Wednesday, January 17, 2018

James Rickards Warns: 2018 Will Be The Year Of Living Dangerously


I’m calling 2018 “The Year of Living Dangerously.”

That description might seem odd to lot of observers. Major U.S. stock indexes keep hitting new all-time highs. 2017 went down as the first calendar year in which the Dow Jones industrial average was up for all 12 months.

Even in strong bull market years there are usually one or two down months as stocks take a breather on the way higher. Not last year. There’s been no rest for the bull; it’s up, up and away.

Inflation is tame, even too tame for the Fed’s liking. The unemployment rate is at a 17-year low. U.S. growth was over 3% in the second and third quarters of 2017, much closer to long-term trend growth than the tepid 2% growth we’ve seen since the end of the last recession in June 2009.

The U.S. is not alone. For the first time since 2007, we’re seeing strong synchronized growth in the U.S., Europe, China, Japan (the “big four”) as well as other developed and emerging markets.

Growth breeds growth as consumers in one country create demand for goods and services provided by another. This is what economists mean by “self-sustaining” growth instead of force-fed growth from easy money and government spending.

Technology rules the day. The pace of innovation is unprecedented in world history. Our daily needs are being fulfilled better, faster and cheaper by the likes of Amazon, Google, Netflix and Apple. We can share the good news on Facebook.

Best of all, the U.S. Congress and White House got around to cutting our taxes in late December!

In short, all’s right with the world.

Or not.

To understand why 2018 may unfold catastrophically, we can begin with a simple metaphor. Imagine a magnificent mansion built with the finest materials and craftsmanship and furnished with the most expensive couches and carpets and decorated with fine art.

Now imagine this mansion is built on quicksand. It will have a brief shining moment and then sink slowly before finally collapsing under its own weight.

That’s a metaphor. How about hard analysis? Here it is:

Start with debt. Much of the good news described above was achieved not with real productivity but with mountains of debt including central bank liabilities.

In a recent article, Yale scholar Stephen Roach points out that between 2008 and 2017 the combined balance sheets of the central banks of the U.S., Japan and the eurozone expanded by $8.3 trillion, while nominal GDP in those same economies expanded $2.1 trillion.

What happens when you print $8.3 trillion in money and only get $2.1 trillion of growth? What happened to the extra $6.2 trillion of printed money?

The answer is that it went into assets. Stocks, bonds, emerging-market debt and real estate have all been pumped up by central bank money printing.

What makes 2018 different from the prior 10 years? The answer is that this is the year the central banks stop printing and take away the punch bowl.

The Fed is already destroying money (they do this by not rolling over maturing bonds). By the end of 2018, the annual pace of money destruction will be $600 billion.

The European Central Bank and Bank of Japan are not yet at the point of reducing money supply, but they have stopped expanding it and plan to reduce money supply later this year.

In economics, everything happens at the margin. When something is expanding and then stops expanding, the marginal impact is the same as shrinking.

Apart from money supply, all of the major central banks are planning rate hikes, and some, such as those in the U.S. and U.K., are actually implementing them.

Reducing money supply and raising interest rates might be the right policy if price inflation were out of control. But prices are actually falling.

The “inflation” is not in consumer prices; it’s in asset prices. The impact of money supply reduction and higher rates will be falling asset prices in stocks, bonds and real estate — the asset bubble in reverse.

The problem with asset prices is that they do not move in a smooth, linear way. Asset prices are prone to bubbles on the upside and panics on the downside. Small moves can cascade out of control (the technical name for this is “hypersynchronous”) and lead to a global liquidity crisis worse than 2008.

This will not be a soft landing. The central banks — especially the U.S. Fed, first under Ben Bernanke and later under Janet Yellen — repeated Alan Greenspan’s blunder from 2005–06.

Greenspan left rates too low for too long and got a monstrous bubble in residential real estate that led the financial world to the brink of total collapse in 2008.

Bernanke and Yellen also left rates too low for too long. They should have started rate and balance sheet normalization in 2010 at the early stages of the current expansion when the economy could have borne it (albeit without Dow 25,000). They didn’t.

Bernanke and Yellen did not get a residential real estate bubble. Instead, they got an “everything bubble.” In the fullness of time, this will be viewed as the greatest blunder in the history of central banking.

Not only that, but Greenspan left Bernanke some dry powder in 2007 because the Fed’s balance sheet was only $800 billion. The Fed had policy space to respond to the panic of 2008 with rate cuts and QE1.

Today the Fed’s balance sheet is $4 trillion. If a panic started tomorrow, the Fed’s capacity to cut rates is only 1.25% and its capacity to expand the balance sheet is nil, because the Fed would be pushing the outer limits of an invisible confidence boundary.

This conundrum of how central banks unwind easy money without causing a recession (or worse) is just one small part of a risky mosaic. I’ll be writing about the other pieces of the puzzle in future commentaries.

Here’s a sneak preview:

  • Student loan debt is over $1.4 trillion, and default rates are over 20%. Most of these defaults have not yet hit the federal budget deficit. They will soon. Resulting bad credit ratings are standing in the way of jobs and household formation for an entire generation of millennials.
  • The new U.S. tax bill is the greatest hoax since Orson Welles’ 1938 radio broadcast, “War of the Worlds,” about an invasion of Earth by Mars. Orson Welles caused a panic in the New Jersey/New York listening area, with people fleeing their homes and jamming the roads. The tax bill damage will be less visible but far more damaging.

