Bonds weaken, stocks fall, stimulus fails, gold up
Posted on 11 February 2009 with no comments from readers
Wall Street was unimpressed by the $500 billion toxic asset control program unveiled by new US Treasury Secretary Tim Geithner yesterday. Stocks dropped by 4.9 per cent while money flowed into treasuries and precious metals.
This could be a story of days to come. The Street is gradually realizing that there is no magic bullet to cure the woes of the US economy, and that while bailouts and stimulus plans can take the edge off the worst, things are going to get considerably worse before they get better.
Bond crash coming
The next shoe that appears to be dropping before our eyes is the bond market. Yields are up by around 50 per cent since the start of the year which has produced an equal loss in the capital value of bonds, with the most recent investors suffering most.
It is only logical that as the US government fuels up public spending that it is going to have to pay more to investors to get them to lend it money. At some point in the not too distant future that will be the trigger for a sell off in the bond market, as existing bond holders are now watching the capital value of their fixed-interest bonds decline.
Since the start of the year bond prices have declined by some 3.5 per cent, a terrible performance for what is supposed to be an ultra-safe asset class. Investors will only accept so much before they exit.
Safe haven
Indeed, the sudden upturn in gold and silver prices suggests that investors have already found their next safe haven. How long will it be before the trickle to exit bonds becomes a flood, and precious metals leap in value?
Gold bugs have almost tired of waiting for this day. But the market for precious metals is highly manipulated and under such market conditions it is impossible to know the best entry point. You can only buy and hold and wait for the inevitable.
At some point the Federal Reserve and other central banks are going to become so concerned about say a blow-up in the bond market that they take their eye off precious metals, but by then it might be too late to buy a significant position at a reasonable price.
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Nouriel Roubini in his latest writing It Is Time to Nationalize Insolvent Banking Systems argues that, ultimately, nationalization may be a more market friendly solution of a banking crisis: it creates the biggest hit for common and preferred shareholders of clearly insolvent institutions and – possibly – even the unsecured creditors in case the bank insolvency is too large; it provides a fair upside to the tax-payer. Moreover, it bypasses the asset valuation issue as any overpayment goes back into taxpayers pockets. “With the government starting stress tests to figure out which institutions are so massively undercapitalized that they need to be taken over by the FDIC the administration is putting in place the steps for the eventual and necessary takeover of the insolvent banks.” This might well explain some of the negative market reaction.
Marketwatch.com says…
In a real bull market, the silver/gold ratio generally falls. That seems to be is what is happening now.
As James Turk puts in his Freemarket Gold and Money Report: “Last year, the gold/silver ratio repeatedly tested overhead resistance in the low 80s … The ratio closed on Friday at 69.5. So from its highest peak the ratio has dropped 17.6%, which is by any measure a very healthy gain achieved in less than four months.” See Website
Turk goes on to predict the ratio will go to 40 and eventually see the 1980 extreme below 20. Given the current gold price, this implies a silver price of $45.
Feb. 11 (Bloomberg) — Pacific Investment Management Co., which runs the world’s biggest bond fund, said the global economy faces a “second wave” of turmoil unless governments adopt larger spending plans.
“The economic setback is still in its early stages,” Koyo Ozeki, head of Asia-Pacific credit research at Pimco’s Tokyo office, wrote in a report published today on the company’s Web site. “Any further decline in housing prices could accelerate the downturn, intensifying the pernicious feedback loop and possibly leading to a second wave in the financial crisis in the next six to 12 months.”
[...] Bonds Weak, Gold Up [...]
Hi Peter,
I do agree at (3), there are many more shocks to come and one has to be pretty dim not too appreciate the coming Option ARMs and Alt-A mortgages about to reset this year and next.
My concern is that a US bank nationalisation (and I am sure they are planning for this now with audits etc) could involve the issue of the fabled “Federal Reserve Gold Certificate Ratio”. Not sure exactly how this would pan out, but maybe setting a “New” dollar against a fixed rate for Gold to stabilise currencies whilst holding all the toxic debt to “maturity” could happen? If so, then holders of bullion might be ham-strung? The official rate I think is $42 or so a fine ounce set as part of Bretton Woods?
I see coins available on E-bay but don’t know enough yet to venture buying, although the premiums seem extreme: $130 bid for a 1/10 9999 Krugerrand. However I have no faith in ETFs especially since the last article I read indicated 45 tons equivalent in paper on Comex yesterday with no visible cover!
Anyway, most grateful for your excellent articles,
Many thanks
Peter