Capitulation selling in miners as trump fuels the helicopters
Kitco Commentaries | Opinions, Ideas and Markets Talk
Featuring views and opinions written by market professionals, not staff journalists.
With the stock market crashing this week, panic selling has created a flight to cash, margin calls, and unusual derivatives trading. But safe- haven assets such as precious metals and their miners have fallen in chaotic fashion due to mass deleveraging, which is creating an attractive buying opportunity in the precious metals complex for longer term contrarian speculators.
The S&P 500 has sold down 27% during the past 16 sessions, while the VIX hit 75 on Thursday. This extreme volatility has gold stocks being sold regardless of the safe-haven metal consolidating recent gains above critical support at $1550. While the sell-off in gold stocks has been painful, it is not unusual in the midst of a stock market panic. The last such example was the 2008 financial crisis crash, which taught me to implement my own much improved risk-management tactics for this miner cycle.
Although the GDX has been hit hard this week, the juniors have been sold more aggressively with many micro-cap stocks seeing no bids. The GDXJ has been hit for a 38% loss so far this week and closed at its low tic on Thursday. The juniors' high-risk, high-reward component is a double-edged sword. When gold stocks are in the midst of a strong bull market, juniors lead, while out-performing the sector. But when mass panic ensues in the stock market, juniors can be aggressively sold while under-performing the entire gold complex.
Moreover, as mentioned in this column last week, silver has continued to be sold aggressively over global growth fears due to its industrial qualities. With forced selling creating capitulation candles on most PM stocks and in particular, silver juniors, we could see a sling-shot move higher once the reflation trade begins to come into the marketplace.
Silver and the juniors should begin to outperform once the market begins to focus on coming reflationary measures by global central banks, who have recently come under pressure to monetize or print money to keep governments and businesses afloat. These are the financial risks that could drive gold much higher in the next recession.
Meanwhile, the Federal Reserve stepped into the Repo Market on Thursday for the second day in a row and the third time this week, with three separate $500 billion repo programs over the next two days and at least one $500 billion program a week for the remainder of the month.
Furthermore, the CME FedWatch Tool is now pricing in a 51% chance the Fed will cut the Fed Funds Rate by 100bps down to 0-0.25 at the next FOMC meeting in 5 days. The world’s largest central bank announced an emergency half percentage point cut in its policy interest rate on March 3, and is expected to lower interest rates again at its regular policy meeting next week.
But any further action the Fed takes in response to a virus-weakened economy is unlikely to be very effective. There are two aspects that make a coronavirus economy extremely difficult to stimulate. First, we are experiencing a deflationary shock with declines or stoppages in work, travel, leisure and other forms of economic activity.
Second, it is likely to create shortages due to the interruption of global supply chains, which would normally be inflationary. No amount of rate cuts or quantitative easing will have much of an impact until people and businesses are able to resume normal activities.
On Thursday, President Donald Trump said he may declare the coronavirus pandemic an emergency by invoking a law known as the Stafford Act. The law, enacted in 1988, empowers the Federal Emergency Management Agency (FEMA) to assist state and local governments during "natural catastrophes" and coordinate the nation's response.
In any case, central banks have little or no room to stimulate with the Fed funds rate already low at 1.0% - 1.25% and comparable rates in much of Europe and Japan already negative. The ECB has run out of ammunition, as rates have remained negative in the eurozone since 2014. On Thursday, the central bank decided to let eurozone banks fall short of some key capital and cash requirements as they struggle with the coronavirus outbreak.
It will be months before we understand the economic damage caused by COVID-19. But experts are already considering the worst and pondering the kind of monetary policy responses that may be needed to help turn things around. Veteran Wall Street strategist Ed Yardeni of Yardeni Research raises a very controversial option: “helicopter money.”
“Former Fed chair Ben Bernanke many years ago suggested that if things really get bad, there's always helicopter money,” Yardeni said on last Thursday’s Yahoo Finance’s The Final Round. “Helicopter money would be actually something that both [president] Trump and [Fed chairman] Powell... could agree on. Because the president wants tax cuts. And if the tax cuts are paid for with ultra-easy monetary policy, guess what? That's helicopter money.”
“Helicopter money” was first coined by economist Milton Friedman in 1969 as a thought experiment where a helicopter drops cash over a community. In theory, people may assume it’s just a one-off event, and they may find themselves just spending it. Economic activity would spike suddenly.
Well, the market just became “very bad” this week, which has Trump fueling helicopters by proposing a stimulus plan that would cost more than the 2008 Wall Street bank bailout, or the 2009 stimulus bill aimed at digging the United States out of a deep recession.
Once the bailout and stimulus packages during the 2008-09 crisis were announced, the entire gold complex moved higher in tandem with the stock market during a strong reflationary cycle. However, gold stocks bottomed five months before the S&P hit its low in March of 2009.
The centerpiece of the president’s stimulus proposal, which remains a work in progress, is a temporary tax cut that by itself would add nearly $1 trillion to the national debt along with a suspension of all Social Security payroll taxes through the end of the year. If implemented, this would be akin to possibly just phase one of Friedman's "Helicopter Money" analogy being unleashed upon U.S taxpayers.
President Trump and his top advisers have pitched the cut as a much-needed lift for consumers and businesses at a time when the spreading virus is beginning to chill economic activity. “The payroll tax holiday is probably the most important, powerful piece of this,” Larry Kudlow, the director of the National Economic Council, told reporters on Tuesday.
Gold and gold stocks are in the midst of a secular bull market that started at the turn of the century, then began its second leg higher in December 2015 when gold bottomed out at $1,050 per ounce. Although we are in the midst of a rush to liquidity, driven by panic selling after an unprecedented 11-year bull market run in equities, we must not lose sight of the bigger picture.
For over a year, the primary driver of the gold price has been falling real rates. Through the coronavirus crash, 10-year treasury yields have plummeted to all-time lows that hit 0.33% on Monday. With the markets in disarray, gold stocks have not responded to this fall in real rates.....yet. Once the volatility in the marketplace subsides, I expect real rates to again become a primary driver of gold and its miners.
The mining sector has a habit of getting as many investors out of position as possible before making a strong move higher. In late 2015, the sector was in the process of building a strong 6-month floor after being decimated with an 85% move down from its peak in 2011. Then on January 17th, 2016 the sector sold off below the base, but quickly reversed and did not look back for 6-months, zooming 160% higher into August.
Although the gold price is attempting to build a new floor at $1550, the juniors have yet to participate due mostly to deflationary fears. Once the reflation trade kicks in, ala 2009, we will see a move similar to H1 2016 and the juniors will once again begin to out-perform the sector. For the past three weeks, I have been advising my readers and subscribers to take profits and build up cash for coming opportunities in the junior space. If you would like to receive my research, newsletter, portfolio, and trade alerts, please click here for instant access.