Biggest winners: corporations and billionaires. Biggest loser: the U.S. economy. I’ll have a lot more to say about this in the weeks ahead. What is certain is the tax bill will add $2 trillion or more to the deficit, something the U.S. can ill afford.

  • A catastrophic wave of emerging-market defaults is coming, with enormous spillover effects likely in developed economies. This will be worse than the Latin American defaults of the 1980s and the Asian-Russia defaults of the late 1990s. It will emerge from Turkey and Venezuela but won’t stop there.
  • A war is coming between the U.S. and North Korea, probably by this summer. The best case is that the U.S. wins but at a very high cost in lives and money. The worst case is World War III when China, Russia and Japan are drawn in due to the inevitable unforeseen consequences of war.
There’s more to come over the weeks ahead. For now, think of 2018 as the year of living dangerously.

- Source, Jim Rickards via Zero Hedge

Sunday, January 14, 2018

Jim Rickards and Peter Schiff Discuss Global Gold Markets


Jim Rickards is Chief Global Strategist at the West Shore Funds, and Director of The James Rickards Project, an inquiry into the complex dynamics of geopolitics and global capital. 

In The Death of Money, Rickards shows why another monetary system collapse is rapidly approaching – and why this time, nothing less than the institution of money itself is at risk. 

Fortunately, it's not too late to prepare for the coming death of money. Rickards explains the power of converting unreliable money into real wealth, such as gold and other long term stores of value.

- Source, Peter Schiff

Thursday, January 11, 2018

James Rickards: Powell Will Do Exactly What Yellen Would Do


James Rickards is the bestselling author of Currency Wars, The Death of Money, The New Case for Gold, and The Road to Ruin. 

Interview Highlights 

[0:55] Update on N. Korea -- A war is not priced into the market. Is it a real possibility? 
[8:05] How important is the language coming out of the White House? 
[12:05] Is Jerome Powell a surprise choice for Fed Chairman? [20:30] Will Powell be 'innovative' with policy? 
[24:00] Are bond yields providing a good signal to investors?


Monday, January 8, 2018

James Rickards: Oil Prices Could Soon Drop 50%

Oil has had a spectacular run the past two years. From $29.42 per barrel on January 15, 2016, oil has risen to $57.36 per barrel as of last Friday, a 95% gain in less than 23 months.

Much of this gain reflects the determination of the world’s two largest oil exporters – Saudi Arabia and Russia – to limit output in order to firm up prices. The duopoly of Saudi Arabia and Russia has proved much more effective than OPEC at maintaining the discipline needed to control oil prices.

OPEC members such as Iran and Iraq are notorious for cheating on OPEC quotas. The duopoly is more disciplined.

Yet, this kind of manipulation is a two-edged sword. Saudi Arabia and Russia have as much interest in not letting prices get too high as they do in not letting them get too low.

Right now oil prices are at the high end of the range the duopoly consider acceptable. Oil prices have nowhere to go but down once Saudi Arabia and Russia do some cheating of their own.

Investors who move now stand to reap huge gains as the duopoly drive prices lower in order to protect their market share, and once again shut-in the capacity of their competitors in the fracking industry.


This infographic neatly illustrates the market dominance of two oil producers: Saudi Arabia and Russia. Together they produce 21 million barrels of oil per day, over 25% of global output. The two countries can effectively set the global price of oil by increasing or decreasing output in tandem. The duopoly have proved more effective than OPEC at price targeting to hurt the fracking industry while not reducing their own revenues more than necessary.

Despite the ebbs and flows of oil supply and demand, and technical aspects of trading, the overriding dynamic in global energy markets is straightforward. In any market, there are price takers and price makers. The only price makers in global energy markets are Saudi Arabia and Russia, if they act together.

Saudi Arabia and Russia, (the “duopoly”) together produce 25% of the world’s oil exports. That’s more than the next six major oil exporters combined, and those others have nowhere near the degree of coordination as the duopoly.

Equally important is that Saudi Arabia has the lowest production costs of any major producer, about $4.00 per barrel. It’s certainly the case that Saudi Arabia likes higher oil prices, but oil could sink to $10 per barrel, and Saudi Arabia would still make money while most other exporters would lose money or cease production.

The duopoly face a familiar dilemma that could confront any business. On the one hand they like high prices and the revenue that goes with it.

On the other hand, high prices have two perils…

The first is that high prices encourage competition in the form of marginal output that can take market share. The second is that high prices can produce a recession in developed economies that reduces oil consumption across the board.

Obviously the duopoly would like higher prices, but this just encourages output from marginal producers especially those using hydraulic fracturing technology (“fracking”) in places like the Permian Basin in Texas.

The solution to this dilemma is an optimization plan using linear programming. The way to model this is to ask: “What is an optimal price that destroys competition andmaximizes revenue at the same time?”

Saudi Arabia ran this program in mid-2014. They concluded that the optimal price is $60 per barrel.

Of course, just because the computer says $60 does not mean you can stick the landing in the real world. There are many factors that go into oil pricing including geopolitics, central bank induced inflation or disinflation, and technical trading patterns.

