Gold Prices Reverse Their Manic Run
Gold prices continue to slide into Wednesday after a sudden unexpected reversal on Tuesday
On Episode 708 of The Core Report, financial journalist Govindraj Ethiraj talks to Amit Goel, Co-founder & Chief Global Strategist at PACE 360 as well as Dr. Jan Mischke, co-author of the report Out of balance: What's next for growth, wealth, and debt? and Partner at the McKinsey Global Institute (MGI).
SHOW NOTES
(00:00) Stories of the Day
(00:50) Gold prices reverse their manic run, where will they go now?
(10:30) Oil prices are up on renewed hopes of an India-US deal and Indian purchases of oil.
(11:29) Global wealth has reached $600 trillion, outpacing GDP growth since 2000, and powered more by debt and paper wealth than productivity. What does that mean?
NOTE: This transcript contains the host's monologue and includes interview transcripts by a machine. Human eyes have gone through the script but there might still be errors in some of the text, so please refer to the audio in case you need to clarify any part. If you want to get in touch regarding any feedback, you can drop us a message on [email protected].
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Good morning, it's Thursday, the 23rd of October and this is Govindraj Ethiraj broadcasting and streaming weekdays from Mumbai, India's financial capital. Wednesday was a markets holiday because of Diwali.
Our top stories and themes.
Gold prices reversed their manic run, where will they go now?
Oil prices are up on renewed hopes of an India-US deal and Indian purchases of oil that could follow.
Global wealth has reached $600 trillion, outpacing GDP growth since 2000 and powered more by debt and paper wealth than productivity. What does that mean?
Gold Turns Around
Many Indians buy gold in the run-up to Deepavali, the festival of lights. Now, they must be hoping that gold prices fell before and not after the key day, Dhanteras, which came last week. Meanwhile, gold prices continue to slide into Wednesday after a sudden unexpected reversal on Tuesday, that's at least unexpected to those who were expecting it to go up further.
So much so that it suffered the worst rout in over 12 years on Tuesday, according to reports. Spot gold was below $4,080 an ounce after it fell about 6.3% the day before that. Analysts told Reuters that technical selling has been the main culprit and added that prices have been trading in overbought territory since the start of September and that they'd expect gold to regain its momentum next year.
Gold is up about 55% still this year. The stock markets were somewhat muted on Tuesday, possibly also because of lower turnout at trading desks, with India still in the middle of Diwali week and of course it was the first day of trading on Sambath 2082. And in the special and shortened mahurat trading session on Tuesday, the markets were muted.
The Sensex was up 62 points to 84,426. The NSE Nifty 50 was up 25 points to 25,868. And in the broader markets, the NSE Mid Cap 100 was up 0.1% and Nifty Small Cap Index was up 0.5%. All in all, it does look like we're set for a muted to positive start on Thursday, given that some of the international indicators are looking positive.
Now let's return to gold. Prices have been on a tear in recent months, hitting records almost every other day. And not surprisingly, even in India, investors have started buying gold and silver exchange traded funds at a much higher pace than before, and silver too, because silver usually tracks gold.
The larger question, of course, is where are gold prices going globally and what can we learn from history, if anything? And the second, how does gold stack up at this point as a medium or long-term asset, particularly in contrast to other assets? I spoke with Amit Goyal, co-founder and chief global strategist at Pace360, and I began by asking him what in his mind had caused this sudden reversal.
INTERVIEW TRANSCRIPT
Amit Goel: My understanding is that the rally which has happened in gold and silver over the last about two and a half months, it is a historic rally. While it was easy to understand why the rally started, but at that time it would have been impossible for any one of us to even imagine, let alone hypothesise, that gold would go all the way up to close to 4,400 levels and silver would rise up to $54 levels in such a short span of time. While some of the reasons for the rally are very well founded, but anything which goes up so much and so fast, it sort of feeds on itself and the more it goes up, there is more excitement, there is more frenzy around it, more people buy and when more people buy, then the price goes up more.
So it was like a feedback loop which just kept reinforcing itself and we just went from strength to strength to the point that it literally became a big bubble. And in fact, I have now been using the words monstrous bubble or a bubble of monstrous proportions for both gold and silver, the way the price action went up. So some of the RSIs, the Bollinger Bands, the proprietary greed models that we have, everything tells us that the frenzy that we've seen over the last 11 to 13 weeks, it has all the ingredients of a bubble.
What we are now seeing for the last two, three days is a bubble which is in the process of getting deflated. It's not going to be a one-day or a two-day or a three-day phenomenon. Usually bubbles of this magnitude would take more time to finally settle down, but till that time, we'll just keep getting those big waves all the time.
