The Central Banks’ Last Stand
The Expert View
Featuring Greg Weldon
Published on: July 29th, 2019 • Duration: 37 minutesGreg Weldon, founder and CEO of Weldon Financial Publishing, lays out a bullish case for gold based on a series of macro indicators. He believes that a looming recession will force global central banks to react with policy moves that will be overwhelmingly positive for gold. Weldon views gold as a great hedge against anything from a normal recession to a worst-case scenario. Filmed on July 16, 2019 in Jupiter, Florida.
GREG WELDON: So the ECB is really going to be under the gun here. And there's some talk about some pretty interesting things that they might do, which would be QE on steroids. This might be the most bullish thing I've heard potentially if it were to ever come to fruition, the most bullish thing for gold that I've heard in 35 years of doing this. At some point, there is a level of uncertainty and anxiety around all that paper and it is IOUs.
I am Greg Weldon, I'm the CEO of Weldon Financial. We publish Weldon Live, a daily global macro market research product, and we were just introducing gold-guru.com to really hone in and take advantage of the opportunities coming up here in the precious metals markets.
What's your view on Europe?
Sure. In terms of what's going on in Europe, it really is the place to start, because this is the next point of attack in terms of central banks potentially having to wield their monetary weapons to fight a wave of this, if not deflation. And in the case of Europe, the central bank has really painted themselves in the corner there. Super Mario, his legacy is almost at risk here in the sense that they had an opportunity back in the beginning of 2018, the first quarter of 2018, to actually do what the Fed did- raise rates, restocking the monetary ammunition as it were in terms of conventional tools, i.e. rate cuts, that they could use on the backend when the next problem began to hit. And the Fed was very adept at doing this, they did a brilliant job, they very much articulated exactly what they were doing, and did it and they're in a much better position now, which just magnifies the situation that the ECB finds themselves in, where now, GDP in Germany has gone from being positive and positive on a real basis even with relatively high and rising inflation, you still had real GDP rising and pretty fat.
That's not the case at all now. You have nominal GDP actually approaching it potentially being negative, you have a potential recession in the Eurozone. This would feed off of Germany, just like you had strength in places like Poland, the Czech Republic, Slovakia, even in Spain, which was a juggernaut a year and a half ago, economically. You don't have that now, and you have the potential backfiring out of the German situation that could be real negative. You look at PMIs, I know that Raoul has been all over this with some really good stuff lately too about how the projections of some of the forward looking indicators in Germany, the PMIs, the ZEW, the IFO Institute, the EU Commission was a particularly interesting report two weeks ago, with all kinds of really micro data that suggests the economy over there is in deep trouble and the projections would be something like a 2% to maybe as much as 3% decline in German GDP, which means the periphery is probably going to be worse.
And what is the ECB going to do? They're going to cut rates another 20 basis points, which is what's priced into deposit rate futures market, they take it to minus 60. It's like who cares? They do more QE, who cares? And to the degree that more and more bond yields, the 10-Year in more countries being negative nominally, essentially, you're paying governments to hold your money. You're sucking huge amounts of capital out of the underlying economy, out of the- really essentially, almost out of the banking system. And that doesn't behoove the thought process around regaining some growth traction. And God forbid, we actually achieve inflation targets.
So, the ECB is really going to be under the gun here. And there's some talk about some pretty interesting things that they might do, which would be QE on steroids. And that's where you start to come into focus with some bigger picture that revolves around gold.
What's your view on European banks?
Well, when it comes to Deutsche Bank, and all the banks in Europe, and if the ECB cuts another 20 basis points, which is fully priced in now, and you get to minus 60 on the overnight deposit rate, again, it's a giant who cares? It really is more about what's the next step? What is the step that can basically repair the damage done by the fact that they didn't raise rates to give themselves some room. Not only that, but if you look at what happened to the US, the Fed raises rates, and all of a sudden, banks are going to have margins again, you're going to stimulate lending. And the bank shares rally.
You didn't see that in Europe, bank shares are largely at their lows, if not making new lows relative to the broader markets there. They're at multidecade, if not all-time lows. The thought process being discussed, from what I understand through channels and behind the scenes, is pretty interesting. And I'll throw it out to you. And we'll see what happens because to me, this makes a lot of sense. Not that it's the right move, the time for the right moves- 1990 was the last time you could have maybe applied some fix to all this.
Now, it's one thing and one thing only- pain avoidance. The deepest pain, a debt deflation. Europe, potentially staring down the barrel of that gun right now. So, what do they do? Well, what if they were to actually raise interest rates? Oh, my God, you get, say 100, a 200 basis point deposit rate. Now, all of a sudden, fixed income is fixed income again. You're paying investors, you're paying depositors to put money in the bank.