In particular, once a price moves radically in a macro market there is a tendency to “overshoot;” something that is quite common in currency markets for example.

That said, Saudi Arabia set out in mid-2014 to crush the price of oil in order to destroy the fracking industry, which had emerged as a major competitive threat in 2011. The impact of the Saudi plan, and both the old and new trading ranges for oil are illustrated in the chart below:


This chart shows NYMEX light sweet crude oil (WTI) prices from 2011 to 2017. The pre-2014 trading range was $80 to $115 per barrel. The post-2014 trading range is $25 to $60 per barrel. Saudi Arabia engineered the lower trading range in order to shut-in fracking capacity. Russia and Saudi Arabia work together today to keep an oil price ceiling of $60 per barrel. With oil near the high end of that range, signs of slowing growth in China, and disinflation in the U.S., a decline in oil prices is highly likely.

While the Saudi plan was effective, the fracking industry did not simply disappear. In fact, the initial response of the frackers was to pump more oil. This additional output plus overshooting accounts for the dip in oil prices to the $30 per barrel level in early 2016.

The reason frackers produced more oil at lower prices was because of their financial constraints. The frackers had loaded up on leases, equipment and labor during the good times of $100 per barrel oil prior to 2014.

This was done with high leverage, which burdened the frackers with fixed interest and principal payments. Frackers did this in the belief that oil prices would stay above $70 per barrel. Some fracker cost structures ran as high as $130 per barrel to achieve profitability.

Many of those costs were fixed, at least in the short run. Pumping oil at a loss was better than not pumping at all because it generated some cash flow to pay interest while the frackers waited for better times.

The better times never came. Oil prices did bounce off the early 2016 lows and have stabilized closer to $45.00 per barrel, but that’s still not high enough to support most of the frackers.

As the bankruptcies and debt restructurings piled up, a new wave of frackers entered the game. This new wave purchased assets from failing frackers at cents-on-the-dollar and continued exploration and drilling with improved cost structures.

Some of the “new wave” frackers were actually from the original wave in 2011, but had managed to hold on either because they had piles of cash from their first financings, or because they had cut costs sufficiently to stay in the game for a while.

Saudi Arabia perceived the threat from the new wave of frackers and decided to go for the kill.

To do this, they enlisted Russia and created the duopoly. Now the stage is set for a new round of oil price declines and another bloodbath in the fracking fields.

What are my predictive analytic models telling us about the prospects for oil prices in 2018?

Right now the action nodes are telling us that energy prices are heading for a fall.

The recent bilateral production agreement between Saudi Arabia and Russia combined with the multilateral production agreement in OPEC is designed to cap output and stabilize prices around the $60 level.

These new agreements basically reaffirm production limits that had been agreed earlier this year. Those agreements account for the run-up in the oil price since mid-2017.

Yet, the frackers have not gone away. Some are hanging by their fingernails with negative cash flow in the hope of higher prices. The duopoly are set to disappoint them.

Now that the duopoly and OPEC production quotas are set, the cheating can begin.

Perennial cheaters such as Iran and Iraq will be the first to overproduce. Venezuela’s economy is in free fall, and it will certainly take the opportunity to overproduce also. Once supply increases, the duopoly will tag along with their own increases in order not to lose market share.

The frackers talk a good game when it comes to profitability, but they can’t walk the walk. As the saying goes, “Fish gotta’ swim, birds gotta’ fly, and Texas wildcatters gotta’ pump oil.”

With the $60 per barrel cap firmly in place, and oil prices near that level, the price has nowhere to go but down. Prices near the top of the trading range will induce additional output.

This time the frackers won’t get a reprieve because their bankers, stockholders, and bondholders won’t allow it.

Losing money is not a sustainable business model.

- Source, James Rickards via the Daily Reckoning

Friday, January 5, 2018

Jim Rickards Reasons that the Next Great Gold Bull Market Has Begun

The most important piece of evidence that the next great bull market in gold has begun is the technical behavior of the prior bear market itself.

Over many decades, commodities rallies have exhibited 50% retracements (bear markets) before resuming their long-term upward trends based on the slow, steady devaluation of the fiat currency in which the commodities are priced.

Using the $252 price from August 1999 as a baseline and referencing the September 2011 peak price of $1,900 per ounce, gold gained $1,648 per ounce in the bull market. A 50% retracement of that 12-year rally means a decline of $824 per ounce (i.e., 50% of the $1,648-per-ounce gain), which would put gold at $1,076 per ounce.

Guess where gold bottomed?

It bottomed at $1,051 per ounce, within 2% of the 50% retracement target. That decline is an almost perfect technical retracement.

By itself, this pattern proves nothing without additional confirmatory evidence. This is why we did not call the end of the bear market in 2015. We needed more proof.

There were (and still are) plenty of analysts calling for $800-per-ounce gold. How do we know that recent gains are not just another bear trap?

The reason rests in the consistency of the gains. Gold rose 8.5% in 2016, a solid if not spectacular gain. Then gold rose again in 2017, by over 12%.

Gold fell on an annual basis in 2013, 2014 and 2015. Gold has not had back-to-back annual gains since 2011–12. These back-to-back gains in 2016–17 point to a solid foundation and a decisive break in the prior years’ bear market trend.

