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Gold Corrections Now Shorter on Concerns of a U.S. Debt Spiral

Commentaries & Views

After plenty of hawkish Fed-speak kept pressure on the gold price last week, along with the Middle East war premium being eroded, Gold Futures have quickly moved back up to test the bullion banks’ Maginot Line of critical resistance at $2000 per ounce.

The safe-haven metal has now reached the important $2000 level in eight of the past nine months, but has failed to follow-through with a breakout above its all-time high since reaching $2085 in May. After the record high of $2089 was achieved in August of 2020, side-ways price action has kept momentum traders, funds, and generalists on the sidelines.

The catalysts for further gains in gold above its record high at present, however, are likely more sustainable. Lower U.S. inflation and weaker jobs data this week has increased investor confidence of an interest rate cut coming sooner, rather than later.

Tuesday’s U.S. Consumer Price Index (CPI) report revealed that inflation seems to have steadied at its current rate, while remaining well above the Fed’s 2% inflation target. Then, Wednesday’s Producer Price Index (PPI) report showed the largest drop in 3 ½ years.

After this latest inflation data was reported, JPMorgan's fixed income strategy team said that the Fed's response seems clear from here: "Certainly, when combined with the results of the October employment report and the recent rhetoric from Fed officials, it seems intuitive to conclude the hiking cycle is now done," they wrote. 

UBS expects the Fed to cut interest rates by as much as 275 basis points in 2024, almost four times the market consensus, as the world’s largest economy tips into recession. In its 2024-2026 outlook for the U.S. economy, published Monday, the Swiss bank said despite economic resilience through 2023, many of the same headwinds and risks remain.

As the U.S. economy slows and falls into recession, it is bad for the rest of the world and funds could flee the U.S. dollar. The world’s reserve currency took a 1.51% plunge on Tuesday, its largest drop for a single trading day in a year. 

After a possible double-top has formed on the USDX at 107, the greenback moved closer to key support at 103 this week, as investor focus has shifted from "higher for longer" to "when will they cut" in regards to the Fed's monetary policy.

Under 103 in the USDX, the U.S. Dollar could enter a bear market which would be bullish for the gold price. With the daily Relative Strength Index (RSI) at 38, the greenback has more room to move lower before becoming technically oversold.

As the government continues to borrow and spend without a debt ceiling, there are concerns that the exponentially rising debt situation may lead to a choice between defaulting on the debt or the Fed dealing with inflation and being forced to raise its 2% target. The result of either outcome would be an explosion of the gold price towards its inflation adjusted all-time high of over $2400 per ounce, just for starters.

Moody’s warning late last Friday on the massive U.S. debt burden has had little impact on the markets this week, with investors already aware of the $33.7 trillion of debt and the $1.7 trillion in deficit for fiscal 2023. Although the warning from Moody’s merely echoes these well-known issues, it presents another black mark for the economy.

Furthermore, the exponentially rising U.S. debt has become a ticking time bomb as interest the U.S. pays on its debt soared in October from a year before, showcasing the rising cost to the government of higher yields on Treasuries. Interest on the public debt was $88.9 billion in the first month of the fiscal year, up 87% from the figure in October 2022, Treasury Department data released Monday showed. 

The interest payments alone on the national debt used up 40% of all the money collected from individual income taxes in October. This means a significant portion of the taxes paid by individuals goes just towards paying the interest on the money government has borrowed.

The U.S. Treasury is now spending almost twice as much on interest compared to the previous year, which is a concerning and unsustainable trend. Despite this, the government continues to abuse the world reserve status of its U.S. dollar and create currency out of thin air, as it has historically done for over 50 years. 

Both, U.S. national debt and interest payments are rising exponentially. The annual interest costs for U.S. debt alone now exceed $1 trillion, a figure that has doubled in the past 19 months, currently representing approximately 4% of the annual U.S. GDP.

In fact, the total debt to real GDP ratio in the U.S. is now at a staggering 432%. In 2000, that ratio was 268%, while the U.S. ran a budget surplus of $248.6 billion. The budget deficit turned negative in 2002 and has been increasingly negative ever since, with the deficit being $1.9 trillion at present.

