Putin Is Going To Do What Is In The Best Interest of Russia – Marin Katusa


Marin Katusa
is the chief energy investment strategist at Casey Research and author of the best-selling book The Colder War.

In this video Katusa talks to Vanessa Collette about what he expected, and didn’t expect, about the collapse in oil prices and what it means for the global economy.

He also expands on how the latest oil price moves are just part of the long-term global fight for resources that he outlined in his book; how China and Russia are colluding on many levels to counter the west; and how Saudi Arabia could potentially be the black swan of this price drop.

Katusa rounds things out with some specific investment advice for volatile times.

 

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Border Gold Corp: A Long Bridge to Where?

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A Long Bridge to Where?

“The best the ECB can do is to buy time in the hope that other policy-making entities with better instruments will step in, both at the national and regional levels”

-Mohammed El-Erian, Former CEO of PIMCO

 There was certainly no shortage of action in the markets this week. Following a week when the Swiss France made a 30 per cent move in a matter of seconds, it would have been hard to believe we could match the week prior in terms of volatility and excitement. We are currently witnessing an undeniable shift in monetary policy. Six years since a financial crisis, and just recently the consensus was for an improving economy and a rising rate environment, but instead we are now seeing round two of central bank stimulus with a number of G20 central banks participating.

The surprise for the markets this week was provided by the European Central Bank. Somehow the ECB was able to deliver investors an open ended stimulus program that exceeded expectations. The oft-quoted Mario Draghi line from the summer of 2012 pledging to do whatever it takes to preserve the Euro finally came to fruition. The ECB President, Mr. Draghi and his team of central bankers delivered a US Fed style open ended stimulus aimed to buoy risk assets and support the sovereign debt markets of member nations. The question is, will it work?

The shortfall with Quantitative Easing in the United States was very simply the fact that there were no complimentary fiscal policies. Too many analysts and commentators concentrate on the actions of central bankers and whether or not there policies are justified. This is the wrong question to be asking.

A prime example of this was the Swiss National Bank’s decision last week to abandon the peg. Their balance sheet had grown so exponentially, and would have been under even more pressure to support the Franc given the action seen in the Euro this week. Abandonment was more an inevitability than a decision. And in the United States, 2008 and 2009 saw credit markets freeze and a slow response in terms of fiscal policies. The Fed bought time for the economy by keeping rates near zero, keeping downward pressure on long term debt markets, and an imperfect response, but created a wealth effect in the equity markets to hope for increased consumption and spending in the economy.

Similarly, the Europe Union will see similar outcomes, but faces similar challenges. Moreover, the situation there is posed as even more challenging given already politically unpopular and unfavourable policies and social unrest. One common example of this, and has been evident through the Euro Crisis is small businesses through Europe cannot get affordable credit and loans because the financial institutions don’t want the risk. The transmission of the process undertaken by the ECB to the financial institutions to the lenders is broken, and that’s just one task to fix.

Mohammed El-Erian’s quote above addresses the shortfall in the ECB’s policies. Many have referred to these coordinated actions by central banks as building a bridge to nowhere. I don’t like to be that pessimistic. But the point is that monetary policy will not be a sufficient solution to spurring economic activity should they not be accompanied by policies from fiscal and regional levels of government. Time will tell if my views will have to shift.

Border Gold Corp: Cutting Their Losses, Early

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Cutting Their Losses, Early

The Swiss National Bank (SNB) shocked currency markets Thursday of this week with a policy decision that crippled the Euro-Franc cross. Their announcement sent the franc soaring 30 per cent against the euro before settling lower, (still 16 per cent stronger) into the end of the week. This was as the SNB abandoned their 1.20 franc peg they’ve been defending since September of 2011, coincidently when the gold market peaked at over 1,900 USD per ounce.  The decision by the SNB has far reaching implications for not only financial markets, but also for when policy becomes exhausted and policy makers themselves are rendered helpless.

The move in the Swiss franc really demands the attention of investors as it is one of the biggest, if not the biggest, single day move from a liquid western economy’s currency in modern time. Beyond the questions of the stability of financial markets and the overleveraged and crowded trades that amounted to millions of dollars in losses for investors, there are the direct losses to Swiss businesses and the Swiss economy as their exporters are heavily linked to and trade with a European market. As well, the price adjustment in the franc reminded all investors of a bid for haven assets as even gold ended the week 4.5 per cent higher.

