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Pullbacks are Healthy in a Bull Market, Focus on the Big Picture - David Brady (12/09/2019)

Yellow brick road extending into the horizon

Sept 12, 2019

Despite rallies of 34% in Gold and 43% in Silver in just the past year alone, investors in precious metals have suddenly gone silent due to overdue pullbacks in both of just 5% and 10% respectively. Could they go lower? Sure they can. I’ll discuss that later, but this is when you need to focus on the big picture. With this in mind, let me walk you through why I began buying precious metals in the second half of 2015 and why I believe they are going multiples higher, especially Silver.

This is one of my favorite charts; it’s from 2016. Given soaring trillion-dollar deficits and debt since, these numbers are likely a lot higher now. Many people cite Debt to GDP ratios and focus only on the “U.S. National Debt” or Government Debt, which is around 105% of GDP. A high number in and of itself, but it is just a fraction of U.S. Total Debt. Most importantly, it omits massive unfunded liabilities such as Medicare and Social Security. These liabilities start to come due in a big way next year. Without getting into numbers, you can see the Government Debt at the bottom of the chart in dark blue. Now look at the unfunded liabilities in orange and light blue at the top of the chart by comparison. What this means is that when we combine U.S. government debt and unfunded liabilities, which the government has to pay, the U.S. Debt to GDP is north of 600%. To put that into perspective, Greece’s debt is ~180%. How is the U.S. going to address this?

There are several principal ways:

  1. Pay it off. This is simply impossible unless the Fed buys all of the debt with dollars printed out of thin air and forgives the debt thereafter. All confidence in the Fed and the U.S. dollar would likely be lost at that point.
  2. Default. It is highly unlikely that any President would suffer the embarrassment of an outright default on U.S. debt.
  3. A global debt jubilee where countries forgive each other’s debt. It is unclear how this would work for countries like Japan and China, who are net creditors to the United States.
  4. The IMF bails out the U.S. by providing an SDR loan to pay off the debt. This is an even less palatable solution than default for the United States.
  5. Inflate it away. Politicians faced with this dilemma in the past have always chosen to inflate the debt away by keeping interest rates and bond yields below inflation.

I believe the U.S. will try to inflate it away. Why?

  • Trump has been hammering the Fed publicly, calling for zero or even negative rates and a return to QE. He also wants a weaker dollar to make U.S. exports cheaper, attract more foreign investment in the U.S., and increase growth and inflation in the process.
  • The Fed, although slow to respond to Trump’s demands, has clearly stated its concern about persistently low inflation and its preference to allow inflation to ‘run hot’ for a time, i.e. >2%. They have also cited several emergency measures they plan to take if and when the next recession, crash, or crisis occurs, including zero rates and QE.
  • And if all that fails, we have MMT. Free money! It speaks to how desperate the situation has become for the Keynesians that they propose Weimar Germany-style policies to resolve the crippling debt situation AND rebuild America’s infrastructure, provide free education and healthcare for all, and a universal basic income. This is helicopter money, plain and simple, whereby the Fed prints dollars to directly finance government spending. I don’t know how long it will take before all confidence is lost in the dollar and we get runaway inflation, but it won’t be many years.
  • China and Russia have been producing and buying Gold for over ten years. Why? I believe they’re hedging the risk that the U.S. prints dollars en masse to finance its spending, deficits, and debt in the coming years and the dollar falls as a result. They are also preparing for the end of the dollar as the global reserve currency, to be replaced by a supranational digital currency like the eSDR.

A weaker dollar and rampant inflation are ideal conditions for precious metals. But this is not just a U.S. problem, it’s global. The debt slate needs to be wiped clean globally and politicians will use inflation to do so, imho. Under such circumstances, currencies may remain relatively stable against one another, but precious metals and other hard assets that can’t be printed would increase multiples in value. I believe this to be inevitable given record U.S. and global debt levels.

With this in mind, I maintain a buy-and-hold strategy with a core investment in physical Gold and Silver. At the same time, I trade both the short and long side near-term. This and my FIPESTT process keeps me objective in the short-term while retaining my long-term bullish outlook. As I said last week, “pullbacks are a normal and healthy component of all bull markets”, but if in doubt, just refer back to the big picture.

Last week, I also outlined three principal scenarios for Silver in the near-term. My primary scenario is that Silver is undergoing an A-B-C wave (4) correction before it heads up to a higher high in wave (5). It appears to be playing out so far with the bottom of A at 17.86, peak of B at 18.55, and now targeting 16.60 where A=C or 15.40 where A=C*1.618. These levels also happen to coincide with the 61.8% and 85.4% retracements of 14.63-19.75 in wave (3). Any lower than 14.63 and I’d be concerned that something bigger is taking place. Absent that, such a drop should reset much of the extreme overbought and bullish conditions we saw at the peak, setting us up for an even bigger rally next.

The same goes for Gold, where I’m looking for a C-wave low in the 1460s. Worst-case is 1400, key support. Like Silver, if 1400 breaks, then my second scenario that wave 1 is already complete and wave 2 is under way comes into play. The probability of the worst-case scenario also increases but remains small unless 1267 is broken.

The main point is that Gold and Silver could fall further, even to new lows if there is a deflationary scare, but these are tremendous buying opportunities, imho, given the long-term expectations for both, especially Silver. Until then, remain patient and don’t be discouraged by the short-term noise. Being patient should be easy for those invested in precious metals. We’ve waited a long time for what’s coming. We just have to wait a little longer, but it’s inevitable, imho.

Don’t miss a golden opportunity.

Now that you’ve gained a deeper understanding about gold, it’s time to browse our selection of gold bars, coins, or exclusive Sprott Gold wafers.

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About the Author

David Brady has worked for major banks and corporate multinationals in Europe and the U.S. He has close to thirty years of experience managing multi-billion dollar portfolios including foreign currency, cash, bonds, equities, and commodities. David is also a CFA charter holder since 2004.

Using his extensive experience, he developed his own process utilizing multiple tools such as fundamental analysis, inter-market analysis, positioning, Elliott Wave Theory, sentiment, classical technical analysis, and trends. This approach has improved his forecasting capability, especially when they all point in the same direction.

His track record in forecasting Gold and Silver prices since has made him one of the top analysts in the precious metals sector, widely followed on Twitter and a regular contributor to the Sprott Money Blog.

*The author is not affiliated with, endorsed or sponsored by Sprott Money Ltd. The views and opinions expressed in this material are those of the author or guest speaker, are subject to change and may not necessarily reflect the opinions of Sprott Money Ltd. Sprott Money does not guarantee the accuracy, completeness, timeliness and reliability of the information or any results from its use.