- Gold playing catch-up to Money Supply
- Gold ETFs set new records for Q1 2020
- US Dollar Index eases ~6% – boosting commodities (and risk currencies)
Last week I was talking about money supply and the recent emergency (unprecedented) actions of the Fed.
In short, the Fed (and most central banks) has responded to a massive demand for safe assets (i.e., cash and cash equivalents) – by supplying reserves to accommodate the banking sector’s needs.
U.S. M2 Money Stock YoY Change
Banks essentially need reserves in order to collateralize their deposits. The Fed creates reserves by buying securities (e.g., Treasury bills, notes and bonds, and more recently, mortgage-backed securities and some corporate bonds).
And from there, when the banks lend, money is created.
Gold Shines
As part of that post, I said the chart above has gold bugs excited and with good reason.
Typically when the global money supply inflates – gold is often not far behind.
For example, below is the relationship between gold and the US M2 money supply over the past ~40 years.
US M2 Money Supply vs Gold
For those less familiar – M2 money supply includes not just cash but also savings deposits, money market funds and other “near” money.
The folks over at ZeroHedge took this chart further – showing the relationship using the global supply of money (~$82T and climbing)
Global Money Supply v Gold – 2004 to 2020 (ZeroHedge)
The short version is the world is being flooded with excess money and liquidity from central banks.
The question is where is all this “money” going?
Risks assets (e.g. stocks) has certainly been one beneficiary… with most leading indices rallying ~40% in just 10 weeks (n.b., expect a 5-10% pullback soon).
But so too has the shiny yellow metal… and there’s likely more to come as it plays catch-up.
Drawing on the charts above – there’s a clear correlation over the long-term between the annual growth rate in M2 money supply and gold.
And when you look at recent money flows into gold based ETFs – it’s easy to understand why.
Gold ETF’s Set Records in 2020
June last year – after gold moved into a new weekly bullish trend – I offered traders four ways to trade the metal
My first recommendation (and preference) was via the ETF GLD.
In short, this is the largest, most heavily traded gold ETF globally and very much mirrors the performance of the underlying asset.
These ETFs hit a new record in the first quarter of 2020, attracting 298 metric tons, or net inflows of $23 billion, for a total of more than $164 billion, according to a report by the World Gold Council (WGC).
That’s the highest ever in U.S. dollar terms for a quarter and the most in tonnage terms since the first quarter of 2016
The WGC expects the recent drivers of gold to persist, including “widespread market uncertainty and the improved opportunity cost of holding gold as yields move lower.”
With respect to yields moving lower – that’s exactly what they are doing.
And as I showed with this chart (Inverted 5-year TIPS v Gold) – the lower these yields go – the better for gold:
5-Year TIPS Yields (Inverted) vs Gold
Here’s the WGC:
“With the Fed taking interest rates to zero for the foreseeable future, gold could do well as it tends to outperform during easing cycles.
Additionally, multi-trillion dollar fiscal stimulus policies to combat the economic impact of COVID-19 could prove inflationary – a development that could support gold prices in the long run.”
As I explained the other day – for inflation to result – money needs to move. Put another way – we need to see monetary velocity.
And if we get a situation where the excess money chasing too few goods – yes – we will get inflation.
But right now – we have the opposite problem.
Longer term however, that could change pending how the Fed reduces these excess reserves when the demand for money (eventually) falls.
US Dollar Eases – Bullish for Gold
Before I close, let me share the weekly chart for the US dollar:
US Dollar Index Dips – June 01 2020
The world’s reserve has eased around 6% from its March highs… which has also been a boost to gold (and most commodity prices)
However, our weekly trend remains bullish.
From mine, expect support between 94 and 96 for the dollar index (or the bottom of the ten-year trend channel)
Putting it All Together
The longer-term set up for gold here looks good.
However, look to buy on the dips (as I was saying the other day)
For example, if we consider the ETF GLD, I like it around $150 to $155 – with a stop at the last major low.
GLD ETF – June 01 2020
And those who are willing to take more risk – other ETFs like GDX (Gold Miners) and GDXJ (Gold Mining Juniors) will offer higher risk / reward.
Regards
Adrian Tout
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