Did COVID-19 “Save” the Global Financial System?

COVID-19

Below we look at how massive COVID-19 stimulus programs “saved” a financial system otherwise on its last legs—and just in time.

But how long will this new “Fed ventilator market” keep otherwise broken currencies, robo-markets, dollar-thirsty repo rates and zombie bond pits alive?

As importantly, how will the role of gold play out in a Post- COVID-19 world?

Let’s dig in.

Lighthouse vs. Media Fog

Sometimes, especially in surreal times like these, it’s critical to step above the media fog and follow the market signals of a factual lighthouse to make one’s way safely to the shore of these artificial conditions.

Without obfuscation and fancy terminology, let me make the following (and admittedly ironic) assertion and then support the same with verifiable facts, namely:

COVID-19 was the best thing that ever happened to an otherwise broken global market system.

OK. In case you’re concerned I’m suffering from a high fever, now let’s unpack this awful claim, point by simple point.

The Dollar Crisis—Not Enough of Them Heading Into 2020

We begin with the critical issue of the world’s reserve currency, namely the U.S. Dollar.

I can’t over-emphasize enough how important the supply—or “liquidity”—of US dollars is to keeping the wheels of the global banks, money markets and inter-bank exchanges greased and viable.

In short, dollars (and I mean lots of them) are essential to keeping these systems running.

If the banking and trading mechanisms of the world economy were to ever run low of these dollars and thus suffer liquidity (i.e. dollar) shortages, demand for those dollars would rise considerably.

In turn, as demand for dollars increases too rapidly, interest rates rise fatally upwards.

Why “fatally”?

Because as I’ve said countless times in prior reports as well as in our Amazon No#1 Release book, Rigged to Fail, the moment rapidly rising interest rates collide with record-breaking (and rapidly rising) global debt levels, the entire system implodes.

Party over.

Why? Because interest rates represent the cost of money (i.e. debt), and given today’s historically unprecedented global debt levels, rising rates would simply make repayment of those debts impossible.

The First Tremors of Dollar Shortages and the Approaching Shark Fins of Rising Rates

In late 2019, we saw (and warned of) the first deadly symptoms that interest rates were rising beyond the control of the Federal Reserve due to a lack of available dollars.

Specifically, I am referring to the extraordinary, single-day rate spike in the oh-so critical repo markets in September of 2019.

Needless to say, the MSM and Fed tried to downplay this seminal event, but the repo crisis was an extremely ominous (and early) warning sign of trouble ahead, signaling an end to the post-2008 debt party which hitherto drove the markets.

I will not dive into those repo market details again here, but let me simply say that the September repo disaster (i.e. rate spike) in 2019 was a glaring sign of dollar illiquidity, namely: Not enough dollars.

The Second Tremor of Dollar Shortage Disaster Ahead—The Ignored Euro Dollar Markets

Not long after our report on the repo markets, we then reported on what we called the “ticking timebomb” of the Euro Dollar markets in October of 2019.

Again, I won’t re-examine all those details here, but if you re-read that report, the bottom-line warning came down to this: Trillions in US dollars held in non-US banking and financial systems were hopelessly tangled up in highly complex and levered derivatives instruments.

Or stated more simply, because these dollars were all “tangled up,” they were not otherwise readily available or “liquid,” which meant the global financial systems were fast running out of dollar “grease.”

And remember: When those systems run out of “grease,” demand for more dollars (“grease”) pushes interest rates too high, which, in turn, makes the debt markets (the sole wind beneath the wings of our rigged markets) unpayable.

At such moments, the entire global credit machine (from money markets to bond desks) begins to smoke, shake and then come crashing down.

Full stop. End of story. Period.

Pre COVID-19 Rising Dollar Demand—the Ticking Time Bomb

The profound signals coming out of the totally media-ignored repo and Euro Dollar markets were flashing red flags (PRE COVID-19) that if demand for US dollars continued to climb, it was only a matter of time before central banks would have to concede defeat and witness the total failure of their otherwise rigged-to-fail money-printing experiment.

But central bankers, like the politicians and markets with whom they collude, don’t like to admit to utter failure.

Hence, the pre COVID-19 policy makers and media bobbleheads were already prepping the gullible retail investor masses with miracle “solutions” such as unlimited money printing (MMT) to keep the global market “greased” with more fake (i.e. fiat) currencies.

We argued elsewhere, however, that a counterfeiting Ponzi scheme “solution” like MMT (money printing gone wild) would fool no one, and would be tantamount to an eventual disaster as a credible policy move to “solve” the otherwise fatal issue of rising dollar demand and hence rising rates.

Remember: rising rates are to historically bloated debt markets what rising shark fins are to a surfer—really bad news.

