The coronavirus global pandemic is the black swan of all black swans.
Countries around the world are rolling out wartime-like emergency measures to fight COVID-19. Estimates by the OECD suggest that measures to curb the spread of the virus will cause economic output to decline between 20% and 25%.
As investors have been clamoring for the safety of haven assets amid the recent market volatility, the U.S. dollar has been the king of the global foreign exchange market. But gold is actually outperforming against the greenback. According to Bloomberg data, gold has risen 5.3% so far this year and my go higher still.
Gold has been in short supply recently because it’s usually shipped on commercial flights that have been curtailed recently, although Russia’s central bank is taking some of the pressure off. The country’s central bank just announced that it would suspend gold buying in its domestic market starting April 1, Reuters reported, citing IFAX news agency.
„Further decisions on gold purchases will depend on how the situation develops,“ the Russian central bank said.
Russia’s central bank is among the largest holders of gold in the world. In December, Russia’s Finance Minister Anton Siluanov said his country could consider investing part of its National Wealth Fund in gold as the country sees investment in the precious metal as more sustainable in the long-term than in financial assets.
The deadly virus is perhaps one of the worst things that could have happened to an over-levered credit system in a late stage economic cycle. Going into the pandemic, we had built an equity and debt bubble of historic proportions.
According to the IIF (Institute of International Finance), global debt is set to grow faster in 2020 and is estimated to exceed $257 trillion by the end of the first quarter in 2020, driven mainly by non-financial sector debt. This is roughly double the $130 trillion pool of global liquidity.
At the early February top in the S&P 500, the stock market capitalization to GDP stood at 156%, a historic high. The impressive stock market gains during the Trump administration were driven by tax cuts and spending cuts on public health care among other things, and P/E multiple expansion. Investors were willing to pay more for public equities as the narrative was the Fed’s interest rate cuts are always bullish for stocks.
Despite activist central banks, global growth was already weakening and the U.S. earnings outlook was deteriorating even before COVID-19.
The largest marginal buyer of U.S. equites were American corporates and their CEOs who issued bonds and increased debt levels only to purchase their own stock in company share buybacks, driving the S&P to P/E of 21x. Now in the fastest bear market correction in U.S. equity market history the stock market trades at a blended forward P/E of 15.1x.
While the corporate share buybacks activity resulted in President Trump’s own words in the “Greatest stock market in history, by far” it made the market and the economy ever more at risk to an external shock like a pandemic.
Gold investors and investors at large increasingly ask whether it took a deadly virus to make investors aware of the possibility that the emperor might not have clothes.
In Goethe’s 1831 drama Faust, the devil persuades a bankrupt emperor to print and spend vast quantities of paper money as a short-term fix for his country’s fiscal problems. As a consequence, the empire ultimately unravels and descends into chaos.
If after the lockdowns everything goes back to normal and the Fed reflates, consumers and investors go about their business, society and asset markets will be just be fine as it is simply a supply and demand issue.
If there’s a systemic banking system financial crisis due to coronavirus, gold will do incredibly well, because it’s outside of the traditional fiat currency fractional reserve banking system. If there is a global debt deflation, gold will do extremely well.
According to World Bank President David Malpass, at least a few economies are likely to find themselves with debt loads well in excess of 150% of GDP during a global recession in the aftermath of COVID-19.
Mark Mobius, the veteran emerging-markets investor recently stated, “the trend for gold is going to continue to go up even after recent volatility as declining interest rates and money supply going through the roof is supportive of bullion prices”
Investors should recall the old market adage: “He who has cash in a recession is king”
Kings and queens and even emperors over the ages often wisely preferred gold to (highly) indebted government issued paper money. Investors should take note just in case the emperor exposed by this deadly and contagious virus has no clothes.
By Rainer Michael Preiss, Apr 01, 2020, at 05:50 a.m.