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Hi ho Silver!

Silver is again outperforming gold this year being up 13% already compared to gold up 8%, and seeing the gold silver ratio dropping from early 70's to 68.4 today. That of course is still well above the last low of 30 in 2011 and the 100 year average of around 45. As you can see in the chart below silver has broken through a critical trend line (using SLV as a proxy):



Unlike gold, silver has 2 masters both investment/jewellery and industrial. The pick up in global industrial production growth this year may be part of the support but it would appear 'paper' silver investment growth through the likes of SLV above and futures trading on COMEX is even bigger with the latter up 3,500 tonnes just this year to date. Because most COMEX trades don't see a single physical troy ounce of silver exchanged in most deals, that 3,500 tonne doesn't show up in the likes of GFMS's supply & demand reports. So for context 3,500 tonne is about 112.5 million troy ounces. Checking out the table below, you can see that total coins and bars (physical investment) last year was only 222m oz!



The graph below puts that into context for last year:



Its not an enormous stretch to establish that with any shock to the system that a large portion of that paper silver may demand the metal and may cause a shock spike in demand not currently captured in the demand table above.

So what happens when demand spikes? The US is, like it or not, the epicentre of silver investment demand. The graphs below walk you through the silver supply / demand landscape in the US and globally compared to gold (but remember China is the king of demand for gold). Firstly the US is a big net importer of silver:



Secondly the demand for silver well exceeds that for gold:



It's always interesting to compare that demand figure (5x silver to gold) with the aforementioned gold silver price ratio (GSR) of 68x gold to silver. From both a supply and demand perspective there is no nexus with that GSR. Now that said, we have read enough analysis by respected Chinese experts such as Koos Jansen to believe that the World Gold Council greatly understates the gold demand by China, but regardless, that in itelf does not justify the current GSR. The final graph paints a very clear picture:



The silver market, quite simply, looks unable to meet any shock in demand. In the economics 101 supply:demandrice dynamic that only leaves price as the variable.

 

Buffett's "Financial Weapons of Mass Destruction"

Today's article is a little different as we invite you to walk through 'all the world's money' as depicted by The Money Project. Start from the top and you will likely need to zoom in to read the explanations down the right hand side. Once finished, for true context, zoom back out to see the whole graphic on your screen.

Once finished, consider that only silver, gold and to a lesser, but still large, extent commercial real estate, can be held without any counterparty risk. It is those two words alone that could see the derivatives monster unleash. 'She'll be right' proponents of derivatives argue that there are 2 sides to every derivative and that they can't just collapse. That's all fine and good when the other party can stand and deliver. But if they can't it could start a domino effect that would make the GFC seem like a picnic. Or as Warren Buffett puts it in that last note on the right "derivatives are financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal."

(If you have trouble with the graphic below, try this link http://i2.wp.com/money.visualcapita...orlds-money-and-markets-dv.png?zoom=3&w=1130)

Also yes we've noted ourselves that the Bitcoin amount is out of date being over $16b now after the recent rally. The same for silver which is over $18b on current pricing. That said the overall scale is essentially unaltered.

 

"The Coming Bear Market"

Sven Henrich (aka Northman Trader) penned an excellent account of the current market last week titled "The Coming Bear Market". It's not short (and keeping our articles short & sharp our commitment to you) so below is a summary of key points but we recommend you take the time to read the full article by clicking here.

To set the stage, this is Henrich's base position: "The entire global financial system is 100% dependent on central bank intervention and debt expansion and low rates. There is zero evidence that markets can organically support current assets prices anywhere in the world without any of these things."

So whilst the US Fed is in 'tightening' mode, the Bank of Japan and European Central Bank have certainly taken the stimulus batton and run (and still running). China probably beats them all but the numbers are too hard to properly validate.



Henrich points out that when the next recession hits the world it will hit it at a time of "record government, corporate and consumer debt and pension funds severely underfunded. As far as markets are concerned it appears we are repeating again the cycles of the past major bubbles. Extreme high valuations, extreme high debt and absolutely no fear or concern of anything ever getting in the way. Indeed the current volatility compression is the most extreme in market history rivaling only the beginning of 2007."

Despite all of this stimulus, real GDP growth has been 'paltry' indeed last week US Fed chair Yellen said that, after the 8 years depicted above of stimulus, "Economic growth has been quite disappointing" and as listeners to our Weekly Wrap know she wasn't even sure of the future, saying "Considerable uncertinty attends the economic outlook,". The following graph says it all.



The other wind in the sharemarket's sails at present is the promise of "huuuge" tax cuts. Henrich cites experts openly questioning this actually happening (as we have repeatedly done) and also highlights that in actual fact effective (that actually paid) corporate tax cuts are as low as they've ever been.



He points out that these proposed tax cuts are coming just as the US is about to hit $20 trillion in government debt and a debt ceiling next month. Or as the No.2 US Republican Senator put it "We know we're going to have to pay for this. The question is whether we do it now or whether we send it to our kids and grandkids and make them pay for it. So that's an important point that we need to achieve some consensus on." Consensus on the debt ceiling has often proved difficult and it won't be any different next month.

