Debt Debasement Trades Deliver

The Debt Debasement Trade Continues

Gold and Bitcoin are making fresh record highs as the US dollar moves lower along with Treasury yields; moves accentuated by Friday’s payrolls data; whilst traders look ahead to tomorrow’s big inflation report from the US for the next bit of direction.

But why have we seen such a decisive move in these two rather different ‘hard’ assets when USD is still well above even the Dec lows and the 10yr is still north of 4%? This rally for defensive and speculative assets seems to be sending a mixed message about risk appetite. 

It’s not just inflation hedges. Equity markets also continued to advance into clear blue water – the DAX, Stoxx 600, ASX 200, S&P 500 and Nasdaq all notching new highs last week. 

Gold – Digital and Physical

For Bitcoin, you have the obvious catalyst of the SEC’s approval of a spot ETF, meaning investors can get easy access to it. It also tends to do well when the Nasdaq does well – Bitcoin could be riding on the coattails of the AI boom and is generally doing well when liquidity is ample. A halving is approaching, too – usually a positive.  

For gold, yields have come down a lot, the dollar has edged off, central banks are buying, and China is driving physical demand – but we are far from negative real yields. The 10-year TIPS is still holding around 1.8% - higher for longer has not taken the shine off gold in the slightest.

And DXY is only back to where it was in January and remains roughly 3.5% above last year’s lows and 15% above the 2021 nadir. Of course, it’s not just about absolute levels, the speed of change is important. But it’s clear that we are a long way off the kind of negative rates backdrop that would be considered more supportive of gold prices than a world of positive real rates.

Fuel on the Fire

I feel you must look at this ‘debt debasement’ trade – the US and others running ever-higher deficits, racking up more and more debt as they seek to finance more wars, ageing populations and unfettered immigration. And it seems there is little appetite in Washington to reduce government spending or raise revenues - the election this year has broad implications for markets.

I flagged this from BofA a couple of weeks ago: “US national debt rising $1tn every 100 days ($32tn to $33tn took 92 days, $33tn to $34tn 106 days, $34tn to $35tn will take 95 days); financing domestic bliss & overseas wars US budget deficit past 4 years = 9.3% of GDP … little wonder "debt debasement" trades closing in on all-time highs”

Geopolitical uncertainty looms over the trades. The relationship between real yields and gold broke down late last year – the inverse correlation weakened as tensions in the Middle East and elsewhere rose, with gold showing less sensitivity to yields and a greater safe haven premium. So maybe bond vigilantes might be quiet, but their concerns are showing up elsewhere.

A few months ago, I said; “We are entering a new long-term phase of global instability as the post WW2 consensus buckles under the strains of massive fiscal deficits, mass migration, ageing populations in the West and deglobalisation – a new paradigm.

Governments will raise more taxes, incur higher deficits and need to spend more on defence than they have done since the end of the Cold War. In a speech I cited many times over the last year, European Central Bank president Christine Lagarde warned of a world of “more multipolarity as geopolitical tensions continue to mount”. She was no outlier: talk about fragmentation and deglobalisation littered the speeches of central bank policymakers in 2023.”

At the time of this speech, I commented that it was “a signal that we are about to go into a protracted economic (and maybe real) war and it will require the mobilisation of the state and people – developed world central banks (Fed, ECB, BoE, BoC, RBA) will act together to orchestrate fiscal spending and suppress yields”.

I spoke to David Buik this week about whether deficits matter in the latest episode of Overleveraged.

Looking to the Data

Friday’s payrolls confirmed the trend – dollar, Treasury yields down, stocks and gold up. The yellow metal jumped sharply to a new all-time high, whilst the 2yr Treasury fell to 4.4%, the lowest in a month. DXY slumped to 102.30, the lowest since mid-January and after a brief recovery on Friday afternoon gapped down at the open this morning to 102.30 again.

As discussed on Friday, total nonfarm payroll employment rose by 275,000 in February, another hot reading vs forecast. But the unemployment rate increased to 3.9 per cent, worse than expected, seemingly down to people entering the labour market and finding it hard to get a job.

Revisions scrubbed 167k from the last two months – January alone was a 35% revision, which kind of makes a bit of a mockery of the data. Downward revisions say the labour market wasn’t as strong as thought, so all else equal the Fed ought to be objectively closer to a cut than we thought.

Wages were a tad lighter, up just 0.1% on the month, +4.3% from a year ago, down from the 4.5% gain in January. So, payrolls are still hot but trending towards higher unemployment and wage growth cooling – data moving in favour of a cut even if not particularly swiftly. Average workweek ticked up a touch but job creation still leaning more towards part-time jobs.

Elsewhere...

Stocks are flat in London this morning, down a bit in Frankfurt, whilst Tokyo led losses in Asia as the yen made fresh highs. WTI has broken below its 200-day line. Gold has pulled back a touch and Bitcoin roared past $71k.

Data this morning showed China exiting deflation – albeit perhaps temporarily. Tomorrow is the US CPI inflation report, which will be crucial for the market’s assumptions about a June rate cut. US consumer prices rose by more than expected in January, helping to push out expectations for when the Fed may start to cut rates.

There is a sense that the easy bit of grinding down inflation is over and what remains is stickier. Inflation in the US slid to 3.1% on a yearly basis in January from 3.4% in December, though this was above the market expectation of 2.9%. Core CPI rose at 3.9%, unchanged from December and above the 3.7% forecast.

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