Mr. Greenspan, would
you please do something about this (see chart) before it gets outta'
Greenspan says, "What would you suggest
?: Well the boys down
here in the bond pits are concerned about your leadership again.
They're not sure whether you're a stock or bond bull. You've got
them all spooked with talk about inventory drawdowns and a recovery
in production rates. The thinking is getting around that maybe you've
become a stock bull after all.
Greenspan: "You don't
say. Well, we don't target asset prices at the Fed. We target interest
rates. But you're right, it's tough to justify a low Fed Funds rate
if long term bond yields won't stay down. The administration can't
seem to get its act together on the budget, and now, it's starting
a trade war. They're stirring up trouble in the dollar. How can
we keep interest rates low like this? Clinton understood."
?: C'mon now Alan,
don't put this one on the President, you know you've been blowing
smoke up everybody's bums about the economy all along. How did you
think that would affect yields? All you've done is displaced inflation
expectations with high investment expectations.
Greenspan: "We did
no such thing. I'll explain it to you over lunch. Don't let the
door smack you in the behind on the way out."
I'm only guessing that's how a conversation
between Mr. Greenspan and the head of an investment bank making
a market for Treasury securities might sound, early this week. Then
again, that conversation may have already occurred. The timing is
about right for the Fed to get bearish on stocks, or to deflate
investment expectations if you will.
With confidence on the rise, commodity
prices bubbling, real estate prices exploding, hedge books bleeding,
government outlays expanding, and trade policy limping there is
only one way to keep interest rates and yields low. Hammer the stock
What about the dollar though? Won't
a collapse in the US dollar give rise to inflation expectations
in the US economy? Perhaps not if reeling stock prices introduced
a good old fashioned Keynesian demand shock to the financial system.
But then, what about gold? If this
so-called demand shock reverberates through foreign economies, and
the dollar rises at their expense what will foreign gold producers
(with hedge books hedged for a falling US dollar) do? So
much for the strong dollar.
So now, the dollar can neither rise
nor fall. If it rises, Australian and South African hedge books
are up for sale. If it falls, investment demand for gold can be
found emanating from the US. So it's time for policymakers to hone
in on specific currency relationships.
Supporting the yen now, for instance,
is a terrific way to cool off the new class of gold bull arising
out of Japan's decay. Supporting the Australian dollar and South
African Rand is an effective way to raise the break even value of
hedge books in the region, and it keeps the pressure off those producers
faced with the dilemma of liquidating their hedges into a rising
If gold prices are indeed a target
of US economic policy (auxiliary or direct) then policymakers will
be faced with the task of maintaining confidence in the dollar generally,
with the aim of restricting growth in the investment demand for
gold, overall, but also by adjusting specific exchange rate relationships
in order to target potential hot spots for this kind of demand.
At the moment, these hot spots are
Japan, Australia, South Africa, and other parts of Southeast Asia.
Currencies here have been the weakest, and hedging activity has
as a result been the strongest, in the past, at least among those
regions where the gold industry exists. Further weakness in these
currencies, however, means that local gold prices are that much
stronger, which has become
detrimental to the foreign producer's ability in maintaining its
currency and gold hedges.
This presents a big problem for dollar
bulls because the thrust of their strength over the past year or
so has been from a fall in the Japanese Yen and South African Rand,
by 10% and 60% against the dollar respectively.
The European currencies are gaining
some strength now, but the affect that a strong Euro may have on
gold might be offset by a pick up in investment demand for gold
bullion in the US. The question dollar bulls must ask now is whether
a falling dollar will spur growth in this demand beyond that which
it dissuades off shore.
It shouldn't matter, because a falling
US dollar should also persuade production cut backs off shore.