Henrich produces charts and data painting a clear picture of weakness beneath the share prices with weak tax receipts, gross capital underinvestment (courtesy of share buybacks not capex), personal expenditure using record high debt, real wages stagnated, and more recently banks starting to tighten on consumers. In summary:

"So what's been driving the momentum into stocks here? It's actually an easily understood trifecta. While we had central banks and buybacks in markets over the past few years the election of Donald Trump with promises of tax cuts, deregulation and infrastructure spending made it a trifecta: Folks piling in long as they are smelling free money."

He cites some big warning signs, being very low volume in shares, a deterioration in the number of stocks trading above their 50 day MA, alarmingly low VIX ('everything is awesome disease') and sky high valuations. It is the classic, 'this time is different' scenario

"No, it does not appear we've learned a single thing. Except this time around we've indebted future generations with an even higher burden. In fact we doubled global debt in just 8 years. And now we have no choice but to add more or it all falls apart. And that is the core basis of the bear case. The world is trapped in a spiral it has created. And the casino needs consumers to keep spinning the wheel despite their pensions withering away and real wages not keeping up with emerging inflation. But don't worry, we got phenomenal tax cuts coming. How will we pay for them? Oh trust us growth will be coming. Right."

 

"Real Assets" Never Been This Cheap

Our article yesterday outlined a world of financial assets inflated by years of unprecedented monetary stimulus that the author believes cannot survive without more stimulus. Gold and silver, on the other hand, are 'real' or 'hard' assets, not financial assets. The chart below maps nearly 100 years of the ratio between the two. Never before have real assets been so undervalued relative to financial assets.



Looking at the chart above you can see that the previous lows preceded the last 2 big rallies in gold and silver. The authors, BofA Merrill Lynch, when they released it in October last year (so it would now be even lower) had this to say:

"Policy, profit and positioning trends all argue for rotation from deflation to inflation, from 'ZIRP [zero interest-rate policy ] winners' to 'ZIRP losers', from Wall Street to Main Street. As part of this rotation we expect real assets to outperform financial assets,"

Since then Trump pulled off the unthinkable and the War on Inequality became a whole lot more real.

But how much longer can financial assets rally is the key question in that equation. The chart below puts into perspective the current cycle v previous



What an extraordinary time we are living in now We have as many headlines shouting there is still more to go in shares and property as those calling an imminent crash. A scan back of our daily article titles would have you think we are convinced the crash is imminent and you should run to gold as quick as you can. But as a seller of gold we'd like to think we go to more lengths than most to remind you that we simply don't know! Our news articles just ensure you have your eyes wide open to the downside as human nature sees most people piling in to a bull market at the end. We preach balance in the absence of certainty.

We also implore you to step back and look at the multitude of charts, ratios and other metrics available to you now that tell you where we are historically. As long as you don't fall into the trap of 'this time is different', this practice allows you to make an informed decision away from a self interested broker, real estate agent, or for that matter, a bullion dealer. Your gut will guide you or at least get you to ask the pertinent questions. The charts above must surely be one of those 'step back and look' opportunities.

 

Liquidity "Danger Zone" v Gold

A clear indication of an overbought market is low liquidity levels in hedge funds. i.e. they are 'all in' with little cash in reserve to buy. The danger is simple. If there is a sharp market move to the downside (which is brought on by broad based selling) there is no one on the buy side because there is no liquidity to do that. That of course then leads very quickly to even bigger falls as there is no bid. To make things worse, hedge funds tend to buy a suite of the same shares as each other.

That is the scenario we currently find ourselves in per a Bloomberg report yesterday titled "Hedge Fund Liquidity Falls to Danger Zone in U.S. Stock Market". Novus Partners Inc. calculate both factors at play, the liquidity ratio or index, and the amount of concentration in the same shares or 'crowdedness'. From Bloomberg:

" what if everyone bailed at the same time? To do this it [Novus] devised a hypothetical portfolio representing all hedge fund holdings and tried to quantify how much could be sold in 30 days.

Looking at equity funds with $2 trillion and limiting daily divestitures to 20 percent of a stock's average volume, Novus calculated that the market could absorb only about 13 percent of the industry's total holdings in a month right now. The measure, dubbed 30-day liquidity, has averaged 32 percent since it began tracking the data in 1999."

Per the graph below you can see it is at an historic low. You can also see quite clearly how each previous low over the last few years preceded a correction in the market by only a couple of months. Indeed the last time it got this low in July 2015, the S&P500 saw its biggest drop in 4 years just one month later.



To make things worse the following graph shows that the 'crowdedness' has reached an all-time record. So not only do they have very little liquidity, they are concentrated in the same shares like never before. That is a toxic mix. The previous cycle low in the liquidity index in mid 2007 preceded the GFC but was considerably less crowded.




As Novus said in the interview:

"When hedge funds get spooked about something and they all delever, there are going to be small pockets that get disproportionately hurt. Certain stocks are down 20, 40 percent with no apparent reason. Others catch the fear bug and start selling."

