Don’t Be Lulled Into a False Sense of Security

Gold is ending the week on a solid note, back within striking distance of the $1802.80 peak from Tuesday. And as we discussed in Monday’s Daily Market Report, I’m really liking the technical setup I’m seeing in this market. I don’t find the midweek correction to 1735.55 in the least bit troubling.

There seems to be a growing consensus that the ECB is going to cave to political pressures and start monetizing EU periphery sovereign debt. In other words, they’ll print euros and use those euros to buy Greek, Italian and other bonds, much as the BoJ, Fed and BoE have already printed their respective currencies and bought assets. Of course the structure of the eurozone and its central bank pretty much precludes such measures; something that Bundesbank President and ECB council member Jens Weidmann has been shouting from the rooftops this week, suggesting there may indeed be a big push underway. I suppose it’s ultimately easier to ask the Germans for forgiveness than permission.

Not surprisingly, assets in general, seem to love the notion of even more liquidity flooding into the system. Estimates of what it will take to save Europe range broadly from €1.5 to €2.5 trillion. The mess that is Europe is certainly a driving force in the gold market of late, and the USAGOLD – Breaking Gold News page has been positively humming this week with plenty of reasons for gold investors to pick up the phone and call their brokers,

Gold traders most bullish since ’04 on debt crisis
Investors in India pouring record amounts into gold
Option traders placing big bullish bets on gold — biggest since just before the last big run-up
China’s gold imports jump sixfold

…just to name a few. Yet there is a distinct lack of urgency, reminiscent of the lull before the storm in 2008. I think this paragraph from an Ezra Klein column on Thursday sums it up nicely, although we here at the USAGOLD office had the exact same conversation earlier in the week:

As in 2008, we’re entering another period in the global economy where the unthinkable might actually happen. But we don’t seem to be thinking about it very hard. When you talk to participants in the 2008 financial crisis, they lament the seven months between when Bear Stearns fell and when Lehman collapsed. It was wasted time, they’ll tell you. We saw the crisis beginning and we had time to prepare for it but we did nothing of the kind. Everyone wanted to believe it would be alright, that we could go on pretty much as usual. Much as we’re doing now.

Don’t let yourself be lulled into a false sense of security simply because the DJIA remains buoyant on expectations of ever-more easy monetary policy. With gold more than $100 dollars off its all-time high, now is the time to prepare. Now is the time to act.

10-Nov (Bloomberg) — James Rickards, senior managing director of Tangent Capital Partners, talks about Federal Reserve monetary policy and the possible impact on the U.S. economy.

Rickards also discusses the gold standard and his book “Currency Wars: The Making of the Next Global Crisis.” He speaks with Deirdre Bolton on Bloomberg Television’s “Money Moves.” James Grant, publisher of Grant’s Interest Rate Observer, also speaks.

PG View: This is a great interview with two of the smartest guys in the financial business. Watch it!

11-Nov (Bloomberg) — “Gold traders and analysts are the most bullish in at least seven years as investors accumulate metal at the fastest pace since August to protect their wealth from a widening European debt crisis.”

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MK View: This goes with the other two posts I made late yesterday about the demand undercurrent now at work in the gold market. To some extent, it may have surfaced today with the strong rallies in both gold and silver.

11-Nov (USAGOLD) — Gold is retracing recent corrective losses after failing to sustain tests above $1800 earlier in the week. The US Treasury market and the Fed are closed today in observance of Veterans Day. All other markets are open.

While the political situations in both Greece and Italy may be stabilizing, the underlying issues are far from being resolved. Implementation of the 26-Oct troika bailout proposal — which is the first task of the new Papademos government — will pretty much condemn Greece to years of economic stagnation and high unemployment. Meanwhile, the Italian Senate has approved a new austerity plans, which will have a similar impact and may actually make the country’s budget woes worse; as economic contraction, driven by those austerity measures, negatively impacts tax revenues. They’re pushing on a rope.

European officials has apparently rejected Chinese conditions for their further participation in the bailout of the Continent. “We are willing to help, but we are not a charity,” a source with ties to the Chinese leadership told Reuters. Chinese demands included greater influence with the IMF and a “more rapid path to inclusion of China’s yuan in the IMF’s special drawing rights (SDR) currency unit,” market economy status with the WTO and an end to the European arms embargo.

You mean China isn’t going to help bailout Europe purely out of the goodness of their collective hearts? Shocking!