This “steady Eddie” performance the past two years has been overshadowed by much more spectacular gains in stocks and bitcoin.

Recent gains in stocks may continue for a while but are ultimately unsustainable because of the likelihood of a recession or liquidity crisis in the next few years. In those conditions, a retreat in stock prices of 30–50% would not be at all unusual.

Bitcoin is an unprecedented combination of fraud, mania and a Ponzi scheme all in one. The bitcoin price could go higher in the short run but will also end in tears, with 90% losses for naïve “investors” from around the world lured into an artificially pumped-up mania.

Meanwhile, gold is in the early stages of a sustainable long-term bull market that will come to surpass the 1999–2011 bull market in time.

Investor psychology has been slow to change despite recent gains. Gold investors have been discouraged by the periodic drawdowns in the gold price, including the November–December 2016 mini-crash after Trump’s election.

But these short-term drawdowns need to be considered in the context of the much more positive long-term trend just described.

The historic 1999–2011 rally also started slowly and then gained steam. The largest percentage gains year over year did not begin until 2005, almost six years after the bull market began. From there the bull market still had almost six years to run.


In addition to the retracement pattern and back-to-back annual gains that validate the start of a new bull market in gold, another technical pattern (with fundamental roots) has emerged as a positive for gold.

I’m sure you’ve heard the old adage that things happen in threes. This can apply to good things and bad. Right now we’re witnessing a positive phenomenon in threes when it comes to gold and Fed monetary policy.

On Dec. 16, 2015, the Fed raised interest rates for the first time in nine years. This was the famous “liftoff” and happened after the Fed teased markets about a rate hike through all of 2015.

Immediately after the rate hike, gold surged from $1,062 per ounce to $1,366 per ounce by July 8, 2016, a spectacular 29% rally and gold’s best six-month performance in decades.

Then on Dec. 14, 2016, the Fed again raised rates for the first time since the December 2015 rate hike despite earlier expectations that the Fed would hike rates four times in 2016. Gold surged again from $1,128 per ounce at the time of the rate hike to $1,346 per ounce on Sept. 8, 2017, a 19% rally in just over nine months.

Last month, for the third December in a row, the Fed hiked rates again after taking a “pause” on rate hikes in September. Once again, gold answered the starting gun. Gold immediately rallied from $1,240 per ounce on the afternoon of Dec. 13 to $1,258 per ounce the next day, a solid 1.5% gain in one day.

If gold follows the pattern of the last two December rate hikes, this new rally could go to $1,475 or higher by next summer. That would be a 20% rally in six months, roughly comparable to the rallies after the December 2015 and December 2016 rate hikes.


- Source, James Rickards via the Daily Reckoning

Sunday, December 31, 2017

Jim Rickards: Gold and Its Role in the Next Financial Crises


Jim Rickards On $10,000.00 Gold: It's important to understand that this isn't a made up number or one I throw out there just to get attention. 

It's the implied, non-inflationary price of gold in a system where you have either a gold system or some reference to gold. Now, there's not a central bank in the world that wants the gold standard, but they may have to go to it — not because they want to, but because they have to — in order to restore confidence in some sort of future financial crisis. The problem right now is that central banks have not normalized their balance sheet since 2009. They're trying, but it's not even close. 

If we had another crisis tomorrow, and you had to do QE4 and QE5, how could you do that when you're already at $4 trillion? They might have to turn to the IMF or SDR or to Gold.

Then, if you go back to the gold standard, you have to get the price right. People say there's not enough gold to support a gold standard. That's nonsense. There's always enough gold, it's just a question of price. Take Japan, Europe, China and the US — the big four economies — their m1 is approximately $24 trillion. If you had 40% gold backing, that would be $9.6 trillion. There are about 33,000 tons of official gold in the world. So you just divide 9.6 trillion by 33,000 tons and what you get is about $10,000 an ounce. 

If you had a gold standard with a lower price, that would be deflationary. You'd have to reduce the money supply. That was the mistake that was made in 1925. It did contribute to the Great Depression, and it wasn't because of gold, it was because they got the price wrong. So to have a gold standard today and not cause another depression, you'd have to have a price around $10,000 an ounce.


Wednesday, December 27, 2017

The Fear of Missing Out


A lesson in bubble dynamics and market crashes...

To PARAPHRASE one of the great gems of Wall Street wisdom, "Nothing infuriates a man more than the sight of other people making money," writes Jim Rickards in The Daily Reckoning.

That's a pretty good description of what happens during the late stage of a stock market bubble. The bubble participants are making money (at least on a mark-to-market basis) every day.

Meanwhile, the more patient, prudent investor is stuck on the sidelines – allocated to cash or low-risk investments while watching everyone else have fun. This is especially true today when the bubble is not confined to the stock market but includes exotic sideshows like crypto-currencies and Chinese real estate.

It gets even worse when investors are taunted by headlines like the one in a recent article, "Investors Can Either Buy Bubbles or Be Left Far Behind." The article is a case study in the "Bubblicious Portfolio". Infuriating indeed. Actually it should not be.

On a risk-adjusted basis, the prudent investor is not missing much.