It is worth ackowledging now that gold and silver can get caught up in such a broader liquidity squeeze too. That essentially happened in the GFC when everything that could be sold dropped en masse. Such financial market drops can trigger margin calls etc and people need to liquidate assets to pay up. Gold and silver are wonderfully liquid assets. But it was only fleeting and whilst shares halved over the course of the GFC, gold doubled. There are some out there suggesting cash is the only safe place to be. We'd argue they haven't fully appreciated the implications of the G20 agreement on bail ins and possible capital controls if this gets really nasty. Sure you may be able to buy a 'liquidity squeeze dip' in gold and silver, but you may find it not so easy. As we often remind you, the size of the world's financial markets is in the order of $300 trillion. The size of the 'tradeable' gold market is around $1.5 trillion. It takes but a small fraction of the former trying to get into the latter to see gold explode. How the physical market handles keeping up to that is the big question. Feeling lucky?

 

Australia's Debt Dilemma

Before we get into today's news, gold had its biggest jump this year last night. We discuss this in today's Weekly Wrap podcast and it's well worth a listen. The Trump Hope Rally is meeting Mr Reality.

We also touch on our RBA's rate cut dilemma but let's explore that further as it will touch every Aussie reader's life soon we think.

We've reported previously that Australia has the unenviable title of highest personal debt in the world. A large part of that is property investment and it has ballooned in the low interest rate world we have enjoyed since the GFC. That is all fine and dandy when property prices keep rising and wages grow more than inflation or indeed interest costs.

But as we reported in today's Weekly Wrap, wage growth has just hit a record low of 1.8%. Real wage growth (after inflation) is therefore perilously close to zero. At the same time, bond yields are rising which will be putting upward pressure on interest rates. Throw in a growing concern about property prices correcting (and indeed in many regions this is already happening) and it's a pretty nasty set up.

The 'fix' is lowering interest rates, but much in the way you 'fix' a heroin addiction with more heroin. This is the RBA's dilemma. Speaking in Canada this week Philip Lowe voiced his concern at how this might affect things more broadly as "there are some signs that debt levels are affecting household spending" because "In aggregate, households are carrying more debt than they have before and, at the same time, they are experiencing slower growth in their nominal incomes than they have for some decades. For many, this is a sobering combination."

Sobering indeed. You see when the GFC hit we all got a reality check that too much debt can bite and that sometimes house prices fall and all that free money you can draw off your mortgage is not so free. Looking at the graph below you can see the story play out oh so clearly. Savings dropped to almost zero before the GFC. Reality hit and we all tightened out belt. We then realised we relatively cruised through the GFC (thanks entirely to China and the now over mining boom) and commenced our descent back into more debt again. Everything was awesome.



Lowe believes the chart is about to track sideways as reality starts slowly (for now) to hit home. However the debt is already there and he warned we can expect more inflation but wage rises were "not imminent". It's that combo that would see the already all-time high household debt to income ratio climb further:



If you aren't great at math, that chart is saying each household on average has 1.6 times more debt than annual income

So the RBA's dilemma is leave things as they are and "households having decided that they had borrowed too much, might cut back consumption sharply, hurting the overall economy and employment." putting more pressure on wages and debt servicing. Cut rates and they risk people taking on more debt and inflate the property bubble even more. On the latter he said "At the moment, I don't think these two things are in the national interest."

What an understatement If property prices inflated further and then inevitably correct, and correct sharply as some predict, it won't just be a matter of debt interest servicing but potentially an equity shortfall, forcing repossessions and more sales and the whole thing spiralling out of control.

 

A Bet Each Way Gold v Hope

Regular readers will know we are more than a little bit concerned about how overvalued financial markets appear. The thing is, this hope rally could well continue for a bit longer as long as the Donald talks up tax reform and infrastructure spending. That of course means the inevitable crash afterwards could well be bigger too.

The action in markets looks a little like the herd are having a 'punt' on shares but the smart money are keeping their insurance in place at the same time. i.e. shares are at all time highs but safe havens of gold, silver, bonds, and (more recently) the VIX are rising too. Gold and silver are now up 9% and 14% respectively for the year (3% and 8% in AUD), bonds yields are falling, and the S&P500 up 5.7% and our All Ords up just 1.2%. The charts below tell the story, but note that after Friday night's rally gold is now up to $1258 (just $2 shy of the resistance line of $1260) and silver $18.42, now well and truly smashed through the 50 month MA and 200 day MA. i.e. both are coming off bottoms and look to be breaking out to the upside.





We have also seen US treasury yields dropping (meaning bond prices going up). This chart shows clearly the disconnect of both shares and bonds rising together lately



Even the counterintuitively low VIX this year has started rising a sure sign of market unease (note the chart below has the VIX inversed to illustrate the disconnect):



And finally, as regular listeners to our Weekly Wrap will know, this year has been notable in economic data prints out of the US diverging in terms of 'soft' data such as sentiment surveys versus 'hard' data such as actual orders etc. In this sense the next chart is self explanatory and oh so telling in terms of what is supporting this share rally hope.

 

Global "Jitters" Supporting Gold

Europe, and indeed the world, is getting nervous. At the heart of the nervousness is geopolitical uncertainty courtesy of the key European elections this year, inflation, and of course the unpredictable Mr Trump.

Europe's biggest gold ETF, Xetra-Gold, just saw the biggest monthly inflow of funds in January since its inception in 2007, some $906m worth in just one month. That takes their holdings to 157.9 tonne as of 13 February.

This comes as the anti Islam/anti EU Freedom Party leads many polls in the Netherlands ahead of next month's election, the similarly far right Le Penn maintains her lead in the French polls, and many are worried about the outcome in Germany too. That of course leaves the wildcard of Italy with a date still not known but a groundswell of similar disenchantment waiting for the opportunity to be heard.

