At the latest ECB press conference Draghi said that. “The monetary policy team had this week discussed buying all assets except gold”; qualifying a claim by fellow member Yves Mersch two weeks ago that gold bullion could be included.”
If central bankers truly believed in sound monetary policy the headline would have said “We’ll buy all your gold”. That would have propelled both gold and the European equity markets upwards. As it is markets on the continent get cheaper as the good doctor fiddles. “We may not do anything until January at the earliest”. Code for “It’s taking us longer to convince the Germans than we thought”. This has all the makings of a horrible policy mistake when one of the protagonists blinks. Draghi may even decide he has had enough and return to Italy to be president of the country there. With Merkel and Schauble in control of “finances” Draghi won’t beat the Bundesbank at poker and Jens Weidmann at the ECB helm would complete the German triumvirate, which would put the French in a spot.
Bond markets in European sovereigns continue to display heroic confidence in the central bank when in reality it has done nothing – the buying of ABS and MBS securities, hailed as a success by some European fund managers, has been an abject failure. “Banks can borrow at 10bps and lend at a tasty margin to eager borrowers, thus in one swoop solving bank profitability and boosting economic activity”, they said. Not so M’lud; the ECBs balance sheet continues to shrink.
And with the latest fall in the oil price (Brent was over $70 when I started writing this piece) deflation is a certainty, but for how long? There are a lot of marginal producers out there in shale world whose pips are squeaking as are their bondholders who have lent with expensive oil as collateral. Once wells start getting moth balled and bond holders get a series of haircuts (at best) the oil price will sky rocket, high yield will actually revert to being proper high yield ie junk and the myth of cheap oil and its “benefits” for the global economy will be over. In Japan oil is now more expensive in yen terms as the BoJ manage the erosion of the currencies purchasing power in true central bank fashion.
As ever it’s all in the timing, but do remember that when the bell rings the door will instantly turn into a cat flap. Now is the time to take risk off the table and add to those berated insurance policies of cash, ultra-high quality bonds if you can find any, deep value equities with more than a semblance of a decent balance sheet and some gold. As Kyle Bass eloquently put it, “gold is simply a put against the stupidity of the political system”.
With deflation lurking in the background cash becomes a much more attractive asset in the short term as does gold which is nobody else’s liability, unlike fiat money which in many instances in the past has been transformed into decorative wallpaper. Credit markets will also throw up value but don’t get greedy for yield and be prepared to be a long term investor. Liquidity in bond markets is going to disappear one day soon, but if the companies have the balance sheets to redeem the debt then hang on in there.
Same story with deep value equities. There aren’t too many bargains around right now as valuations get stretched higher and higher. If we are about to get a significant market correction – and we are starting to hear this refrain more often from market “professionals” – then market psychology tells us that as prices fall most investors will find it difficult to “pull the trigger” and buy at cheaper prices and then when the recovery phase kicks in it becomes even harder to get on board. So better to have a small toe in the water now and remember why you bought deep value in the first place. After all value managers are never wrong just early.