When markets go up 10%, 20% or more in short periods, market participants think of their gains as money in the bank. Yet, that's not true unless you sell and cash out of the market. Few do this because they're afraid to "miss out" on continued gains.

The problem comes when the bubble bursts and losses of 30%, 40% or more pile up quickly. Investors tell themselves they'll be smart enough to get out in time, but that's not true either.

Typically investors don't believe the tape. They "buy the dips" (which keep dipping lower), then they refuse to sell until they "get back to even", which can take ten years. These are predictable behaviors of real investors caught up in real bubbles.

It's better just to diversity, build up a cash reserve, have some gold for catastrophe insurance, and then wait out the bubble crowd. When the crash comes, which it always does, you'll be well positioned to shop for high-quality bargains amid the rubble. Then you'll participate in the next long upswing without today's risks of a sudden meltdown.

Okay, so I just argued that the stock market (and other markets) are in bubbles. But where's the actual proof for this?

Actually, it's everywhere.

The Shiller CAPE ratio (a good indicator of how expensive stocks are) is at levels only seen at the 1929 crash that started the Great Depression, and the 2000 dot.com bubble. Likewise, the market capitalization-to-GDP ratio is above the level of the 2008 panic and comparable to the 1929 crash.

The list goes on, including historically low volatility and unprecedented complacency on the part of investors.

For almost a year, one of the most profitable trading strategies has been to sell volatility. That's about to change.

Since the election of Donald Trump stocks have been a one-way bet. They almost always go up, and have hit record highs day after day. The strategy of selling volatility has been so profitable that promoters tout it to investors as a source of "steady, low-risk income".

Nothing could be further from the truth.

Yes, sellers of volatility have made steady profits the past year. But the strategy is extremely risky and you could lose all of your profits in a single bad day.

Think of this strategy as betting your life's savings on red at a roulette table. If the wheel comes up red, you double your money. But if you keep playing eventually the wheel will come up black and you'll lose everything.

That's what it's like to sell volatility. It feels good for a while, but eventually a black swan appears like the black number on the roulette wheel, and the sellers get wiped out. I focus on the shocks and unexpected events that others don't see.

In short, we have been on a volatility holiday. Volatility is historically low and has remained so for an unusually long period of time. The sellers of volatility have been collecting "steady income," yet this is really just a winning streak at the volatility casino.

I expect the wheel of fortune to turn and for luck to run out for the sellers.

But it's time to add another warning sign to the list. Certain high-yield (or "junk bond") indices have fallen below their 200-day moving average. This can be indicative of a stock market correction.

Junk bonds are riskier than equity. When they get in trouble, it's a sign that the corporate issuers are having trouble meeting their obligations. That in turn is indicative of reduced revenues or profits, tight financial conditions, and lower earnings.

Panics in October 1987 and December 1994 were preceded by distress in bonds about six months earlier. While there is no deterministic relationship, bonds are a good leading indicator of stocks because they are higher in the capital table and feel distress sooner. The October 1987 one-day 22% decline in stocks, and the December 1994 Tequila Crisis in Mexican debt were ugly for investors. The bond market gave a six-month early warning both times.

It may be doing so again.

But what the Fed? Is it setting markets up for a fall?

It's true that the Fed has been raising interest rates since 2015, and had engaged in tapering for two years before that. Yet, these actions hardly constitute tight money. The tightness or ease of monetary policy needs to be judged relative to financial and economic conditions.

You can have "easy money" at a 10% interest rate if inflation is running at 15% (something like the conditions of the late 1970s). In that world, the real interest rate is negative 5.0%, (10% minus 15% = -5%).

In effect, the bank pays you to borrow. That's easy money.

By most models including the famous Taylor Rule, rates in the US today should be about 2.5% instead of 1.0%. We have easy money today and have had since 2006. This comes on top of the "too low, for too long" policy of Alan Greenspan from 2002-04, which led directly to the housing bubble and collapse in 2007.

The US really has not had a hard money period since the mid-1990s. That's true of most of the developed economies also.

What's going to happen when central banks start to normalize interest rates and balance sheets and return to a true tight money policy in preparation for the next recession?

We're about to find out.

Central banks all over the world including the Fed, ECB, and the People's Bank of China are in the early stages of ending their decade-long (or longer) easy money policies. This tightening trend has little to do with inflation (there isn't any) and more to do with deflating asset bubbles and getting ready for a new downturn.

But, in following this policy, central bankers may actually pop the bubbles and cause the downturn they are getting ready to cure. This is one more reason, in addition to those described above, why the stock market bubble is about to implode.

It's important to realize that market crashes often happen not when everyone is worried about them, but when no one is worried about them.

Complacency and overconfidence are good leading indicators of an overvalued market set for a correction or worse.

- Source, Bullion Vault

Sunday, December 24, 2017

The Fed Is in Limbo


In yesterday’s analysis, I compared Janet Yellen to an athlete running the high-hurdles at a track meet. Her finish line is a rate hike on December 13.

The hurdles are inflation data, the Trump tax cut, and a government shutdown on December 8. She has to clear all three hurdles to make it to the finish line.

These hurdles are all conveniently time-stamped. The inflation data came out this morning, the tax bill vote is scheduled for Friday, and the government shutdown is scheduled for next Friday, December 8.