Govindraj Ethiraj: But if you were to look at what's driving it, essentially it seems to be fear, at least the initial triggers on part of central banks, on part of institutional investors, because they were in a way betting that the world economy was not going to land in a very safe way or there would be trouble ahead. So that does not seem to have been resolved as yet. And we are going to continue to see, let's say for example, trade tariff tensions for the foreseeable future.
So what could then change? If I can supplement that, several global institutional investors, reputed names, have been now talking about $5,000 announced. Maybe not in the immediate future, but in the somewhat distant future.
So if you were to look at these factors, would you say that these factors have diminished in their impact or they don't matter anymore?
Amit Goel: I have been in the markets now for 31 years across asset classes and across geographies. Being a student of history and economics, we've studied the markets all the way back to the initial days of capitalism in the 15th and the 16th centuries. My sense is that we have seen a lot of crises and we've seen a lot of booms and busts in the last 100 years.
And it is only in this particular cycle that gold has got so clearly identified as a haven asset, when everything else is just going haywire just by gold. But I must remind you, Govind, and I must remind all your viewers, that in 2008, when Lehman Brothers collapsed, in those few weeks where all equities went down by like 30%, 40% in a matter of few weeks, that time gold also went down by 20% in dollar terms. We saw the tech bubble burst in 2001-2002 and gold was pretty much going down from 2000 to 2001 when the markets were in a complete downturn and in a tizzy.
And then the China devaluation of 2015-2016, which was again a crisis point for the world markets, and all markets had gone down. And then gold literally was at $1,040 in December of 2015. It was down 45% from its peak, which was made in 2011.
So what I'm trying to say is, Govind, that booms and busts are a part of the capitalistic system that we have in the world and the free financial markets that we have. But it doesn't mean that the gold is an answer for every problem that you have. Geopolitical crisis, buy gold.
Tariff issues, buy gold. Markets in a tizzy, buy gold. Hard economic landing, buy gold.
Because it has never worked in history. So my sense is that this is how the people are justifying the rally. But probably this is not entirely what the rally was made up of.
And my sense is that this is now a victim of its own success. And just like Bitcoin, institutions do not like Bitcoin only because of its huge volatility. They do not want to buy an asset which can go up by 100% and can also fall down by 50% in a short span of time.
And I think gold has just displayed that kind of behaviour. In two years, it has gone up by much more than 100%. And this is not how a reserve currency-like asset should behave.
And in my sense, this has now become like a victim of its own success. And when the downturn follows after this massive rise, then a lot of central banks are going to have to think, do we want to buy into an asset which is as unpredictable as gold, going up by 100% and then probably correcting by 25% in the next six months? This is not what a central bank reserve asset should look like.
Govindraj Ethiraj: Good to hear the counter view as well. So sitting here in India now, many people would have liked to buy gold for Diwali on Dhanteras. But at that time, we were at our peak.
And now we've come back even in India below the 134,000 mark and closer to maybe 125,000 now. But my question really is, how should people be looking at gold here on, independently as well as in contrast to other assets that typically people balance out with?
Amit Goel: I would say that gold is not an investable asset in the short term to medium term. And believe you me, I'm still a long-term bull on gold. I still believe that gold is going to go all the way to 7,000, 8,000 over the next five years.
But I think the regime has to change. In this particular regime, gold has peaked out. Probably silver has also peaked out.
And there is going to be a regime change when gold will become valuable again or investable again. Let's say 1 AM Tuesday morning Indian time, and which was US closing hours on Monday markets, that gold made a peak. It's not even 48 hours since then.
So this is going to go a long, long way. I'm not saying that this is just going to go one way down. I've seen a lot of bubble deflation in the last 31 years.
And no bubble gets inflated just one way, and it doesn't get deflated one way. So there is going to be a buildup. It's going to go down.
My sense is that we will probably, from the top, see a 30% to 40% cut till sometime next year. And there would come a point where gold would become investable again. But it's too soon.
I mean, just 48 hours back, it was still making new all-time highs, $4,380. It's still too fresh. For a long-term investor, I think we need to give it at least 6 to 12 months before it becomes viable.
But till then, we'll, of course, continue to play those waves. There are going to be waves of buying and waves of selling. So people like us would continue to play those waves.
But from a long-term investment standpoint, I would not touch gold with a barge pole right now.
Govindraj Ethiraj: Thank you so much for joining me.
Amit Goel: Thank you so much, Govind.
Oil Prices Jump
Oil prices jumped on a report that US and India are nearing a trade deal wherein India might gradually reduce imports of Russian crude, which would obviously increase demand for alternative supplies, according to a Bloomberg report, which also added that Brent futures were up about 2 percent at above $62 a barrel, and that further reduced its recent slump to five-month lows over concerns that the global crude market was headed for oversupply, according to that Bloomberg report.
