Tag Archives: Greece

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Looming bond market crisis set to improve gold demand

 

Historically low bond yields across both the private and government sectors are reducing the margin for error when it comes to the ability of financial markets to withstand a bond market shock.

Global quantitative easing (QE) has seen bond yields driven to low and often sub-zero levels in many economies. The European Central Bank is currently undertaking a EUR60 billion a month eurozone bond buying programme, this is expected to last at least until September 2016. In the past Japan, U.K . and the U.S. have been very active when it comes to QE to stimulate their economies and create inflation with the bond market being a key asset.

Why would investors essentially pay good money to lend out their own money? Well, one reason an investor would do this is if they expect to see a decline in prices such, as in a deflationary environment when negative yields can in fact be higher than other variable yields offered. Another reason is an investor wants to store their wealth in what they believe to be a safe asset. Investors often like to park their money in German and U.S. government bonds in times of uncertainty, both are considered by many to be safe-have assets.

It is however risky for any investors to invest in long term fixed income with low or sub-zero returns. It certainly is not the safe bet that many investors think, nor should these low rates of returns be considered the new normal. At the other end of the scale and what is even more risky are junk bonds and bonds such as those offered by troubled governments such as Venezuela and Greece. In the current low yield environment too many investors are chasing higher yields without considering the significant consequences, the attraction of double digit yields blinds them to the risk. This is a similar thought process, or lack of thought process that in hindsight we saw before the GFC when the price of risk was often undersold or not properly priced in. It will only take one or two high profile defaults from these high yielding investments and we can expect to see investor expectations shift and potentially cause a run on bonds as investors head for the door.

While banks and financial firms in the U.S. have reduced their exposure to the more questionable grade bonds due to new regulations, what we have seen in the past 6 years is that insurance firms, mutual funds and other institutions are taking up the slack. This would see the reach of any crisis spread beyond ‘Wall Street’ and into other sectors of the economy. Restricting financial firms also has the unintended consequence of reducing liquidity, should we see investors move quickly out of bonds in search of higher returns (something entirely possible with the Fed set to lift rates soon), or we see general bond market jitters then do not be surprised to see investors scramble to be first to get to the exit door, no one wants to be last out. This scenario could see prices dive in a short period, not helped by the lack of support and buying from financial firms as they are restricted on what and how much they can purchase. A number of financial market experts such as JP Morgan Chase CEO Jamie Dimon and billionaire investor Jeffrey Gundlach have expressed concerns around the lack of liquidity in the bond market.

The big losers from a bond market crisis will be governments, corporations, pension holders and funds, money managers and other institutions. This would be significant as most, if not all investors would be touched in some way by a bond market crisis, just as all investors were when the GFC hit.

The big winners from a bond market crisis are those investors holding gold and other precious metals, just as we saw following the GFC.

Adding to the concerns around financial markets is the fact that equity markets in key markets such as the U.S. and Germany have reached fresh new highs, highs not even seen before the GFC. Investors need to be wary about investing in the bonds or equities as we are moving closer to a crisis, it is not going to take much for financial markets to tip over with bonds often of questionable grades potentially being the match that starts the fire. It was the subprime crisis that sparked the GFC and it could be a bond crisis that sparks the next global financial crisis.

The closer we move to a new financial crisis, the more funds investors should be allocating to precious metals. Investors should currently be looking to position their portfolios to withstand a crisis by re-weighting their portfolios to include approximately 20-25% of their funds in gold.

Courtesy of Bullion Index .

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Euro Issues Will Underpin Gold Prices

 

Bullion Index report that Euro issues will continue to prop up the price of gold. They note the Greek Eurozone creditors that have been keeping Greece afloat since 2010 have extended the country’s bailout by four months however it is only the beginning from what we see as a number of key flash points facing the Eurozone which will in turn support the price of gold over the next 12 months.

The ‘extend and pretend’ charade Greece and the Eurozone have been playing can only go on for so long. Greeks have shown that they want to remain within the European Monetary Union (EMU) and want to stay with the euro currency, however they are strongly opposed to the anti-austerity measures in place which is going to come to a head at some point. What Greeks also haven’t taken too kindly to in the past two weeks is what they see is a lack of respect or understanding from key Eurozone creditors and personal. The veteran German Finance Minster Wolfgang Schauble patronizingly said after the extension agreement that ‘the Greeks certainly will have a difficult time explaining the deal to their voters’, while also noting of the Greek Syriza party that ‘being in government is a date with reality, and reality is often not as nice as a dream’. The hostility between Greece and its creditors, in particularly Germany, is palpable and it really is only just the beginning of what will be tense negotiations throughout this year.

Many economic experts are suggesting that Germany is managing Greece out of the EMU, having decided that as far back as 2012 when they reduced their banks exposure to Greek debt.

In getting an extension, Greece had to stick with the basic terms of their original bailout package, something the Greek prime minster Alexis Tsipras has said he would ditch altogether. This has put him at odds with his own election promises, already he has been forced to abandon or water down his commitments to the Greek people in order to win an extension. It will not be long before Tsipras feels the heat from both those inside the Syriza party and voters. Tsipras has begun the near impossible task of selling the extension to voters, noting in a speech that “we won the battle but not the war as the difficulties, the real difficulties, not only those related to the discussions and the relationships with our partners, are ahead of us’. We do not see how Tsipras is going to get any significant austerity measures required by creditors through the parliament, which may lead to a snap election causing more uncertainty and instability in Europe.

The extension agreement must be understood for what it is, just an extension. Greece still needs to play its high stakes poker game with the Eurozone and so far it really has just kicked the can down the road by extending the bailout. Greece will need more cash to save itself from default when the bailout extension expires in June. Greece also faces €6.7 billion of bond redemptions in July and August this year which will require more cash and more negotiations no doubt. This has not been a focus however it needs to be on the radar of investors.

At what point will we see the Greek creditors turn-off the credit lines to Greece? We do not see extension after extension being given to Greece as the Eurozone cannot continue on the same path it is currently on. They will not continue to provide billions of euros in loans to Greece given it really needs significant structural reforms to boost growth, not tighter German-led austerity measures which are not working in reducing the levels of debt.

It is not just Greece who will be keeping the Eurozone in the headlines, we are bound to hear more and more rumblings out of other Euro countries over the next 24 months with key elections in both Spain and France. Spain is holding elections later this year with the focus on the anti-austerity Podemos party which runs on a similar platform to the Syriza party in Greece. While the Podemos party in Spain is less than a year old it is increasing its prominence. Podemos leader Pablo Iglesias campaigned for the Syriza party in before the Greek elections last month saying “a wind of change is blowing in Europe”. In France the far-right anti-euro National Front party is gaining traction with mainstream voters, the party advocates France exiting the euro and going back to the franc. France has general elections in 2017. Populist parties from all sides of government are growing in voice across Europe and this is expected to continue.

The chances of a ‘Grexit’ are in our view still very high, if a ‘Grexit’ happens this would create damaging volatility and turmoil for global financial markets. We see significant instability and headwinds for the Eurozone over the next 12 to 24 months and expect this to provide a solid foundation for the price of gold. We are suggesting to clients to add to their gold holdings on price dips such as the one we are experiencing right now.

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