• UK PPI output prices ease to 5.7% y/y in Oct, below market expectations, vs 6.3% in Sep; input prices moderated to 14.1% y/y.
• Spain Q3 GDP – preliminary (sa) unch, vs 0.2% in Q2.
• India industrial production falls to 1.9% y/y in Sep, vs negatively revised 3.6% in Aug.
• Hong Kong Q3 GDP tempered to 4.3% y/y.
• China Oct M2 +12.9% y/y.
• BoK holds repo rate steady at 3.25%.

On behalf of everyone here at USAGOLD – Centennial Precious Metals, a heartfelt thank you and wishes for a happy Veterans Day to all that have served our country.

11-Nov (UK Express) — “PREPARATIONS were under way last night for the break-up of the euro as Europe’s debt crisis spiralled out of control. . . Ministers are understood to be deeply concerned that French President Nicolas Sarkozy and Germany’s Chancellor Angela Merkel are secretly plotting to build a new, slimmed down eurozone without Greece, Italy and other debt-ridden southern European nations.”

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MK View: The talk today is of a “slimmed down” eurozone led by Germany and France. Italy, Greece and other miscreants would be expelled. The problem with this line of thinking is that it doesn’t rid Europe of debt contagion problem. A “slimmed down” version of the eurozone is just as vulnerable as the plump version that exists now. Does anyone believe that the debt problem in any of the GIIPs (which were PIIGS before the term obviously became politically incorrect) will suddenly vanish through some political sleight of hand? Demonizing Italy, Greece and the rest for their political failings disguises neither the same deficiency in the rest of Europe nor the full brunt of the interlocking sovereign debt problem. The problem in Europe’s banking system transcends all borders — old borders, new borders, slimmed-down borders, plump borders. The gold market will recognize this latest political dance for what it is and act accordingly.

This New York Times graphic says it all:

11-Nov (CNN) — Economist Lucas Papademos was formally sworn in Friday as the head of Greece’s new unity government, as the nation seeks to regain political and financial stability after weeks of uncertainty.

Papademos, a former banker and European Central Bank vice president, becomes the country’s interim prime minister after several days of political wrangling.

…Papademos pledged the new government’s chief task will be to implement a bailout package and austerity measures agreed to with European leaders last month.

[source]

11-Nov (CNN) — The Italian Senate passed a series of austerity measures Friday demanded by Europe, as it seeks to ward off fears of a debt-driven crisis.

The package was approved by 156 votes in favor to 12 against, with one abstention. It only had to be passed by those of the 320 senators who were present for the vote.

The lower house, the Chamber of Deputies, is expected to discuss the measures and vote Saturday.

Prime Minister Silvio Berlusconi is expected to step down after the austerity measures are adopted by both houses.

[source]

11-Nov (Reuters) — Diplomatic deadlock is curbing China’s will to provide cash to help end the euro zone crisis after Europe spurned the simplest of Beijing’s three key demands, two independent sources have told Reuters.

China had offered help in return for European support to grant it either more influence at the International Monetary Fund, market economy status in the World Trade Organisation, or the lifting of a European arms embargo, said the sources, both of whom have direct knowledge of the matter, including one who has ties to the leadership in Beijing.

…For their part, some European policymakers are irked by what they call the opportunism of China’s apparent wish to trade some of its vast foreign wealth for increased influence.

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PG View: I suggested earlier in the year that the Chinese likely had an agenda in playing the role of Europe’s white knight. That agenda is starting to be revealed.

10-Nov (Bloomberg) — Investors in India are withdrawing from government bonds and national-savings schemes to pour record amounts into gold.

Funds that invest in sovereign debt shrank 4 percent from a month earlier to 30.2 billion rupees ($606 million) in September and those that buy gold rose 8 percent to an all-time high of 81.73 billion rupees, according to the Association of Mutual Funds in India that is also known as AMFI. Individual investors withdrew 78.7 billion rupees between April and September from small-savings deposit plans such as those run by post offices, the most since at least 2000, government data show.

…“There is asset-switching, and people are betting more on gold as it is a safer asset and offers a hedge against India’s high inflation and the economic uncertainty affecting the world,” Debasish Mallick, the Mumbai-based chief executive officer at IDBI Asset Management Ltd. that oversees about $1 billion, said in an interview on Nov. 9. “Investing in gold is a very prudent asset-allocation strategy.”

…“Inflation is running ahead of bank deposit rates,” Ritesh Jain, the Mumbai-based head of investment at Canara Robeco Asset Management Ltd. that oversees about $1.75 billion, said in an interview on Nov. 9. “People are seeing the value of their money eroding. There is still enough juice in gold to continue to attract investment.”