This anxiety in the market has seen gold up as much as 10% this year and many an analyst predicting more to come. Just this last week we have seen Bank of America Merrill Lynch forecasting US$1400 by Q4 of this year and Citi forecasting US$1300 this year with more gains to come next year. Apart from geopolitical risk many analysts are citing rising inflation (forcing real interest rates down) as another catalyst for gold's rise and of course the unknown Trump effect, as summarised by ICBC Standard Bank analyst Tom Kendall:

"We've got a vacuum of (US domestic) policy, real (interest) rates going down, the dollar going sideways and geopolitical (jitters) around the world ... all helping gold. There is apparently a move of institutional investor money into gold and there are usually very good reasons for that."

 

'Make America Wait Again'

The US sharemarket had its biggest daily jump since the election last night, the Dow now over 21,000 and the S&P500 over 2400. Why, you ask?

It was all seemingly off Trump's first joint sitting address to Congress where he spectacularly revealed nothing new. Yep, there wasn't a skerrick of detail on how he will implement any of the things the market is buying into. BUT, he didn't blow up, he was moderate, and he was positive and that alone could be the reason for the biggest market jump since he likewise didn't make a mess of his acceptance speech. Hope is alive. America waits for details on how that translates to reality.

One key reason for the scale of the jump looks like the market was piled heavily into short positions (bets on a decline) before the speech and when the market started to rally (because he didn't scare it), all those short positions had to be covered and covered quickly, unleashing the classic short squeeze rally.

There was also some positive news in the better than expected manufacturing ISM print (but somehow wasn't concerned by its sister PMI turning lower). We'll discuss both as usual tomorrow in the Weekly Wrap.

Bond's were smashed in the process last night with US 10 year yields hitting a high of 3.07% but gold and silver rallied all session as the two safe haven stalwarts of bonds and precious metals decoupled.

So again whilst the headlines everywhere today will be all about raging share prices in the US and not a mention of the unusual fact that gold and silver are rising right beside them as the 'smart money' unloads their shares and gets their hedge on, let us remind readers that as of the time of writing, the S&P500 is up 7.2% for the year (Aussie All Ords up 1.6%), gold is up 8% (2% in AUD) and silver up 15% (8% in AUD).

Per below, the big hedge funds and institutions are bailing out and leaving the poor hapless private individuals to catch the hospital pass

 

Why that 'great' Aussie recovery may not last

Everyone got excited this week about our 'strong' December quarter GDP print of 1.1% seeing us avoid a technical recession after the September quarter saw -0.5%. Whilst there was lots of back slapping in Canberra and rejoicing in mainstream headlines few probably read on to see what's going on behind the scenes. Combined with a stark warning from the OECD last night (below) we should be taking note and managing our wealth to contemplate a not so 'awesome' recovery Sam Volkering of Money Morning had this to say:

"Truth is, 1.1% looks great on the surface, but it's not exactly party time just yet. The likely outcome from here is that the next quarter is a fraction of that. In fact, growth could be negative in the next quarter.

The December spike was off the back of a mini-boom in commodity prices.

However, there are reports that China is now at 'peak iron ore'. Also, the Chinese government is making moves to crack down on a Chinese property bubble. And they're also trying to curb capital outflows.

This all points to issues for the Aussie economy. If China doesn't want as much iron ore, that's going to hurt. If they don't flood the property market with money leaving China, that's also going to hurt. If that happens (and it already is) then the next few quarters probably aren't going to show much growth.

You should expect growth in the next quarter to be weak. It will likely fall back in line with the poor wages growth and minimal household disposable income growth. Add the fact should that, if we head back toward recession, you'll see more underemployment and hidden employment issues.

The most telling statistic to come from yesterday's figures was household disposable income, which rose just 0.2%. A big reason for this is because wages growth in the country is virtually non-existent.

But pay attention to the mainstream coverage of our escape from disaster and you'd think everything was A-OK. That's like someone spitting on you and trying to convince you there's a monsoon."

The big question then is what will the RBA do next meeting. Hold or Cut rates. The dilemma to date has been our property bubble and the risk of it going pop if they lowered rates more. However lately, as we've discussed before, given the rising rates around the world on bonds tanking and a probably US Fed rate hike on 15 March, the real cost of funds for banks is disconnecting from our cash rate. i.e. mortgage rates won't drop on the next rate cut here. We think Sam might therefore be bang on when he says:

"I think the RBA will cut the cash rate at the next meeting by 0.25%. They must know the December quarter growth was a fluke. They must be aware that the dollar is too high. But they must also be aware that the banks are moving rates independently, so maybe now is the perfect time for a rate cut.

If the Aussie dollar continues to march higher and economic growth falls, the RBA won't have any other choice. The best outcome here, believe it or not, will be to cut rates.

A cut in the cash rate could help ease back the Aussie dollar. It might spur a little more economic growth. Those corporate profits might rise again, and flow through to employees. Businesses will grow, expand, employ full time. Perhaps household incomes will rise, even disposable incomes. Or at the very least, it will keep our heads above water until the US makes a move.

Some might expect this to further fuel a housing price surge. It won't. An RBA rate cut will come amid the rising cost of lending to our banks. They'll be pushing up their retail rates while the RBA is cutting.

