A Golden Inflation ConundrumPosted: April 17, 2023 Filed under: commodities, CPI, gold, Monetary Policy, PPI | Tags: abandoned baby top, Christopher J. Waller, Consumer Price Index, CPI, Federal Reserve, gld, inflation expectations, Monetary Policy, PPI, Producer Price Index, SPDR Gold Shares, technical analysis, University of Michigan surveys of consumers Leave a comment
Last week, SPDR Gold Shares (GLD) rallied on weak inflation news and pulled back on strong inflation news. The gap up in GLD followed by a gap down created the dreaded “abandoned baby top.” This technical pattern typically signals the end of a rally. What gives with this golden inflation conundrum?
SPDR Gold Shares (GLD) printed a technical topping pattern amid mixed inflation news, but it is trying to hold uptrending support at the 20-day moving average (DMA)
The current inflationary cycle could be ending, at least in North America. For example, the Bank of Canada (BoC) showed inflation data with a steeply descending trend ending with a near perfect landing at the Bank’s 2% target in late 2024.
Here in the U.S. plenty of pundits have declared inflation a non-threat ever since the Federal Reserve finally got serious about it. Cathie Wood has been one popular critic of the Fed’s inflation concerns. The disbelievers received more confirming evidence when the latest producer price index told a disinflationary story. A slightly weaker than expected inflation reading from the March Producer Price Index (PPI) generated cheer in stocks given the implication for looser monetary policy. Since producer prices sit upstream from final goods prices, PPI can be a leading indicator of future prices.
Gold also celebrated the soft inflation numbers; GLD gained 1.4%. This reaction represents the upside of the golden inflation conundrum. Gold bugs suspect that the seeds of inflationary pressures remain well-grounded in the economy. I agree with them. A relaxed Fed is a potential catalyst for rewatering the garden of growing prices, especially if labor markets remain tight. Thus, the prospect of a relaxed Fed supports higher gold prices.
The downside of the golden inflation conundrum can come on stronger inflation signals because they support an aggressive, inflation-fighting Fed. GLD went into retreat in the wake of a surprising surge in consumer expectations for inflation next year from 3.6% in March to 4.6% in April. This reading from the University of Michigan’s surveys of consumers was last this high in November, 2022. Even if this move coincided with the jump in gas prices, surges in inflation expectations are sure to encourage the Fed to stay on message. As it happened, the market got a timely dose of messaging from Governor Christopher J. Waller the same day.
The Fed Stays On Message
In the wake of the economic data, Governor Christopher J. Waller spoke at the Graybar National Training Conference in San Antonio, Texas. Waller reiterated the all too familiar refrain “inflation remains much too high.” He provided the following cautionary assessment of inflation (emphasis mine):
“Inflation moderated in the second half of 2022, but that progress more or less stalled toward the end of the year…On April 12, we got consumer price index (CPI) inflation data for March, and it was another month of mixed news…Core inflation, which strips out food and energy prices, is a good guide to future inflation, and that measure came in at around 0.4 percent in March, which translates to an annual rate of 4.6 percent if it were to persist. It was the fourth month in a row with core inflation at 0.4 percent or higher. Since December of 2021, core inflation has basically moved sideways with no apparent downward movement. So, despite some encouraging news on a slowing in housing costs, core inflation does not show much improvement and remains far above our 2 percent inflation target.
Whether you measure inflation using the CPI or the Fed’s preferred measure of personal consumption expenditures, it is still much too high and so my job is not done. I interpret these data as indicating that we haven’t made much progress on our inflation goal, which leaves me at about the same place on the economic outlook that I was at the last FOMC meeting, and on the same path for monetary policy. Because financial conditions have not significantly tightened, the labor market continues to be strong and quite tight, and inflation is far above target, so monetary policy needs to be tightened further. How much further will depend on incoming data on inflation, the real economy, and the extent of tightening credit conditions.”
With the Fed’s next decision on monetary policy just two weeks away, Waller’s words suggest that the Fed could raise rates yet again. The odds are low of getting a disinflationary signal strong enough to counter Waller’s observations. Thus, I think GLD will struggle to invalidate the technical topping pattern for the time-being.