The SNB’s decision to abandon the peg to the euro ultimately came down to necessity. The commonly watched EURUSD is down over 15 per cent over the last year, and pressure on the euro continues for multiple reasons. The first is simply the threat of deflation to the Eurozone. Stagnant growth and the trap of weak business investment and broken fiscal and monetary policy have the region looking hapless. Then if we include the probability of the European Central Bank embarking on an episode of quantitative easing and factor the likelihood of a Greek exit from the currency union, there are many downward pressures on the euro.

The Swiss franc faces the same appreciation pressures as almost all other currencies that trade directly against the euro. In order to defend their peg they’ve been maintaining for over the last three years, they had to expand their balance sheet (print francs) and buy euro denominated assets. The balance sheet of the SNB relative to the GDP of the Swiss Economy has expanded so drastically they are now the largest of any western central bank at around 80 per cent. By comparison, when the US Federal Reserve saw balance expansion to 4 trillion USD during the process of Quantitative Easing, their balance sheet to GDP ratio was around 26 per cent.

The threat for the SNB was that the size of their assets on their balance sheet would soon dwarf their economy, and their large proportion of assets denominated in euros would too heavily impact their economy from fluctuations and volatility in the euro exchange rate. As is the case with most exchange rates pegs, the market forces will eventually takeover and the outcome that the policy makers had been trying to avoid (like an overly strong franc) becomes reality.

As we see central banks like the ECB and Bank of Japan make moves that increase their influence on financial markets via balance sheet expansion, questions center on the idea of stability. Furthermore, was the market action Thursday a “one-off’, or are we amidst an environment that is setting itself up for snap price adjustments that leave investors too slow and unable to react?

Border Gold Corp.: A Longer Term View

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A Longer Term View

Following a year where US equity markets found the ability to overcome a Russian invasion of Ukraine, a tremendous decline in oil and commodity prices, and policy uncertainty in the major economies of the European Union and Japan, investors have to question whether the same resilience can hold through 2015. Renowned bond fund manager Bill Gross asked a similar question this week in his monthly investment outlook, taking a look at the year ahead and then suggesting we are now at an inflection point where the western world’s troubles of slowing economic growth can no longer be solved with debt creation and money printing. Consequently, 2015 will be a year for losses in most asset classes as capital looks for a new harbour that can produce positive returns.

The first full trading week of 2015 certainly complemented this story quite well. Violent selloffs in North American equity markets recorded the worst start for North American stocks since 2008.  But it begs the question whether markets are destined for a year of negative returns as Mr. Gross suggests, or can they overcome the crippling factors of deflation in Europe and a weakening emerging market picture along with declining commodity prices.

It’s difficult to imagine in such an interconnected global economy how the US is able to decouple itself, and avoid the perils of economic headwinds originating from outside North America. It is a much different scenario than a few years ago when North American markets were much more vulnerable to fragility of the European economies and the systematic risk of a sovereign debt crisis. Turmoil in peripheral European countries seemed to reap much more havoc than the effect we’ve seen recently. Perhaps that was because of the interconnectedness of the debt crisis. Whereas today, Greek snap election called for later in January do not raise as much fear because bailout loans to the IMF are close to being paid back and Greece’s problems too many extents have been contained to Greece.

But as the European deflation fears once again present themselves (as was reported midweek for the first time in 5 years), the idea of a system wide issue now comes forward again. Mario Draghi and European Central Banks ultimate challenge will be preventing a deflation scenario in Europe, and time does seem of the essence. There has been no change to the fact that unemployment rates remain elevated across the peripheral Eurozone and particularly for the younger demographics. Investment suffers not only from the prospects of subpar returns, but also from the perspective of currency risk as the euro lost approximately 13 per cent in 2014. The paramount example is that German 10 year bunds are yielding less than half a per cent as the trend continues lower. Growth prospects continue to diminish.

Whether or not the North American markets perform in the short term will be determined by investors comfort with their volatility. At this point, six years into a bull market, it’s about the longer term view. Above all else, the number one consensus call a year ago as 2014 began was that interest rates in the US were going to begin to creep higher. And perhaps to the surprise of many, longer term bonds were one of the best performing asset classes of the last year. The consensus was wrong. Interest rates were supposed to move higher because of improving prospects for long term economic growth. Instead, they moved in the other direction.

