Tariffs, Rate Cuts, and Devaluation Whispers Set Up Gold & Silver

Frank Holmes: Negative Real Interest Rates to Send Gold Soaring

Mike Gleason Mike Gleason
Interview with: Frank Holmes
August 2nd, 2019 Comments

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Welcome to this week’s Market Wrap Podcast, I’m Mike Gleason.

Coming up Frank Holmes of US Global Investors joins me to talk about gold, the key driver that will likely take it higher and why we need to be paying more attention to the trendlines than the headlines. Don’t miss another great conversation with the well-traveled and highly respected Frank Holmes, coming up after this week’s market update.

Well, after months of presidential complaining, tweeting, and pressuring, Donald Trump finally got a rate cut from the Fed.

A lower interest rate was supposed to stimulate the stock market and make the dollar cheaper versus the currencies of exporting countries -- thereby making U.S. products more competitive according to Trumponomics. Instead, stocks fell and the U.S. Dollar Index broke out to a two-year high following the Federal Reserve’s policy move on Wednesday.

Edward Lawrence Fox Business: And the Federal Reserve cuts interest rates a quarter of a percentage point, the interest rate range now at 2% to 2.25%. The Federal Reserve also announced that it would stop the roll off of its balance sheet two months early, starting on August 1st. Now the distinction there is that Treasuries will still be reinvested as they're matured and that leaves the balance sheet at about $4.2 trillion.

Eamon Javers - CNBC: The President is not pleased with Jay Powell. Here's the tweet from the President just a few seconds ago saying, "What the market wanted to hear from Jay Powell and the Federal Reserve was that this was the beginning of a lengthy and aggressive rate cutting cycle, which would keep pace with China, the European Union, and other countries around the world. As usual. Powell let us down."

Sara Eisen - CNBC: I mean, I think the question here is can the President actually do anything about it? And I never really have a clear answer on what the legality is.

Eamon Javers - CNBC: The President appointed Jay Powell, right? This is his guy. But he's frustrated that he's not going far and fast enough. And the question is a gray area of whether the President could fire a Fed chair.

It appears unlikely at this point that Trump will attempt to remove Powell from his position at the Fed. The bipartisan political backlash that would be sure to follow wouldn’t do anything to help his broader policy agenda on Capitol Hill.

Trump still hopes to reshape the Fed by getting his prospective nominees to the Fed Board of Governors confirmed. The most difficult one will be Judy Shelton, who has often advocated for a gold standard but is currently calling for more aggressive rate cuts by the Fed. She views easier monetary policy as a way to put the U.S. on a level playing field with the rest of the world as Europe, China, and Japan try to devalue their way to prosperity.

One way the Trump administration could pursue a currency devaluation without any help from the Fed is through direct intervention in foreign exchange markets. Believe it or not, the Treasury Department has a slush fund set up specifically for this purpose. It’s called the Exchange Stabilization Fund.

It need not check with the Federal Reserve or get permission from Congress in order to act. The Exchange Stabilization Fund has nearly $100 billion at its disposal to manipulate currency markets. And it’s all off budget. It reports to no one except the Treasury Secretary and President of the United States.

White House officials have been quietly debating whether to deploy the Treasury Department’s resources toward lowering the dollar’s exchange rate. Treasury Secretary Steven Mnuchin reportedly opposes the idea. He has thus far persuaded President Trump to avoid direct foreign exchange market interventions.

That doesn’t necessarily mean he will continue to stand by and watch other currencies depreciate against the dollar, thwarting his trade policy objectives.

On Thursday, President Trump announced his administration will impose additional tariffs on China. In response, the general stock market turned lower by the end of the day. So did the U.S. dollar.

The best performing asset class on the day ended up being gold mining stocks. Major mining indexes gained close to 5%.

Gold itself gained over a percent yesterday. As of this Friday recording, gold shows a weekly advance of 1.8% to bring spot prices to $1,444 an ounce.

The white metals are underperforming. Silver is off 0.9% this week to trade at $16.31 an ounce. Platinum is down 2.0% to trade at $851. And palladium took a huge tumble yesterday, losing more than $100 and falling below the gold price. Palladium currently comes in at $1,412 per ounce, lower by a whopping 8.1% for the week as of this Friday morning recording.

The mixed performance in metals markets is a largely a reflection of concerns about China and the potential for tariffs to crimp global growth. Industrial metals and energy commodities got hit hard on Thursday, while gold and gold miners benefited from safe-haven buying.

If Trump strikes a deal with China to avert new tariffs, economically sensitive commodities could rebound sharply. The bigger question is whether the dollar has put in a top. A lower-trending U.S. currency should ultimately help lift all hard assets.

Gold and silver have been performing quite well this summer in spite of the dollar rally. In fact, the metals have been rallying in terms of all major fiat currencies.