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PG View: One of the driving forces of gold demand in India is “inflation is running ahead of bank deposit rates.” In other words, real interest rates are negative and the rupee deposits of savers are losing value. Indian savers are turning to gold as an alternative means of savings. Über-easy monetary policy here in the US has resulted in negative real interest rates as well, so if you’re sitting on a bunch of dollars and are disinclined to watch their purchasing power erode away, you should be looking seriously at saving in gold too.

“Investors in India are withdrawing from government bonds and national-savings schemes to pour record amounts into gold.”

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USAGOLD comment: Indian demand has also served as a precursor in the past to larger global movement into physical metal. Savings withdrawals in India are the largest since 2000 — just before the long-term bull market in gold began. Similar reports are circulating from China. Imports from Hong Kong jumped a record 30% in September according to a Bloomberg report. Chinese investors like to buy when things are quiet, and right now things are quiet. But as the previous post indicates. . . .perhaps not for long. ( I wouldn’t be surprised to hear a couple of months from now that it was Chinese investors buying on the dips over the past 30 days.) Lance Roberts, Streettalk Advisors, sums it up: “The turmoil in Europe has brought the fear trade back to gold.” Nothing moves gold market demand like concern about the financial system, and more often than not in this bull market run, it has been demand from China and India on the dips that has led the way. MK

Nov. 10 (Bloomberg) — Gold options traders are placing the most bullish bets since August as Europe’s debt crisis spreads. . . Demand for calls on the gold ETF, the world’s biggest exchange-traded product backed by precious metals, has surged to the highest level since Aug. 8. That day, the ratio jumped to a one-year high of 1.57 on the first trading session after Standard & Poor’s stripped the U.S. of its AAA credit rating. (Ed. Note: That ratio of calls to puts is now at 1.5 calls to 1 put.)

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USAGOLD comment: If you look back at the price of gold on August 8, 2011 (the reference point for this article), gold was just under $1700 sitting on the tarmac revving up its engines. A month later the price surpassed the $1900 per ounce level, and as this article points out, the big jump in the call/put ratio preceded the surge in prices. The market senses trouble brewing. . . . . .more so than at any time since early August. MK

10-Nov (USAGOLD) — Gold has turned to corrective after failing to sustain upticks above $1800 earlier in the week. There is some sense of relief that at least Greece has its new leader, but an interim unity government is certainly on a cure-all for all that ails Greece. Despite doubts that arose yesterday, it is former ECB vice president Lucas Papademos that will take the helm of a country in financial turmoil. The first order of business is to push the latest 26-Oct EU bailout proposal through Parliament. Of course the question is — and I’ve made tongue in cheek reference to this in recent reports — is this a troika puppet government, doing what’s best for the eurozone as a whole? Or, is L-Pap doing what’s best for Greece? Or is what’s best for Greece, what’s best for the EU? In other words, confusion still abounds.

Former European Commissioner Mario Monti seems to have emerged as the frontrunner to succeed Silvio Berlusconi as Prime Minister of Italy. Acknowledged as a “technocrat” with “connections at the top levels of European policy making,” again one has to wonder where his true allegiance might lie.

Interestingly, ECB Board Member Bini Smaghi announced that he was resigning today, apparently succumbing to the sentiment that there were too many Italians on the board since Mario Draghi took over the reigns of the central bank. It was Dutch Finance Minister Jan Kees de Jager that launched the anti-Italian sentiment earlier in the year when it became clear that Draghi was the favorite to replace Jean-Claude Trichet as ECB President, saying, “An Italian will have to go because there is already an Italian on the board and he should be replaced by at least a French national.” It will be interesting to see who is tapped as Smaghi’s replacement.

There was some talk that Italy was selling gold this morning. I initially heard it from a very reliable source, but I have my doubts. Beyond a desperate need for liquidity — and Italy may well fall into that category — I don’t know why anyone would be looking to sell such a valuable asset right now if they don’t have to. If core-Europe overlooked Greece actually adding to their gold holdings in the midst of their crisis, I’m not sure why Italy would be treated any differently. And as China made quite clear in September (China’s gold imports jump sixfold), there’s always going to be somebody happy to take the other side of the trade if a sovereign is forced to sell.

08-Nov (Forbes) — After an intense day of investigation, I have just discovered that a CFTC rule(1.29) allowed Jon Corzine’s MF Global to use the margin and cash in customers heretofore segregated accounts to amass a risky $6.3 billion investment in European sovereign debt that backfired. Nor did Corzine have the obligation to inform any of these customers he was gambling with their money. Or that he was intending to keep all the profits for himself and his troubled firm. Nothing for the customers.