With all the caution and some pessimism from respected analysts such as the aforementioned Mr. Gross, gold is catching a bid and is moving somewhat in tandem with a stronger US dollar.  This could very well be that the US dollar is in for a rest and a bit of a pullback from recent levels which would add to gold’s punch.  The biggest worry going into the second half of 2015 could very be the rekindling of the sovereign debt crisis and this time it will be much more difficult to paper over.

 

Border Gold Corp: Divergence Part II

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Divergence Part II

The focus of financial markets has certainly stuck with the fallout in the price of crude oil, and rightly so as its impacts will be far reaching from global economic growth projections to domestic monetary policy. One thing that’s seems to be lost, however, is not the over excitement of lower energy prices putting approximately $75 billion back in US consumers wallets and a similar story around the globe. Instead, what’s missing is the lack of focus going to a diminishing global growth picture out of emerging markets and a continuing weakening demand for crude oil and energy. The story with oil and lower prices warrants as much concern over weakening demand as it does over a supply glut, and the price action to end the week in all markets illustrates that.

This week for the markets was a classic risk off environment with equities and commodities ending the week lower and bonds and the US dollar moving in a positive direction. Unfortunately, as optimistic as most have been over the positive benefits of lower energy prices, the financial markets are tied too closely with the pressure of falling oil prices. Concerns particularly over the balance sheets of a number of oil producers, and in particular their debt loads, have sparked fear over the stability of the resource sector, and leave investors puzzled. In a week that already saw oil prices fall 12 per cent, at what point will this market find stability?

The other factor to key in on was a report released at the end of the week from the Paris based International Energy Agency that said demand growth for crude oil next year would be less than a million barrels a day. This is driven by weaker outlooks for countries like Russia, China, and Brazil, and the prospects of a strong dollar stunting other emerging markets. The strong dollar impact on emerging markets has the potential to be somewhat far reaching.

A number of the emerging economies of the world benefitted tremendously during the aftermath of the financial crises as the US Federal Reserve’s weak dollar policies caused exchange rate appreciation in their markets, which not only made them attractive for capital investment, but also lower their import costs. Essentially, in today’s market we are seeing the opposite. A strong dollar is increasing the burden of their US denominated foreign debts and increasing the cost of the raw materials they purchase to fuel the growth of their economy. Emerging economies do not see the same benefits of lower energy prices that those of advanced Western economies might.

Looking to next week (FOMC meeting Tuesday-Wednesday) and beyond, investors will be looking for an answer as to what impact this has on fed policy. Expectations vary from March until about September for when the Federal Reserve will begin to raise their key policy rate. If they drop the “considerable time” phrase from their statement when referring to the duration of a 0 to 25 basis point fed funds rate is something that could support a move sooner rather than later.

Last week I wrote on the topic of divergence between North America’s economies and the rest of the world, and its impact on financial markets. It’s a topic that was further explored by many economists and commentators this week. The question is whether this sharp drop in oil prices keeps the fed at bay because lower energy and producer prices keep downward pressure on inflation, and the global economy poses too much of a risk, or does it accelerate the likelihood of this divide?

Border Gold Corp: Divergence

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Divergence

With less than a month to go in 2014 investors are faced with the question, what gives? The relationship that exists between an expanding global economy and the demand for its natural resources from the emerging markets is absent. As we’ve witnessed, equity markets have snapped back since their recent correction with the broader S&P 500 back up over 14 per cent since the mid-October low. Moving in the other direction, however, commodities have fallen roughly 8 per cent and much of the leg lower exacerbated by the steep decline we’ve seen in the price of crude oil.

Longer term interest rates and those in that asset class that have been forecast to be creeping higher this year continue on their lows. The expectation was for a US 10 Year Treasury yield over 3 per cent at the beginning of the year, and it seems about as distant as the time past since the forecasts were made. Yields have tracked down around 2.25 to 2.5 per cent.

The conundrum is simple. We’ve had a six year rally in the equity markets, particularly in North America that has been accompanied by subpar growth around the level of 2 per cent. And while the financial markets have taken off from the lows of 2009, it’s the economy that’s lagging and there is a continued divergence between North America and the rest of the world.

As North America advances, economies like Japan and the countries of Europe remain stagnant. Furthermore, they create headwinds for the rest of the globe. This is especially true for a country like Canada as we are linked to and rely on a strong network for global trade. And it’s the divergence that’s taking place between the commodity and stock markets that’s illustrating this concern.