As New York Mayor Ed Koch used to ask, “How am I doin’?”

Well, the inflation data this morning was decisively… indecisive.

The particular metric in focus was the personal consumption expenditure core deflator on a year-over-year basis released monthly by the Commerce Department with a one-month lag. Call it PCE Core year-over-year for short.

Sounds technical, but it’s important because that’s the number the Fed watches. There are plenty of other inflation readings out there (CPI, PPI, core, non-core, trimmed mean, etc), but PCE Core year-over-year is the one the Fed uses to benchmark their performance in terms of their inflation goal.

The Fed’s target for PCE Core is 2%. The October reading released this morning was 1.4%. For weeks I’ve been saying that a 1.3% reading would put the rate hike on hold, and a 1.6% reading would make the rate hike a done deal. So, the actual reading of 1.4% was in the mushy middle of that easy-to-forecast range.

What’s interesting is that the prior month was also 1.4%, so the new number is unchanged from September. That’s not what the Fed wants to see. They want to see progress toward their 2% goal.

On the other hand, the 1.4% from September was a revised number. It was earlier reported at 1.3% (the same number as August).

You can read this two ways. If you see the August 1.3% as a low, then you can say the 1.4% readings for September and October were progress toward the Fed’s 2% target. It’s a thin reed, but Yellen could use this to justify her view that the year-long weakness in PCE Core is “transitory.”

On the other hand, these 0.1% moves month-to-month are really statistical noise and may even be due to rounding. The bigger picture is that PCE Core is weak and nowhere near the Fed’s target. Another rate hike in December could be a huge blunder if it slows the economy further and leads to more weakness in PCE Core.

On balance, the PCE Core number is probably just enough (barely) to justify a rate hike. I’ve raised my probability of a December rate hike from 30% to 55%. That’s what good Bayesians do; they update forecasts continually based on new data.

Of course, the market has been pricing in at a 100% probability for a few weeks. That’s fine, markets have been wildly wrong in the past. I’d rather stick with a good model and update continually than swing from one extreme to the other based on crowd behavior. My Bayesian statistical models (along with other scientific tools) have served me well for a long time and I’m sticking with them.

As John Maynard Keynes said, “When the facts change, I change my mind. What do you do, sir?” (Actually Keynes never said that, but it’s a wonderful quote attributed to him. Keynes would certainly agree).

What about the remaining two hurdles for our track-star Janet Yellen?

The tax bill vote is scheduled for Friday. If it passes the Senate, it will almost certainly become law in the next few weeks after the House and Senate versions are reconciled.

The stock market has already priced in a tax cut. Markets won’t go up much more if the bill passes because they already expect it to pass. But if the bill fails markets could plunge on the bad news.

That’s important. If it does not pass, the disappointment factor will be huge and could send the stock market tumbling. Something like that happened in 2008 when the TARP legislation failed. The Dow fell over 700 points in one day. (Congress got the message and passed TARP a few days later). The response would be much larger today, perhaps 1,000 Dow points or more, because the market is starting from a much higher level.

The fact is no one knows what will happen in the Senate; at least eight Senators are waiting for a “Manager’s Amendment” (basically a re-write of the entire bill) to make up their minds.

Call it 50/50; a coin toss. “Heads” the Senate passes the tax bill, “tails” they don’t. But if the tax cut fails and the market tumbles, the Fed will not raise rates.

Finally there’s the government shutdown if Republicans and Democrats cannot agree on spending. These are mostly for show; most of the government remains open and the shutdowns are usually resolved within a week or so.

That means finding some compromise on a long list of hot button issues including funding for Trump’s wall with Mexico, deportation of illegal immigrants brought to the U.S. as children (the “Dreamer Act” also referred to as “DACA”), funding for Planned Parenthood, funding for Obamacare (called “SCHIP”), and more.

We’ll see.

Still, it’s difficult to imagine the Fed hiking rates on December 13 if the government shuts down on December 8 and remains shut on the date of the FOMC meeting.

There’s not much middle ground between Democrats and Republicans on spending policy issues like immigration, Trump’s Wall, Obamacare bailouts, and a host of other hot button issues.

This looks like another 50/50 call. “Heads” the government stays open, “tails” the government shuts down.

The problem with two coin tosses is that the odds of getting “tails” at least once are 75%.

So, Yellen still has a long way to go before she crosses the finish line.

My trading recommendation is unchanged. The euro, yen, gold and Treasury notes are all fully priced for rate hike. If it happens, those instruments won’t change much because the event is priced. If there’s no rate hike, euros, gold, yen and Treasury notes will all soar.

So, there’s an asymmetry in the probable outcomes. If you go long euros, gold, yen and Treasury notes, you won’t lose much if the Fed hikes (assuming no geopolitical shocks), but you could win big if they don’t.

That’s the kind of coin toss I like. Heads I win, tails I don’t lose.

- Source, James Rickards via the Daily Reckoning

Wednesday, December 20, 2017

James Rickards: Bubble Dynamics and Market Crashes


To paraphrase one of the great gems of Wall Street wisdom, “Nothing infuriates a man more than the sight of other people making money.”

That’s a pretty good description of what happens during the late stage of a stock market bubble. The bubble participants are making money (at least on a mark-to-market basis) every day.