The language of Rule1.29 allows “The investment of customer funds in instruments described in 1.29 shall not prevent the futures commission merchant (MF Global) or clearing organization so investing such funds and retaining as its own any increment or interest resulting therefrom.” Increment refers to any trading profits or gains.

The criminal division of the Justice Department in New York — as well as the SEC and the CFTC and members of Congress– are investigating whether any laws were violated and if so, whether any criminal charges can be brought. As of 3pm today, there has been no sign of the missing $633 million. My sources believe it was probably grabbed by the institutions that made the margin calls on MF Global as the European bonds sank in value.

This shocking loophole, which is available to all commodity traders, whether giant ones like Goldman Sachs or members of commodity exchanges, means that huge risks are being taken with money that does not belong to the trading firms– without the customers having any idea of the danger they are in. As Andy Abraham, a futures trader in Israel put it to me today; “this means they can take segregated funds and leverage them to kingdom come. It means nothing is safe.”

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PG View: Yet another glaring example of the counter-party risk that is seemingly ignored by many investors. That’s why when it comes to gold at least, you buy physical metal for delivery and keep it in your own procession. It’s one of the only ways to invest where your asset isn’t simultaneously a liability on someone else’s books.

10-Nov (WSJ Blogs) — There was a time, not so long ago, when talking about the vague chance that the euro could one day possibly, maybe break up was heresy.

For analysts and investors, it was seen as more than their job was worth. No one, particularly at a European bank, wanted to put their neck on the line by voicing the unthinkable. And no one wanted to put more strain on already-frazzled market nerves.

“It’s like shouting ‘fire!’ in a crowded cinema,” said one veteran market observer in mid-2010.

But now, suddenly, euro disintegration is the talk of the town. It’s an open topic of discussion.

[source]

10-Nov (The Wall Street Journal) — Greece has named former European Central Bank Vice President Lucas Papademos as the next prime minister, ending a three day deadlock between the country’s two main political parties over who will lead an interim government to finalize talks for an aid payment to avoid a cash squeeze.

Greek President Karolos Papoulias said Thursday he has instructed Mr. Papademos to form a government after chairing a meeting of almost five hours with outgoing Prime Minister George Papandreou, the leader of New Democracy Antonis Samaras and Georgios Karatzaferis, leader of the smaller nationalist party.

“It was agreed that the goal of the new government is to implement decisions relating to the Oct.26 summit and implement the economic policy connected to these decisions,” said Mr. Papoulias.

[source]

PG View: A “troika” man takes the helm of Greek interim government.

09-Nov (The Wall Street Journal) — U.S. bank stocks slumped Wednesday as the market turned ruthlessly on Italy, raising fears about the third-largest economy in Europe and its ability to remain current on debt payments.

The latest scare, which sent the yields on Italian bonds above what is considered a sustainable rate of 7%, worried investors in U.S. banks for two reasons: that a faltering by Italy would severely jolt the global economy, and that banks are exposed directly to any default. One clearinghouse had demanded more collateral for trading Italian bonds, signaling the market’s fear.

“The market, at some level, has been held hostage by Europe over the last few weeks and months,” said Steve Sosnick, an equity risk manager at Timber Hill/Interactive Brokers Group. “The financials are dealing with it worse because if clearinghouses are requiring greater margin on sovereign debt, anyone who holds that debt has to potentially put aside money that they otherwise could use more productively.”

[source]

09-Nov (Bloomberg) — U.S. stocks extended declines following a report that German Chancellor Angela Merkel’s party wants to make it possible for European nations to exit the euro area.

The Standard & Poor’s 500 Index lost 3.6 percent to 1,230.66 at 2:11 p.m. in New York, its biggest drop on a closing basis since Aug. 18.

Merkel’s Christian Democratic Union party wants to make it possible for European Union members to exit the euro area, Handelsblatt reported in a preview of an article to be published tomorrow, citing unnamed participants in the discussion.

[source]

PG View: If true, this is huge. Just weeks ago policymakers in core-Europe were adamant that there was no mechanism for countries to abandon the EMU. More recently, the implications of Greece leaving the union were openly discussed, and perhaps now Merkel’s CDU is crafting a framework to allow that to happen. What a difference a couple of weeks make.