And on the flip side, the ECB, using the LTRO program, is able to establish a borrowing rate for banks that say minus 100 or minus 200. Say you had a symmetrical minus 200 plus 200 two-tiered system, a deposit rate against the borrowing rate for banks. Now, the thought process goes so far as to suggest what would happen is that this would facilitate banks making loans to consumers and businesses at minus 50 basis points, essentially, paying consumers, paying businesses to borrow more money. Negative interest rates, the thought process was that's going to be a penalty dynamic that will force consumers to go out and spend money. Somehow, it's happened. It's sucked money out of the system.
So, in this case, this setup while dramatic, while QE on steroids, would have some desired impact if your desired impact is to push for a reflation. But at the same time, on the backend of that, you might get some severe reversals in some of the markets like the deposit rate futures, which are pricing in rate cuts. If you hike rates, you're going to have a massive opportunity to be short those contracts. Something like the bonds would probably get hit too and yields would start to rise. The flip side would be stock markets would probably love this idea. At least for some time period, it would be a honeymoon for the stock markets. And really, when you come back down to it, this might be the most bullish thing I've heard potentially, if it were to ever come to fruition, the most bullish thing for gold that I've heard in 35 years of doing this.
What's your view on gold?
I guess that backdrop, the view on gold is very positive. And it's even positive to the degree that the last six to nine months haven't been negative. Because if you look at the dollar and the dollar's trading 98.50, the dollar is bidding to break out here in a short-term basis and get back to the highs from 2016. Closer to 104 in the dollar index. The trade way to the dollar index is even stronger. And against that backdrop, gold has not cracked. If you overlay these things, gold would be trading more around the lines of $1,100, maybe as low as $1,050, given where the dollar is, that de-linkage is huge, because what it tells you is if the dollar is the strongest currency out there, and gold is appreciating in dollar terms, that means gold is appreciating against all paper currencies.
That's the sweet spot for gold. That's what you have right now. In fact, the gold adjusted value of the dollar index, simply the dollar divided by gold, really not rocket science, is on the verge of a major breakdown into what is already been a secular breakdown. So, it'd be a fresh leg down here, which would mean obviously, gold's already broken out above this $1,375 level. That was key resistance. And if you lay out the technical structure on a long-term basis, even going back to 1971, when Nixon de-linked gold you from the dollar officially, this has been a four-wave setup, Wave 1, 2, Wave 3 was into the 2011 high, the most recent correction to the lows around $1050. Lo and behold, it's almost a perfect 50% retracement of the entire boom moves from 1971 to the 2011 high.
And I remember specifically, just watching this very closely back when gold was under pressure into late 2014 and into the 2015 low, the number of days that you got below that 50% retracement and then closed back above it. The number of tailed reversals like on a candlestick chart that you might see below this 50% retracement level, just be like so much demand there. It was uncanny to watch the math and to watch how it played out in the manifestations of the market movements to where it held that level. More recently, there was some questions around gold. It was maybe going to break $1,260 again and could have had a real another significant $100, $150, $200 decline. And it didn't do that.
So, when you throw all this into the mix, let alone you take places like Angola, Pakistan, Colombia, Uruguay, Uzbekistan, Kazakhstan, gold in these currencies, record highs in almost every case. So, a lengthening list of currencies against which gold is at record highs, including the Aussie dollar for example, including some major currencies, Swedish krona will be another example. And then you look at the dynamic around how the dollar is playing out in this context. Again, you go back to if the ECB is going to pull some QE on steroids, rabbit out of a hat here.
Would it make sense that gold is appreciating at all paper currencies? Because essentially, what you really have going on here, at the end of the day, the most base case at the instinctive level, is a growing uncertainty, fear and even mistrust around all paper. They're just going to keep printing more and more paper every time there's an issue around disinflation, deflation. Well, at some point, there is a level of uncertainty and anxiety around all that paper, and it is IOUs. Currencies, sovereign debt, it's all saying it's an IOU, and it's clich? but it is powerful and it's true, the dynamic around gold being an offset to all of this paper that they'd just keep printing.
What's your view on the Fed?
In terms of the Fed and did they go too far? Number one. And are they behind the curve now ? Number two. They are very valid questions, and the answer is yes. And yes. But the answer also depends on who you listen to. Because I wrote a piece going all the way back into August, it was called, Take Me Out to the Ball Game, it was about the Fed. It was about Jackson Hole. It was about Jerome Powell. He is not Bernanke, he is not Yellen, they were students of the deflation era of the 1920s. They know how to fight a debt deflation. Jerome Powell told us, I'm not that, I am a student of the 1970s inflation.
