Fed Chairman Powell Painted Into A Corner...Again

February 26, 2020
Editor & Publisher @ TF Metals Report

Back in 2019, we often wrote of how Fed Chairman Powell was being painted into a policy corner by the bond market. We knew this would force fed fund rate cuts, and it did. And now here we are again in 2020.

If anything, this isn't complicated. As last year began, the vast majority of analysts and seven-figure Wall Street economists were projecting rate hikes and a 4+% U.S. ten-year treasury yield. We knew this was nonsense, as neither the public nor private sector could handle or manage this level of interest rate debt service cost. Soon the bond market began to understand this, too, and as 2019 unfolded, we began to document Powell's conundrum and make some pretty easy predictions:

• This from early April: https://www.sprottmoney.com/Blog/painted-into-a-co...

• This from the very day gold began its ongoing rally: https://www.sprottmoney.com/Blog/what-is-the-bond-market-telling-you-craig-hemke-28-052019.html

So with this theme in mind, what is the bond market telling you in 2020? Clearly Powell has been painted into a corner once again.

As I type this on Tuesday, February 25, check the U.S. yield "curve":

• Fed funds (overnight): pegged at 1.50-1.75% for an "effective rate" of 1.65%

• the U.S. two-year note: 1.21%

• the U.S. ten-year note: 1.34%

• the U.S. thirty-year bond: 1.81%

And now check these charts. Does it appear that a sudden reversal is in the cards?

Thus the bond market is telling you, the gold investor, two very important things:

  1. These current nominal yields make the curve inverted, with the overnight fed funds rate exceeding all but the longest, 30-year yield. Just as in 2019, Chairman Powell and his FOMC will not allow this condition to persist. Therefore, expect at least a 25 basis point fed funds rate cut...perhaps as soon as the next FOMC meeting in three weeks.
  2. Perhaps more importantly, if we assume even the U.S. government's vastly underestimated inflation numbers of 2%, THE ENTIRE U.S. CURVE now prices at a negative inflation-adjusted or "real" rate of return.

And it is point #2 above that you MUST understand. In the global investment world, U.S. treasuries are the safe haven benchmark, and as such, the primary competition to physical gold. If going forward, every single newly-issued U.S. treasury comes with a negative real return, the incentive to hold it falls. Why? It's simple. Why would you want to hold as a core position a guaranteed loser? And that's what U.S. treasuries have become.

Now this doesn't mean that suddenly all safe haven flows will rush into gold. The dollar amount of negative nominal rates globally have grown to nearly $15T at last check, so it's clear that global investors still feel that any return of principal beats a lack of current income. However, as rates trend ever lower, some of that safe haven U.S. treasury and sovereign debt demand invariably shifts to gold—in all its forms—from physical to unallocated accounts, to ETFs, to futures contracts, and even to mining shares. This was our forecast for 2020, and we posted it back in early January. If you missed it then, you should read it now: https://www.tfmetalsreport.com/blog/9858/2020-fore...

So what's the point of this post? Understand this:

Yes, gold prices have surged higher in 2020 and some of this is due to a fear-based trade over the growing concerns of a coronavirus global pandemic. But prices were already headed higher before the emergence of the virus, and the interest rate driver of this move has only accelerated over the past few weeks.

Just as in 2019, Powell's Fed has been painted into a corner. They will soon act to cut rates and add liquidity, and this will help to provide for a consistent bid for gold in all its forms...which will lead to consistently higher prices as 2020 unfolds.

Craig Hemke, TF Metals

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Craig Hemke

Our Ask The Expert interviewer Craig Hemke began his career in financial services in 1990 but retired in 2008 to focus on family and entrepreneurial opportunities. Since 2010, he has been the editor and publisher of the TF Metals Report found at TFMetalsReport.com, an online community for precious metal investors.

The California Gold Rush began on January 24, 1848 when gold was found by James W. Marshall at Sutter's Mill in Coloma.

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