With the dollar bouncing back (based on the DXY index) and silver and gold melting, melting all over once glittering portfolios, is the “debasement trade” done for?
As a reminder, the debasement trade, an idea frequently discussed by economist Robin Brooks, rests on the notion that, worried that the over-indebtedness of so many countries (the U.S. is by no means the only culprit) will lead to widespread currency depreciation, nervous investors have been looking for safe havens. Traditionally, the dollar and treasuries have been two closely related safe havens. They still are, but after the dramas of last year or so and the continuing increase in U.S. government debt, they are looking a little tarnished, even if long-term treasuries have thus been relatively calm. Thus, the surge in gold, other metals, the Swiss Franc, and, surprisingly to me, the Swedish krona.
So, what now?
On a fundamental level, the nomination of Kevin Warsh changes nothing about any of this. Public debt is high and rising. This pushes up longer-term yields, which makes it inevitable that political pressure on the Fed to cut interest rates and cap longer-term yields will mount. The debasement trade… has a lot further to run no matter who the next Fed Chair is…
Friday’s drop in precious metals made it look like markets think Kevin Warsh is a hawk. They don’t. Futures moved to price more rate cuts on Friday, which is fundamentally bullish for the debasement trade. Second, even though Friday’s 26 percent drop in silver and 9 percent drop in gold are bone-jarring, the recent spike in precious metals has been so crazy that this only took gold and silver prices back a few weeks. The debasement trade is very much intact.
Obviously, Brooks’s view is one for the long term. Gold and silver are still trading far above recent levels, tempting investors to take profits or hold back on buying, although both are (as I write) up a bit. Their prices could well be all over the place for a while. The Swiss, who have a heavily export-dependent economy, are doing what they can to keep the franc down (and they have form in this area: they moved to negative interest rates between 2015 22). Sweden, too, is an export powerhouse. In the past, the Riksbank has pushed back against the krona flying too high. I would expect that again.
As Brooks notes, the fundamentals underlying the debasement trade have not changed, and if Warsh’s arrival is accompanied by dramatic rate cuts, that fact may well stir up (note: this is not investment advice) the worries that have taken it so far.