It won't fuel higher property, as higher retail rates will put it out of reach at current prices."

As we saw last night, a dropping AUD is great for Aussie metals holders

Finally the OECD sent a stark warning our way last night. From the AFR today:

"Australia's vulnerability to a house price collapse morphing into a recession has sharpened because of ballooning household debt and the dominance of big banks, according to the Organisation for Economic Co-operation and Development's latest report on the economy.

Putting the risk of a recession at around one in five, the Paris-based OECD says alongside a shakeout in China and ongoing weakness in business investment, the single biggest threat to the nation is from a potential hard landing in the property market after years of double-digit price gains.

OECD officials writing in what is their first major review of Australia's economy since 2014 said the housing market may not "ease gently" and could develop into a "rout on prices and demand with significant macroeconoimc implications".

A chief consequence would be a juddering shutdown in household consumption and a surge in mortgage defaults that would ricochet around the economy."

 

US Debt Ceiling Looms

March holds a few of the larger known 'elephants in the room' for global sharemarkets the Fed rate hike, the US debt ceiling and the Netherlands elections. As of Friday night that became two with Yellen all but cementing a Fed hike happening on 15 March. Markets seem to take it in their stride as it was already largely priced in. Yet again gold held firm when such news would normally see it drop. And let us stress, these are the known knowns, there are a plethora of known unknowns lingering too.

We discussed the Netherlands election last week so that leaves the US $20 trillion debt ceiling limit being hit on 15 March. Whilst it is largely expected that Treasury Secretary Steven Mnuchin will enact "emergency measures" that could see the government survive until August by delaying the reinvestment of assets in various government pension funds plus some accounting shuffling tricks, it only delays the inevitable. We've been down this road before but in 2011 it was strung out so long that Standard & Poor's downgraded the government's Triple-A credit rating after Congress and the White House deadlocked for weeks negotiating a budget deal, and the Treasury came within a whisker of defaulting. Gold and silver rallied strongly.

The lead up to next Wednesday's deadline is looking scary and the graph below is one you should take special not of. The IRS is in the process of paying out tax returns at this critical juncture meaning cash reserves are being drained just before they may be drastically needed.



David Stockman, the ex Reagan administration budget director who we spoke of last week, had this to say recently about this situation:

"I think what people are missing is this date, March 15th 2017. That's the day that this debt ceiling holiday that Obama and Boehner put together right before the last election in October of 2015. That holiday expires. The debt ceiling will freeze in at $20 trillion. It will then be law. It will be a hard stop. The Treasury will have roughly $200 billion in cash. We are burning cash at a $75 billion a month rate. By summer, they will be out of cash.

Then we will be in the mother of all debt ceiling crises. Everything will grind to a halt. I think we will have a government shutdown. There will not be Obama Care repeal and replace. There will be no tax cut. There will be no infrastructure stimulus. There will be just one giant fiscal bloodbath over a debt ceiling that has to be increased and no one wants to vote for."

 

Visualizing The US Debt Ceiling (In $100 Bills)

The United States owes a lot of money. For now, there is no debt ceiling - it has been suspended - but in 10 days that changes, and who knows what happens then.

For some context as to just how much money the US owes - and what the debt ceiling looks like - Demonocracy is back...

One Hundred Dollars


$100 - Most counterfeited money denomination in the world.
Keeps the world moving.

Ten Thousand Dollars



$10,000 - Enough for a great vacation or to buy a used car.
Approximately one year of work for the average human on earth.

One Million Dollars


$1,000,000 - Not as big of a pile as you thought, huh?
Still, this is 92 years of work for the average human on earth.

One Hundred Million Dollars


$100,000,000 - Plenty to go around for everyone.
Fits nicely on an ISO / Military standard sized pallet.

The couch is made from $46.7 million of crispy $100 bills.

$100 Million Dollars = 1 year of work for 3500 average Americans


Here are 2000 people standing shoulder to shoulder, looking for a job.
The Federal Reserve's mandate is to maintain price stability and low unemployment.
The Federal Reserve prints money based on the assumption that increasing money supply will boost jobs.

One Billion Dollars


$1,000,000,000 - You will need some help when robbing the bank.
Interesting fact: $1 million dollars weighs 10kg exactly.
You are looking at 10 tons of money on those pallets.

One Trillion Dollars


$1,000,000,000,000
The 2011 US federal deficit was $1.412 Trillion - 41% more than you see here.

If you spent $1 million a day since Jesus was born, you would have not spent $1 trillion by now...
but ~$700 billion- same amount the banks got during bailout.

One Trillion Dollars


Comparison of $1,000,000,000,000 dollars to a standard sized American Football field.

Say hello to the Boeing 747-400 transcontinental airliner that's hiding in the back. This was until recently the biggest passenger plane in the world.

You can see the White House with both wings to the right.

"My reading of history convinces me that most bad government results from too much government." - Thomas Jefferson

US Debt Ceiling - $20+ Trillion in 2017


Statue of Liberty seems rather worried as United States national debt is soon to pass 20% of the entire world's combined economy (GDP / Gross Domestic Product).