If the value of the Federal Reserve note heads lower into the fall at the same time as seasonal strength in demand for jewelry and coins kicks in, precious metals investors will have sound reasons to get ready for some big gains ahead.

Well now, without further delay, let’s get right to this week’s exclusive interview.

Frank Holmes

Mike Gleason: It is my privilege now to welcome in Frank Holmes, CEO and chief investment officer at US Global Investors. Mr. Holmes has received various honors over the years, including being named America's Best Fund Manager by the Mining Journal. He's also the co-author of the book The Goldwatcher: Demystifying Gold Investing, and is a regular guest on CNBC, Bloomberg, Fox Business, and also right here on the Money Metals podcast.

Frank, welcome back and thanks for joining us again today. How are you?

Frank Holmes: I'm great. And it's wonderful to be back and see the gold markets have a new life and vibrancy to it.

Mike Gleason: Yeah, certainly a lot going on since we spoke to you back in the spring, and we'll get into all of that. First off though, Frank, you recently wrote about the bond markets. In that article you noted that a quarter of all bonds traded worldwide have a negative yield. That's simply extraordinary. In one out of four cases, a bond purchaser will pay the borrower to hold onto their capital. We're having a hard time reconciling sentiment in the U.S., which is that the economy is strong and the future is bright, with what the global bond market seems to be saying. Investors who are ready to pay a borrower to hold their money probably aren't doing it because they see opportunities for growth elsewhere. What do you make of this situation, and has this ever even happened before?

Frank Holmes: No, it's unprecedented. And there's even a whole philosophy being pushed by socialists of just having monetary policy so they can have the greatest socialist regulations galore, and they'll just keep the economy going by managing the money. And eventually that just falls apart, that concept. But that's full throttle. I think the new book that came out on economic, the new way of managing the economy, is applying this thought process. But I remember Ian McAfee years ago showed that in each time to move the Dow, move the economy, it took more and more debt. And eventually that debt starts to create an asset inflation. So, if you look at asset inflation, it's quite substantial with this cheap debt.

But I think the bigger part is it's the EU. And I write about these macro forces and I try to say simplify things as best you can. And when we look at China versus America, well, China and America are very significant because they're 40% of global trade. So, when you have a punch out between these two countries, it's very significant to the global economy. And if you have a problem between China and India, they're 40% of the consumers of the world. When you look at that fact, being 40% of the world's consumption, they have a high correlation to GDP per capita rising and consuming many different types of food products and clothes and, in particular, gold. And that's what drives a big component of that “love trade.”

And then we have the sort of geopolitical, economic political philosophy that's been growing out of the past 20 years out of years. And the creation of the EU and the euro has just led to a real significant growth in socialism and the policies and they control all this narrative. And you're getting a backlash to it by different politicians, particularly in America. You see Trump as part of... he wants to drain the swamp is one of his expressions, but there's been a pushback, and Brexit's part of that pushback. Modi did some things that were incredible. And same thing in China, went after all the families that were stealing money and put them all in jail, had a big crackdown on illegal casinos, etc. So there's something of a change taking place at very big macro forces.

Mike Gleason: Yeah, certainly something to keep an eye on. Speaking of yields, the Fed has just moved to lower interest rates, and now we have to start speculating about what their next move might be. And I'd like to get your assessment. What do you think? Is this move the start of a new cycle of rate reductions? Or will officials pause here for a while and see what happens?

Frank Holmes: I don't know I’m set it in it, but I will share with you and the math, and I wrote about this going back to 1971, that anytime rates were dropped during an expansionary part of the economy, it was 100% probability the market's up six to nine months out. So, we still have an expanding economy here, and there's a concern it's going to roll over quickly and we're trying to stop that. I also think there's the geopolitical on this with what the Europeans are trying to do, they're all going to... the socialist mindset is go to zero interest rates and negative... real interest rates, negative. You go buy a 10-year government bond and they're going to pay you one basis point and inflation is running at one and a half percent. You're losing money over 10 years. And so that means that the euro's going to go lower and they're using that, so that's the art of manipulation. So, the only way to compete against that, to help the U.S. economy keep it going, is drop the taxes for corporations to be competitive with Europe and Asia, now it's got to make sure the currency doesn't become too overpriced because it will affect the exports, they're going to drop rates here.

So, I'm a big believer it's going to happen. And if we go back to 2002, 2006, we had a great bull market in gold stocks, and the big reason for that is not only was gold going up, but the stock market was going up. And to really get big alpha in gold stocks, you need to have a combination of both.

