Gold Forecast: Prices And The Next Global Crisis

I’m revising my big picture outlook for gold. I don’t’ believe gold is entering a new multi-year bear market nor do I think prices will drop to $700. Instead, I consider the gold bull market temporarily suspended and lower gold prices are a gift ahead of a perfect financial storm that will likely arrive in 2020 or 2021.

Between the 2018 tax cuts and the federal budget increases, the US economy gained nearly 2-trillion dollars in stimulus. That’s a lot of money. In comparison, it took the same amount (about 2-trillion) to arrest the 2008 financial crisis. Trump’s efforts extended the business cycle and deferred golds bull market.

As I stated in the “Trump Effect” article, the economy was rolling over into a recession in 2016. Smart money saw this and gold responded positively. Prices rallied over $300 by July 2016 (see chart below). A major turning point arrived when Trump unexpectedly won the 2016 election. Smart money immediately dumped gold and jumped back into the stock market. Precious metals wavered in 2017 as the outlook for the economy remained uncertain. However, the tax cuts and jobs act was signed into law December 22nd, 2017 and the massive stimulus package gained traction this year. The economy shifted back to growth and risk-on with consumer discretionary stocks leading the way.

Had Hillary won, the economy would have continued into a recession…and gold would presumably be much higher.

What does this mean for gold investors? The stimulus package postponed the next recession by a couple of years. However, it will probably make the next downturn much worse. I see the potential for a perfect storm of events that could lead to contagion in 2020 or 2021. Gold will benefit greatly as fear and uncertainty drive prices higher.

Potential Crisis Issues That Support Gold

Index Bubble

Passive investing is at record levels. Investors simply buy the index and outperform most managed funds. The overused strategy is distorting stock market gains and valuations. Let me explain, if the S&P 500 ETF (SPY) receives 100-million dollars they distribute that money according to market weight. Without discretion, they put $4,348,817 into Apple, $3,508,018 into Microsoft, $3,147,969 into Amazon and so on. No fund manager worth his salt would be pouring money into Amazon with a P/E ratio of 152. Valuations don’t matter, as long as money pours into index funds they have to buy these stocks no matter the price or fundamentals.

According to a CNBC article published July 10th, 2018. Amazon, Netflix, and Microsoft together this year are responsible for 71 percent of S&P 500 returns and 78 percent of Nasdaq 100 returns.

Liquidity Crisis

So, what happens when Index buying turns to Index selling? It could get ugly for the high flying FAANG stocks. Prices typically go down much faster than they go up. As the next recession hits money flows out of indexes will hasten. Fund managers will be forced to sell according to market weight just as they bought. Selling will beget more selling and could result in a flash crash of epic proportions.

Three entities – Vanguard, State Street and Black Rock control approximately 88% of the S&P500 companies. Essentially, they are the market. Who are they going to sell to when there are no buyers? If things get bad - the Fed may have to step in.

Computers and algorithms account for approximately 90% of today’s trading activity. Stock market corrections since 2010 tend to be sharp and violent. A correction that took 1-2 months before now takes just a few days. The next bear market in stocks could follow the outline. Instead of taking over a year (average bear market is 13-months), we could see a collapse lasing just 1-3 months.

Pension Crisis

There is a global pension crisis brewing. After the 2008 financial collapse, governments slashed interest rates to zero and kept them there for nearly a decade. Federally mandated pensions required to hold a certain amount of bonds earned virtually nothing during this period. Many are now insolvent or close to it. A liquidity crisis and sudden stock market collapse would drive pensions well below their minimum funding requirements. That could result in bailouts or restructuring. Want to see civil unrest, start slashing pensions.

Sovern Debt Crisis

Europe and emerging markets are a mess. Several countries will need to restructure their debt, and some will go bankrupt. Money is fleeing these countries into US stocks, bonds, and the Dollar. Some use Bitcoin as a transfer vehicle to sidestep country-specific exchange controls. These conditions will only get worse, and money flows will continue to the US.

The Dollar

Originally, I felt the Dollar was breaking down into a new bear market - now I’m not so sure. I think there are too many geopolitical factors supporting prices. The dollar is the most liquid and recognizable asset in the world.

If the dollar rises significantly, as it may, it will eventually hurt US tourism, exporters and domestic companies that do business abroad. Furthermore, countries that borrowed in US dollars when it was cheap will find it difficult to service their debt. A strong dollar will likely be responsible for one or more of the above crisis events.

Gold Price Conclusions

There are way too many crisis events on the horizon to keep gold prices down for long. When the economy begins to rollover, smart money will flow back to gold just like it did in 2016. However, this time prices will breakout. I think 2020/2021 will see some or all the above life-altering events. Metals could catch a bid sooner if the Democrats win the House in November and attempt to impeach Trump - so watch prices this fall.

Metals Strategy: In the short-to-medium term, I’ll scale back my allocation and keep a small amount to play the swings either up or down. Long-term, I believe physical metals are a buy. I’ll probably buy silver and platinum before gold. Gold prices could go lower, so I selected a dollar amount to allocate every month or on sharp declines. Besides bullion, I’ll look to build long-term positions in GDX and quality royalty companies. When money returns to this sector, and it will, I’ll switch gears and begin to add leverage.

Visit AG Thorson at GoldPredict.com. 

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