Here are some cool quotes from cool guys in the past saying the right things about the future and in a sense predicting today:

"I predict future happiness for Americans if they can prevent the government from wasting the labors of the people under the pretense of taking care of them." - Thomas Jefferson

If the national debt would be laid in a single line of $1 bills, it would stretch from Earth, past Uranus.

122.1 Trillion Dollars


$122,100,000,000,000. - US unfunded liabilities by Dec 31, 2012. We have not upgraded the graphics for 2017 because it simply is pointless. The US government has no plan for fixing unfunded liabilites. This number is so far out there that it is uncomprehensible to most readers but a few mathematicians.

Above you can see the pillar of cold hard $100 bills that dwarfs the WTC & Empire State Building - both at one point world's tallest buildings. If you look carefully you can see the Statue of Liberty.

The 122.1 Trillion dollar super-skyscraper wall is the amount of money the U.S. Government knows it does not have to fully fund the Medicare, Medicare Prescription Drug Program, Social Security, Military and civil servant pensions. It is the money USA knows it will not have to pay all its bills. If you live in USA this is also your personal credit card bill; you are responsible along with everyone else to pay this back. The citizens of USA created the U.S. Government to serve them, this is what the U.S. Government has done while serving The People. The unfunded liability is calculated on current tax and funding inputs, and future demographic shifts in US Population.

Note: On the above 122.1T image the size of the bases of the money stacks are $10 billion, and 400 stories @ $4 trillion.

"It is incumbent on every generation to pay its own debts as it goes. A principle which if acted on would save one-half the wars of the world." - Thomas Jefferson



"This is when you need to remember that when a nation's economy collapses, the wealth of the nation doesn't disappear, it only changes hands."

Government Waste: Missing Money Infographic does a great job showcasing the Trillions lost through miss-management.



Source: Zero Hedge

 

When you consider

US GDP is 18 trillion USD. 122 trillion unfunded debt (even though that is made up figure) it is only 7 times earnings, not a lot in the context to have unfunded .

 

Here in NZ there are plenty some people with mortgages that are approaching 10-12X their income,and they must not be considered a major default risk if they have scored the mortgage.

 

Aside from the question of a safe multiple of debt to GDP or personal income - a basic reality check is required. Downward movement in GDP or personal income happens (eg recessions/economic crises happen) , so debt multiples become unsupportable at times (ie lenders liquidate loans). It's highly unrealistic to suppose that loans will always be extended or that recessions will never happen again in the future.

 

OECD "Disconnects" & "Financial Vulnerabilities"

The OECD yesterday released their latest global economic health check titled "Will risks derail the modest recovery? Financial vulnerabilities and policy risks"

So first, by modest recovery they have retained their estimates of world GDP growth with 2017 at 3.3% and 2018 at 3.6%. With China at 6.5% and India at 7.3% the 'rest' are all in the 2's and 1's. Hence 'modest'

But the crux of the report is that even this modest growth is highly susceptible to market shocks that could derail it entirely. Their list is extensive but is summarised as "disconnect between financial markets and fundamentals, potential market volatility, financial vulnerabilities and policy uncertainties could derail the modest recovery."

The reference to disconnect was principally targeted at a market that is supported by central bank stimulus through record low interest rates and QE money printing, which whilst the latter is halted in the US, it is still full steam ahead in the EU, Japan and China. On this:

"Significant financial vulnerabilities arise from the overreliance on monetary policy in recent years, which has led to an extended period of exceptionally low interest rates, rising debt levels in some countries, elevated asset prices and a search for yield. In advanced economies, some countries have experienced rapid house price increases in recent years, including Australia, Canada, Sweden and the United Kingdom. As past experience has shown, a rapid rise of house prices can be a precursor of an economic downturn. House price-to-rent ratios are at record highs in several countries and above long-term averages in many others. Although there has been a slower accumulation of household debt in recent years, mortgage-debt-to-income ratios remain high in many countries."

Yes, Australia gets a first place mention for our property market, but its not property alone. Vern Gowdie of the Daily Reckoning pointed out on Friday our GDP growth is being fuelled off debt on these record low interest rates:

"We're told our $1.6 trillion economy 'grew' by 2.4% over the past 12 monthsgive or take, that amounts to an increase of $40 billion in economic activity.

Australia's total debt public, private and corporate at the start of 2016 was near $6 trillion.

Currently, our total debt is estimated to be $6.2 trillionan increase of $200 billion in 12 months.

Going a further $200 billion into the red 'bought' us $40 billion in economic activity. It's now taking $5 of debt to produce $1 of GDP 'growth'."

That is pretty straight forward maths. But back to the OECD. They also highlight the dangers in currency volatility given we are seeing the disconnect of a US Fed tightening whilst the aforementioned are still full on easing. We've written before of the elephant in the room of how China responds to a Fed hike induced USD surge (a must read). As the OECD says:

"The recent interest rate rises have been associated with sizeable exchange rate movements, with the US dollar appreciating rapidly against the euro and yen, and a number of emerging market currencies have faced market pressures. Financial market expectations imply that a large divergence in short-term interest rates between the major advanced economies will open up in the coming years. This raises the risk of financial market tensions and volatility, notably in exchange rates, which could lead to wider financial instability."

