Gold - The Next Big Surprise

Authored by Kevin Muir via The Macro Tourist blog,

It’s been a while since I have written about precious metals. To some extent, this has been on purpose. I am a long-term fan of our little yellow friend, but there are definitely periods when I am more bullish than others.

Over the past half year, my enthusiasm for precious metals has been tempered by one important chart…

During this period, the yield on the US 5-year TIPS (Treasury Inflation Protected Security) has been steadily rising. It’s not a perfect comparison, but you can think about this as the risk free real yield - the yield you will earn after inflation.

Many market pundits mistakenly believe inflation is the most important determinant of gold’s price level. That’s simply not the case. Although the great bull market of the late 1970’s was accompanied by high inflation, the 2005-2011 rise was in the midst of tame inflation, with CPI even ticking below zero for a period.

No, inflation is just one part of the puzzle for gold. The other important piece is the nominal interest rate. In the 1970’s, inflation was running at 10% or even higher. But for a while, interest rates were lower than the inflation rate. The real yield was therefore negative. In this environment, gold provided an attractive alternative to holding cash and other fixed income instruments that were suffering from financial repression. After all, gold is also a currency, with no yield. Yet the real benefit is that it is no one’s liability. With positive real yields it is difficult to justify owning gold, but push those yields into negative territory, and suddenly gold becomes more appealing.

And that’s exactly what happened in the 2000s. Inflation was low, but interest rates were even lower, creating one of the greatest precious metals bull markets of all time.

Recent Fed policy

But lately, with the Federal Reserve attempting to normalize monetary policy with higher short-term rates, I have been hesitant to be gung-ho bullish on gold.

Now I realize gold is more than simply the inverse of the US 5-year TIPS yield, but over the past decade, it has explained a fair bit of the moves in gold.

Yet to some extent, my theory has completed broken down over the past six months. Gold has actually performed much better than would be expected given the big run up in US 5-year TIPS yields (lower on the chart).

The precious metal bull in me attributes this outperformance to gold’s inherent attractiveness in this messed-up-world where Central Bankers expand their balance sheets by printing billions of dollars, monetizing it against a myriad of different assets. But the truth of the matter is that it most likely explained by the recent US dollar weakness. After all, gold is priced in US dollars, and if the greenback declines, then we should expect gold to behave reciprocally.

Bringing it all together

The way I see it, one of two things will happen in the coming months. If the economy continues to gain steam, as per yesterday’s post (That’s not a bond bear market), the Fed will lag in raising rates. This will cause real yields to decline as inflation picks up. This will be good for gold, resembling the 1970s period where Fed Chairmen Arthur Burns and Bill Miller neglected to raise the Fed Funds rate as quickly as inflation.

But there is another possibility. What if all the economic bulls are wrong? What if China slows down (This cycle - It’s China)? What if all the economic optimism surrounding Trump’s tax cuts are all priced in? What if the next surprise is the economy slowing down, not the other way round?

In that case, the Fed will pause and the massive short position at the front end of the curve will be seriously offside. Short rates will plummet. Gold will rally harder than Heather Locklear parties on a Saturday night.

The only scenario that really hurts gold is a strengthening economy that has the Fed continuing to try to get ahead of the curve. I don’t know about you, but I am a seller of both of those possibilities.

Trump’s trade policies

I remember seeing a Kyle Bass interview a few months back where Kyle joked that he didn’t think Trump understood the extent to which could dictate trade tariffs. He ominously warned that nobody better tell him. Well, I think Trump figured it out.

Trump’s foray into protectionism is inflationary. Full stop. Forget about whether it is wrong or right. Remember, an investor’s job is not to determine what should be done, but instead, to adapt to what has been done.

And if you think that the Federal Reserve will offset this price shock with higher rates, then you probably hate gold anyway.

I was struck by this recent comment from Doug Kass:

I agree with all his points… except that one about the Fed. What makes him so sure the Fed will continue tightening? I expect we aren’t that far from an excuse to pause.

And when that happens, all those other points that Doug raised will just be more fuel on the fire for the precious metals markets…


Pinto Currency RafterManFMJ Wed, 03/07/2018 - 18:23 Permalink


The principal driver of gold prices has historically been real interest rates.

The current gold price reflects trading of unbacked spot contracts and the inflation rate estimated by the CPI is a rigged fiasco.

Gold is going much higher but the real gold price will have to be established by actual trading of the metal first - following London/NY gold price, CPI, TIPS, pretty much useless. It's just a paper show.

In reply to by RafterManFMJ

Pinto Currency Pearson365 Wed, 03/07/2018 - 18:58 Permalink

See pg. 8 of the presentation - you can see how the real gold price departed tracking real interest rates (nominal - inflation).

Larry Summers identified the real interest rate / real gold price relationship in his 1985 paper with Barsky:…

HOwever, that was in 1985 before the rigged LBMA paper market was developed.

In reply to by Pearson365

Proofreder MANvsMACHINE Wed, 03/07/2018 - 21:12 Permalink

Price will be unbelievably high as the dollar becomes worth less and less and less OUTSIDE the U$A.  A more relevant figure would be the price of a gram of gold in Swiss francs - wait, isn't there some currency backed by gold ?  Something besides full faith and credit ???  China ?  Oh, only for the Chinese, you say.

All going to barter in the States, eventually.  A quick fugly war will speed things up.  Got Yuan ???

In reply to by MANvsMACHINE

Justin Case Pinto Currency Wed, 03/07/2018 - 23:27 Permalink

With all of the manipulation, how in the world did gold rally almost 8x in 13 years. These manipulators are obviously the most incompetent ones ever. If the so-called manipulation is true, then the old master manipulators like the great Jesse Livermore, would be totally mocking these modern day bumbling losers. They are apparently a bunch of Inspector Clouseaus. Why won’t one of the gold permabulls (sanely) explain to me how gold had that massive rally even with all of the manipulation.
Why is gold over $1300.00? I bought it at $280.00/oz CDN. Silver @ $3.50/oz. Whaaaa happened?