US President Donald Trump said Prime Minister Narendra Modi had assured him that India would wind down purchases from Russia. Prime Minister Modi acknowledged a call with the US president without mentioning what was discussed. Analysts told Bloomberg that oil prices did climb after reports suggesting that US and India are close to finalising a trade deal that could see India gradually cut imports of Russian crude, potentially lifting demand from other grades, or rather for other grades.
The Wealth Paradox
Global wealth has reached about $600 trillion, outpacing GDP growth since 2000 and powered more by debt and paper wealth than productivity. In fact, for every $1 of investment, the world has created $2 of debt, according to a new report from McKinsey Institute.
The report says the world needs a rebalancing act. Europe needs to invest more, the United States save more, and China consume more, each at a scale of more than 3 percentage points of GDP. The report also says that the top 1 percent of people hold at least 20 percent of wealth, and cross-border imbalances are growing.
So what does all this mean, and how can countries respond to this situation if they could or should? I spoke with Jan Mischke, partner at the McKinsey Global Institute, based out of Zurich, and I began by asking him to define the problem and challenge for us. McKinsey Global Institute is McKinsey's business and economics research arm.
INTERVIEW TRANSCRIPT
Dr. Jan Mischke: Like essentially any good corporation, we like looking at the economy not only through the P&L, so GDP, which is where 98% of the attention is, but also through the balance sheet. What are all the assets? What is all the debt?
What remains as net worth? And then see, are there any imbalances? Are there any issues?
Are we running risks of, in fact, tempted to say going bankrupt? Of course, the global economy can't go bankrupt, but it can go through crises and has repeatedly done so. So that's why we are studying this phenomenon.
Govindraj Ethiraj: Right. Why is the level of debt to investment important in general and specifically right now in the global context?
Dr. Jan Mischke: What we are seeing is that the balance sheet has moved out of proportion with the economy. It's a little bit like if you run a company and you amass a lot of debt, but your earnings don't grow, then at some point you run into a problem. That's kind of the state where the global economy is now.
The balance sheet is, by all historic standards, too large compared to the size of the economy. And of course, that matters because how you now get the two to converge drives both growth but also prosperity and wealth for the decade ahead.
Govindraj Ethiraj: Right. When we look at the global balance sheet, I'm not sure if it's an 80-20, but it's definitely between, let's say, the United States and China would be almost close to half the economy or the global economy, and there are many other countries which follow. So how does what you've said so far play into the top economies or even the next rung of mid-size and smaller economies?
Dr. Jan Mischke: Over the last 25 years, the world has added $400 trillion of wealth. Now that is, in principle, a good thing. Right.
We have all that wealth and we feel rich, but it's a little bit of a David Copperfield-type illusion. What actually happened? We only put $100 trillion of net new investment into the ground.
Building cities, infrastructure, manufacturing, and intangibles and R&D is also included there. But then we used $200 trillion in new debt to finance that investment. Don't try that at home.
Right. Don't go to your banker and say, I want a $2 million mortgage on my $1 million house. That's not going to work.
But at a global level, we somehow found that as a good idea. And we're using all this debt to essentially pump up asset prices. We created those $400 trillion in wealth.
That's not exactly a stable situation and we need to work our way through that. The picture is similar to geography in the sense that it is out of proportion, but what is happening underneath is somewhat different. What we see in the U.S. is particularly that U.S. equity went very high. It has almost tripled relative to GDP over the last 25 to 30 years. And also, of course, U.S. fiscal debt is very high by any historic standard. When you look at that, there's a lot of discussions around what is now happening with the P.E. ratios in U.S. equity. I'll leave that to your favourite banker to have a view on. But what we do see when we actually run the discounted cash flow reverse engineering of what you need to believe for these equity values to make sense, then you see that historically what has driven it a lot is that the corporate earnings share of GDP doubled since the mid-90s. It moved from an all-time low to an all-time high and is now 50 percent above 100 year averages.
And markets essentially price in that it will double again. And that, of course, can happen. All that's on the horizon with AI, that can happen.
Govindraj Ethiraj: But there's also a lot of things that can still go wrong. So when you say things can go wrong, what could it be? And is there something in history that points us in that direction or is it something that you're anticipating in the horizon?
Dr. Jan Mischke: Historically, the earnings share of GDP has fluctuated around a fair bit. Some of the drivers have actually been more on the societal side. There's also a little bit of bargaining going on here between who gets the share of the pie, like is it the workers, is it the customers or is it the shareholders?
So there can be any kind of structural shifts there, during the 1970s inflation episode, for instance, the corporate earnings share actually declined a fair bit. That's those more long-term structural and societal fluctuations. But right now, of course, all hopes rest on AI.