With a GDP of approximately $26.9 trillion, U.S. debt equates to about 137% of the annual economic output. Historically, in the last 120 years, 98% of countries where the debt-to-GDP ratio exceeded 130% have gone bankrupt!

Meanwhile, the Government Accountability Office (GAO) revealed that numerous government agencies had “discrepancies” in their 2022 budgets. Twenty-five agencies in total failed to properly report their expenditures to USAspending, which is intended to act as American’s guide to where their tax dollars are going.

Even more alarming is the report stated numerous entries totaling $1.2 trillion did not contain sources and failed to state where the money was spent. And this account only notes the agencies required to report their spending as almost a third (49 of 152) did not bother reporting at all! With checks and balances on government having simply vanished, the GAO is now urging Congress to hold these agencies accountable.

Government’s spending problem is far worse than anyone could imagine. In fact, growing U.S. debt concerns are already impacting U.S. Treasury markets. Last week, the U.S. government sold $24 billion in 30-year notes, in what was a disappointing auction as it appears investors have become increasingly aware of the enormous debt problem in the U.S., which they had taken lightly for so long.

Analysts noted that during the auction, primary dealers, who buy up supply not taken by investors, had to accept 24.7% of the debt on offer, more than double the 12% average for the past year.

Moody’s followed suit by lowering its ratings outlook on Treasuries, citing high levels of government debt and deficits coupled with political brinkmanship in Washington that could jeopardize the global standing of government-issued fixed income. Moody's negative outlook has made it more likely that the world's largest economy is on the way to losing its last AAA rating.

Back in 2011, Standard and Poor removed the U.S. government from its list of risk-free borrowers for the first time after months of political brinkmanship over the nation’s debt ceiling. More recently, Fitch Ratings downgraded the U.S credit rating from AAA to AA+ this past August after the government narrowly avoided defaulting on its debt for the first time in history.

Moreover, yields on bonds from emerging-market countries in their own currencies have dropped below yields on U.S. Treasuries for the first time on record. This unexpected shift raises further questions about the stability of the global financial landscape.

In the meantime, with multiple price failures at this now 13-year resistance line at $2000 gold, even the most ardent Gold Bulls have been selling existing positions in already beaten down precious metal’s stocks for tax-loss heading into year-end.

Yet, there are several signs the mining sector has been creating a significant bottom on the heels of lower U.S. inflation data raising the odds of the Fed rate-hike cycle being completed, combined with the exponentially rising U.S. debt coming into investor focus.

Along with higher-risk GDXJ having been outperforming GDX since the October low, silver and the miners have recently begun to show relative strength to the gold price. Silver and precious metals stocks tend to lead gold in both uptrends and downtrends.

With investors sniffing a Fed rate cut, the right shoulder of an inverse Head & Shoulders pattern developing in the miners over the past three months on XAU, HUI, GDX, and GDXJ has recently formed. Once the above neckline of stiff resistance at $30 in GDX and $36 in GDXJ is taken out with convincing volume, a strong technical base will be in place ahead of gold possibly breaking out to all-time highs.

More recent evidence of bottoming action in the miners is the Gold/CRB ratio turning up since the October low, which is a proxy for mining costs relative to the bullion price. And with energy costs amounting to 50% of most mining operations, the Gold/Crude Oil ratio has also turned up since the October low. These ratio indices going up means improving profitability for miners.

This confluence of events has created a generational opportunity to accumulate historically undervalued quality precious metals related juniors ahead of the most important gold breakout in over 50 years.

In anticipation of the incredible gains the junior sector should begin to experience once the gold price prints a technical breakout above $2100, the Junior Miner Junky (JMJ) newsletter is accumulating a basket of quality juniors with 3x-10x upside potential into 2025-26.

If you require assistance in accumulating the best in breed precious metals related juniors, and would like to receive my research, newsletter, portfolio, watch list, and trade alerts, please click here for instant access.

Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.