There is more to the story of the weakening commodity markets then simply a global supply glut. Demand for the world’s resources is diminishing with the prospects for global economic growth. And since in part this bear market is being driven by a weak outlook from China and other emerging economies, it raises the issue of which direction the global economy is headed, and whether this ‘America on its own’ rally is really sustainable.

The other question to ask is what’s currently driving this equity market higher. Support for stock prices is continuing off a theme of last year, and that is buy backs and dividend hikes from cash rich American corporations. Pair that with fixed-income investors looking for alternatives to a low interest rate environment, and there’s no question as to where the demand for equities is coming from, but it circles back to idea of sustainability.

The real economy is what needs to catch up with the market at this point. Investors are looking to the labour market and whether wage growth will finally expand beyond the mediocre 2 per cent level, barely keeping pace with inflation. Quite possibly, this will likely come in the new year following a period when workers traditionally see raises. If that’s the scenario, with the strength in November’s payrolls, the Fed may stand ready to begin to raise interest rates sooner than expected. But before we get too excited on what’s going on in the US, let’s think of the message of what this weak commodity price story is really telling.

 

Border Gold Corp: Swiss Votes… No

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Swiss Votes…No

In the wake of the Swiss referendum on whether the central bank should increase their allocation to gold, investors are tasked with the question, is the no vote yet another reason to be bearish on gold at present time. Voters clearly rejected the question of whether the Swiss National Bank (SNB) should hold at least 20 per cent of their balance sheet in physical gold, which would have lead them to the purchase of 1500 metric tons over the next five years.

Even though some gold bugs were clamoring on this vote as a reinforcement for responsible management of a country’s currency, especially in the wake of quantitative easing and rapid expansion of the monetary base in countries like the US, Japan, and potentially Europe, this vote was more about anti-EU sentiment and the euro’s influence on the Swiss Franc. In the near term, its certainly possible some noise or gyrations leads the market to react to the “No” vote and we may see prices trade lower, but it too remains consistent with a strong US dollar trend that is yet to see gold return as that safe haven asset.

Citibank’s Willem Buiter made headlines this week leading up to the vote as he strongly advocated for the “No” position. It shouldn’t really come as a surprise that like-minded academic economists believe in leaving the autonomy of central bank operations with the people who manage that institution and not subject to populist regulations. Especially because a central bank is in place to instil longer term views than perhaps myopic policy decisions witnessed in different levels of politics.

Buiter, however, did stress one key point that it’s important for even those in favour of the floor on gold reserves, and that is requiring a central bank to hold a minimum amount of gold ultimately decreases the values of those gold holdings to zero. As we know, gold standards ultimately fail. As the Citi Global Economist said, gold has been in a 6,000 year bubble, arguably making it the longest-lasting bubble in history, but that’s not really a surprise. A bubble is anything that is priced above its intrinsic value.

The intrinsic value of gold is something that economists have been trying to put a mark on for years. The typical arguments when comparing it to another financial asset are it doesn’t produce cash flow, and not providing any right to future earnings or repayment minimize any fundamental value it might have. What we do know about gold is that history has proved it to be a commodity that is tied to the global monetary system, and its limited supply and negative correlation to the world’s reserve currency make it a popular hedge when diversifying a portfolio.

Inevitably, the price of gold might be the longest bubble in human history, but if that is indeed the case, what will change that? The famous words of former US Federal Reserve Chairman, Ben Bernanke during a senate testimony were, “no one really understands gold prices.” That’s because how we value or price assets in today’s financial world doesn’t apply to gold. Gold is and always has been a hedge. Setting a predetermined or fixed allocation of a balance sheet to gold will ultimately devalue it because it takes that metal out of the market permanently, and the price adjusts. But gold’s flexibility and role in a dynamic investment environment, as we are in today has been proven over the life of its 6,000 year bubble.

 

Border Gold Corp: Geopolitics Plays Interference

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Geopolitics Plays Interference

It seems that once again the direction or trend playing out in the markets has been interrupted by geopolitical tensions heating up between Russia, Ukraine, and the Western powers. Precious metals finished the week on higher footing, with gold initially touching below 1,150 USD this past Friday morning, but going on to finish the day approximately 40 dollars higher just shy of 1,190 USD. The predicament for those who have been anticipating a bottom in the precious metals is determining whether or not this is simply just noise that will once again wash through and see the trend of a stronger greenback and weaker precious metal prices continue.

