I've Turned Into a Gold Bear -- For Now

Bonds are down. (Rising yields indicate selling in the bond market.)

It appears that, amid the turmoil in the markets and uncertainty about the Iran war, investors are shifting to cash and taking a wait-and-see position. The dollar is up since the war started (at least compared to other currencies.

Oh, and they’re probably buying a lot of oil.

Perception

Perception is driving the markets right now.

The primary factor undercutting gold seems to be inflation worries and the perception that the Federal Reserve will keep interest rates higher for longer. There is even some concern that the Fed will have to raise rates if an oil shock drives price inflation higher. Higher interest rates are considered a headwind for gold because the yellow metal is a non-yielding asset.

On the other side of the coin, gold is an inflation hedge, and it is a little odd to sell your inflation hedge as you anticipate higher inflation. However, over the last decade or so, the anticipated trajectory of monetary policy in response to inflation has driven the gold price more than inflation expectations themselves. This has created a world where inflation worries drive gold prices lower, and when markets expect inflation to ease, they buy gold, anticipating the Fed’s rate cuts.

The gold selloff is kind of like a rock running downhill. People who got into the market chasing new daily highs broke camp. Weak hands are being filtered out. There may well be more downside in the days and weeks ahead, especially if central banks turn more hawkish in their rhetoric.

Analyst Adrian Day has also become bearish on gold in the near-term.

But I still don’t think that the fundamentals that drove gold higher over the last two years have suddenly disappeared. In fact, the war will exacerbate some of those factors in the long run.

Reality

You notice that we’re talking about perceptions here. But what about reality?

I don’t think the Fed is going to raise rates. I’m not even certain the Fed will hold rates higher for longer. In fact, I believe we’re going to see more rate cuts much sooner than many people expect.

That’s because this war may well be the pin that finally pops the debt-riddled bubble economy. I don’t care if there are inflation worries or not. I am almost certain that the central bank will respond to an economic crisis the same way it always has. It will slash rates. It will launch quantitative easing. It will seek to rescue the economy and worry about the inflationary effects later.

What we’re talking about here is stagflation – rising prices even as the economy goes into a tailspin. I’ve been anticipating a stagflationary scenario for a long time. The economy is set up for it. We have a Debt Black Hole and a bevy of malinvestments dating back to the Great Recession years that have never been cleansed from the economy. And we have sticky inflation combined with a monetary policy that, contrary to popular belief, remains historically loose.

The Fed is in a Catch-22. I believe that in the not-too-distant future, it will have to pick between inflation and propping up the economy with easy money. When it hits that crossroads, I believe it will choose inflation. When the easing train starts running down the track, I want to have gold – and a lot of it.

Day agrees that gold’s downturn will likely prove “temporary” and that the hawkish Fed is a myth. He said that while the central bank may not cut rates aggressively, it could launch another round of quantitative easing (QE), noting that it “would have an equally positive impact on gold.”

In fact, the Fed is already running QE operations, although you will never hear that word uttered by a central banker or a financial media pundit. However, you can see that the Fed’s balance sheet is increasing. That means it is buying Treasuries with money created out of thin air. Call it what you want. At the end of the day, it’s QE.

Gold bugs might have a rough time in the days and weeks ahead, but as the saying goes, this too shall pass. In fact, as quickly as the news on the war keeps changing, it could pass pretty quickly. However, until market sentiment gets off this notion that interest rates are going to stay high or get higher (they aren’t really high now, historically speaking), gold (and silver) will continue to face headwinds.

As Day notes, we need to keep focused on the big picture as we’re inundated by a parade of headlines.

Let Me Be Clear!

When I say I'm a gold bug, for now, that doesn't mean I'm selling my gold. That seems insane to me in a world where we're likely to face a declining economy and rising inflation. I don't want less gold, I want more of it. That means I view these sub-$5,000-an-ounce prices as a nice buying opportunity.

In the long run, I sure as heck don't want to be sitting on a bunch of fiat dollars as the federal government continues to run massive deficits and drive the debt higher. I don't want to be sitting on a bunch of fiat dollars if the economy goes into a tailspin. And I sure as heck don't want to be sitting on a bunch of fiat dollars when the Fed cranks up the money-printing machine to rescue the aforementioned economy in a tailspin!

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