Gold this week broke above its 50-day moving average as a fresh round of negative news from around the globe rekindled investors’ interest in the yellow metal as a safe haven. The Fear Trade, it seems, is in full force.
Below are just a few of the recent news items that have made some investors skittish, which has supported gold prices:
- China, the world’s second-largest economy, continues to slow. Its preliminary purchasing managers’ index (PMI) reading, released today, came in at 47.8, a 77-month low. This follows China’s decision last week to devalue its currency, the renminbi, close to 2 percent. For the first time in a year, the Shanghai Composite Index fell below its 200-day moving average.
- Crude oil has been on an eight-week losing streak, the longest in 29 years. West Texas Intermediate (WTI) slipped below $40 per barrel in intraday trading today, the first time it’s done so since 2009.
- U.S. stocks are undergoing an ugly selloff. They just had their worst week since September 2011 and are on track to post their worst month since May 2012. The Dow Jones Industrial Average, down 10 percent since its all-time high, is nearing correction territory. All 10 S&P 500 Index sectors were off this week.
We can also add to this list the high levels of margin lending on the New York Stock Exchange (NYSE) right now. At the end of every month, the exchange discloses margin amounts, and it appears that everyone is leveraged. Real margin debt growth since 1995 is twice as much as real S&P 500 growth.
Cartson Ringler is a market analyst and founder of Ringler Consulting and Research in Germany. Speaking with the Gold Report this week, he highlighted the precariousness of high margin debt in domestic equities:
We saw a huge bull market from 2009 to 2015 on the S&P 500 when it went to around 2,080 from 666. That market is really mature. One number that scares me is the high margin debt on NYSE. When the big market crash happened in 1987, we saw $38 billion in margin debt, but as of June 2015, NYSE margin debt was more than $504 billion. Everyone is dancing until the music stops. So I’m shorting the S&P 500, while building my basket of different precious metals producers.
Should the $504 billion—an all-time high, by the way—worry us, as Ringler suggests? Maybe, maybe not. It’s worth remembering, though, that high margin lending in China greatly contributed to theShanghai Stock Exchange’s 30-percent correction just a month ago.
In its Friday newsletter, Kitco made note of many of these market-moving events and said that “optimism in gold should spill over next week. A strong majority among retail investors and market professionals expect to see higher prices the last full week of August.”
The Contrarian Case for Gold Is Scorching Hot
Earlier this month I shared with you that hedge funds are net short gold for the first time since U.S. Commodity Futures Trading Commission data began in 2006. Being short has become a very crowded trade, and many contrarian investors have seized upon this bearishness to add to their gold exposure. American Eagle gold coin sales rose an impressive 124 percent in July month-over-month.
This week, famed hedge fund manager Stanley Druckenmiller (Trades, Portfolio) plunked down more than $323 million of his own money into a gold ETF, according to second-quarter regulatory filings.
Druckenmiller is the guy who consistently delivered 30 percent on an average annual basis between 1986 and 2010, the year he closed his fund to investors. He’s also responsible for making the call to short the British pound in 1992, which “broke the bank of England” because it forced the British government to devalue and withdraw the currency from the European Exchange Rate Mechanism (ERM).
And now he’s made a huge bet on gold. The $323-million investment, in fact, is the largest position in his family fund.
Demand among global central banks and retail buyers has also heated up. As I told Daniela Cambone in this week’s Gold Game Film, the Chinese government is now reporting monthly on its gold consumption to offer greater transparency and convince the International Monetary Fund (IMF) that the renminbi should be included as part of the special drawing rights. Last month, the Asian country purchased 54 million ounces. And in the first half of the year, demand in Germany, the third-largest gold market behind China and India, increased 50 percent over the same period in 2014.
Gold in Russian Ruble Terms Shows The Value of Hard Assets
The Russian ruble, meanwhile, has lost nearly 50 percent of its purchasing power from 12 months ago, following its invasion of Ukraine and the drop in oil prices. Over the same period, gold has risen about 54 percent.
It shows that when a currency loses value and falls out of favor, gold has tended to benefit as investors seek real assets. Gold prices have then been able to soar, just as we saw in the months following the financial crisis, eventually reaching an all-time high of $1,921 per ounce in September 2011.
Remember, Druckenmiller just invested heavily into gold. Prudent investors such as him understand the dynamic between fiat currencies and gold, and they adjust their funds accordingly. Does he predict something happening to the U.S. dollar that might benefit gold?
Druckenmiller might have 20 percent allocated to gold, but it’s advisable to have closer to 10 percent—5 percent in gold stocks, 5 percent in bullion, then rebalance every year. This should be strongly considered whether the economy is soaring or struggling.