The golden inflation conundrum leaves GLD in a contrary place. In the short-term, GLD’s best chances lie with soft inflation numbers. Indeed, GLD bottomed shortly after the market bottomed in October when market participants concluded that inflation had finally peaked. Inflation’s peak does not equal the Fed’s inflation target; the Fed has gone to great lengths to issue these reminders. Yet, beyond day-to-day volatility, the market has overall chosen to fight the Fed’s hawkishness ever since October. Volatility is even back to levels last seen at the start of trading in 2022 despite the linger crisis in regional banking.
Where volatility is poorly positioned, GLD is well-positioned. From the looming battle over the U.S. debt ceiling to the prospect of the Fed standing down later this year to geo-political risks, there are enough reasons to stay bullish on GLD. I am back to trading around my core position. I took profits on half my call spreads last week. My remaining half is set to expire in September. I want plenty of runway for the gold-positive catalysts to work their way through the golden inflation conundrum.
Be careful out there!
Full disclosure: long GLD shares and call spread
Don’t Blame the Fed: The Fed Gives Us What We WantPosted: March 21, 2023 Filed under: commodities, Economy, gold | Tags: CME FedWatch Tool, Fed balance sheet, Fed Fund Futures, Federal Reserve, gold, Jim Chanos, Monetary Policy, National Financial Conditions Index, NFCI, Panic of 2023, PHYS, SBNY, Signature Bank, Silicon Valley Bank, Sprott Physical Gold Trust ETV, SVB, SVB Financial Group 2 Comments
The Fed’s risk management strategy was ostensibly designed to keep pushing rates higher until the Fed slayed the inflation dragon or something in the economy forced it to stand down, whichever came first. Unfortunately for the Fed, the dice rolled in favor of the latter. Instead of a soft landing or even a mild recession, bank failures landed on the Fed’s collective lap in the form of SVB Financial Group (SVB), the parent company of Silicon Valley Bank, and Signature Bank (SBNY). It is very easy to blame the Fed for this mess (today’s chorus is pretty emphatic on this point). However, the problems in Silicon Valley Bank (SVB), which was the strongest catalyst for the Panic of 2023, started well before the Fed belatedly decided to start tightening monetary policy. ABC News confirmed reports from the New York Times and the Wall Street Journal on the following timeline:
- Starting in 2019: The Federal Reserve warned Silicon Valley Bank about risks in the bank.
- 2021: “The Fed identified significant vulnerabilities in the bank’s containment of risk, but the bank did not rectify the weaknesses.” Ironically enough, one of the six fines issued to SVB included “a note on the bank’s failure to retain enough accessible cash for a potential downturn.”
- July, 2022: a full supervisory review revealed the bank as “deficient for governance and controls.”
- Fall 2022: the Federal Reserve of San Francisco met with “top officials at the bank to address the lack of accessible cash and the potential risks posed by rising interest rates.”
In other words, tight monetary policy was not the root problem of the bank’s problems. Tighter monetary conditions finally forced the issue of disciplining the bank. Tighter monetary policy is supposed to mop up excesses in the economy, and Silicon Valley Bank is starting to look like yet one more egregious example of the excess enabled by the prior era of easy money. It will be interesting to see whether the Fed’s review of its regulatory supervision includes claims that it lacked the authority to force SVB to change its ways.
The Fed Gives Us What We Want
Regardless, as I continue to see blame heaped on the Fed for this latest episode of financial instability, I have surprisingly adopted a more sympathetic view of the Fed’s work. The Federal Reserve has a near impossible job. It seems every major change in monetary policy sets the seeds for the next financial drama. Every financial drama raises the Fed’s prominence yet higher as a centralized economic planner, never able to return to the background of a free market. The Fed now must constantly tinker with interest rates with no clear terminal point. In particular, the economy has set up the Fed to bias towards keeping monetary policy as accommodative as possible for as long as possible. The Fed gives us what we want: policy that supports higher asset prices from stocks to real estate.