Our research suggests that the productivity impact and the potential of AI is very large, larger than anything we've ever seen pretty much in history in terms of impact on any one thing or any one technology. But there's also a big question on the timeline. How fast actually then do you get those productivity promises from AI?
And a lot of questions on who reaps the rewards. And depending on how that plays out, we might actually be coming together again in 10 years and think like, oh, US equity was massively undervalued compared to all the wonderful things that evolved. But we might also find, oh, there was a bit of a disappointment in the way and a significant balance sheet correction.
Govindraj Ethiraj: Right. For someone who's trying to understand this, I mean, explain to us the link between productivity increases in general and how productivity increases could be a way out of this. And I think the second question is really, and which you've already hinted at, is the role that AI can play in this and the counter view, which is that it's a bubble or it's coming to look like a bubble.
Dr. Jan Mischke: Yeah, if you think about a balance sheet that has grown out of proportion with the economy, then conceptually, you have four ways you can deal with that. One thing is you crash the balance sheet. None of us wants that.
It's not a good solution, but it happens time and again. The last time at a global level was, of course, the great financial crisis. So we could do that again, but it's not a very good thing to have.
The other thing is you inflate away that balance sheet. We have pretty much willingly or unwillingly tried that for a few years now, and it actually did help. It did bring the balance sheet down from its peaks relative to GDP, but it's not enough.
The third way is essentially you get into a situation of very low investment, very low growth, and very low interest rates. And if you have zero interest rates, then an almost infinite balance sheet doesn't look very daunting anymore. And that is kind of this concept of secular stagnation.
We've been there before the pandemic for almost a decade. It's stable, but it comes with very slow growth. So the best option is you essentially grow the economy into the balance sheet by raising productivity and this way raising economic growth, raising the earnings, raising the incomes that can actually service the debt and that can actually underpin the equity and other asset valuations.
That's why it's so important to get to this productivity acceleration, be it with AI, which is the obvious technological opportunity, or be it with good old investment in infrastructure, in production capacity and services and intangibles.
Govindraj Ethiraj: If there were to be a big productivity jump, and maybe in some ways it's already happening or beginning to happen in some parts of the global economy or in some enterprises or types of enterprises, there's also likely to be job losses or shifts. So does that somehow come into this equation or is it represented in this balance sheet?
Dr. Jan Mischke: So historically, productivity growth at an aggregate national level has actually not come with employment losses. There's always some kind of fluctuations and shifts underneath. So like when a very unproductive firm goes bankrupt and out of business, then temporarily there's some employment, but historically that always then got picked up by the more productive firm's hiring.
And this creative destruction is actually one of the most important channels of productivity growth. And when it works well, like in the US we've just seen in a separate study, it adds a full percentage point to productivity growth relative to Europe where it's not working well and the dynamism is low. With AI, people have a bit more concern that it might go too fast and too broad for labour markets to react in time.
Our separate research on that suggests that for the next five to ten years, we are not too nervous, let's put it this way. There's a lot of opportunities for new work to come up and also adopting AI and making good use of it will take some time. For the very long term, it's a different discussion.
Govindraj Ethiraj: I'm just wondering, the latest Nobel Prize for economics, I mean, does it refer to creative destruction, assuming along the lines of what you've just described.
Dr. Jan Mischke: That's exactly one of the key elements that was honoured back then. It is one of the most important drivers of growth and of prosperity. It comes with frictions and with lots of individual temporary issues.
But as a society, it is really, really important.
Govindraj Ethiraj: Right. So as business leaders, I mean, there are, I guess, two kinds of audiences for what you're saying. One is those who are in policy or policymaking at the national level or at a sovereign level.
The other is business leaders. How should business leaders look at, interpret what you've just talked about or described to us?
Dr. Jan Mischke: Yeah, the business leaders I'm speaking to find it very useful to think in those four scenarios and which economy is actually most likely to go where. It gives you almost a little bit of a reading guide above the daily noise of latest tariff announcements and job markets reports and all those volatile fluctuations. You can take a little bit of a 10-year outlook and essentially say, okay, the US is actually doing all those investments in technology and beyond that make it quite likely that it can stay on that productivity acceleration path it has already entered.
In Europe, in turn, investment is not happening because of competitiveness challenges. And with a lot of savings, a lot of investments, interest rates are going down back to zero. And it has reentered as a pathway of secular stagnation that will take a big step forward to get out of it.
And in China, it's unfortunately evolving into a similar direction where just excess household savings are so high. Also, inflation has disappeared, interest rates falling, growth is falling. So, unless there's some dramatic action happening there, it might also get into a slow growth secular stagnation path where it grows more slowly than the US for the next 10 years.
Govindraj Ethiraj: Right. Jan, thank you so much for joining me.
Dr. Jan Mischke: Thank you.
