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Gold prices continued to march upward on Wednesday, trading at $US1,501.20
on Wednesday as of this writing.
Gold has been on a tear the past month, the beneficiary of an increasingly
dovish monetary environment, as central banks around the world cut interest
rates and roll out bond-buying programs to stimulate sagging economic
growth.
Despite not bearing a yield, gold tends to do well under low interest
rates because it holds its value against fiat currencies which rise and fall
with interest-rate fluctuations. Gold is also a hedge against inflation,
brought about by asset-buying programs done by central banks to inject more
money into their economies.
Gold bulls started running in June, immediately after the US Federal
Reserve strongly hinted it would lower interest rates in July,
and took off again following the Fed’s July 31 decision to cut rates by
25 basis points. More precisely, gold first fell on disappointment that the
Fed hadn’t cut deep enough - the markets and the White House wanted at least
a 50-basis-point cut - but then rallied following US President Trump’s threat
of hitting China with 10% tariffs on the remaining $300 billion worth of
Chinese imports to the US - made the day after the rate cut.
The precious metal used mostly for jewelry and investment purposes has
booked impressive gains year to date. For those who think it’s time to take
profits and book a beach holiday with their gold investments, we beg to
differ.
Six months ago we predicted this trade war would escalate (it has), that
China wouldn’t throw in the towel (it hasn’t) despite having far more of its
goods under tariff than the United States and that Trump’s obsession with a
low US dollar would bring about a currency war (it’s happening).
In this article we’re stepping away from our crystal ball to focus on the
gold market - not only the macro environment - gold price drivers like
interest rates, tariffs and currencies - but also the present investing
picture for junior gold miners, which quite frankly, isn’t all that pretty.
In 2019, less money is being spent on exploration, fewer holes are being
drilled, and a lot of the ones that are, are showing less than impressive
assay results.
To us though, all that means is less competition for investors’ dollars
and a much easier culling of the herd to identify the best from the rest.
We’re already half-way through the northern-hemisphere drilling season
meaning news flow is starting soon. If you want to make money on a discovery
hole at a greenfield project, or cash in on a big resource increase at a more
advanced brownfield, you’re not alone, we’re with you, and believe now is the
time to lay out our favorite gold juniors.
History has shown that junior gold companies offer the best leverage
against a rising gold price. That is definitely where we are at,
and, we think, will be for the foreseeable future. It’s
the perfect storm for gold and junior gold stocks.
Trump responds to Fed dog whistle
We know that President Donald Trump wants a massively lower dollar and
will do anything to get it. Why? Trump thinks a low dollar is the way to
bring jobs back to the US after so many were exported abroad to take
advantage of lower labor costs. He wants to rebuild the US manufacturing
sector, primarily through cheaper exports. He’s particularly targeted China
for competitively devaluing its currency to dump cheap exports into the US,
such as steel and aluminum. All Chinese imports into the US are now subject
to tariffs of between 10 and 25%.
Throughout the past several years, the dollar has remained high in
relation to other currencies, and that has created a large US trade deficit –
$825 billion for 2018. Trump wants to get rid of the trade deficit,
especially the deficit with China.
So was it a coincidence that Trump ordered 10% tariffs on $300
billion worth of Chinese imports, the day after the US
Federal Reserve didn’t give him what he wanted, a 50-point rate cut? We think
not!
Just look at what happened to the dollar. Exactly what Trump wished.
When Trump entered the White House in January 2017, the dollar initially
fell, to as low as 88.45 on the DXY (dollar versus a basket of other currencies),
in January 2018. Since then it’s been on a relentless upward climb, coming
within a whisker of 99 at the end of July. After Trump’s tariff announcement,
however, the greenback plunged to 97.12 on Aug. 5.
The dollar and gold move in opposite directions, with both going their
separate ways due to increasing trade war tensions. On
Monday gold hit record highs in a number of currencies including the
British pound, the Japanese yen and the Australian and Canadian
dollars.
But what is the connection between the Fed’s interest rate reduction,
Trump’s trade war escalation and the falling buck?
