War and Gold: When will gold pivot?

 

To figure out when gold will exhaust this downswing you have to understand the mechanics of the war's effect on the economy.

First the war will continue because it is in the best interest of 2 of the parties to continue - Iran because the war unites a fractured country against an external enemy and Israel for the same reason.  It is in the US interest to end the war - but it can not do so without admitting defeat, or just leaving the Strait of Hormuz under Iran's control, which it will never do.

So the strait of Hormuz will remain closed and oil and inflation will soar.

Right now this is the war's main economic thrust - sending oil higher, debt higher, and thus long rates higher.  The rising oil price and the rising rates weigh on the gold price for short term trading reasons.  As rates rise, money rotates out of gold and into fixed income.  Algorithms have been written that effect this automatically.  In the short run the swiftly rising inflation concerns cause this rotation.  And gulf sovereign wealth funds must sell some gold to bridge the gap of the loss of oil revenues from the closed strait and destroyed infrastructure.

In the longer run - meaning months (not years) - the swiftly rising debt combined with the US militaristic policies that repell the rest of the world from buying our debt are stronly supportive of a higher gold price.

At some point as rates and debt rise, a debt crisis becomes ever more of a certainty.  Thirty trillion dollars of debt financed at under 2 percent are going to have to be refinanced this year - 2026 - at over 4 percent.  US Banks are carrying trillions of dollars of underwater loans in commercial real estate, in delinquent consumer debt, and in high yeild debt incurred by zombie corporations taking advantage of compressed spreads during years of ZIRP policy.

The incoming Warsh Fed has already comitted to easing.  They will receive little push back from the financial community in the face of this incipient debt crisis. Many hedge fund billionaires like Stanley Druckenmiller (who hired and trained Warsh and Treasury Secretary Bessant at his hedge fund) and Ray Dalio, are putting out videos warning that this debt crisis can not be avoided even with Fed easing.

But the Fed easing - even in the face of drastically elevated inflation - especially in the face of drastically elevated inflation - will certainly provide the fuel for the next - violent - leg up in gold.

As will the inevitable countless trillions in bailout money that the Fed will havee to provide to support the banking system.

The problem as an investor is if you wait for the easing you'll miss the move.  Because gold will undoubtedly move well in anticipation of this certain easing.

THE WAR AND GOLD

 

Gold has dropped precipitously since the beginning of the war.  This has confused many who assumed that gold is a hedge against war.

Gold is a hedge against monetary instability.  War produces monetary instability - over time.  So over time  gold is a hedge against the monetary instability produced by war - but it does not react to fighting itself.  The fighting in the short run seems to be causing some to sell their most profitable investment (gold) to stock up on weapons and oil.  Even with the massive sell off, gold is still the most profitable investment year to date!

But gold will react over time to the debasement of the currency that must occur to support the fighting and offset the tremendous increase in commodity prices: in this case especially, in oil, feritlizer, refining processes and food.  All essential expenditures for the average citizen.

Already, this fighting has resulted in an appropriation of 200 billion dollars for supplemental spending.  That covers the first 4 weeks of fighting. (and this is on top of the current  trillion dollars of spending every 100 days.  The most in US history.)

Already the cost of oil has gone from about $60 to aboutn $100.  Just in the first 4 weeks of fighting.

The United States has stated it has already won the war.  Therefor, we must conclude that victory in this war will do nothing to slow down the pace of war spending, since we still need the supplemnetal 200 billion dollars. 

And victory has done nothing to open the strait of Hormuz, so we must conclude that they will stay closed.  Therefor, over time, affected commodities like oil, refining capacity, and food will continue to rise in price.  Subsidies to the 80 percent that lives hand to mouth will be required, just as it was during covid.

So when will gold start to reflect the resultant degradation of the currency?  Well, most obviously when the new Fed comes in, and the new Fed chair begins to cut in support of the war effort in spite of the rise in inflation.

Surely, he won't do that?

Surely, he will.  Otherwise he would have not been selected for the job.  The odds on a Warsh rate  cutting regime according to Polymarket are 87 percent.   I would place them at 100 percent.

But it won't take that long.  Because the war will reinforce for global central banks urgent need to continue to diversify away from the currency of the country that is waging this most destabilizing war

And most obviously the global rise in long dated rates puts massive pressure on debt service which necessitates ever more printing of currency to service the growing debt..

There's no timing for this type of situation.  But gold will resume its rise sooner, rather than later.  Not because ot the death and destruction.  Because of the expense of the death and destruction in a world economy already stressed by excessive debt.

WAR IS EXPSENSIVE -

 

The old saw is that gold is a safe haven asset.

Maybe. 

But event driven investing is short term.

Long term, Gold rises as paper currencies are debased.  This is just common sense.

And nothing debases the currency like War.  

If you look at the current war, missile drones cost about $20,000 to $50,000.  Russia and China can supply Iran with unlimited  missile drones.  The cost of the defense systems agains these drones - like the Patriot missile system costs a billion dollars for a the battery and an addtional 4 million dollars per missile.  If the US wants to continue to arm its Middle East allies against the Iranian barage, the cost will be astronomical.

That doesn't take into account the cost of mainting war ships in the gulf and sending our own fighter jets across the world to drop bombs.  Then there's expanding the military and getting troops across the world.  Maintaining supply lines...

Then there's the disruption of supply chains and the increase in commodity prices, especially oil price - even though, over long periods of time, energy is abundant.  It doesn't matter, because when there are big discruptions in supply chains the transporting of energy can become prohibitively expensive.

Then there's the loss of trust between nations.  This too is inevitable, and this has an adverse effect on the cost of doing business.  Treaties get broken.  Trade alliances are ruptured.

It's all very expensive. 

And where does the money to pay for it all come from?

We print it.  Plain and simple.  We print it.

That means everyone pays for it by having our currency debased.

It also means we have to issue more and more debt.  But as our society because increasingly belicose, we find there to be decreasing interest in other countries in buying our debt to subsidize our wars.  So we have to buy all of our own debt.  This debases the currency even more.

In fact, at some point this leads to hyperinflation.  If we're very lucky perhaps we can control that for some time by opting for a torpid stagflation.  That's really best case scenario, and we're not far off from it right now.

None of this is very controversial or original, but somehow it gets lost in the race to justify all the dealth and destruction.

If you can't see how that, over time, must incresase the value of Gold, well, then maybe you're better off buying something else.