Will Gold Glitter Or Fizzle In 2016? (Part 3)

Negative Interest rates are coming, if you don’t believe me then ask the Fed itself !

When it comes to the Fed’s ability to normalize interest rates, I have very little faith that they will be able to do this without bankrupting the US and its financial system at the same time. If you don’t believe me, then why don’t you ask the former chairman Ben Bernanke. He claims that we will not see normalized interest rates in his lifetime -- and remember he is only 62 years old. If he lives as long as Greenspan has, then that means, we might not see normalized rates for another 27 plus years according to Bernanke.

Bernanke stated in a recent interview with MarketWatch that the Fed should consider using negative rates during the next recession. But it’s not just Bernanke who thinks that negative rates are a possibility; current Fed Chairman Janet Yellen has also opened up the possibility of using negative rates during the next recession as well.

This information is really important, because I believe that the reason gold rises in price, and declines in price, is due to real interest rates. Personally, I am not a believer in a lot of the gold stories floated around the internet, such as COMEX inventories, physical vs paper, or mining supply being cut drastically. Whether these stories are true or not are not of importance to me, as these events in my opinion, aren’t a catalyst for higher prices, or at a catalyst to end this current bear market. If interest rates are rising against inflation, that is bearish for gold. If interest rates are declining against inflation, that is bullish for gold.

Despite nominal interest rates remaining at 25 basis points for the past four years, real interest rates have risen since 2011.  The reasons that real interest rates have been rising since 2011 is because inflation has been declining since its 2011 high -- as one can see from looking at this chart below.

This chart provided from Shadowstats.com displays that that the real rate of inflation, while high, has been declining since mid-2011. If you combine this data with the fact that the Fed’s forward guidance is calling for more interest rate hikes in the future, the markets (which are forward looking), are pricing in higher real interest rates in the future.  Consequently, it  is bearish for gold. In my opinion (and its only my opinion) that is why the gold price has been in decline since the June of 2011.

This is why I believe that the policy of negative rates coming to fruition is very important for gold. Because if real interest rates become negative, the markets will start pricing in negative real rates again…and that will be the beginning of a new bull market in the gold price. Even with a fudged CPI that almost always reports an inflation rate of somewhere between 1-3 percent, instead of the real rate of roughly 5-10 percent (due to many gimmicks such as hedonics and geometric weighting),  I believe that negative nominal interest rates, will still be less than the reported CPI inflation rate in the foreseeable future. This will then force the market to recognize the fact that real interest rates are now negative…and will remain negative for the foreseeable future. Consequently, this action will cause the price of gold to start rising.

If I am right about the Fed reversing course this year, then gold speculators, which hold a record amount of short interest in the gold market will be forced to cover their shorts. This will cause a short covering rally. Consequently, this will motivate bullish speculators to start buying gold in anticipation of declining real interest rates.