Mike Gleason: Of course we want to get more of your thoughts on precious metals markets. We spoke last in April. Since then, we've seen the metals perk up quite a bit. Silver has gained about 10% and gold is up not quite 11%. So far, the move has been pretty under the radar. There isn't a lot of gold coverage, say, on CNBC for example. And we're seeing a decent number of clients who look at these higher prices as an opportunity to sell, not the beginning of a new trend higher necessarily. Given the number of false starts and the length of the bear market cycle we've been mired in, we understand skepticism. But what do you make of the recent move in metals? And might gold and silver investors expect between now and year-end?

Frank Holmes: Well, the old expression follow the trendlines not the headlines. And the trendline is very positive and constructive. And coming back onto this sort of global negative real interest rates, this is very bullish for gold. And we're seeing this show up in more and more central banks increasing their exposure to gold, a lot of rookies coming in. And if you look at Europe, it's Eastern European countries which are more conservative, Poland and Hungary, etc., they have been buying gold. And we're seeing the Russians continue to buy their gold, and we're seeing China continue to buy gold. So, I think that these negative real interest rates, it's a very bullish scenario for gold. And last time we had gold hit $1,900, what people don't realize is that the 10-year U.S. government bond was minus 300 basis points. That was the yield. Inflation was spiked that high. And real interest rates in the U.S. went positive. That is, what was the government paying on the 10-year money minus the CPI numbers are positive or negative is the real interest rate model. And then it went to plus 200 basis points. Well, gold fell to around $1,000, and now it's been rebounding back as rates are going negative again.

So, that's what they call the “fear trade.” And when the U.S. dollar, which is the biggest economy in the world, all of a sudden starts going in that direction, negative interest rates while the rest of the world is, it propels gold and gold can easily go back to $1,900. And it just takes a while, and you're right, you're absolutely right, that a lot of times the headlines are on other news, it's not really bullish on gold. And there's a natural propensity for New York to be anti-gold, even when you have great hedge funds coming out and owners of these players coming out and saying they've increased their exposure to gold. Each month there's some new hedge fund this year that's a billionaire that's increased their exposure to gold.

Mike Gleason: In our view metals are continuing to fight headwinds from the equity markets. Yes, both metals and equities are performing well here, but that's been limited to, say, the last three months or so. In general, it has been hard for metals to get anything going when sentiment is for risk on. But perhaps we have that wrong here. Maybe over the past three months we've been seeing more positioning around the inflation trade, perhaps more people are going to bet on dollar weakness and we'll see metals and stocks continue to move higher together. What do you expect as to the relationship between stocks and metals in the months ahead, Frank?

Frank Holmes: I mentioned earlier that whenever you have an expanding economy and you drop rates in the U.S., it is very bullish for stocks. And if you have negative real interest rates, it's very bullish for gold. So, having an expanding economy is bullish for stocks and negative rates are bullish for gold and silver, guess what? Gold and silver stocks are going to rip. And they've done that. Our gold equity ETF is up 40% year to date, and it's crushed every other active gold fund manager, and it's also crushed the other ETFs that are out there.

Mike Gleason: Yeah, that's obviously been a great thing over the last few years. You follow the mining industry very closely. I know that's kind of what's spurred you on to launch the GOAU Fund. Talk about the miners in general and then also more about GOAU.

Frank Holmes: Well, I think on the miners end is it's very hard for them, I think they're going to have to do more acquisitions. Globally, there's been very few mega discoveries. That's become a real challenge. And the grades are falling for copper and gold and silver. I think that we have actually peak gold. Outside of recycling of gold, you can't recycle oil, but you can recycle gold. I think that it's pretty well peaked. And any pickup in huge demand globally, you can see the imbalance of supply and demand. There are points that are really important for investors to look at. And you're seeing it percolate now in speculation because there's lots of junior stocks that are up about 200% with getting any drill hole results. A year ago this wouldn't happen. So, sentiment on speculative money is now looking at good results and plowing in, taking on speculative capital and going into them.

I think one of the smartest guys out there is Eric Sprott. He basically built, in a bear market, Kirkland Lake, retires as chairman and cashes out, he made $800 million. And now he's peeling off that stock and he's becoming one of the biggest single investors in mining districts and buying companies. And he's already spent, I think in the past couple months, $140 million in exploration in brownfield developments. He's made an investment in a company called Goldspot that recently went public, which I became the chairman, and we both have a big position in this company. And what are they doing? They're doing AI and machine learning on exploration data to try to de-risk exploration so they can find these projects better. And I think that that's going to be like fracking is for oil and some of the junior exploration companies that get royalties on that business. And as you know, I love royalty companies. Our GOAU is 30% (made up of) royalty companies because it's a superior business model.

