On June 27, 2007, the day before the scheduled two-day Federal Open Market Committee meeting (which took place on June 28-29), the spot future Gold price closed at $US 641.70. That was less than a month ago. At that meeting, the US Federal Reserve "celebrated" a full-year during which they did not dare raise official US interest rates, so they didn't. Why didn't the Fed dare raise official US rates? Because they KNEW that the air was about to come out of the LAST great US investment "bubble". They knew that inexorably over time, the grotesque abandoning of all credit "standards" necessary to create that bubble was going to literally snap back on them. And so they have. And so they are. And now they are threatening to get much worse very quickly.
Unique amongst the nations of the world whose currencies matter, the US Central Bank has stood pat on official interest rates for over a year. The closest parallel to this course of action has come from the Bank of Japan, but even they have not stood pat for the entire year. Japan's Yen has in fact been an integral and indispensible part in the continuing function of the global monetary system because it has been the global means by which the end of continuing credit expansion has been eked out, at least to date.
This is, of course, by means of the famous Yen "carry trade", the process by which the world has borrowed Yen at 0.50 percent interest rates and used them to buy currencies whose debt paper offers yields manyfold higher. As several astute analysts have pointed out, had it not been for this carry trade, the global credit expansion would have imploded long ago.
The problem here is that the world has become so overburdened with debt that it has used its access to "cheap" Yen (among other things) to pile up high-yielding assets which any previous generation of "money managers" would have not even considered. They would not have considered them because they would have assessed the "risk/reward" ratio of holding such paper as being totally skewed to the risk side. And so it was, and so it is. The demise of the subprime sector in the US is slowly but surely being echoed right around the world. The next step is for the collapse of the least credit worthy paper to start to affect the so-called "higher" levels of financial assets. This is already happening in the US. It is going to get much worse there, and it is going to spread right across the globe.
This year has been a very strong year on global stock markets. The rises have been fuelled, almost in their entirety, on the ability to borrow "cheaply". These borrowings have been deployed by institutions, hedge funds, and private equity funds alike to put together huge takeovers and mergers. They have also been used by the business sector to buy back stock in their own companies, in the process forcing up the valuations of the stock that remains to be traded on the market.
The subprime fiasco in the US, and its mirror images which are now popping up all over the world - notably in the UK and in Australia - has done something that most insititutional borrowers had forgotten was even possible to occur. For the first time in over a decade, it has made lenders rediscover the concept of "risk". It has made them look a LOT more closely at the borrowers and the purposes for which the funds are being borrowed. Having done that, the lenders, again starting in the US, are beginning to demand higher compensation (i.e. interest rates) for the risk they are taking. In a yet small but growing number of instances, the potential lenders have actually refused to lend at ANY interest rate.
Over the past week or two, planned mergers and/or takeovers on both the US and European markets have been cancelled, not because the interest rate demanded by the lender was too high, but because the lender took a good look at the deals and refused to participate - period. This is as yet the very small tip of a very large financial iceberg. As soon as global stock markets take a major stumble, it will get much bigger very quickly indeed.
Since the problem is most acute in the US, the Fed is the world Central Bank most reluctant to inflame an already tinder-dry situation with any official rate rises. Since the Fed is NOT defending the US Dollar with rate rises, the US Dollar is coming under ever increasing pressure. On July 20, the $US index (USDX) fell to 80.15, its lowest level yet in the post January 2002 bear market and one bad market day from slipping below the vital 80.00 level
Here is a quote from the July 13 "edition" of Gold This Week:
"Why has Gold been languishing for more than a year now. Because it cannot help those who are drowning in debt. The "diversion" of precious capital into an asset which pays no interest at all is seen by most as being suicidal."
What we have literally seen over the last three days of the week just ended (July 18-20 - see the chart above) is the first unmistakeable signs that the frantic pursuit of "yield" is being met by an increasing reluctance to accept the risks involved in lending in such a climate.
We have seen this in the sudden spurt in the $US Gold price. We have seen it in the inexorable fall of the US Dollar. We have seen it in the abrupt turnaround on Wall Street the day after the Dow hit the 14000 level for the first time ever. We have seen it in the avalanche of "downgrades" from the main debt ratings agencies in the US. What is happening is what always happens to all credit expansions. At the point where the need to borrow is greatest, the lenders always reawaken to the concept of risk and start demanding more compensation for lending. That is why all REAL Gold bull markets take place in a climate of CLIMBING market interest rates.
For a quarter of a century, what is today called economic "growth" in the US has been fuelled by borrowing and spending. If the US economy can't borrow, it can't spend. And if it can't spend, it can't "grow". Right now, the pressure trying to push MARKET rates in the US higher is immense, simply because the "quality" of existing $US denominated debt paper is being called into question. The Fed can't do anything about that, no matter what it does or does not do with its Fed Funds Rate.
$US 5 x 5 Gold Point And Figure Chart:
When Gold closed above the $US 670 level - at $US 673.70 on July 18, this chart turned UP again. What is necessary now to decisively signal a new upleg on the Gold bull market is a spot future close of $US 735 or higher. That seems like a lot, being just over $US 50 above the current spot future price. But Gold is up over $US 40 since June 27 and has risen almost $US 19 over the past three trading days.
Please note the new all time high in the Yen Gold price set on July 20
|
