While the New Year has just started and most of us want to plan ahead, it is in fact useful to look back at the past year to see what developments in 2013 might have implications for 2014. There is no doubt that the three major markets – stocks, bonds and gold – will again be driven this year by the same forces that shaped 2013. However, we predict that the outcome will be different in that this year the price of gold will bounce back from it’s historic year decline and continue to rise as investors and savers will seek a proven “safe haven asset”.
My outlook for this year is focused on three specific events, which are an increased yield on the 10-year Treasury note, the expansion of the Federal Reserve’s balance sheet, and a decline in the gold/silver ratio. Whereas two of these incidents will develop as expected, I think that the third one will be somewhat of an outlier.
1. Increased yields on the 10-year Treasury note rise
Last year in January, I thought that the 2% yield on the 10-year T-note was a significant development. I considered it to be an important tipping point that could potentially indicate the end of the Federal Reserve’s financial repression. To be exact, I anticipated that this development would finally signal that the Fed could no longer keep interest rates artificially low as market forces had started to overpower the Fed. In other words, the tipping point would occur once investors would sell more Treasury debt instruments than the Fed was buying, and this imbalance would result in higher yields.
Thus, yields approached the 2% level several times in early 2013. Eventually, the 2% threshold was reached in May 2013 when the Fed prepared for that month’s FOMC meeting. This was a result of the market believing the Fed would announce that it was going to reduce its quantitative easing program. However, when that did not occur, yields rose drastically and reached 2.3%, another key technical level. More importantly, the yield on the 10-year T- note now appears ready to leap above a third critical level, 3%, which brings me to the second major event of 2013.
2. The expansion of the Federal Reserve’s balance sheet
The Fed’s balance sheet started to grow almost immediately after the collapse of Lehman Brothers in September 2008 when it sought to protect the banks amidst the ensuing financial crisis that disrupted markets across the globe. The Fed’s quantitative easing program and currency exchanges with European banks expanded its total assets to $2.86 trillion in July 2011. Subsequently, the Fed’s bailout programs slowed down, and its total assets dropped slightly to $2.81 trillion by the end of 2012. Yet, this unexpected curbing of asset growth on the part of the Fed that had us thinking in the beginning of 2013.
Every time the Fed expands its assets, it converts debt into US dollar currency. However, in contradiction of dominant economic and monetary theory as well as conventional wisdom, this newly created currency that the Fed conjured up did not really help stimulate the US economy: unemployment was still high (even if the government tried to “massage” the numbers in its favor), whereas real personal income and retail sales remained stagnant. Furthermore, there was a lack of customary feel-good factor among the American people, which is normally common during economic expansions.
The Fed’s strategy was nevertheless doing wonders for the stock market and gold prices as we can see in the chart below, which clearly demonstrates the correlation between the two. Once the Fed announced in March 2009 that it would be assuming a $1 trillion of quantitative easing, both experienced a bump by this monetary abundance, with gold and the Fed’s total assets actually reaching a new record peak in 2011. Yet, the success of gold and the S&P 500 stopped when the Fed ceased expanding its balance sheet.
Considering all these events, we can conclude that stock prices did not rise following the post-Lehman recession due to good economic conditions, but because all the new money created by the Fed had to go somewhere, so it winded up in the stock market. Naturally, it also affected gold prices as they always rise when the Fed debases the dollar by pumping money into the economy.
While the success of gold was stalled in April, we anticipated the gold price to correct and to keep rising throughout the remainder of 2013 because it seemed highly likely that the Fed would be expanding its balance sheet – and thus turn more debt into one US dollar currency – one more time. This is the only tool available to central banks to improve liquidity conditions. Central banks use this tool over and over to mask financial problems including insolvent banks, as well as to stimulate the economy, even though the country is already debt-ridden.
They also use this strategy to cover the insolvency of governments, which usually borrow more money than the market is willing to lend to them. When they are unable to impose their debt instruments on the public, governments do not reduce their spending, but rather have their central banks convert the debt into currency. This can eventually cause to a flight from the country’s currency into real goods. If this dangerous development is not stopped in its early stages by returning to conservative money principles, the economy can be destroyed by hyperinflation.
3. The decline of the gold/silver ratio
During precious metal bull markets – when precious metals are rising drastically – silver usually outperforms gold, meaning that the gold/silver ratio falls. To be precise, when the price of both precious metals rises, silver climbs faster, which means that it takes fewer ounces of silver to exchange for one ounce of gold.
The opposite happens during precious metals bear markets – when investment prices fall: silver underperforms gold (regardless of whether this is a long-term development or just a short-term corrective phase within a long-term bull market as is happening right now). The price of silver – when measured in percentage terms – falls more than the price of gold.
As a result, I recommended in 2013 to observe the gold/silver ratio to see if it dropped below 50, which was an important technical level. It still is an important technical level this year because the 50/50 ratio is still in place. If it does drop below 50, it will be an indication that silver is outperforming gold, meaning that both gold and silver are rising, but with silver rising faster than gold.
So, with that in mind, we can plan accordingly for 2014. Interestingly, the economic development during the next months will be determined by the same three forces that shaped 2013: interest rates, the Federal Reserve’s balance sheet and the gold/silver ratio signaling whether the price of precious metals are about to rise again. The last point is the most important one for our considerations!
I believe that the Federal Reserve’s monetary strategies and the US government’s fiscal policies have been destroying the purchasing power of the dollar for decades. This is clearly demonstrated by the tables below. They also illustrate a similar outcome for the world’s major currencies as governments and their central banks as they have been employing detrimental monetary and fiscal policies for ages as well. Unlike the 1970s, when the German mark and the Swiss franc posed a refuge from a dollar that was being rapidly inflated, no national currency today offers a safe haven for investors.
It’s important to note that precious metals have attained exceptional annual appreciation rates on average for the past thirteen years, even with gold’s steep decline in 2013. This overall performance consequently ranks gold and silver among the best performing asset classes on the market.
Conclusion
As a result, I believe that precious metals will keep rising as long as the government employs the same irresponsible monetary and fiscal policies. And this is obviously the case, as that the federal government is still spending boundlessly and the Fed is still printing money (even though it actually slowed down it debt monetization by $10 billion a month to $65 billion at the beginning of this year). This indicates that precious metals will surge again in 2014.
This rise of gold and silver will be the major economic difference between 2014 and 2013. I thus recommend buying physical gold & silver in the form of investment grade coins. In my opinion, this is a sound investment strategy for 2014. You will be able to accumulate a good amount of savings and most importantly “protection”.
The American financial system has become so out of hand that the Fed needs to continue inflating the US dollar to prevent the system from completely spinning out of control. Quite ironically though, the currency will eventually collapse as a result of mounting inflation. We are certain that history is going to repeat itself because the world’s governments have continued to act like they did prior to the 2008 financial crisis, while accumulating even more debt and creating even larger bubbles. The interconnected independent debt and bank solvency issues have not been resolved, and central banks keep injecting money into their economies.
The financial markets this year should develop similarly as they did in 2013, with the only difference being that the price of gold will increase again. There will be another bull market for precious metals as I project that an even bigger crises than the 2008 one is approaching. This will change everything from investments to currencies, so wise up and buy gold sooner than later.