It starts with Jerome Powell’s explanation that the rate cut was due to
“global developments” (ie. the trade war), not anything to do with the US
economy - the Fed’s normal reasoning for interest rate decisions.
That was like a dog whistle to Trump, who came a runnin’ with his
reply.
Within 24 hours, the unconventional president announced that the trade
truce was over and his administration was planning a full court press on the
Chinese with 10% tariffs on $300 billion of their products - a 180-degree
turn from his climb-down on more tariffs, following the recent G20 meeting in
Japan.
Zero
Hedge hints that Powell made a colossal blunder in letting Trump use
tariffs to pressure the Fed to cut rates, thereby getting his lower
dollar:
The problem for Powell is that by scapegoating the global economy for
the rate cut, the Fed is now trapped having certified before the world that
any further escalations in Trump's trade war are effectively a justification
for more rate cuts. Whether this was Powell's intention is unclear, although
it certainly means that Trump is now de facto in charge of the Fed's monetary
policy by way of US foreign policy, and it also means that
as BofA writes on Friday, "the Fed is unintentionally
underwriting the trade war."
Another commentator, veteran Bloomberg markets reporter
John Authers, wrote in
an op-ed:
My best guess to explain the sudden escalation from Trump is that he
was presented with a new and very appealing reason to raise tariffs – that
this was the way he could force the Fed to cut rates. Now we will find out
the consequences.
It all points to one conclusion: President Trump has found a way to lower
the dollar and fix the trade deficit.
Trump will force the Fed to keep cutting rates all the way up to the
election in the fall of 2020, using trade wars ie. China and the EU, as
the reason to do it.
Trade war escalates
The consequences of more Trump tariffs weren’t long in coming.
On Monday China, for the first time in more than a decade, decided to set
the yuan’s value below the key level of seven to the US dollar.
China also ordered
its state-owned firms to stop importing US agricultural products. Tariffs
on soybeans, the most valuable crop American farmers grow for China, forced
the Trump administration to compensate farmers by up to $28 billion over two
years.
Trump responded by calling China a currency manipulator, sending stock
markets reeling on Monday, and pushing gold to a six-year high. The People’s
Bank of China denied it was lowering the yuan to gain an advantage in the
trade dispute.
Many commentators, including myself, believe this is the start of a currency
war that could drag the US dollar, the euro and the Chinese yuan,
among other currencies, into a downward spiral.
Reuters
noted that labeling China a currency manipulator fulfills a promise
Trump made on his first day in office:
“As a result of this determination, Secretary Mnuchin will engage with the
International Monetary Fund to eliminate the unfair competitive advantage
created by China’s latest actions,” the Treasury Department said.
Speaking of the Treasury, let’s not forget the proposed new rule that
allows the United States to impose tariffs on any country it determines is
manipulating its currency - thereby extending the trade war well beyond
China.
A finding of currency manipulation by the Treasury would trigger
countervailing import duties against foreign products, to be implemented by
the US Commerce Department.
In other words, any country whose currency is found to have been
manipulated would automatically be subject to tariffs. There’s no reason why,
if the proposal becomes law, Commerce wouldn’t keep hitting China with
duties, beyond the current 25% maximum, should the yuan keep falling. Or the
EU. The ECB is already on Treasury’s list of potential currency
manipulators.
The US hasn’t seen such blatant protectionism since the 1930s.
To make matters worse, Trump
joked he should take the trade fight to the European Union by
slapping 25% tariffs on Mercedes Benzes and BMWs.
The president without joking has suggested the European
Central Bank unfairly devalued the euro by announcing its intention to cut
interest rates.
Among the US
Treasury’s list of potential currency manipulators are eight
European countries including the UK, France, Germany, Italy and
Switzerland.
Vietnam, added to the list in May, could be the next front opened
up in the US-instigated trade war. Asia
Times tells us that last month, an eye-popping 400% duty was slapped
on Vietnamese steel imports to the US, that originate from Taiwan and South
Korea. A 25% duty on Vietnam’s exports to the United States would impose
severe economic pain on the Southeast Asian nation’s economy - shaving more
than 1% off its GDP. Trump has named Vietnam among the worst abusers of
trade; the country has a $40 billion surplus with the US.