The index of financial conditions, as measured by the National Financial Conditions Index (NFCI), since the Great Financial Crisis (GFC) shows extended periods of very easy financial conditions. It is remarkable how little time the economy has been stuck with a positive index, or even a component on the positive side of danger…even in the aftermath of the economic shutdowns from the pandemic.
The Fed’s balance sheet is an even better example of how the Fed gives us what we want in the form of accommodative monetary policy. The Fed was never able to reduce its balance sheet after the GFC. The current tightening cycle barely put a dent in the Fed’s balance sheet. I have a sneaking suspicion that the Fed will never get its balance sheet back to pre-pandemic levels either. Note how the balance sheet ticked up as of last Wednesday in the wake of the rescue programs rolled out to backstop failing banks.
Board of Governors of the Federal Reserve System (US), Assets: Total Assets: Total Assets: Wednesday Level [RESPPANWW], retrieved from FRED, Federal Reserve Bank of St. Louis, March 21, 2023.
Before the GFC, this kind of balance sheet expansion was considered unthinkable. Surely, such a growth in the balance sheet would cause dangerous inflation levels. Given the on-going duration and size of this expansion, I am guessing economic theories will slowly but surely normalize the existence of this balance sheet. Yet, the longer this largesse continues, the more the economy will depend on sustaining these high levels. Thus, the economy will remain vulnerable to instability whenever economic conditions force the Fed into tightening policy. (Recall how the previous tightening cycle moved at a snail’s pace but still eventually forced the entry of a “Plunge Protection Team” to put a floor under the stock market).
What We Want Is Not Free
In a July, 2022 interview on Bloomberg’s Odd Lots (starting at the 14:35 point), famous short-seller Jim Chanos presciently claimed (emphasis mine):
“The one thing people are not prepared for is interest rates resetting meaningfully higher…It just hasn’t happened in most investors’ lifetimes…the idea that actually interest rates are not going to be 2 or 3% for the foreseeable future is going to be hard for a lot of investors to deal with. If we go back to what I would think are more reasonable rates based on what we’re seeing in the economy…this market will not be able to handle 5 or 6% 10-year. It just won’t. So many business models that we look at are extremely low return on invested capital because capital has been so plentiful for the past 12 years.”
The subtext here is that the Fed’s bias has been to leave monetary policy as accommodative as possible for as long as possible. Deflation was the great imperative chasing the Fed into monetary corners. The response to the pandemic was the logical conclusion of this policy as the Fed decided it had the luxury to keep driving unemployment ever lower by holding rates lower for longer. The economy appeared to be in another era where liquidity and massive stimulus could be conjured up for free. The pandemic’s inflationary pulse eventually turned the tables. What we want can actually be quite costly.
Thus, the Fed finds itself in a new trap. I feel for the Fed, but I don’t blame them…we prefer easy money…and many eagerly await the Fed getting disciplined back into cooperation by the Panic of 2023. The Fed Fund futures suddenly expect a long string of rate cuts to follow peak rates in May. I sure hope inflation cooperates as well!
Source: CME FedWatch Tool as of March 21, 2023
A Golden Epilogue
Gold received a new burst of life thanks to the Panic of 2023. As soon as the Fed blinks, I expect gold to rally further. I am keeping the buy button close as we go into the next several decisions on monetary policy starting with March’s. The Sprott Physical Gold Trust ETV (PHYS) broke out to an 11-month high. Today’s 2.0% pullback from over-extended price action looks like it is setting up the next buying opportunity.
Be careful out there!
Full disclosure: long GLD
Inflation helps drive Iranians to dollars and gold, government warns citizens to stopPosted: November 21, 2011 Filed under: gold | Tags: foreign exchange, Iran, U.S. dollar Leave a comment
Iranians are scrambling to protect their life savings by buying dollars and gold. Iran’s inflation rate has risen from 8.8%, a 25-year low, to 19.1% last month. The rush out of the Iranian rial has become so bad, the government has asked its citizens to stop buying dollars and gold. The government has warned that foreign exchange rates will fall and gold prices will soon drop: “…those who buy them at high prices should not complain later on.”
