From Risk To Instability: Gold Allocation Review

February 18, 2019

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From Risk To Instability

For much of Summer 2018 I wrote about the multiple market extremes that emerged, and the associated substantial increase in risk.

Shortly following, volatility accelerated higher and 2018 ended as one of the worst years ever, broadly defined for investment returns.

With the Fed raising rates as late as December 2018, not even bonds had good returns over 2018, while stocks and commodities started to respond significantly to the downcycle, and recorded widespread negative annual returns.

So far in 2019 I believe we have now recorded the fastest reversal I can find for the S&P 500 from extreme oversold to extreme overbought.

Instability is now a major feature of markets. The reasons and signals are not hard to find.

The US downcycle in GDP, CPI and earnings growth has begun after a 2 year upcycle.

As I wrote in September 11 2018, I expected that the down cycle could be beginning.

Now there is little doubt that it has. This is clear from earnings.

And for GDP, according to the NY Federal Reserve GDP peaked at 3.26% in Q2 2018. GDP now looks to be 2.23% in Q4 2018, and is currently at 1.08% in Q1 2019!

According to the BLS the CPI has also rolled over.

The speed of the downturn and its breadth should be a concern.

Central banks clearly signalled a more easy stance right near the end of 2018. Global money supply has taken off since then. The Federal Reserve started using the word “patient” as regards future interest rate rises are concerned, and the stock markets have bounced, with the S&P 500 up every week in 2019.

While central banks have been able to produce short term “saves” of the economy and US equity markets, what is far less certain is whether these constant central bank “rescue” policies work well in the long term.

I believe the evidence is beginning to turn heavily against long term central bank policy effectiveness. Across the globe 10 year revenue growth has declined significantly and relentlessly since 2008.

Although, central banks could never admit their policies are failing, what would be the biggest sign that they themselves have begun to realize that the writing is on the wall?

Huge and accelerating net gold purchases? The World Gold Council shows net central bank purchases in 2018 were the highest since 1967, the year before LBJ loosened the money supply link to gold reserves, and 4 years before Nixon cut the fixed price link of US dollars to gold.

Investors need to review their equity and gold allocation and overall strategy.

What percentage should you invest in equities, with a 10 year track record of declining revenue growth? Furthermore, this year the correlation with earnings expectations seems to have broken.

In fact US pre-tax profits have barely changed since 2012!

This is happening at a time when gold has made 2 higher lows since the 2015 low, and is now challenging the 5 year highs.

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