Coronavirus and Precious Metals

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Coronavirus and Precious Metals

March 13, 2020

Volatile equities and precious metals prices are what we are already experiencing in U.S. and European markets as the coronavirus count of infections and deaths seems to be ever-growing.  I suspect we will see more of the same as the count increases, but with an overall downwards trend in equities and an upwards one for gold and possibly silver, although the outlook for platinum and palladium is perhaps not nearly so positive.

While, if official Chinese figures are to be believed and not some kind of propaganda exercise to try and get the country’s manufacturing sector back to work and allay the huge potential downturn in export revenues and GDP, new Chinese Covid-19 virus incidences and associated deaths are slowing to a comparative trickle compared with the previous few weeks.  Whether this represents effective control, or a lull in the infection rate remains to be seen.

 However as the Chinese infection rise appears to be diminishing, the infection rate and number of deaths around the world is increasing substantially and both are now running higher than the reported incidences in China, although the latter still accounts for around 80% of now over 100,000 reported confirmed global virus casesin ovr 90 countries.  The spread in the Middle East and parts of Europe is approaching crisis levels and one has to expect a growing increase in the USA as testing for the virus is accelerated.  News of yet another cruise liner effectively quarantined off San Francisco, and more US deaths, will be contributing to the news perception in the USA that things are far from under control, despite President Trump appearing to try and downplay the seriousness of the likely effects of virus spread on the economy and the likely death rate.

In Asia, South Korea has become something of a new epicenter for the virus and cases in Japan are growing – so much so that the postponement of the Tokyo Olympic Games becomes a distinct possibility.  If this should happen the effect on global realization of the apparent seriousness of the virus spread will be further enhanced.  Like in the USA, the Japanese health system is under attack for a relatively low level of testing to date.

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Meanwhile, as far as the effects on markets are concerned, all eyes are on the USA, which sets the tone of the global equities markets, while the U.S. futures markets tends to be the dominant factor in the pricing of the precious metals complex.  Given that US testing for the coronavirus has, at the time of writing, been extremely limited by probably over-strict regulation by the country’s CDC (Centers for Disease Control and Prevention) testing is now due to be stepped up very substantially and, as a rule, more testing = more confirmed cases.  Perhaps substantially more.

So far the effects on the U.S. economy have perhaps been very limited, but regarding China some estimates have seen a 50% drop in manufacturing and probably even more in domestic purchasing activity.  Automobile sales in the world’s largest market last year, for example, were already declining and in the past month have slowed to almost zero.  Wuhan, the epicenter of the virus spread, is still in total lockdown.  It is a city of some 11 million people and a huge center for some critically important manufacturing activity.  (Something like 85% of all TV and computer flat screens are manufactured in the area, which is also a major source of motor manufacturing.)  Wuhan has been described as the Chicago of China.  Imagine what a total lockdown of the Chicago area would mean for the U.S. economy!

China is a nation with the world’s second largest GDP after the USA, but it punches hugely above its weight in terms of international trade and the global supply chain.  A number of the largest, and most profitable, U.S. companies rely on Chinese manufacture of their products, or components, and a cut-off or slowing down even of deliveries will have a critical effect on output for many of these companies.

As for precious metals, gold is likely to be the principal beneficiary from a virus-associated equities and GDP turndown.  The Fed has already cut base rates by 50 basis points in an ‘emergency’ move and there is strong speculation it may make a further 25 basis point cut at the next FOMC meeting due in just over a week.  (It may even have happened [or not] by the time you get to read this).  The Fed won’t really have the fully comprehensive economic data to work with before making this decision but there’s a pretty good chance that virus confirmation statistics will have risen sufficiently by the time of the meeting to force it to make another ‘emergency’ cut in an effort to try and ward off what seems to be an ever-increasing likelihood of the U.S. economy moving into recession, along with the rest of the world.  The President has even suggested that negative interest rates might be positive for the economy, but this is probably a step too far for the Fed.  The interest base rate is already low enough to be effectively negative as far as the US is concerned being lower now than the true rate of producer price inflation.  Gold, which does not pay interest, tends to do well in the eyes of an investor if real interest rates head into negative territory.

As for silver this has really disappointed the silver bulls so far.  Historically, when gold has been on a sharp rise, silver has moved up even faster in percentage terms.  This has been exemplified in the Gold:Silver Ratio (GSR) – effectively the number of ounces of silver that are equivalent in price to an ounce of gold – falling, but this time around this has not happened (at least so far).  The GSR, as I write, is sitting at around 97 – stubbornly high for the white metal.  The out and out silver bulls reckon the GSR should fall to around 16, which they say is the historic ratio.  But a lot of things have changed for silver in the past few decades.  In reality silver is no longer a monetary metal and its primary demand is now industrial so thus it is perhaps more prone to move with the state of the economy, although there is still a perceived tie to gold which perhaps still sets it apart from the pgms.

Speaking of which, the pgms – primarily platinum and palladium – although considered part of the precious metals complex are very much industrial metals – palladium even more so than platinum.  Their principal use is in exhaust system pollution control for gasoline driven engines (palladium) and diesel engines (platinum).  Even though pgm supply/demand fundamentals look to be strong, the massive global downturn, in China in particular, in diesel and gasoline engined vehicle purchases will be decimating pgm demand.  This is only going to get worse over time as vehicles driven by non-polluting systems (electrical, hydrogen and fuel cell) begin to dominate the market.  Indeed legislation is coming in many countries to ban the manufacture and sale of internal combustion engine driven light vehicles altogether.

So, from the European perspective, things are beginning to look pretty bleak for the equities markets (they seem to be falling across the world and Wall Street has seen the worst crash since the 2007-2009 financial crisis – and it will probably get worse before it gets better.  Precious metals fortunes may well be mixed with those relying on industrial usage for their primary markets perhaps suffering along with equities, while gold looks best positioned for a good price rise.  Silver remains a bit of an ‘in –between’ metal.  It does still tend to get dragged up by a rising gold price, but the times when it was said to act like ‘gold on steroids’ may now be in the past.

Gold had been heading towards $1,700 and US equities opened sharply lower on Friday, but both gold’s rise and the equities fall were initially backtracked by way above expectation job creation statistics for February.  However the likely effects of the spread of the coronavirus in the USA this month, and perhaps next, may put a dent in the labor stats and reverse this trend.  After an initial $30 fall on this news the gold price started to pick up again quite quickly and equities began to drift downwards again.

Whatever happens with the global spread of the Ncov-19 virus over the next days and weeks, things will likely get worse before they begin to improve.  I would expect gold will benefit and possibly silver, although perhaps not as much in percentage terms.  General equities will probably continue to lose ground, perhaps sharply.  However there could be occasional falls in the gold price and recoveries in equities prices as media spin on the severity of the virus ebbs and flows supported by data which appears positive or negative.  In short expect some considerable market volatility, but gold should remain the best bet for wealth preservation and equities markets look vulnerable.

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