If weeks prior can provide any indication for what Russia-Ukraine tensions mean, it’s that they have led to unsustainable rallies in the metals market. The escalation of sanctions and threat of increased violence simply subside with time, and metals prices tracked lower accordingly. Thus, a suitable question becomes why does the market again react to similar events we have witness play out before if inevitably, time will pass and they will soon be forgotten?

For certain the liquidity of the gold and precious metal markets is one factor for the surge in prices as the relatively smaller market becomes a very quick and instantaneous hedge for the US dollars and risk assets. Short term investors or traders are less concerned about the price level of gold, but instead will go long gold as it  exhibits its safe haven characteristics during these time periods.

Perhaps another reason though is the ongoing uncertainty surrounding the Russian economy. And although what we are currently witnessing with Russia is simply antagonizing tactics with Ukraine, the likelihood of escalation of sustained violence (or war) becomes more and more likely as their economy worsens. The Russian Ruble has depreciated 23 per cent against the US dollar over the past three months. Inflation becomes a huge issue for the Russian consumer with prices up nearly 8 per cent over the last year, and it is a trend that is likely to continue as the economy is extremely dependent of imports of food and agriculture as they are unable to substitute for what is inadequate domestic production.

As the Russian economy gets choked off from the rest of the world, and it’s the citizens that feel the brunt of the pain and suffering as their lifestyles adjust to a weaker economy that makes the majority of them worse off, options become limited. The uncertainty, which is very much priced into the market for Russian Rubles, and attracting a safe haven bid in precious metals, is how far into a corner is Putin backing himself, and what will be the repercussions of his actions.

And one potential repercussion becomes, as the media has been questioning, the likelihood of another cold war. Ongoing and increased sanctions with Russia are slowly cutting the economic ties to the west. It’s not without coincidence that the largest buyers of physical gold in the last quarter were Russia, Kazakhstan, and Azerbaijan. But all central banks in aggregate have bought gold now for 15 consecutive quarters. These are the long terms investors, and as one UBS analyst put it, in this kind of environment, “diversification would be deemed a logical outcome.”

 

Border Gold Corp: Game Changer

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Game Changer

Friday was the best single day for gold in 14 months. This is as the markets seem to be playing a risk-on, risk-off tug of war with the US dollar. Despite the strong dollar trade dominating as we witnessed through the beginning of the week, it corresponded to the weakness in gold. The pullback we witnessed in the dollar into the close Friday stems from concerns over what may be the repercussions of a strong dollar for the US economy. Without doubt though, the trend is and has been for lower gold prices. A key day for the gold market was when we swiftly broke the 1181 USD support level, which the market had tested on three prior occasions beginning in June of 2013. As this was the first time the market has been sub-1180 since mid-2010, the physical markets were and are awash with new buyers.

As we learned over the last few weeks, despite the US Federal Reserve calling an end to their current round of experimental monetary stimulus, the game still lives on outside of North America. Although it certainly seems plausible that quantitative easing from the US Fed could make a return should the US economy warrant it, focus is what central banks are doing outside North America, particularly both the ECB and the Bank of Japan (BoJ).

The Bank of Japan shocked the markets into the end of last week as their governor, Haruhiko Kuroda, announced it will increase its purchase of government bonds from 50 trillion yen a year to 80 trillion. This was announced in tandem with the Government Investment Pension Fund announcing they’ll double their allocation to domestic stocks. The BoJ in essence is crowding savers out of an already conservative investment environment that is Japan. And although the BoJ and GPIF are putting through initiatives that will perhaps help Prime Minister Abe generate that desired 2 per cent level of inflation, uncertainty remains whether it can be successful.

The lingering question is what will be the impact on Japanese savers who do not see the same availability of government debt to purchase and hold. Will they seek out riskier assets, like equities, as was witnessed in the US through QE? Or, is this another factor supporting a strong dollar trade that sees the Yen sold for the alternative of being positioned in US assets, and the benefit of the deepest most liquid capital and treasury markets in the world?

At a conference this week hosted by the Bank of France, former PIMCO CEO Mohammed El-Erian made some very revealing comments. He said, “this is a world which places too much of a burden on central banks. This is a journey, not a destination. If the journey lasts too long, central banks go from being part of the solution to perhaps being part of the problem.” For the moment, only time will tell how this all plays out.

However, if El-Erian’s assertions prove to be correct, than those buying gold at these levels may be one step ahead of the pack if in fact Central Banks continue on their current path. And at this point there is absolutely no reason to think that they won’t.

