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It’s Too Hot In Here: The Gold Market Expects A Cold Shower

By Sunshine Profits (Przemyslaw Radomski, CFA)CommoditiesApr 24, 2022 01:35AM ET
www.investing.com/analysis/its-too-hot-in-here-the-gold-market-expects-a-cold-shower-200622764
It’s Too Hot In Here: The Gold Market Expects A Cold Shower
By Sunshine Profits (Przemyslaw Radomski, CFA)   |  Apr 24, 2022 01:35AM ET
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While I have been warning about the “expeditiously” hawkish monetary policy actions that should commence over the next several months, the man at the top put a stop to investors’ games on Apr. 21.

As Fed Chairman Jerome Powell said:

“It is appropriate in my view to be moving a little more quickly” to raise interest rates. He added: “I also think there is something to be said for front-end loading any accommodation one thinks is appropriate (…). I would say 50 basis points will be on the table for the May meeting.”

“It’s absolutely essential to restore price stability. Economies don’t work without price stability.”

Moreover, there is that word again:

Source: CNBC

As a result, while investors finally got the message, I warned on Apr. 21 that officials' guidance had been loud and clear for months. I wrote:

It’s funny how obvious Fed officials’ messaging has become. In a nutshell: Powell sets the tone, and his deputies recite his message in hopes that investors will react accordingly. However, with investors in denial and/or unable to see the forest through the trees, they’re not heeding the warnings.

Well, suddenly, the wake-up call elicited a shift in sentiment. With the S&P 500 under pressure and the VanEck Junior Gold Miners ETF (NYSE:GDXJ) suffering mightily on Apr. 21, reality finally re-emerged.

However, with plenty of downside still left for both assets, the medium term should elicit plenty of hawkish fireworks. To explain, I wrote on Apr. 6:

Please remember that the Fed needs to slow the U.S. economy to calm inflation, and rising asset prices are mutually exclusive to this goal. Therefore, officials should keep hammering the financial markets until investors finally get the message.

Moreover, with the Fed in inflation-fighting mode and reformed doves warning that the U.S. economy “could teeter” as the drama unfolds, the reality is that there is no easy solution to the Fed’s problem. To calm inflation, it has to kill demand. And as that occurs, investors should suffer a severe crisis of confidence.

To that point, Powell said on Apr. 21 that the U.S. labor market is "too hot" and that the Fed needs to cool it down. "It is a very, very good labor market for workers," he said. "It is our job to get it into a better place where supply and demand are closer together."

Moreover, while I've warned on numerous occasions that Fed officials have sounded the alarm on the economic challenges that lie ahead, Powell said that it won't be "straightforward or easy" to administer a soft landing.

Source: CNBC

The Message Man

However, while investors’ light bulbs went off on Apr. 21, the reality is that these medium-term ramifications have been hiding in plain sight.

Moreover, while Powell said that a 50 basis point rate hike in May is “on the table,” it’s likely a done deal. Here is why: I noted on Apr. 14 that the Bank of Canada (BoC) announced a jumbo rate hike at its last monetary policy meeting. I wrote:

The Bank of Canada (BoC) announced a 50 basis point rate hike on Apr. 13, and with the Fed likely to follow suit in May, the domestic fundamental environment confronting the PMs couldn’t be more bearish.

Bank Of Canada (BoC) Announcement
Bank Of Canada (BoC) Announcement

Source: BoC

Moreover, BoC Governor Tiff Macklem (Canada's Jerome Powell) said that "We are committed to using our policy interest rate to return inflation to target and will do so forcefully if needed."

Furthermore, while he added that the BoC could "pause our tightening" if inflation subsides, he cautioned that "we may need to take rates modestly above neutral for a period to bring demand and supply back into balance and inflation back to target."

However, with the latter much more likely than the former, the BoC's decision is likely a preview of what the Fed should deliver in the months ahead.

To that point, Canadian inflation data was released on Apr. 20. Surprise, surprise: the scorching results came in hotter than expected. For context, the figures in the middle column represent economists’ consensus estimates.

Canadian Inflation Data
Canadian Inflation Data

Source: Investing.com

Furthermore, the most important point that investors miss is the political ramifications of inflation.

For example, when low and middle-class citizens suffer financially, their hardship becomes front-page news. As a result, the unwanted attention is bearish for the financial markets because it forces politicians and, therefore, central banks to act.

Toronto Star News
Toronto Star News

Source: Toronto Star

Likewise, while America’s neighbor to the north is feeling the inflationary heat, the political story is the same in the U.S. To explain, I wrote on Apr. 20:

CNBC released its All-America Economic Survey on Apr. 13. The report revealed that “47% of the public say the economy is ‘poor,’ the highest number in that category since 2012. Only 17% rank the economy as excellent or good, the lowest since 2014.”

Likewise, I’ve also noted on numerous occasions that U.S. President Joe Biden’s approval rating is inversely correlated with inflation.

As a result, while investors assume that the Fed will bow down to the financial markets, the reality is that the game has changed. Previously, the Fed could support asset prices without the general public noticing. Now, inflation is front-page news and is hurting middle-class and poor Americans. Therefore, the Fed has to deal with the issue, and political pressure should force officials’ hands, whether they like it or not.

Thus, while the S&P 500 and the PMs have largely denied these hawkish realities, their price action on Apr. 21 is likely a sign of things to come.

In addition, with the inflation story far from resolved, my comments on Apr. 6 still stand: [Fed] officials should keep hammering the financial markets until investors finally get the message.