For more details see “Government asks Iranians to stop buying dollars” (CNBC, November 19, 2011).
Gold prices squeeze margins at Marvell TechnologyPosted: August 19, 2011 Filed under: commodities, gold, High Tech | Tags: copper, gold, Marvell Technology, MRVL Leave a comment
Gold has soared over the last six weeks. I never thought about its impact on manufacturing because I have believed gold is a very minor component of any production process. However, over at Marvell Technology (MRVL), high gold prices are squeezing margins enough to make the company plan switching to copper. From Seeking Alpha transcripts of MRVL’s earnings call on August 18:
“The price of gold has increased from about $1,200 per ounce a year ago, to over $1,700 today. This has eroded our gross margin by about 1.5% in that period. We are transitioning to copper, but this will take some time.”
MRVL also noted that foundry prices have fallen more slowly than expected, and the company is looking for new fabs with better pricing.
Author disclosure: long GLD and GG
The U.S. Dollar Can’t Find A BottomPosted: April 29, 2011 Filed under: Currencies, gold, Government, Monetary Policy | Tags: gold, silver, U.S. dollar Leave a comment
CNBC reported that “Adjusted For Inflation, Dollar Hits Fiat-Era Low.” Economists at Deutsche Bank calculated the value of the dollar on a trade-weighted basis and then made adjustments for inflation. Their conclusion is that the dollar is at its lowest point since the U.S. went off the gold standard under President Richard Nixon.
The full article is worth a read but here is a key quote:
“The recent parabolic spike in silver and to a lesser degree gold, shows that the market considers a ‘disorderly decline’ of the U.S. dollar an increasing possibility…”
Click here to see how the U.S. stock market remains in an 11-year sell-off when priced in gold.
Gold also looks to continue higher. According to a recent article in Bloomberg:
“Central banks that were net sellers of gold a decade ago are buying the precious metal to reduce their reliance on the dollar as a reserve currency, signaling demand that may extend a record rally in prices.”
Disclosure: author owns GLD, PAAS
Greenspan knows inflation?Posted: March 5, 2011 Filed under: commodities, Economy, gold | Tags: Alan Greenspan, gold, Monetary Policy, TIPS, treasuries Leave a comment
Suddenly, former Federal Reserve chairman Alan Greenspan knows inflation. In fact, he now sees inflation as a real danger. Greenspan discussed a variety of economic topics with a crew from CNBC. I was quite intrigued, and VERY surprised, at his commentary on inflation and even gold. It is as if retirement has brought on an inflationary epiphany. Stepping away from the printing presses of currency has delivered some remarkable clarity…somehow.
Here are some highlights that were of most interest to me (bold emphasis mine):
- Inflation premiums are building up in the “out years”, but none of these indicators (TIPS, out year treasury yields) will tell you when inflation is about to take hold, and certainly not when the bond markets are going to move.
- In 1979, 10-year treasuries were yielding 9% and all the indicators told prognosticators that yields had peaked because the U.S. was not an inflationary economy – over the next 4-5 months, yields went up 400 basis points.
- Greenspan has always been somewhat skeptical of the output gap – the stagflation of the 1970s proved that “it is not an infallible indicator.”
- The general assumption about measures of core inflation is that food and energy fluctuate, but have no trend. That is incorrect.
- Rising incomes have shifted diets toward more protein, requiring more wheat crops while at the same time we are running out of arable land. This will create a long-term uptrend in food prices.
- Concerns over the security of oil supplies will also put oil prices on an upward trend.
- Over the counter derivatives (futures) have encouraged more storage of oil above ground in developed nations, providing a buffer. Otherwise, oil would be even higher right now.
Greenspan’s commentary on gold perhaps hearkened back to his pre-Fed days when he wrote “Gold and Economic Freedom” back in 1966. The quotes below come from CNBC’s transcript of the larger interview. He made these comments after pointing out that both the euro and the U.S. dollar are flawed fiat currencies (imagine what could have happened in currency markets if Greenspan made such an observation while he was Chairman!).