Meanwhile, the more patient, prudent investor is stuck on the sidelines — allocated to cash or low-risk investments while watching everyone else have fun. This is especially true today when the bubble is not confined to the stock market but includes exotic sideshows like crypto-currencies and Chinese real estate.

It gets even worse when investors are taunted by headlines like the one in a recent article, “Investors Can Either Buy Bubbles or Be Left Far Behind.” The article is a case study in the “Bubblicious Portfolio.” Infuriating indeed. Actually it should not be.

On a risk-adjusted basis, the prudent investor is not missing much.

When markets go up 10%, 20% or more in short periods, market participants think of their gains as money in the bank. Yet, that’s not true unless you sell and cash out of the market. Few do this because they’re afraid to “miss out” on continued gains.

The problem comes when the bubble bursts and losses of 30%, 40% or more pile up quickly. Investors tell themselves they’ll be smart enough to get out in time, but that’s not true either.

Typically investors don’t believe the tape. They “buy the dips,” (which keep dipping lower), then they refuse to sell until they “get back to even,” which can take ten years. These are predictable behaviors of real investors caught up in real bubbles.

It’s better just to diversity, build up a cash reserve, have some gold for catastrophe insurance, and then wait out the bubble crowd. When the crash comes, which it always does, you’ll be well positioned to shop for high-quality bargains amid the rubble. Then you’ll participate in the next long upswing without today’s risks of a sudden meltdown.

OK, so I just argued that the stock market (and other markets) are in bubbles. But where’s the actual proof for this?

Actually, it’s everywhere.

The Shiller CAPE ratio (a good indicator of how expensive stocks are) is at levels only seen at the 1929 crash that started the Great Depression, and the 2000 dot.com bubble. Likewise, the market capitalization-to-GDP ratio is above the level of the 2008 panic and comparable to the 1929 crash.

The list goes on, including historically low volatility and unprecedented complacency on the part of investors.

For almost a year, one of the most profitable trading strategies has been to sell volatility. That’s about to change…

Since the election of Donald Trump stocks have been a one-way bet. They almost always go up, and have hit record highs day after day. The strategy of selling volatility has been so profitable that promoters tout it to investors as a source of “steady, low-risk income.”

Nothing could be further from the truth.

Yes, sellers of volatility have made steady profits the past year. But the strategy is extremely risky and you could lose all of your profits in a single bad day.

Think of this strategy as betting your life’s savings on red at a roulette table. If the wheel comes up red, you double your money. But if you keep playing eventually the wheel will come up black and you’ll lose everything.

That’s what it’s like to sell volatility. It feels good for a while, but eventually a black swan appears like the black number on the roulette wheel, and the sellers get wiped out. I focus on the shocks and unexpected events that others don’t see.

In short, we have been on a volatility holiday. Volatility is historically low and has remained so for an unusually long period of time. The sellers of volatility have been collecting “steady income,” yet this is really just a winning streak at the volatility casino.

I expect the wheel of fortune to turn and for luck to run out for the sellers.

But it’s time to add another warning sign to the list. Certain high-yield (or “junk bond”) indices have fallen below their 200-day moving average. This can be indicative of a stock market correction.

Junk bonds are riskier than equity. When they get in trouble, it’s a sign that the corporate issuers are having trouble meeting their obligations. That in turn is indicative of reduced revenues or profits, tight financial conditions, and lower earnings.

Panics in October 1987 and December 1994 were preceded by distress in bonds about six months earlier. While there is no deterministic relationship, bonds are a good leading indicator of stocks because they are higher in the capital table and feel distress sooner. The October 1987 one-day 22% decline in stocks, and the December 1994 Tequila Crisis in Mexican debt were ugly for investors. The bond market gave a six-month early warning both times.

It may be doing so again.

But what the Fed? Is it setting markets up for a fall?

It’s true that the Fed has been raising interest rates since 2015, and had engaged in tapering for two years before that. Yet, these actions hardly constitute tight money. The tightness or ease of monetary policy needs to be judged relative to financial and economic conditions.

You can have “easy money” at a 10% interest rate if inflation is running at 15% (something like the conditions of the late 1970s). In that world, the real interest rate is negative 5.0%, (10% – 15% = -5%).

In effect, the bank pays you to borrow. That’s easy money.

By most models including the famous Taylor Rule, rates in the U.S. today should be about 2.5% instead of 1.0%. We have easy money today and have had since 2006. This comes on top of the “too low, for too long” policy of Alan Greenspan from 2002-04, which led directly to the housing bubble and collapse in 2007.

The U.S. really has not had a hard money period since the mid-1990s. That’s true of most of the developed economies also.

What’s going to happen when central banks start to normalize interest rates and balance sheets and return to a true tight money policy in preparation for the next recession?

We’re about to find out.

Central banks all over the world including the Fed, ECB, and the People’s Bank of China are in the early stages of ending their decade-long (or longer) easy money policies. This tightening trend has little to do with inflation (there isn’t any) and more to do with deflating asset bubbles and getting ready for a new downturn.

But, in following this policy, central bankers may actually pop the bubbles and cause the downturn they are getting ready to cure. This is one more reason, in addition to those described above, why the stock market bubble is about to implode.

