It’s Too Hot In Here: The Gold Market Expects A Cold Shower
2022.04.24 16:12
While I have been warning about the “expeditiously” hawkish monetary policy actions that should commence over the next several months, the man at the top put a stop to investors’ games on Apr. 21.
As Fed Chairman Jerome Powell said:
“It is appropriate in my view to be moving a little more quickly” to raise interest rates. He added: “I also think there is something to be said for front-end loading any accommodation one thinks is appropriate (…). I would say 50 basis points will be on the table for the May meeting.”
“It’s absolutely essential to restore price stability. Economies don’t work without price stability.”
Moreover, there is that word again:
Fed Chairman Jerome Powell Statement
As a result, while investors finally got the message, I warned on Apr. 21 that officials’ guidance had been loud and clear for months. I wrote:
Well, suddenly, the wake-up call elicited a shift in sentiment. With the S&P 500 under pressure and the VanEck Junior Gold Miners ETF (NYSE:GDXJ) suffering mightily on Apr. 21, reality finally re-emerged.
However, with plenty of downside still left for both assets, the medium term should elicit plenty of hawkish fireworks. To explain, I wrote on Apr. 6:
To that point, Powell said on Apr. 21 that the U.S. labor market is “too hot” and that the Fed needs to cool it down. “It is a very, very good labor market for workers,” he said. “It is our job to get it into a better place where supply and demand are closer together.”
Moreover, while I’ve warned on numerous occasions that Fed officials have sounded the alarm on the economic challenges that lie ahead, Powell said that it won’t be “straightforward or easy” to administer a soft landing.
Fed Chairman Jerome Powell Statement
The Message Man
However, while investors’ light bulbs went off on Apr. 21, the reality is that these medium-term ramifications have been hiding in plain sight.
Moreover, while Powell said that a 50 basis point rate hike in May is “on the table,” it’s likely a done deal. Here is why: I noted on Apr. 14 that the Bank of Canada (BoC) announced a jumbo rate hike at its last monetary policy meeting. I wrote:
Bank Of Canada (BoC) Announcement
To that point, Canadian inflation data was released on Apr. 20. Surprise, surprise: the scorching results came in hotter than expected. For context, the figures in the middle column represent economists’ consensus estimates.
Canadian Inflation Data
Furthermore, the most important point that investors miss is the political ramifications of inflation.
For example, when low and middle-class citizens suffer financially, their hardship becomes front-page news. As a result, the unwanted attention is bearish for the financial markets because it forces politicians and, therefore, central banks to act.
Toronto Star News
Likewise, while America’s neighbor to the north is feeling the inflationary heat, the political story is the same in the U.S. To explain, I wrote on Apr. 20:
All-America Economic Survey – Top Issues
Biden’s Approval Rating
Thus, while the S&P 500 and the PMs have largely denied these hawkish realities, their price action on Apr. 21 is likely a sign of things to come.
In addition, with the inflation story far from resolved, my comments on Apr. 6 still stand: [Fed] officials should keep hammering the financial markets until investors finally get the message.
A case in point: the Philadelphia Fed released its Manufacturing Business Outlook Survey on Apr. 21. The report revealed:
“The indicators for prices paid and prices received continued to suggest widespread price increases and inched higher this month. The prices paid index rose 4 points to 84.6, its highest reading since June 1979 (…). The current prices received index edged up from 54.4 to 55.0.”
Prices Paid And Prices Received Index
On top of that, this month’s special questions revealed that inflation expectations have also increased. The report stated:
“The firms still expect higher costs across all categories of expenses in 2022: Responses indicate a median expected increase of 10 to 12.5 percent for raw materials and of 7.5 to 10 percent for energy and for intermediate goods, higher than when this question was asked back in January. The median expected change for total compensation (wages plus benefits) was unchanged at 5 to 7.5 percent.”
Expected Change In Costs
Also, please remember that the survey data was collected from Apr. 11 to Apr. 18. Therefore, inflation is still running away from the Fed. As further evidence, Tracker Supply released its first-quarter earnings on Apr. 21.
For context, the company operates a “retail chain of stores that sells products for home improvement, agriculture, lawn and garden maintenance, livestock, equine and pet care for recreational farmers and ranchers, pet owners, and landowners.”
CEO Hal Lawton said during the Q1 earnings call:
“What we’re seeing is very consistent with what we’re all reading in the headlines every day. I’ll start with persistent inflation. We had the CPI of 8.5% in the month of March, that we’ve seen 0.5 point increases a month for the last handful of months. It’s tough to say if we’re at peak inflation, the way I think about it is that we’re seeing persistent inflation. And I think we will see, strong inflation, not only through this year, but in the next year.”
As a result, the company is pricing its products ahead of the 8.5% CPI:
CEO Hal Lawton Statement
Furthermore, I wrote on Apr. 21 that Procter & Gamble (NYSE:PG) had a similar message:
CFO Andre Schulten Statement
Likewise, with Lawton also highlighting consumers’ lack of resistance to the company’s price increases, his observations are bullish for Fed policy and bearish for the PMs.
Hal Lawton Statement
Finally, The Conference Board released its Leading Economic Index (LEI) on Apr. 21. After increasing by 0.3% month-over-month (MoM) in March, the LEI has risen by 1.9% from September 2021 to March 2022.
Ataman Ozyildirim, Senior Director of Economic Research at The Conference Board, said:
“The US LEI rose again in March despite headwinds from the war in Ukraine. This broad-based improvement signals economic growth is likely to continue through 2022 despite volatile stock prices and weakening business and consumer expectations. The Conference Board projects 3.0 percent year-over-year US GDP growth in 2022, which is slower than the 5.6 percent pace of 2021, but still well above pre-covid trend.”
March Increase In US LEI
The bottom line? The data continues to support hawkish Fed policy and has only intensified in recent months. Therefore, while I’ve noted that the PMs’ medium-term fundamentals are more bearish than at the end of 2021, the consequences of the Fed’s rate hike cycle should knock some sense into investors over the next few months.
Moreover, while Fed officials have been parroting the same message for weeks, Powell’s reality check on Apr. 21 is extremely bullish for the USD Index and U.S. real yields. Remember, the Fed needs to kill demand to tame inflation, which means pushing up real yields and reducing wages.
As such, does this seem like a bullish six-to-12-month environment for risk assets?
In conclusion, the PMs declined on Apr. 21, and mining stocks were material underperformers. However, the daily damage still leaves gold, silver and mining stocks’ prices well above their fundamental values.
As a result, there is likely plenty of room for further downside over the medium term.