Now, when we look at a lot of the gold stocks that are in the GDXJ, they've raised capital or they've done mergers, and it’s really been diluted for investors. And the world today has changed dramatically, that 70% of all buying and selling is quant funds, and quant funds focus on the value per share, not the total gross value. So, we've had these stupid mergers go through or acquisitions you could call them, and they say, "Oh, our top line has grown dramatically," but on a per share basis, it's declined. Their reserves in cash flow have declined. Those stocks get put into a penalty box and money won't go into them. So, what we did is we created an ETF that only bought 25 of those names where those stocks met these five key factors, and each quarter we recalibrate and rebalance them, and we basically call high-grading, those stocks are either the cheapest on a relative basis, on reserves per share, production per share, cash flow and revenue per share. And then we look at those companies that have momentum, where the last quarter's above the four quarters in revenue, the last quarter of cash flow's above four quarters, and you buy those basket of stocks. And historically, they outperform just a market cap-based index like the GDX or GDXJ.

Mike Gleason: Yeah, I love what you're doing there with that, and especially the weighting that you have on the royalty companies. I love those as well, especially just look what they've done over the last few years when it was a bear market. The royalty companies, it's just a superior business model it seems.

Well, as we wrap up here, Frank, any concern over maybe the fact that gold has maybe petered out a little bit or not busted higher once it crossed through $1,400? Some were expecting that it would just rise to $1,500 and be off to the races, but it hasn't necessarily happened. How do you view that?

Frank Holmes: In my crypto-space business, which I launched the industrial scale crypto mining company called HIVE Blockchain, I really noticed for the first time the assault on Bitcoin that takes place at the Bank of International Settlements, which would rather have worthless central banks from Venezuela clearing through them, and promoting fiat money, than they would Bitcoin. And they're so vicious the way they've articulated this story that I started digging deeper and found out that they're also very much anti-gold, but they're not as vocal about it. And it involves so often with the gold swaps. So, I think there's suppression. And I know it's now come out with some cases, they're showing that in court and there's been some judgments against it, of spoofing the market. There's a new event that took place today on Bank of Nova Scotia, a former trader that was spoofing the gold market got charged. Morgan Stanley's trader got charged for spoofing the market, found guilty.

So, I think that one reason why it's not going to take off radically and quickly, but it's going to have that nice slow climb, is because people like the Bank of International Settlements, which is the central bank of central bankers, basically want to have this rollover of this cheap paper, and almost play, "Hey, there's no problem here because we can keep rolling over and if gold takes off, and that country's currency, then all of a sudden it makes that ability to roll over paper money more difficult.

Mike Gleason: No problem. Yeah, very well put. It's obviously the anti-paper money, anti-fiat money, and of course that's why the powers that be in the central banks don't want to see gold doing well. But there's only so much they can do to really rein it in and hold it down.

Frank Holmes: So, I keep recommending with that silver, silver, silver. If you tell everyone and they buy silver coins and give them to your children and their grandchildren, give them to your employees for the most valuable employee of the month or the year, give away those silver coins, because they never get rid of them, they hold onto them, and eventually that silver will go back to $50.

Mike Gleason: I agree. Lots of value there in silver when you look at the ratio compared to gold.

Well, we'll leave it there. Thanks, Frank. Look forward to catching up with you in a few months as we look at this all unfold. And then as always, please fill our listeners in on your firm, US Global Investors, and then also mention how they can find the great Frank Talk Blog that we all enjoy so much.

Frank Holmes: You're so kind. Thank you very much for your generous recommendations. It's simple, it's USfunds.com. And you subscribe to the Investor Alert and the Frank Talk blog, it's my travels around the world, meeting interesting people. And then every week we have a swat approach of the capital markets of different asset classes. So, I highly recommend it. It grows every week, it's free, and we have I think 50,000 readers in 180 countries.

Mike Gleason: Well, great stuff. Thanks again. I hope you enjoy the rest of your summer, Frank. And we'll catch up very soon. Take care.

Frank Holmes: Happy investing.

Mike Gleason: Well that will do for this week, thanks again to Frank Holmes CEO of US Global Investors and manager of the GoAU Gold Fund. For more information the site is USfunds.com. Be sure to check out the previously mentioned Frank Talk blog for some great commentaries on gold and other related topics. Again, you can find all of that at USfunds.com.

Mike Gleason: And check back here next Friday for our next Weekly Market Wrap Podcast. Until then, this has been Mike Gleason with Money Metals Exchange. Thanks for listening.

Mike Gleason

About the Author:

Mike Gleason is a Director with Money Metals Exchange, a precious metals dealer recently named "Best in the USA" by an independent global ratings group. Gleason is a hard money advocate and a strong proponent of personal liberty, limited government and the Austrian School of Economics. A graduate of the University of Florida, Gleason has extensive experience in management, sales and logistics as well as precious metals investing. He also puts his longtime broadcasting background to good use, hosting a weekly precious metals podcast since 2011, a program listened to by tens of thousands each week.