He was very specific on this giving examples from when he was younger too even in terms of what was happening then with Carter. And of course, we had the gasoline crisis, the OPEC crisis, the Middle East crisis fed into that. But at the end of the day, it took Paul Volcker and 16% short-term interest rates to ratchet out inflation. And he just basically threw the gauntlet down and said, I will not let that happen on my watch. If that's not a tell that this guy is going to take it a step too far, I don't know what was. It was a beautiful tell. He told us exactly what he was going to do. And he did it. And when he's basically says, I want to be a little bit past neutral.
And this was big too, actually, because you go back to Janet Yellen. When she stopped using the word normalization, that was the most misused, misappropriated word in history of financial markets and monetary policy, normalization. Normal is what it is now, there's nothing else normal about where we might go that would be normal. When they started using the term neutral, everything changed. And that was the point where you said, look, inflation is actually at the point was 2% or even a little higher. So, for them to go to 2% of policy would be, make sense, they may be neutral. So, you had a massive move in the bond markets, the 2- Year Note went from 142 to like 285. And we call that move because they call this move.
But then you get to the point now where you're approaching 2%, you get to 2% on policy, and all of a sudden, inflation shows you signs of rolling over. And that's where we wrote the piece that we last did on Real Vision. And we said, a bridge too far, that the Fed would take this one step too far. And they did in December, by going to 2.5% on the top end of the range, 2.40% has been the pretty much the effective rate this entire time. Inflation now, all of a sudden drops below 2%. And the Fed downgrades their own forecast for future inflation to below 2%.
Well, this is the problem. No longer they just a little above neutral. Now, they are outright tight. And that was the problem. And it was a problem specifically for the consumer. One of the things that happened, because of that last rate hike, is you pushed the monthly amount of money that consumers have to pay to float their debt to a record high $348 billion a month. And this is now closing in on a $500 billion a month total retail sales in the US. You knew at some point this math doesn't work, and it doesn't allow for growth in consumer discretionary spending.
So, what happened in the first quarter? Discretionary spending fell off the face of the planet. And you had the worst two-month back-to-back decline in non-store retailers in history. You had a big decline in what had been very strong and the primary beneficiary of tax cut relief was eating and drinking establishment spending, that growth virtually disappeared. And all of a sudden, gee, are we shocked that Jerome Powell is doing a little doubletake and starting to backpedal a little? No, it wasn't a surprise. But we also said all the way back in August in one of our Real Vision appearances, that this would take several steps, the Fed was going to have to go too far first, then they were going to have to go to neutral and then reverse to what they just did, which create a bias towards ease. They haven't even cut rates yet.
The problem is that the Treasury market and the Fed Funds Futures is pricing in for rate cuts by 2021. And the Fed's dot plot is completely different. Yeah, the Fed moves towards a bias to ease. Yes, the Fed lightened up a little bit here with their projections and their dot plot. But their dot plot still implies one and done. They're going to cut rates once and that's it. Next year, unchanged. And 2021, they're back to hiking rates again. Something's got to give in here.
Stock market rally is built upon the fixed income market view that the Fed is going to cut four times. The dollar is not. So, you have a lot of cross currents here that is really interesting. And this uncertainty alone generates demand for gold, and is one of the reasons why I think gold has de-linked from the dollar and is not moving lower as the dollar moves higher here. So, man, there's a lot going on. Those are great questions and great thought processes for us to talk about. And it's only going to get more interesting as we go forward. Because you have a timeline laid out in the Fed Funds Futures market, which if not met by the Fed, could be problematic.
Is the Fed behind the curve?
That's the $64 million question because you have a variety and I just did a special on this actually, called it when the music plays the band, okay, and I'm Old Grateful Dead guy. I love EDM music. So, I cover the spectrum of music, just I love music. And if you remember that Old Grateful Dead, one of the tunes was the music never stopped. And one of the lines is when the music plays the band. That's what's happening here. The music is the fixed income market, the music is all the markets, the music is the macro situation, the band is the Fed.
The Fed is not playing the music right now. The music is playing the band. And we're going to see whether the band catches up. You said one of the questions before, is the Fed falling behind the curve here? According to the fixed income market, yes, they are and fairly dramatically so for sure. Now, does it take a reconciliation of all this in the stock market to bring the Fed into play? Well, it's hard to make that case when stocks are breaking out to new highs predicated upon a thought process that the Fed's going to cut rate four times when the Fed's not suggesting they're even close to doing that.
A lot of people were here July 12 it is today. A lot of people think it's a given the Fed's going to cut rates in July, that's not priced into the Fed Funds market. It's just not. It's not priced until September. So, maybe you have this melt-up scenario in the stock market between now and September. And then you set yourself up for like full shenanigans in October, disappointment that the Fed is not acting as fast as the market fixed income market has laid out as a timeline, stocks get whacked. And that's the catalyst to make the Fed more aggressive. I don't know how that plays out.
And then if they are more aggressive, at what point does the long end start to be concerned about that? We're not