I invite you to head over to Kitco and compare for yourself the price of gold in U.S. dollars to other world currencies.
Looking for Other “Safe Haven” Options in the Volatile Market?
Gold is indeed glimmering with safe haven appeal, but I encourage investors seeking an investment that has a history of less drama to check out municipal bonds.
Having provided investors with over 20 straight years of positive returns, NEARX holds five stars overall from Morningstar, among 185 Municipal National Short-Term funds as of 6/30/2015, based on risk-adjusted return.
Air Traffic Demand Continues Its Upward Ascent
On a final note, Jeffries released its latest air traffic demand growth numbers yesterday, and the results were very positive. According to the group:
The July Jefferies Air Traffic survey registered a 6.4-percent year-over-year growth rate for our sample. The IATA (International Aviation Transport Association) report for July could show traffic growth of about 8.5 percent, strong vs. 5.9 percent year-to-date. Financial market turmoil and weak commodity prices don’t appear to be hurting demand.
July demand is up from 4.8 percent in June, Jefferies also notes. The strong traffic results serve as further justification for the group’s year-end demand growth of 6 percent.
Index Summary
- The major market indices were hammered this week. The Dow Jones Industrial Average fell 5.82 percent. The S&P 500 Stock Index dropped 5.77 percent, while the Nasdaq Composite declined 6.78 percent. The Russell 2000 small capitalization index slid 4.61percent this week.
- The Hang Seng Composite tumbled 7.29 percent this week; while Taiwan fell 6.25 percent and the KOSPI dropped 5.41 percent.
- The 10-year Treasury bond yield fell 2 basis points to 2.04 percent.
Domestic Equity Market
Strengths
- Utilities was the best performing sector in the S&P 500 Index this week as escalating concerns of a global growth slowdown dragged down equities and government yields. The S&P Utilities Sector Index fell 1.19 percent this week.
- Housing starts and existing home sales for the month of July came in much stronger than expected. These two data points highlight that housing is still an area of relative strength in the U.S.
- Despite a selloff in many currencies this week, the dollar actually fell. The decline in the greenback is usually seen as a positive sign for global growth. The Trade Weighted Dollar Index fell 1.67 percent this week.
Weaknesses
- Energy was the worst performing sector in the S&P 500 Index this week as oil prices continue to collapse and global growth concerns take hold. The S&P 500 Energy Sector Index fell 8.64 percent this week.
- The global selloff in equities witnessed this week is particularly concerning for the more cyclical areas such as materials and industrials. The slowdown in the Chinese economy is the largest headwind in the global economy currently.
- The United States Empire Manufacturing Index contracted sharply for the month of August. The index came in at -14.92 compared to an expected gain of 4.5, signaling serious weakness and concern in the manufacturing sector.
Opportunities
- The Federal Open Market Committee (FOMC) minutes were more dovish than expected, which could mean rates will not rise until December, which would be positive for equities in the short term.
- The next preliminary second quarter GDP growth reading for the United States will be released next week and is expected to be much more positive than the first preliminary reading.
- The Conference Board Consumer Confidence Index is expected to rise to 93.4 for the month of August. A further increase in consumer confidence would be a tailwind for discretion and other consumer based industries.
Threats
- Any rate hike this year may be too early given the recent changes in global economic sentiment. Inflation expectations are particularly weak, with the 5-year forward 5-year inflation breakeven rate in the United States falling below 2 percent for the first time in months. If the Fed jumps the gun, markets could unwind fast.
- The Markit U.S. Manufacturing Purchasing Managers’ Index (PMI) for month of August came in at 52.9 percent, declining from 53.8 percent in the prior month. This negative reading signals a potential slowdown in the manufacturing sector.
- The Conference Board’s Leading Index contracted by 0.2 percent for the month of July. A composite of various leading indicators, the Leading Index aims to anticipate changes in the real economy that have yet to come.
The Economy and Bond Market
Global markets were rattled by more bad news from China. Still reeling from last week's surprise action to devalue the renminbi, investors sold off stocks and bought “safe-haven” bonds and gold. The bearish mood was exacerbated Friday by the weakest reading from China's factory sector in six years. The VIX volatility index hit 24 intraday, a high not seen in 2015, and the S&P 500 Index fell into negative territory for the year to date. The yield on the 10-year U.S. Treasury note dropped to 2.04 percent, the lowest rate since April.
Accompanying the broad and steep selloff in equities were further drops in prices for commodities, including oil and copper. Asian emerging markets were among the hardest hit, feeling the fallout from China's currency weakness and declining demand for their exports. U.S. West Texas Intermediate crude oil fell to $40 per barrel, while Brent futures traded close to $45.
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