They are also particularly concerned about Emerging Market fragility off the sheer amount of non performing loans and loans vulnerable to those currency volatilities:

"The rapid growth of private sector credit and the relatively high level of indebtedness by historic norms is a key risk in some countries, notably China, fuelled by favourable financial conditions amid low global interest rates. These high debt burdens, particularly of non-financial companies, leave economies more exposed to a rapid rise in interest rates or unfavourable demand developments. At the same time, a turning of the credit cycle is leading to a rise in non-performing loans, particularly for India and Russia, potentially exposing a misallocation of capital during the upswing and creating pressures on the banking system. In China, the high share of non-performing and "special-mention" loans reflects to a large extent borrowing by state-owned enterprises."

Finally, as we are seeing here in Australia time and again, and in reference to the anti globalisation / anti establishment disenchantment factor, governments are too afraid to make the hard choices to address all this:

"Uncertainties in many countries about future policy actions and the direction of politics are high. News-based measures indicate global policy uncertainty increased significantly in 2016, rising particularly sharply in some countries. Many countries have new governments, face elections this year, or rely on coalition or minority governments. More generally, falling trust in national governments and lower confidence by voters in the political systems of many countries can make it more difficult for governments to pursue and sustain the policy agenda required to achieve strong and inclusive growth. Rising inequality and growing concern about the fairness of society may also help to undermine trust and confidence in governments. These tensions lead to less predictable outcomes, including on progress in implementing policy reforms."

The take away is that yes growth could continue to stumble along and everything could be ok. But sharemarkets are currently priced at 'awesome' growth levels, and there are a number of unintended but seemingly inevitable consequences to unwinding the very stimulus that got us there and that could come home to roost at any moment. So play the stimulus game, but make sure you have your hedge or insurance safe haven in play for when it goes wrong.

 

What happens after the March US rate hike?

Gold and silver, along with shares, are seeing downward pressure as the market becomes more convinced the Fed is going to hike rates next week. ALL eyes are on tomorrow night's US non farm payrolls employment figures. Anything but a shocker (and lead indicators indicate this isn't on the cards) would cement a March rate hike in.

That is a catch twenty two for many as on one hand it reinforces the 'everything is awesome' narrative but on the other hand it is raising the cost of debt when stupendous amounts of debt is what fuelled the perception of the very same 'awesome'. As we reported yesterday the OECD are predicting subdued growth (circa 3.5% against 20 years of 4+%) but with a very big caveat of 'but that could all unravel because of inherent "financial vulnerabilities"').

Jim Rickards recently wrote of his views for Money Morning. Here's what he had to say:

".markets are now pricing in nearly a 75% chance of a March rate hike. My estimate is now 90%.

But there's a big difference between the dynamics behind my view of a rate increase and the market's view. In effect, markets are saying, 'The Fed is hiking rates, therefore, the US economy must be strong.'

What I'm saying is: The Fed is tightening into weakness (because they don't see it), so they will stall the economy and will flip to ease by May.

My view is the US economy is fundamentally weak [by the way last night the Atlanta Fed dropped its Q1 GDP estimate yet again to just 1.2%... Jim's right], the Fed is tightening into weakness. By later this year, the Fed will have to flip-flop to ease via forward guidance for the ninth time since 2013. Stocks will fall, while bonds and precious metals will rally."

Another thing not openly discussed is the end of tenure for a number of members on the US Fed, all of whom will be replaced within Trump's presidency. Rickard's explains:

"Something else to remember going forward is that Trump will have a minimum of three, and perhaps as many as four or five, chances to appoint members of the Fed board of governors, including a new chairman in the next 10 months. I expect these new governors will be dovish based on Trump's publicly-expressed preference for a weaker US dollar.

The Senate will definitely confirm Trump's choices. So get ready for an extreme makeover at the Fed, with the likelihood of easy money, more inflation, higher gold prices and a weaker US dollar right around the corner.

That combination of Fed ease (due to slowing) and Fed doves flying into the boardroom on Constitution Avenue in Washington will give gold prices in particular a major lift in the second half of the year."

Rickards has a lot more cred than many of the so called analysts out there. Agree with him or not, but he certainly makes sense if you look at it objectively.

 

The Great Credit Illusion

We discussed recently that Australia's GDP growth over the last year came at the cost of $5 in new debt for every $1 of GDP growth. Well it's not much better in the world's biggest economy, the US. Official figures for 2016 show that in just that one year the US added $2.51 trillion in new debt, taking their total credit to a new record high of $66.1 trillion. What did they get for that $2.5 trillion in new debt? Just $632 billion in additional GDP yep $4 of new debt for every $1 of new economic growth. Against the official GDP for 2016 of $18.86 trillion that also takes total credit to GDP to an eye watering 350%.

The thing is, since the GFC when that figure got to 380% and then went pop, it has stayed relatively level. That is now rising again...