“What the price of gold is saying, is that there elements within the marketplace that feel very uncomfortable with respect to what is going on generally, and its not an accident that you’re finding that central banks are going in to buy gold and one of the reasons is gold is historically one of the rare media of exchange that doesn’t require any collateral or backing, counter signatures, gold is universally acceptable as a means of payment.”
“I’m not saying we can or should go back on the gold standard, that would be extremely difficult, and it would require such cast changes that this society has made no indication that it wants to do that, but I do think to get a sense of the stability of the system, watching the price of gold is not too bad.”
The overall discussion begged the obvious questions on monetary policy. It is not clear to me whether Greenspan’s characterization of existing inflationary pressures compels any changes, especially given these underlying forces are out of the Fed’s control.
Disclosure: author is long TIP and TBT
Gold prices continue to risePosted: September 24, 2010 Filed under: gold Leave a comment
The price of gold, which has nearly doubled in the past two years, hit another all-time high yesterday.
Precious metals shinePosted: January 12, 2010 Filed under: gold | Tags: gold, platinum, silver Leave a comment
Gold is at a 5-week high; silver and platinum are approaching 52-week highs. Charts for exchange-traded funds GLD, SLV, and PTM are below. (Click to enlarge.)
WSJ writer says inflation is a “distant threat;” bond traders, gold traders seem to disagree.Posted: December 15, 2009 Filed under: Bond market, gold | Tags: bonds, gold, inflation, treasuries Leave a comment
Mark Congloff at the Wall Street Journal says that until unemployment starts to drop, inflation “remains a distant threat.”
If that’s the case, then why has gold performed so well the past year? Why have long treasury bonds performed so poorly?
Gold hits all-time high. Again.Posted: November 24, 2009 Filed under: gold | Tags: gld, gold 1 Comment
Fed officials continue to tell us that inflation is contained, yet the price of gold continues to soar. Here’s the daily chart for streetTRACKS Gold Trust exchange-traded fund (ticker symbol GLD):
Note that GLD has risen in seven out of the last seven trading days.
Gold prices hit all-time highPosted: November 8, 2009 Filed under: gold Leave a comment
Unless you’ve been living in a cave, you’ve already heard this news. But I figure the record high gold price — nearly $1,100 per ounce — deserves its own post.
The market is telling us something. Are you listening, Ben?
Gold vs. long bonds: a market rumble?Posted: November 7, 2009 Filed under: Bond market, gold 1 Comment
At the Wall Street Journal’s MarketBeat blog, Joanna Slater posits “a prizefight underway in markets, with two heavyweights slugging it out for bragging rights and big winnings.” The contenders: gold and treasuries:
In the yellow trunks: gold, which surged to yet another record price today, hitting over $1,100 per ounce before retreating. For the legions of gold fans, the Federal Reserve’s unprecedented efforts to pump money into the economy will end badly, igniting inflation.
In the red, white [and] blue trunks: Treasurys. Yields on longer-dated government bonds remain relatively subdued, a sign that investors aren’t overly worried about a massive upsurge in prices. Today, investors bought Treasurys, sending yields lower, as they digested a poor unemployment figure that underlined the fragility of the economy. The yield on the 10-year Treasury bond was recently trading at around 3.50%, below its recent peak of 3.95% in June.
Though long treasury bonds are above their June lows, they have greatly underperformed gold since the beginning of the year. The iShares Barclays 20+ Year Treasury Bond ETF (ticker: TLT) is down 21.8 percent year to date, whereas SPDR Gold Trust ETF (ticker: GLD) is up 24.2 percent year to date.
Even shorter-term treasuries have underperformed. The iShares Barclays 7-10 Yr Treasury Bond ETF (ticker: IEF) is down 7.8 percent year to date. The iShares Barclays 3-7 Yr Treasury Bond ETF (ticker: IEI) is down 3.2 percent year to date.
If this were a boxing match, gold would be declared the winner by TKO.