In short: Rising dollar demand was just about to slaughter the rate and credit markets (we predicted the first bite to be sometime in 2021). The approaching fins were in plain sight for those who knew where to look.

In the days prior to the COVID-19 crisis, the only hope for central bankers and debt-soaked economies from Australia to Berlin, Tokyo to DC or Rome to Beijing was some kind of massive slow-down in dollar demand to keep those fatal interest rate fins from rising too high above the surface of our global debt ocean.

But then, almost as if on cue, came the highly fortuitous COVID-19 Pandemic…

Along Comes COVID-19, Fatal Dollar Demand Eases, the Markets are “Saved”

In the wake of a global pandemic and hence global economic shut-down, it goes without saying that the global economy came to a historical and unprecedented halt.

This sudden collapse of economic activity and commerce in the name of a global “Public Safety Committee” obviously led to an equally massive collapse in demand for US dollars, which, in turn, immediately took the pressure of rising rates off the necks of the global debt markets.

Ironically then, COVID-19, more than any tool otherwise available to global market policymakers, helped quell the otherwise financially fatal rate hikes on the horizon, despite the tragically fatal human costs to virus victims around the world.

Debt Jubilee by Another Name

Not only did COVID-19 remove the pressure off fatally rising interest rates from rising dollar demand, but it also became the obvious and legitimate backdrop for extreme fiscal and monetary support for global economies and markets.

Thus, COVID-19 provided a moral “hall pass” for global governments and central banks to resort to otherwise politically unthinkable levels of money creation and deficit spending to keep markets, individuals and businesses “fed” with massive (just massive!) stimulus packages.

Here in the US, for example, we’ve all experienced this in real-time in the form of SBA loans, congressional CARE packages, $100 billion/day Fed repo financing, rent-abatements, annual mortgage payment forbearances, junk-bond bailouts, direct Fed investment in ETF’s etc. etc.

In short, we’ve just seen trillions in new emergency programs unleashed in record time to address the global health pandemic, measures which would have otherwise never been justified or conceived but for a humanitarian emergency.

Moreover, we’re also seeing massive amounts of more corporate debt being layered upon a pre-COVID-19 debt pyre that was already absurdly high.

COVID-19

Taxes, mortgages, student loans, corporate debt obligations and countless other ‘”debts” are either (1) expanding, (2) not being paid or (3) are being radically “re-set” today, which indirectly amounts to a radical form of debt extension as well as debt forgiveness by another name—a kind of ersatz “debt jubilee.”

But here’s the rub: For every debtor who gets a nice “break” from the debt noose around his/her neck pre-COVID-19, there’s a post-COVID-19 creditor who is losing money.

That’s because debt restructuring is a zero-sum game: There are winners and there are losers in equal measure.

In short: No easy solution.

So, what does this mean going forward for stocks, the economy, and most obviously, gold?

The Stock Markets Are Not Reality

Even the most novice market watcher today has to see through the obvious disconnect between market prices and tanking economic fundamentals in the backdrop of what is now perhaps the most surreal economic disaster in our nation’s history.

The fact that markets are clamoring for (or even considering) a V-shaped recovery can only be explained today by: (1) extreme central bank intervention (i.e. more debt) and (2) the simple fact that today’s markets are 80-90% traded by computers rather than humans.

The “quant trades” now dominate the equities markets, and they buy and sell on-trend and momentum signals rather than balance-sheet health—which helps explain why TESLA’s stock can rise and fall like a yoyo rather than a credible asset driven by a healthy balance sheet.

In other words, our father’s and grandfather’s stock market, just like the Capitalism we (and they) studied in school, is effectively dead. R.I.P.

Today, the average holding period of a US stock is less than a couple of seconds, which means algo’s and robots now determine the movement of this robotic “terminator market” 24/7, second by second. Tick tock, tick tock…

For our portfolio’s at Signals Matter, we do not fight this techno-reality, but merely learn to adjust our risk (and risk management) based upon signals not opinions, however informed they might be.

Toward that end, our portfolios are doing just fine, as are our subscribers.

The L-Shaped Economy Going Forward

As for what matters, namely the real economy, the one that once-upon-a-time rose from the bottom up—i.e. from Main Street to Wall Street (and not the other way around)—well, those rational days are over, replaced instead by a “New Abnormal” of increasingly centralized control from the top-down—i.e. from Uncle Fed to its spoiled nephews on Wall Street and its largely ignored masses on Main Street.

In the backdrop of, as well as climb above, the current health and economic crisis, we are going to see mathematically inevitable slow-downs in growth, wages, and GDP alongside massively rising levels of debt.

This is not a robust scenario by any means, but it’s blunt truth, regardless of what markets do. Again, just see for yourself HERE.