In reply to by Pinto Currency

Pinto Currency divingengineer Wed, 03/07/2018 - 19:08 Permalink

The Real Interest rate is (in reality) below -3% right now.  Using the 1990 CPI method inflation is currently 6% and using the 1980 CPI method inflation is currently 10%.  

Gold should be raging however it can't because everyone follows the paper price set by unbacked spot contracts.  That price can't rage because those contracts can be created without limit.

In reply to by divingengineer

BobEore Pearson365 Wed, 03/07/2018 - 20:22 Permalink

I perused the presentation linked by PC.

Unfortunately, it is merely an unabashed re-hash of trained talking seal 'talking points' which does nothing to elucidate an understanding of either the methodology or motives of a "Larry Summers" type party in delivering their precis pon "co-relation."

Indeed, one would have to exercise - by default - some measure of 'political awareness' to get to the bottom of that lil issue... a quality which stays TOTALLY ABSENT from all discussions such as this one. As protege of R Rubin (former Goldman headman and eminence gris behind the hollowing out of the American economy -aka - 'financialisation')Summers was inserted into the body politic under the Kenyan to pursue policies anticipated and set up by the alleged 'gold bug' and Ayn Rand acolyte "Greenspan"...

by which to better complete the mission. What mission? The talmudic takeover/takedown of the western world. All of them are neo-trotskyites - like Rand herself was - packaged in the neo=liberal sheeps clothing and

after the success of their silent coup d'etat @ 2008... 'agents of change' re deployed to the 'eastern front' in order to build a decrepit 'state capitalist' model China into the power house 'state capitalist with a market on top' it is today. Funny that the Jensen presentation had a graph supplied from Reg Howe(circa 2007, eg just before that coup!) ... as Howe and Landis were the last guys out (now turn out the lights!)before the entire precious metals complex became the playground of those same trotsykite finacialist 'revolutionaries' who ever since have package communist China and the nascent neo-bolshie Russ into supposed 'free market' paradises in order to persuade naive western naifs to give up all self-preservation instinct in favor of a unicorn skittles fairy land.

Now back - to the complete and utter bullshit which passes as 'informed commentatry' in the pathetic 'gold space' psy op which accompanies the 'east vs west' psy op here.

In reply to by Pearson365

BobEore Scuba Steve Wed, 03/07/2018 - 22:06 Permalink

If you have ever ONCE ... dared to go read any of the COUNTLESS links I supplied here... in the course of COMPLETELY DEMOLISHING  the lies and distortions of the gold mafiya psyop which now lies in tattered tiny broken pieces...

"I'd almost believe" ... that you were sincere in wishing to know the back story here.

But, butt... I know you did not. And I know you too well Stevie...

you're one of the hopeless deadenders who supped the foolaid for so long, you don't no longer know your up from your downs... and therefore

bubble and froth helplessly danglin down there in davey jones locker for the naivest of knaves what goldburg hath spawned. Sink or swim Stevie! Tis truly over!

In reply to by Scuba Steve

El Hosel Pearson365 Thu, 03/08/2018 - 06:01 Permalink

Momentum is the name of the game in the big casino, everybody will become a gold bull if the VOL comes back. All the fundamentals are skewed by the FEDs reporting, when gold starts swinging faster and wider it will catch on again. 

There has been little reason for "investment demand" in metals when the Fed is feeding the machine through US stocks.

In reply to by Pearson365

rent slave Pinto Currency Wed, 03/07/2018 - 19:14 Permalink

The best indicator of the gold price has been whether the Phillies are in a long trend up or down in the standings.Since gold's re-legalization,charts of the two can virtually be superimposed.When Ryan Howard tumbled to the turf in October 2011,the gold price was around $1900.I told the people I knew who had both gold and money to sell all the gold they had.

The Phillies appear to be on the verge of another upward trend.

In reply to by Pinto Currency

Disgruntled Goat RafterManFMJ Wed, 03/07/2018 - 18:38 Permalink

Memo to Kass : 1) when did you ever give a fuck about income inequaliy. Your idea of equality is where it diminishes the Middle Class and drags them lower, thus making people more equal. 2) Its not all about stocks, all the time, and its not the governments job to initiate policies that are "good for stocks" .... again, If you were truly concerned about income inequality you would not contradict yourself in this manner, as what benefits Wall St rarely benefits Main St

Memo to Bass : You are an elitist gun grabber ... your pro gold stance is just fluff. Tarrifs will actually benefit real citizens and real jobs. Sorry, no guarantee that they will benefit hedgies like you.

In reply to by RafterManFMJ

nmewn kbohip Wed, 03/07/2018 - 18:45 Permalink

"Heather Locklear was arrested Sunday night for felony domestic violence and battery on a cop.

The incident occurred Sunday night. Deputies responded to a home in Thousand Oaks, CA ... someone reported domestic violence.

During the arrest she allegedly became combative and attacked a cop. As a result, she was also arrested on 3 counts of misdemeanor battery on an officer."

lol...dat bitch be crazy!

In reply to by kbohip

Automatic Choke Wed, 03/07/2018 - 18:21 Permalink

as a long time stacker and believer in PM, i still yawn at these stories.   the case for PM as an inflation hedge is solid, the case that the govt is printing wildly and inflation is hidden in a number of not-so-clever ways is solid, but no form of chicken entrails has ever been effective in predicting when the market wakes up and jumps.