 

Border Gold Corp.: There Will Be Haircuts

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There Will Be Haircuts

It’s puzzling why Europe is more an issue now than it was a few months ago. It seems the market has finally come to grips with the fact that their economy is stagnating, and hopes for growth are diminishing. Disinflation remains a central issue to their economic union. Youth unemployment levels remain disturbingly elevated. And the structural reform and fiscal discipline that many had been looking to member governments to implement and abide by are still yet to be seen.

Even more alarming is that Europe’s second and third largest economies, Italy and France, are disregarding the fiscal agreements made with member countries to rein in their debt levels. The required ratio is to move debt to GDP back towards 60 per cent. France’s debt to GDP ratio is estimated to be near 96 per cent by yearend, and Italy is faring worse at 135 per cent and continuing to grow.

As troubling as the increasing debt levels seen in Europe have become, it’s the latest commentary on the region that represents a fifth of the world’s output that stems concern. The norm seems to suggest with certainty a likely scenario would be a stagnating Japan style economy for the years to come. Some mainstream media has gone even further to suggest something as drastic as a significant debt restructuring. But these really should not strike as anything new, as the ongoing problems have been evident all along. The fact of the matter is with Europe nothing has changed since 2008, and debt restructuring or defaults and the threat of deflation are just becoming that much more of a reality.

Deflation is the central fear in Europe as it could be the contributing factor to their third recession in six years. Some are quick to cite a similar Japan style situation where their economy moved past a deflation episode in the 1990’s, but the dynamics of the two economies are much different. Where with Japan, as the Economist notes, it was a “homogenous society” that was somewhat isolated from the rest of the world, whereas Europe is much more linked to the global economy through emerging markets, and thus contagion once again rears its ugly head.

The greatest fear though is whether their economies will attract new investment going forward. It seems inevitable that growth levels will have trouble measuring up against the debt overhang of the majority of their economies. Thus, the resulting question is how much of that debt could ultimately be subject to restructuring or haircuts. Already in mortgage markets in countries like Ireland, lenders are offering non-recourse loans that prevent lenders from pursuing the borrowers personally. Reckless lending practices are already coming back into place, where mismanagement of debt was the problem in the first place.

With a lack of coordination between fiscal and monetary policy, the negative outlook for Europe continues to weigh on financial markets. If the ECB were to embark on a QE style stimulus where they were to purchase sovereign debt, the question becomes whether that would make a difference and actually address some of the structural problems in their economy. As former Fed Chair Ben Bernanke remarked regarding his own experimental monetary policy, they would have to weigh the “benefits, costs and risks.”

 

Border Gold Corp.: Fed Free

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Fed Free

It’s a challenge to put a finger on what was the most significant event that took place in financial markets this past week. It might have been the price of crude oil further deteriorating to touch below 80 dollars a barrel for a brief instance on Wednesday, or the volatility index, the VIX coming within a hair of a 30 print. For certain, the most revealing of all markets was for US Treasury bonds as investors in a herd fashion reached for the safe haven and saw yields dip below the 2 handle and touch a low of 1.85 per cent. It is uncertainty that continues to be the theme that casts a shadow over economic growth prospects, but as commentators noted this week, investor complacency amongst the masses leading to excessive risk taking is what is fundamentally shifting these markets.

This correction we are witnessing in the equity markets almost seemed long overdue, and the supply glut in the global oil market was perhaps the catalyst that acted to push these markets over the edge. The S&P500 moving over 1000 trading sessions without seeing that down move of 10 per cent or greater has left behind a number of investors waiting to participate in the rebound of US equity markets, and as the buying that took place on Thursday and Friday of this week, and the speedy rebound (for the time being) highlighted how welcomed this correction was.

But perhaps there was another factor contributing to the turnaround we saw towards the end of the week, and it was inspired by comments from St. Louis Fed President James Bullard. Bullard made the point that the FOMC should remain adaptive to when they choose to end their bond purchase program, and even hinted that an end to Quantitative Easing, expected to be announced at the end of this month, could only be temporary as they stand ready to support financial markets and continue to artificially boost asset prices. Bring on the speculation for QE4.

Former PIMCO CEO, Mohammed El-Erian comments that investors should be careful what they wish for. One of Ben Bernanke’s famous quotes when justifying the Fed’s accommodative policy was that the benefits were always outweighing the costs and risks.  If the Fed was to embark on QE4, it would become incrementally harder for their policy committee to justify whether the benefits would outweigh the increasing costs and risks.