Gold and The Currency Re-Set Going Forward

With everything changing so fast, it’s difficult to time or perfectly predict what policymakers, central bankers, investors, and media Ken and Barbie dolls will do next and when…

But one thing is fairly certain: Massive change is on the horizon.

The US dollar (credit markets) is enjoying a temporary break from rising rates for all the reasons discussed above.

Nevertheless, the sheer (and rapidly increasing) size of the debts and money printing that brought us to “now” will have consequences tomorrow.

Our nation is, in many ways, already experiencing a careful reset—a kind of national restructuring akin to a Chapter 11 filing for the entire US of A.

Policymakers in this re-set will ride a fine line in keeping the money markets liquid while trying to avoid another dollar-demand-driven rate hike, which would destroy any attempt at a careful “reset” or “recovery” going forward.

Walking this fine line will require more money printing. Lots more.

This means that changes in the global currency system in general, and the role of the US Dollar in particular, is inevitable in the coming years.

Given the dollar-denominated amount of US assets vs. the dollar-denominated levels of US debt, a 1-to-1 return to a perfect gold standard (i.e. a gold-backed dollar, destroyed by Nixon in 1971) is implausible, as this would require a peg ratio pricing gold anywhere from $50,000 to $80,000 per ounce.

Instead, gold will become a kind of middle-ground balancer in the backdrop of what is likely to be a new intra-central-bank electronic currency only redeemable/settled by the central banks themselves.

Gold, however, far from being the “barbaric relic” of the past, will emerge (as it has always done for the past 5,000 years) as the only reliable relic of the past to which there is a fixed level of trust and an honest level of valuation.

In short gold will rise, because gold is, well… real.

Right now, gold prices are set by an “un-real” COMEX futures exchanges—i.e. Paper Gold. This is not real gold, but merely contracts theoretically redeemable by actual delivery of gold.

Unfortunately, however, the number of contracts promising delivery for an ounce of gold outpaces the true supply of available gold by ratios of anywhere from 300:1 to 500:1.

In short, there’s simply more contracts for gold than there is actual gold.

The COMEX gold price is thus a myth of leverage held together by daily churn rates and ever-weakening confidence in the viability of actually getting the collateral—i.e. getting the gold—from the increasingly nervous counterparties to these contracts.

Meanwhile, the true value of gold itself is slowly and gradually exceeding the contract price for paper gold, despite once typical headwinds for gold, i.e. a strong dollar, low inflation, and a “safe” bond market.

Why? Because deep down, no one fully trusts the dollar, inflation rates, bond markets—or politicians and bankers. No shocker there…

Very soon, genuine forces of supply and demand, as opposed to fictional COMEX futures contracts, will determine the price of gold.

Once this occurs, the price for paper gold on the 9 exchanges it trades upon will have to rapidly catch up, which will send gold higher over the coming years—easily to $3,000 or more for those who recognize gold as a long play and have the knowledge and patience to hold on to it.

Much further down the road, the chances are high that those countries which hold the most gold will emerge with the strongest economies as currency markets reset.

This explains why far-sighted nations with much harsher yet experienced histories are quietly acquiring gold with steady consistency—and by that, I’m directly referring to China and Russia…

Eh Hem…

Of course, this will not play out tomorrow—but in the years ahead. Informed gold investors, however, play the long game, not the putting green.

Meanwhile Tom and I will keep you in the know about which key themes the media effectively knows next to nothing. Bitter observation? No, these are just facts too hard for prompt readers to fit into a soundbite.

That’s why we invite you to join us by clicking HERE if you haven’t already. We’ll see you on the other side with hard data rather than empty headlines.

Sincerely,

Matt & Tom

 

2 thoughts on “Did COVID-19 “Save” the Global Financial System?”

  1. Like this. I was part of a quant group that made the equity markets very efficient. You both clearly have some political opinions which are also having a significant impact. Perhaps your next story will include a vacuum in leadership and its impact on short and long games for investors. Be well and be safe. I am recovering from COVID as we speak. I have a lot to say on this subject.

    Lynn Sullivan

    • Thanks for your thoughts Lynn–and all the best on your recovery! Tom too has a deep quant background, which adds greatly to our combo of technicals and macros. We welcome your further thoughts and insights anytime. As for politics, I can say I’m less about red, blue or any other political stripe, and more focused upon (and bewildered by) Fed policies ever since Greenspan in particular. In our book, Rigged to Fail, we tracked the history of DC and Fed policy all the way back to FDR, and frankly, found all kinds of consistent failures through all presidential administrations, save for my beloved Eisenhower:) Politicians get less attention at Signals Matter than Fed officers, who have increasingly become “Politicized” well beyond the mandate of the Fed. In many ways, I almost feel sorry for the Fed–as they are now being tasked to solve problems too deep for a miracle solution–though the hole we are now in was ironically dug (in part) by many Fed mistakes.

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