A case in point: the Philadelphia Fed released its Manufacturing Business Outlook Survey on Apr. 21. The report revealed:

“The indicators for prices paid and prices received continued to suggest widespread price increases and inched higher this month. The prices paid index rose 4 points to 84.6, its highest reading since June 1979 (…). The current prices received index edged up from 54.4 to 55.0.”

Prices Paid And Prices Received Index
Prices Paid And Prices Received Index

Source: Philadelphia Fed

On top of that, this month’s special questions revealed that inflation expectations have also increased. The report stated:

“The firms still expect higher costs across all categories of expenses in 2022: Responses indicate a median expected increase of 10 to 12.5 percent for raw materials and of 7.5 to 10 percent for energy and for intermediate goods, higher than when this question was asked back in January. The median expected change for total compensation (wages plus benefits) was unchanged at 5 to 7.5 percent.”

Expected Change In Costs
Expected Change In Costs

Source: Philadelphia Fed

Also, please remember that the survey data was collected from Apr. 11 to Apr. 18. Therefore, inflation is still running away from the Fed. As further evidence, Tracker Supply released its first-quarter earnings on Apr. 21.

For context, the company operates a “retail chain of stores that sells products for home improvement, agriculture, lawn and garden maintenance, livestock, equine and pet care for recreational farmers and ranchers, pet owners, and landowners.”

CEO Hal Lawton said during the Q1 earnings call:

“What we’re seeing is very consistent with what we’re all reading in the headlines every day. I’ll start with persistent inflation. We had the CPI of 8.5% in the month of March, that we’ve seen 0.5 point increases a month for the last handful of months. It’s tough to say if we’re at peak inflation, the way I think about it is that we’re seeing persistent inflation. And I think we will see, strong inflation, not only through this year, but in the next year.”

As a result, the company is pricing its products ahead of the 8.5% CPI:

CEO Hal Lawton Statement
CEO Hal Lawton Statement

Source: Tractor Supply/Seeking Alpha

Furthermore, I wrote on Apr. 21 that Procter & Gamble (NYSE:PG) had a similar message:

CFO Andre Schulten noted that ~5% price hikes in Q3 will look more like ~6% in Q4.

CFO Andre Schulten Statement
CFO Andre Schulten Statement

Source: P&G/Seeking Alpha

For your reference, favorable price elasticities mean that when P&G raises prices, the company is not seeing a drop-off in demand.

Likewise, with Lawton also highlighting consumers’ lack of resistance to the company’s price increases, his observations are bullish for Fed policy and bearish for the PMs.

Hal Lawton Statement
Hal Lawton Statement

Source: Tractor Supply/Seeking Alpha

Finally, The Conference Board released its Leading Economic Index (LEI) on Apr. 21. After increasing by 0.3% month-over-month (MoM) in March, the LEI has risen by 1.9% from September 2021 to March 2022.

Ataman Ozyildirim, Senior Director of Economic Research at The Conference Board, said:

“The US LEI rose again in March despite headwinds from the war in Ukraine. This broad-based improvement signals economic growth is likely to continue through 2022 despite volatile stock prices and weakening business and consumer expectations. The Conference Board projects 3.0 percent year-over-year US GDP growth in 2022, which is slower than the 5.6 percent pace of 2021, but still well above pre-covid trend.”

March Increase In US LEI
March Increase In US LEI

The bottom line? The data continues to support hawkish Fed policy and has only intensified in recent months. Therefore, while I’ve noted that the PMs’ medium-term fundamentals are more bearish than at the end of 2021, the consequences of the Fed’s rate hike cycle should knock some sense into investors over the next few months.

Moreover, while Fed officials have been parroting the same message for weeks, Powell’s reality check on Apr. 21 is extremely bullish for the USD Index and U.S. real yields. Remember, the Fed needs to kill demand to tame inflation, which means pushing up real yields and reducing wages.

As such, does this seem like a bullish six-to-12-month environment for risk assets?

In conclusion, the PMs declined on Apr. 21, and mining stocks were material underperformers. However, the daily damage still leaves gold, silver and mining stocks’ prices well above their fundamental values.

As a result, there is likely plenty of room for further downside over the medium term.

It’s Too Hot In Here: The Gold Market Expects A Cold Shower
 

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It’s Too Hot In Here: The Gold Market Expects A Cold Shower

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Comments (6)
Dwain Hobbs
Dwain Hobbs Apr 25, 2022 1:02AM ET
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How ridicolous will this analysis look in 2 months time after the mini selloff completes and this springs to new yearly highs , oh well , we’re used to this continous nonsense from Radomski by now
will hong
will hong Apr 24, 2022 10:31PM ET
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Yes. Gold 250. Silver 4. Bankers win... the bankers win...🥳🥳🥳🎉🎉🎉
Bernd Langer
Bernd Langer Apr 24, 2022 9:18PM ET
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A cold shower is ok, the miners got a little ahead of themselves. But remember, a shower won’t last 6 to 12 months
Tom Sc
Tom Sc Apr 24, 2022 9:14PM ET
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why does this guy take a million words to make a point? like who bothers to read this nonsense from start to finish?
Mr Doodl
Mr Doodl Apr 24, 2022 4:27PM ET
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Precious metals medium term technical indicators tell a different story, i.e. golds completion of h&s bottom.
Jack Sailor
Jack Sailor Apr 24, 2022 3:40PM ET
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