The US economy continues to experience record low interest rates. Falling oil prices will ultimately create yet another significant boost to an economy that is 70 per cent consumer driven and now sees gasoline prices 25 percent off their summer highs. And employment as a whole continues to see strong and stable growth above 220 thousand new positions a month. The takeaway though is not what’s driving the US economy via Fed policy. It’s how Fed policy is impacting financial markets, and that’s the reason for concern.

As has always been, the single biggest risk of the Fed’s accommodative policy is how investors have become dependent on their asset purchases in order to see risk assets trade higher. Thursday and Friday are further evidence of this. A sobering reminder comes with this, which is how overcrowded consensus trades have become, and really a question about how deep the liquidity or support in these markets really is when the majority of investors with the same mentality are all selling.

 

Border Gold: Global Slump

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Global Slump

There have been an increasing number of factors that have begun to put pressure on global financial markets. Just over the past week the International Monetary Fund once again revised lower their outlook for growth, and cited that the global recovery was relatively uneven between different geographic regions. This triggered yet another down move in energy markets, which translates to pressure on a number of smaller commodity based economies (like Canada) and emerging market economies. As well, the Fed released minutes from their September meeting midweek and cited concerns over a stronger US dollar, which led investors to briefly question the timing of the Fed’s tightening schedule. Finally, manufacturing data out of Germany signalled the Eurozone’s perhaps only remaining beacon of light may too be headed for recession.

The aforementioned reasons could all be factors that three years ago would be used to explain higher gold prices. That they are not today gives reason to believe that there will remain attractive buying opportunities in the months to come. Ultimately investors’ appetite for precious metals is not yet there. Gold, as we have witnessed, is not performing as its typical safe haven asset for capital, and part of the reason may still be tied to a loss of confidence following a year when the asset class of precious metals were nearly decimated and gold lost close to 30 percent. In a global environment where investors where holding gold for its relative stability, this traumatizing event would inevitability lead many to seek a safe harbor elsewhere.

The forward looking question though is can gold outperform the US dollar? As the IMF outlines in their most recent report, we remain in an unbalanced global recovery. As North American economists look to whether the US and North American economies can “go at it” alone, with 60 per cent of US exports destined for Canada and Mexico, the IMF, with a more international focus, is left to ponder whether US growth is strong enough to support the rest of the world. The scenario though with the United States acting as the leader and the first to step forward from accommodative monetary policy is the reason for the US dollar strength.

As we witness outside the US, Europe is at a near standstill and recent data seems to point to being on the cusp of a German recession. Brazil, who was once the poster child of the emerging market economies (the B in BRIC) is ahead of Germany now actually in a recession. Analysts continue to call for a slowdown in China as their GDP growth retreats from once double digits to below 7.5 per cent. Passing on the debate of whether the landing will be soft or hard, their demand for the world’s resources at this point seem to be tapering off. This leads to commodities.  We remain plagued with the uncertainty of where this global supply glut can meet a slumping demand.

Gold cannot behave like a commodity forever. Unfortunately, it seems it will until investor confidence is restored in its ability to act as a relatively stable asset that’s uncorrelated with most other markets, making it that ideal hedge. And as has been most often the case with the precious metal, its shine is revealed after its bigger moves rewarding those already holding it. Right now, however, it maintains it’s near perfect negative correlation to the US dollar, and any dollar strength is inevitability bad for gold in the near term.

 

#Canvest 2014 Toronto Interview

The first inaugural Canadian Investor Conference was a great success. Over 1200 people convened over the two days to listen to the top thought leaders in finance, resource, technology and venture capital opportunities in Canada. We were happy to film 19 interviews over the two days that we can now share with you. Take time to watch a few or simply hit the “Watch later” option in youtube to save them for later.

Enjoy

Border Gold-Oh, Flower of Scotland

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Oh, Flower of Scotland

Leading up to the referendum on Scottish Independence, one trader remarked “there will be blood on the trading floor Friday” if the Scots were to vote “Yes” and chose to break the 307-year-old union with the United Kingdom. That’s because money was already flowing back into the assets classes that were negatively affected by the uncertainty surrounding Scottish Independence on the basis that a “No” vote would ensue. Evidently, exit polls were giving traders enough information to bet the outcome. The money illustrated the results in Thursday’s referendum as the pound gained approximately 2 per cent from its lows of the week before votes had even been tallied. However, what later resulted was a clear “buy the rumour, sell the news,” as the pound gave back most its gains Friday morning.