Canada is also on the Treasury’s currency manipulator watch list.
Safe haven demand
It’s all good fuel for gold. Beyond the trade dispute, there are other
reasons for owning gold that we outlined in a previous
article. They include safe-haven demand driven by such dangerous
conflicts as the war in Yemen, the frequent tensions between the US and
Chinese navies in the South China Sea, and the close call with Iran recently
over a drone strike.
On Monday the Trump administration froze all of Venezuela’s assets,
putting the South American failed state in the same company as Cuba, North
Korea, Syria and Iran. NBC
News reports the ban blocks US companies and individuals from doing
business with the Maduro regime and its top supporters.
There is also a brewing
confrontation between South Korea and Japan over a set of disputed
islands in the Sea of Japan. The South Korean Military wants to conduct
defense drills at the Takeshima islands which are claimed by Japan but
controlled by South Korea. According to Japan Times, the conflict is the
latest in a series between the two former WWII adversaries, that stem from
court rulings last year ordering Japanese firms to pay compensation to South
Koreans, forced to work for them during the war.
Finally, something we predicted several months ago looks more likely -
an arms
buildup between the US and Russia. A week ago Friday the
US formally withdrew from the 1987 Intermediate Nuclear Forces Agreement
(INF), which restricted missile launches from the two Cold War enemies.
Without a new agreement in place, there is nothing stopping Russia from
developing new missiles pointing at Europe, and the US responding in kind, or
vice versa.
Tough junior gold market
Summing up, there are a number of factors pointing in the
direction of gold right now as a smart investment. Gold is being judged
against bond yields and what the Federal Reserve is going to do next.
Gold investors love low interest rates because that could weaken the
dollar, thereby pushing up commodity prices and making dollar-priced
investments like gold attractive.
The gold price is also being lifted by very low and in some countries,
negative interest rates on sovereign debt. If investors have
to effectively pay for lending money to borrowers, gold is seen as a
better investment.
The idea of monetary easing causing inflation also appeals to gold
investors, since the precious metal is known to hold its value over time
versus depreciating fiat currencies.
And then there’s the roller-coaster ride of the trade war; generally, bad
news generally causes stocks to slide and gives gold a lift.
Since June most of the major gold companies have risen in value, as have
gold ETFs, corresponding with a higher gold price. GDXJ, a junior gold
miners’ fund that invests 80% in companies that get half or more of their
revenues from gold/ silver or gold/silver royalty/ streaming companies, is up
34%, year to date.
More
data was revealed Aug. 2 by Mining.com, which used data from sister
company InfoMine to analyze companies listed on the TSXV, the ASX,
London Stock Exchange (LSE), NYSE and Johannesburg Stock Exchange (JSX).
The results of the survey reveal an industry that has gone quiet, at a
time when it should be burning rubber on eight cylinders. Among the takeaway
findings:
- Gold exploration has slowed to the lowest point since
the beginning of 2019 - with both the number of drilled projects and
completed drillholes in decline.
- There was a lower quality of drill results, with mid and
high-grade gold intersections falling from 45% of their total count in
May 2019 to 36% in June 2019.
- Companies reported exploration results for 110 projects
in June, which is the lowest count observed all year. Australia led the
number of projects drilled (37), followed by Canada (33) and South
America (17).
- In June, companies reported results from
1,452 drillholes, which is the lowest number yet in 2019.
- The number of greenfield exploration projects drilled
dropped from 33 in March to 16 in June, which is the lowest level since
the beginning of 2019.
Means buying opportunity
We’re big believers in gold; its market fundamentals are the best we’ve
seen in a long time. And we see junior company price momentum continuing to
the end of this summer’s exploration season, and well beyond.
There are a few ways to play the gold market right now, but we hold to the
time-honored maxim of sticking to gold juniors with good projects in safe
jurisdictions with great management teams. We’ve carefully put together a
portfolio of early-stage and advanced exploration companies that will provide
the novice or expert gold investor with opportunities for both discovery-hole
bursts in market value and more gradual upside from increased resource
delineation.
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