Many will know of Bill Gross (aka the Bond King) who headed PIMCO, the world's largest bond fund, for many years. He summed up the danger in this situation in his latest news letter:

"In 2017, the global economy has created more credit relative to GDP than that at the beginning of 2008's disaster. In the U.S., credit of $65 trillion is roughly 350% of annual GDP and the ratio is rising. In China, the ratio has more than doubled in the past decade to nearly 300%. Since 2007, China has added $24 trillion worth of debt to its collective balance sheet. Over the same period, the U.S. and Europe only added $12 trillion each. Capitalism, with its adopted fractional reserve banking system, depends on credit expansion and the printing of additional reserves by central banks, which in turn are re-lent by private banks to create pizza stores, cell phones and a myriad of other products and business enterprises. But the credit creation has limits and the cost of credit (interest rates) must be carefully monitored so that borrowers (think subprime) can pay back the monthly servicing costs. If rates are too high (and credit as a % of GDP too high as well), then potential Lehman black swans can occur. On the other hand, if rates are too low (and credit as a % of GDP declines), then the system breaks down, as savers, pension funds and insurance companies become unable to earn a rate of return high enough to match and service their liabilities."

We discussed this in different detail in today's Weekly Wrap and its worth a listen.

Credit as you know is a result of fractional reserve banking where $1 deposited is turned into around $10 in credit on the assumption not everyone will ask for their $1 back at once. Bill goes on:

"While the recovery has been weak by historical standards, banks and corporations have recapitalized, job growth has been steady and importantly at least to the Fed markets are in record territory, suggesting happier days ahead. But our highly levered financial system is like a truckload of nitro glycerin on a bumpy road. One mistake can set off a credit implosion where holders of stocks, high yield bonds, and yes, subprime mortgages all rush to the bank to claim its one and only dollar in the vault. It happened in 2008, and central banks were in a position to drastically lower yields and buy trillions of dollars via Quantitative Easing (QE) to prevent a run on the system. Today, central bank flexibility is not what it was back then. Yields globally are near zero and in many cases, negative. Continuing QE programs by central banks are approaching limits as they buy up more and more existing debt, threatening repo markets and the day to day functioning of financial commerce.

Don't be allured by the Trump mirage of 3-4% growth and the magical benefits of tax cuts and deregulation. The U.S. and indeed the global economy is walking a fine line due to increasing leverage and the potential for too high (or too low) interest rates to wreak havoc on an increasingly stressed financial system. Be more concerned about the return of your money than the return on your money in 2017 and beyond."

Gold and silver are the oldest form of money in the world and if (and only if) you hold physical metal you have no 'fractional' issues nor any counterparty risk at all.

 

Beware the Ides of March

In a spooky correlation with the infamous Ides of March (15 March) this week promises to be one to remember with the US Fed March meeting, US debt ceiling and the Netherlands elections all happening around that auspicious date and all taking on 11th hour news. Indeed Theresa May was talked out of nominating 15 March for triggering Article 50 to start the Brexit because of 'that' date

Friday night saw the non farm payrolls print an expected strong 235,000 new jobs and unemployment at just 4.7% essentially baking in the cake a rate rise on the 15th US time. But the market reaction reflected the fact that whilst that headline number was strong we again saw weaker than expected average hourly earnings, rising just 0.2% (and remember last month was just 0.1%). Gold actually rallied back up over US$1200 on the print rather than fall as expected. This was helped along by Trump's Treasury Secretary Steven Mnuchin talking up currency manipulation threats ahead of the G20 and driving down the USD.

And as Business Insider reported on Friday that same Treasury Secretary has put the House on notice about the debt ceiling:

"In a letter to House Speaker Paul Ryan sent on Wednesday, Treasury Secretary Steve Mnuchin "the outstanding debt of the United States will be at the statutory limit" at midnight on March 16. At that point, Treasury will have to utilize "extraordinary measures" for the federal government to keep paying its bills.

Mnuchin told Ryan at that point "Treasury will suspend the sale of State and Local Government Series (SLGS) securities" "until the debt limit is either raised or suspended.""

And finally to the Netherlands where just days before an election where the anti Islam, anti immigration, anti EU Freedom Party was starting to lose its lead in the polls, we had the blow up in tensions between Turkey and the Netherlands putting a full gust of wind in Geert Wilders party which is now widely expected to emerge as the largest party in an election with no outright majority leader.

Gold has rallied after the last two Fed rate hikes and historically rallies on the sort of uncertainty the debt ceiling and political uncertainty possibly present this week. It will be interesting to see how this all unfolds and what impetus a Wilders win in the Netherlands may provide to Le Penn in France.

 

Trouble Ahead in Europe

The EU situation seems to get more interesting by the day. Moments ago the UK Parliament passed legislation handing PM May approval to start the Brexit process via Article 50 which she has flagged she will do toward the end of this month. Some analysts explained the market's almost immediate rebound after the Brexit vote as 'the market sold like Brexit was an event when it's really a process'. Well that process just got real so it will be interesting to see how the UK and EU deal with reality. Already the Scottish first minister has stated her intention to take Scotland to another independence (and hence stay in / return to the EU) referendum next year.

Over to the Netherlands and as we reported yesterday tensions have boiled over with Turkey increasing the chances of far right Wilders' Freedom Party forming government in a couple of days time. The more likely outcome will be a protracted process of forming coalitions adding more uncertainty to markets. The broader implication however is last night Turkey, in retaliation, stating the $3b EU immigration deal is now off, meaning they could unleash around 2 million more middle eastern immigrants into the EU. That could well see even more support not just for Wilders in Netherlands but, more importantly, Marine Le Penn in France next month and more pressure on Merkel in September in Germany. Germany matters less in a sense in that if France leaves the EU under Le Penn it is game over for the EU.

Interesting times ahead to be sure.