The US dollar has been in a 6-year
bull market, but had lost its broad momentum by 2001, and consequently
under performed the gold price for the first time in that six-year
Now, several factors threaten to
undermine its performance relative to other fiat currencies:
- A Trade war
- A Sticky Current Account Deficit
- Bearish interest rate differentials
between US and other nations
- Bearish inflation rates (which
are higher in US than any of the G7)
- Budget decay
- Peaking consumption trends in
the US, and
- a Potentially falling investment
premium on dollar assets
Haruko Fukuda, the World Gold Council's
CEO, is reportedly confident that the eleven Euro area central bankers
will renew the Washington Agreement in 2004, perhaps for ever, she
said. But then, it could be that fresh strength in the European
currencies will dissuade such speculation.
Judge Lindsay ruled against Reg Howe,
in the case of Howe versus the BIS (Bank for International Settlements).
Disappointing, but not too surprising in light of recent events
and government machinations.
The Judge said that Reg had no standing
and that Greenspan and O'Neill were above the law (had sovereign
immunity) anyway. The only comment we'll make is that this case
no longer represents an axe of uncertainty overhanging the gold
market. It is out of the way, and thanks to Reg and GATA, the whole
world is beginning to know the truth anyway.
One thing is for sure, the whole
world is beginning to notice the relative strength of the gold market.
Gold equities were reported to be the 2nd best performing stock
sector in the first quarter, 2002:
- HUI (Amex Gold Bugs index) = +57%
- XAU = +32%
- SP 500 Gold index = +28%
- TSE Gold and Precious Metal group
The best performing S&P500 sector
was the Semiconductor Equipment index, which was up 30%. In third
place were the S&P 500 Diversified Metals and Mines.
But broad stock market victory in
the first quarter of 2002 goes to gold shares in the first quarter.
That's after a robust 2001 where the S&P gold index was up 12%,
and the TSE precious metals index was up 16%. Forget about the great
fourth quarter GDP news. That's looking in the rearview mirror.
This sector is telling us something else about the economy, entirely.
At any rate, note how the US gold
indexes overtook the Canadian gold shares in the most recent quarter.
The main explanation lies in the relationship between the US and
Canadian dollar. In 2001, the C$ fell by 7 percent against the USD.
So far in 2002, the CAD is down against the greenback by only a
fraction of a percentage point, but that is due to recent weakness.
As of the high point in March, the C$ was up against the USD, by
a little more than 1%.
The Canadian dollar is one currency
that puzzles us, but perhaps that's because we live in Canada. Having
said that, and although we've got our share of gold hedgers, it
is possible for the Canadian dollar to become the sacrificial lamb
for dollar policy, with regards to managing the gold price (or demand)
at any rate.
In allowing the US dollar to fall
against specific foreign currencies in order to manage the global
investment demand for gold US policymakers cannot let the US dollar
slide precipitously. A declining CAD may be the least of all the
evils in the context of what currency collapse will pose the least
threat to gold prices.
Moreover, a falling CAD may be able
to help contain some (USD) inflationary pressures boiling to the
surface in other commodity markets, and it can thereby help contain
the temporary upside momentum in the Japanese Yen, and Australian
dollar. Or maybe that's how it is perceived.
On the contrary, however, if this
turns out to be true we're looking for the Canadian unhedged gold
producers to light up the sky in 2002 alongside, and maybe in front
of, their American counterparts.
In a February daily commentary (Prisoner's
Dilemma Resolved) we suggested
to our readers that gold stocks were about to embark on a primary
trend reversal, which meant certain target ranges for the major
gold bourses in North America. Here they are:
Primary Trend Reversal Points
- 80 on the SGOLD
- 93 on the XAU
- 100 on AMEX HUI
- 7500 on the TSE Gold index (25%)
AMEX gold bugs index has made it, and is just about in a genuine
primary bull market. The S&P gold index is about half of the way,
and the others are just under half way there.
At the moment, our hypothetical portfolio
is weighted 25% in bullion and nearly the same amount is allocated
to gold equities since October 2001. Should our targets be achieved,
we may or may not lighten the load on the equity front. But until
that time, our investor is definitely going to let it ride.
We think the US dollar has had its
best days. And they weren't in 2001.