The theatrics associated with the unknown outcome definitely took a toll on markets as we head into the tail end of the third quarter. But the underlying theme or message is certainly an important one as an astonishing 45 per cent of the population voted for independence in a referendum that saw approximately 85 per cent of their population participate. The message for those invested in financial markets is that populism has the potential to trump pragmatism when it comes to governance and economics.

Any economist leading up to the vote rationally stood on the side for Scotland to remain a part of the UK. The greatest concern, and one that could only be discussed hypothetically thanks to a lack of detail from Alexander Salmond, leader of the Scottish National Party, was what currency to adopt. With over 9 per cent of Scottish GDP coming from their financial services sector, and part of the benefit being that the pound still serves an important role as an international currency, how would the banks react? Initially Scotland discussed the idea of keeping the pound, an approach known as ‘dollarization’ where the pound still serves as the nation’s currency, but monetary policy and facilities like deposit insurance are not conducted or utilized in Scottish interests. All of these measures that promote stability and longevity in a currency, and thus become a harbour for capital and commerce would be jeopardized.

Other obvious issues surrounded the idea of disruptions to business and a worsening Scottish deficit.  Estimates had it that around 60 per cent of Scottish exports are destined for the other three countries in the United Kingdom. There lacked sufficient reasons other than a phoney idea of nationalism to put up a border only to disrupt trade flow and make moving goods harder for businesses.  Oil reserves in the North Sea were perhaps the saving grace for Scots, but when transfer payments from Westminster equaled the royalties received from North Sea drilling this year, and projections for North Sea oil are vastly diminishing, financing their 7 per cent deficit looks like a challenge. This compares to EU nations, which outlined by the Maastricht treaty look to maintain a deficit-to-GDP of 3 per cent.

There is the angle that it was the Scots incentive to fear Westminster with an independence vote to benefit more from government or take back more autonomy over more local issues of their economy, and the latter outcome will likely prevail. But the takeaway for investors has got to be the potential for instability in nations were a misguided millennial-inspired movement can have such a significant impact.

 

Border Gold Corp-Dominating Dollar

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Dominating Dollar

The resounding story for the markets these last few weeks has been the unequivocal strength of the US dollar. The dollar closed higher Friday for the ninth straight week as it continues on its best run in 17 years. This has been the move in the dollar that many investment professionals were looking for as they anticipated the US Fed to end their Quantitative Easing program and begin to raise the Federal Funds rate, but the move in the dollar really did not come to fruition until the latter half of this year. That, however, is not the only story that has been supporting the strong dollar trade as a number of both domestic and international factors are weighing in on the foreign exchange markets.

The international story is based on the action of western central banks. As the US has passed their inflection point from making policy more to less accommodative, the question through the end of the summer has been what future measures will be taken by the European Central Bank and Bank of Japan? And unfortunately for the Bank of England, despite efforts by Governor Mark Carney to talk up the pound, a referendum on Scottish Independence on the 18th of this month has substantially weakened the pound translating to a stronger greenback.

On the domestic side it’s perhaps investor’s lax expectations that shifted this market. The San Francisco Fed put out a paper this week looking at how investors and futures markets were anticipating when the Fed might begin to tighten policy and at what pace versus what members of the Federal Open Market Committee (FOMC) were actually saying in their most recent June meeting. What the San Francisco Fed found was that the market and investors are behind the curve in anticipating when the Fed will begin to raise rates. This is inherent in an expectation that the accommodative policy will be around longer than the Fed currently plans on delivering.

This all leads into what will be a very important week for the markets. The FOMC meets Tuesday and Wednesday, and following that on Thursday Scotland votes. No question, volatility which has been vacant from currency markets for so long is finding its way back. Accommodative policy from the world’s most influential central bank had dampened volatility from the FX markets. As we’ve learnt, this had an effect of suppressing and stabilizing interest rates at record low levels. But as the Fed shifts back to a less discernible role in the markets, volatility in currencies will begin to rise.

The unknown going forward is what it means for the US dollar, and commodity prices, along with equities and the outlook for earnings of US companies, with a foreign income stream. The same questions holds true for most other financial markets. A stronger dollar provides headwinds and at this stage the dollar looks like it will continue to dominate.