It’s important to realize that market crashes often happen not when everyone is worried about them, but when no one is worried about them.

Complacency and overconfidence are good leading indicators of an overvalued market set for a correction or worse.

- Source, James Rickards via the Daily Reckoning

Sunday, December 17, 2017

Gold, Interest Rates and Super Cycles


When the Fed raised interest rates last December, many believed gold would plunge. But it didn’t happen.

Gold bottomed the day after the rate hike, but then started moving higher again.

Incidentally, the same thing happened after the Fed tightened in December 2015. Gold had one of its best quarters in 20 years in the first quarter of 2016. So it was very interesting to see gold going up despite headwinds from the Fed.

Meanwhile, gold has more than held its own this year.

Normally when rates go up, the dollar strengthens and gold weakens. They usually move in opposite directions. So how could gold have gone up when the Fed was tightening and the dollar was strong?

That tells me that there’s more to the story, that there’s more going on behind the scenes that’s been driving the gold price higher.

It means you can’t just look at the dollar. The dollar’s an important driver of the gold price, no doubt. But so are basic fundamentals like supply and demand in the physical gold market.

I travel constantly, and I was in Shanghai meeting with the largest gold dealers in China. I was also in Switzerland not too long ago, meeting with gold refiners and gold dealers.

I’ve heard the same stories from Switzerland to Shanghai and everywhere in between, that there are physical gold shortages popping up, and that refiners are having trouble sourcing gold. Refiners have waiting lists of buyers, and they can’t find the gold they need to maintain their refining operations.

And new gold discoveries are few and far between, so demand is outstripping supply. That’s why some of the opportunities we’ve uncovered in gold miners are so attractive right now. One good find can make investors fortunes.

My point is that physical shortages have become an issue. That is an important driver of gold prices.

There’s another reason to believe that gold could be in a long-term trend right now.

To understand why, let’s first look at the long decline in gold prices from 2011 to 2015. The best explanation I’ve heard came from legendary commodities investor Jim Rogers. He personally believes that gold will end up in the $10,000 per ounce range, which I have also predicted.

This means the 50% retracement is behind us and gold is set for new all-time highs in the years ahead.

But Rogers makes the point that no commodity ever goes from a secular bottom to top without a 50% retracement along the way.

Gold bottomed at $255 per ounce in August 1999. From there, it turned decisively higher and rose 650% until it peaked near $1,900 in September 2011.

So gold rose $1,643 per ounce from August 1999 to September 2011.

A 50% retracement of that rally would take $821 per ounce off the price, putting gold at $1,077 when the retracement finished. That’s almost exactly where gold ended up on Nov. 27, 2015 ($1,058 per ounce).

This means the 50% retracement is behind us and gold is set for new all-time highs in the years ahead.

Why should investors believe gold won’t just get slammed again?

The answer is that there’s an important distinction between the 2011–15 price action and what’s going on now.

The four-year decline exhibited a pattern called “lower highs and lower lows.” While gold rallied and fell back, each peak was lower than the one before and each valley was lower than the one before also...

- Source, James Rickards via The Daily Reckoning, Read More Here

Thursday, December 14, 2017

Investing Overseas, and Why You Should Buy Gold



Business Insider executive editor Sara Silverstein talks about the iPhone X, the release of which many people thought would trigger a so-called upgrade supercycle. She breaks down a recent UBS report arguing that this isn't true, citing data showing that iPhone sales will remain flat from a year ago. UBS says that people are still most concerned about price and battery life, not the newly announced functions that Apple has been advertising so heavily. UBS still has a buy rating on the stock, despite the firm's reservations over the upgrade cycle.

Silverstein sits down with Jim Rickards, the editor of Strategic Intelligence and the author of Currency Wars: The Making of the Next Global Crisis. He breaks down his $10,000/oz price target for gold, saying that some central banks may have to resort to the gold standard to restore confidence in the markets. Rickards says that $10,000 is the perfect pricing in order to to avoid a disaster scenario. He says what reflects reality is "complexity theory," which has been successful in other fields, and for which he's been a pioneer for bringing to financial markets. Rickards shares his thoughts on the Fed, and questions why the central bank is unwinding its balance sheet while economic growth is slow. He says it's because the Fed is already preparing for the next recession.
In the Fidelity Insight of the week, Silverstein speaks to Bill Bower, a portfolio manager at the firm. He'd just returned from a visit to Japan, and tells Silverstein that when he invests there, he likes to look at individual stocks. Bower says that he's looking at secular growth ideas in factory automation, as well as more value-based names in the financial sector. He says that he's taken a recent liking to financials in European, where he sees opportunities due to earnings growth. In general, when Bower invests internationally, he's more interested in secular ideas than cyclical ones. He's specifically intrigued by China, which he says will transition from a centrally-planned economy to a consumer, and notes that technology and the internet caters to that space.

- Source, Business Insider

Monday, December 11, 2017

James Rickards: Predicting the Fed's Next Move


Everyone is wondering what the FED will do next? How will 2018 unfold, and can any profit be made from it, or are we simply staring down the barrel of a complete and utter collapse?

The FED is sending warning singles to anyone who cares to listen, and rates could move in a massive way throughout 2018. Jim Rickards breaks this down and much, much more with Albert Lu of The Power and Market Report.

- Source