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The gold market did not see much of a reaction after CPI inflation cooled slightly more than expected on Thursday, followed by a mildly hotter-than-expected PPI inflation report this morning. U.S. CPI annual inflation rose 3.2%, up from 3% in June, while PPI inflation for July came in at up 0.3% from June.
Thursday’s July CPI report was slightly tamer than expected, which solidified notions the Federal Reserve will stand pat on raising interest rates at its September FOMC meeting. Traders of futures tied to the Fed's policy rate now see less than a 10% chance that the U.S. central bank will increase its benchmark overnight interest rate from its current 5.25%-5.50% range at a Sept. 19-20 policy meeting.
They had seen about a 14% chance of a rate hike next month before the tamer than expected July CPI report this week. Traders are now pricing in about a 28% chance of a rate hike by November, down from more than 30% before the release of the CPI report, with higher rates by December seen as even less likely. The Fed's first rate cut is priced into the futures contracts by March of 2024.
Just ahead of the last trading session of July, Gold Futures changed to the front month contract, which is why prices finished the month last Monday above $2000 on a monthly closing basis for the first time in history. December gold is attempting to put in a higher low at $1950 as I type this column, while the spot gold is closer to $1900. Whenever futures significantly outpace spot, prices typically converge higher.
Right on the heels of seeing a Fitch downgrade of the creditworthiness of the U. S. last week, Moody’s has downgraded ten small to medium banks across the country, citing “financial strain” and “strains that could erode their profitability.” Six more banks are under review, and another eleven have been shifted from “stable” to negative.
The U.S. banking system is failing, which has been keeping the gold price well bid above $1900 despite recent U.S. dollar strength. Moody’s noted that rising interest rates would “exacerbate” the ongoing banking crisis, and they foresee the Federal Reserve continuing with hikes for longer than anticipated since inflation was never transitory.
The Fed maintained artificially low rates for far too long, and their attempts to ease inflation by hiking rates are failing. Inflation has soared from sub 1% to peak at over 8%, but has since fallen to around 3% which is still above the Fed's desired 2% target rate.
Meanwhile, U.S. bankruptcy filings for companies with over $50 million in liabilities are exploding higher, and we have not even entered a recession. This number could shoot to all-time highs as zombie companies surviving on low-interest rates for the past decade finally shutter.
The housing and commercial real estate (CRE) markets are also wobbling and coming closer to tipping over with each Fed rate hike. Moody’s predicts a “mild recession” and particularly downgraded banks this week due to CRE troubles that may come home to roost at the banks
Specifically, CRE portfolios that could lead to more banks collapsing into a rising river of real-estate defaults that may soon sweep over the entire banking sector. Several banks have already collapsed, with more that are shaky. Although we have not had a replay of the 2008 bank crisis, it could still happen.
Furthermore, U.S. tax receipts are plunging and this rarely happens outside of a recession. As businesses and individuals make less money, they pay fewer taxes guaranteeing an economic slowdown and more deficit spending.
Last week, the Federal Reserve Senior Loan Officer Opinion survey showed a further tightening of lending conditions, which in combination with higher interest rates, will be toxic for bank lending. This is going to be a major headwind for economic activity, increasing recession risks that still cannot be ignored.
Americans have also raked in a record $17.05 trillion in debt during Q1 of 2023 alone, while falling deeper into debt with no plans for financial management. Credit card debt is at an all-time high, and the cost of borrowing continues to rise. The average credit card interest rate offered in the U.S. over the last three months of 2022 stood at 21.6%, according to WalletHub, a jump from about 18% a year prior
The rise in credit card rates is attributed to the most aggressive series of interest rate hikes imposed by the Federal Reserve in over 40 years. The increase in credit card balances is a cause for concern, as it could lead to a rise in defaults and adds more risk to a potential recession.
The yield curve of 2-year–10-year and 3-month–10-year remain hugely inverted. The inverted yield curve has predicted a U.S. recession 100% of the time since the 1970s. But historically, recession's do not come until roughly 6–12 months after the inversion bottoms. The gold price has risen 20% on average during past recessions.
In the lead-up to the BRICS summit taking place in Johannesburg on August 22-24, there have been conflicting reports about whether a gold-backed currency is going to be discussed. Although BRICS has been looking at a currency backed by gold, the more immediate goals for the BRICS bloc are to sidestep the SWIFT system with the ability to avoid Western sanctions.
Both China and Russia have been working on an alternative to SWIFT, as well as institutions to challenge the U.S.-dominated IMF and World Bank. Nonetheless, this does not mean the immediate demise of the U.S. dollar as the world’s reserve currency, as there is no obvious successor.
The U.S. dollar remains at least 60% of global reserves, while the U.S. continues to have the deepest and largest capital markets in the world. Nevertheless, BRICS and its plan does pose a potential threat to the U.S. and to the U.S. dollar.
In the meantime, eastern central banks continue to add more gold to their reserves led by both Russia and China. Russia’s finance ministry announced late last week that it would start buying currencies and gold again in August after 18 months of selling or sitting on the sidelines as Moscow looks to profit from recent high oil prices.
The People’s Bank of China (PBOC) bought more gold in July, pushing its current shopping spree to nine consecutive months. Bullion held by the PBOC rose by 740,000 troy ounces, the central bank said on Monday, which is equivalent to about 23 tons. Total stockpiles now sit at 2,137 tons, with around 188 tons added in a run of purchases that began in November.
Although China has become a leading buyer in the precious metal market, many feel the central bank of the world's second largest economy is just getting started. Like many other non-western countries, China wishes to continue reducing its U.S Treasury holdings, with physical gold being the greenback's natural substitute.
Despite Gold Futures closing above $2000 on a monthly basis, the continued relative weakness of both silver and the miners warns of a possible re-test of the $1900 level during the last few weeks of typical precious metals summer doldrums. Sentiment remains low for the entire sector. If the gold price is gearing up for a fourth attempt to breakout above $2100, it is important that silver and the miners begin to lead the way for the move to be sustainable.
In anticipation of the incredible gains the junior sector should begin to experience once the gold price prints a technical breakout above $2100, the Junior Miner Junky (JMJ) newsletter has accumulated a basket of quality juniors with 3x-10x upside potential into 2025-26.
By
David Erfle
Contributing to kitco.com