If Greece and Italy were to leave the monetary union, might there be a temptation to repudiate their euro denominated debt? We’re not in the EMU any more, but we’ll gladly pay you in freshly printed drachma and lira…

09-Nov (The Wall Street Journal) — We have seen this movie before. Italian government 10-year bond yields are at a euro-era high of 6.7%—a level from which no other euro-zone government bond market has recovered. Increased European Central Bank bond buying has failed to halt the price slide. European banks are dumping Italian bonds at a loss and being rewarded by the market. Given the euro zone’s inadequate bailout facilities, many argue only an unlimited ECB commitment to buy Italian bonds can prevent the debt crisis spiraling out of control.

But investors shouldn’t bank on the ECB doing the market’s bidding. First, the central bank has repeatedly said it has no mandate to act as lender of last resort to countries. To do so would breach European law. New ECB President Mario Draghi said so again last week, stressing the ECB’s bond buying is limited and temporary.

The European treaty is unequivocal: Article 101 prohibits the ECB from lending to governments, while Article 103 says the euro zone shouldn’t become liable for the debts of member states. It would be odd for Mr. Draghi to do something he has said is illegal.

[source]

By Mohamed El-Erian
09-Nov (Financial Times) — Here we go again. Europe’s debt crisis has entered a new, more dangerous phase with the yield on Italian 10-year bonds crossing the seven per cent level on Wednesday morning. This is a eurozone-era record that, if sustained, would severely destabilise the debt situation of the world’s third largest bond issuer and one of the original six founders of the modern European project.

Those who lived through the horrid days of the various emerging market debt crises will quickly recognise the four distinct factors that have come together in the last few days to form a highly destabilising cocktail. And they may well agree on what needs to be done to stop a bad situation getting worse.

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09-Nov (Globe&Mail) — Greek party leaders have named who will head the country’s new coalition government.

Barring any last-minute changes, sources said house speaker Filippos Petsalnikos would take over the post of Prime Minister.

‘We have agreed on Petsalnikos but things can change between now and when the prime minister sees the president,’ a source close to the discussions said.

Outgoing Prime Minister George Papandreou and opposition leader Antonis Samaras had been locked in talks since Sunday on who would lead a new government to take the country to elections in February.

They were under mounting pressure to reach a deal from Eurozone countries which are also grappling with a crisis in nearby Italy.

[source]

09-Nov (Financial Times) — Markets on Wednesday demonstrated a collapse of confidence in Italy’s ability to chart a clear course out of its political and debt crises, sending 10-year bond yields to new euro-era highs over 7.5 per cent and into territory that forced Greece, Portugal and Ireland to seek international bail-outs.

A commitment made on Tuesday night by Silvio Berlusconi to resign as prime minister as soon as parliament passes a package of economic reforms agreed by the EU contained neither a timetable nor a clear political way forward, sowing panic among investors.

“We cannot go on like this. The country is already in the abyss,” declared Emma Marcegaglia, head of the Confindustria business lobby, warning that Italy risked following Greece in the eurozone debt crisis.

[source]

09-Nov (USAGOLD) — Gold remains well bid as the situation in Europe continues to deteriorate. Italy has now moved to the forefront of the eurozone crisis as the market gives a resounding vote of “no confidence” to embattled Prime Minister Silvio Berlusconi. While Berlusconi has said he will step-down, he is attempting to linger until a new financial reform package is passed. A lame-duck government is not what Italy needs right now. Italian yields have surged above 7%, a critical level that promoted other EU countries to seek bailouts.

Similarly, a lame-duck government in Greece is not what the market was hoping for. The uncertainty springing from both Italy and Greece is weighing heavily on markets. Negotiations to find a successor to Greek PM George Papandreou have apparently broken down.

There are rumors this morning that the ECB has called an emergency meeting. The ECB has refused to comment. They could certainly cut the refi rate again, but with the benchmark rate already at 1.25%, there’s precious little maneuvering room. They could probably ramp up bond buying in the secondary market, but there is resistance to this within its ranks — most notably the Germans. The options are really quite limited.

The pseudonymous Tyler Durden of ZeroHedge commented this morning, “It is far more likely that the Fed will print to bail out Europe than the ECB printing.” You know, that may actually not be very far from the truth…

• US wholesale sales +0.5% in Sep, below market expectations of +0.8%, vs 1.0% in Aug; inventories -0.1%.
• UK trade balance (visible) widened to -£9.8 bln in Sep, vs negatively revised -£8.6 bln in Aug.
• South Korea unemployment rate (sa) ticks lower in Oct to 3.1%.
• China CPI falls to 5.5% y/y in Oct, below market expectations, vs 6.1% in Sep y/y.
• China PPI falls to 5.0% y/y in Oct, below market expectations, vs 6.5% in Sep y/y.