comes from the Fed itself highlights.

You can see the Fed’s press release from early January 2015 on the topic here

When you work through the ‘logic’ of this, by definition, if the Fed prints enough money to buy every bond the US government issues, and then gives all the interest back to the Government, the government can issue an unlimited amount of debt, and their will be no interest bill on it whatsoever, as anything they pay will get gifted back to them from the Fed itself.

When something sounds too good to be true, it usually is.

I’m happy owning gold and silver, and a very decent allocation at that mind you, as a hedge against this kind of monetary shenanigans.

The past few weeks, and indeed the past ten years price action in the yellow metals has more than vindicated that decision.

Until next week

Disclaimer

This publication is for education purposes only and should not be considered either general of personal advice. It does not consider any particular person’s investment objectives, financial situation or needs. Accordingly, no recommendation (expressed or implied) or other information contained in this report should be acted upon without the appropriateness of that information having regard to those factors. You should assess whether or not the information contained herein is appropriate to your individual financial circumstances and goals before making an investment decision, or seek the help the of a licensed financial adviser. Performance is historical, performance may vary, past performance is not necessarily indicative of future performance. Any prices, quotes or statistics included have been obtained from sources deemed to be reliable, but we do not guarantee their accuracy or completeness. This report was produced in conjunction with ABC Bullion NSW.