Welcome to this week’s Market Wrap Podcast, I’m Mike Gleason.
Coming up Michael Pento of Pento Portfolio Strategies joins me and lays out a scenario he says is ahead for the economy, interest rates, and monetary policy – all of which point to a watershed moment for gold. You simply will not want to miss a truly enlightening interview with Michael Pento, coming up after this week’s market update.
Gold and silver markets held their own this week even as crude oil prices dipped, the Fed vowed more rate hikes, and the stock market set another new record. The gold price currently comes in at $1,268 an ounce, up 0.9% on the week. Silver trades at $17.38 as of this Friday recording and is posting a weekly gain of 2.6%.
On Tuesday, the White House sent Congress a $4.1 trillion spending plan. President Trump’s budget makes cuts to a variety of agencies and programs. At the same time, it boosts defense spending by $500 billion over 10 years and makes no changes to Medicare and Social Security retirement benefits -- the largest programs in the budget.
Administration officials also boast that their plan balances the budget in 10 years without raising taxes. To achieve this feat, they assume economic growth will rise to a rate of 3% per year. That’s significantly higher than we’ve seen in recent years. Government economists are predicting growth of around only 1.8% over the next decade. Even that could turn out to be overly optimistic, especially if a major recession hits.
The political reality is that Trump’s budget for fiscal year 2018 won’t make it through Congress anyway. Trump and his policy agenda now have significant opponents on both sides of the aisle. Republican Senator John McCain, a hot-head who holds a personal grudge against Trump, went out of his way to share his negative feelings about the administration’s new budget proposal.
John McCain: My reaction is it's probably dead on arrival. My second reaction is that, what is that old line about figures lie and liars figure, or something like that?
Katie Link (Newsy): President Donald Trump released his proposed budget Tuesday, and it didn't take long for critics to point out that it's based on pretty optimistic assumptions. The Trump budget anticipates 3% economic growth by 2021, producing about $2 trillion in additional revenue. Three out of the last four U.S. presidents averaged annual GDP growth around 2% or less, and data from the Federal Reserve predicts a long-term annual growth of just 1.8%.
Investors who continue to bid up stocks to record highs seem oblivious to the political reality that the Trump economic agenda of less government regulation, lower taxes, and higher rates of growth will be nearly impossible to achieve. If the economy does miraculously start hitting the administration’s growth targets, the Federal Reserve stands ready to spoil the fun with rate hikes. The minutes from this month’s Fed meeting show Janet Yellen and company very likely to resume raising rates next month.
In recent years, precious metals markets have reacted to changes in the Fed policy opposite to conventional wisdom. Gold and silver fell following the announcement of QE3 and bottomed just as the Fed finally raised its benchmark rate above zero in December 2015.
Metals have held above their lows but struggled to attract safe haven demand since last year’s election. In addition, many of those looking to hold alternative currencies have plowed into digital cryptocurrencies. Bitcoin surged to new record highs this week.
A full-fledged mania is underway in cryptocurrencies. In fact, according to a Bloomberg article published Wednesday, the market capitalization of all digital currencies rose by 50%, or $90 billion, over just seven days.
It’s not just Bitcoin. The number of alternative currencies have exploded in recent months. And names such as Ethereum, Dash, and ZCash are now gaining value at a more rapid pace even than Bitcoin.
The promise of Bitcoin is that the number of bitcoin units that can ever come into existence is limited. Unlike national fiat currencies that can be created in unlimited quantities, only a fixed quantity of bitcoins can ever be mined into existence.
The problem is that cryptocurrencies themselves can be replicated in unlimited quantities. What will the value of a bitcoin be in 20 years when there might be literally thousands of new cryptocurrencies circulating around the world? No one can say.
Bitcoin’s market share has now fallen below 50% among all cryptocurrencies even as its nominal value has continued to rise. Since bitcoins have no intrinsic value, it’s possible they could one day become worthless.
A cryptocurrency that had intrinsic value tied to gold or silver would in principle be superior to one based solely on mathematical formulas. As he discussed with me in last week’s interview, Money Metals contributor David Smith sees cryptocurrency blockchains eventually being a huge driver for precious metals demand.
Bitcoin prices have proven to be extremely volatile. Lately, it’s all been to the upside. But when the tables turn and the speculative mania goes bust, lots of people will be seeking a sounder alternative to cryptocurrencies backed by nothing.
When you own physical precious metals, you own a TANGIBLE form of money with intrinsic value that has stood the test of time. Gold and silver coins can’t be hacked, tracked in a blockchain, inaccessible in an internet or power outage, or simply vanish into cyberspace. They’ll maintain real value over any period of time – years, decades, or centuries from now when bitcoins may be as obsolete as failed fiat currencies of the past.
Well now for more on Bitcoin, what’s likely to happen on the economic front the rest of the year, and the future outlook for metals, let’s get right to this week’s exclusive interview.
It's always a real pleasure to have him join us. Michael, how are you today? Welcome back.
Michael Pento: I'm doing fine, Mike. Thanks for having me back.
Mike Gleason: When we had you on last you commented that you believed the market was pricing in President Trump getting virtually all of his policy agenda pushed through Congress, the tax cuts, repealing Obamacare, and so forth. To say Trump has encountered some resistance in Washington would be a major understatement. The establishment of the right doesn't seem to like him. The left and the mainstream media of course hate him. So, Michael before we get into the effects this will have on the markets here, first off, handicap for us the chances of Trump, based on what's been transpiring in recent weeks, miraculously gaining enough allies in Congress in order to get his initiatives passed.
Michael Pento: I did say that the market was pricing in the imminent effect of a massive tax cut — and I meant tax cut, not a tax reform package. In other words, cutting the rate from 30% to 15% or even 20%, but certainly not offset by any spending cuts or an elimination of deductions. The market is still pricing in a lot of that hope and hype, in my opinion. But I had said and warned from the beginning, this was back right after the election, I did say that the Trump "stimulus" package — and I'll put "stimulus" in quotes and I'll explain why in a second — I said that the Trump "stimulus" plan would be both diluted and delayed.
It looks like that's exactly what's going to happen and is happening. I would be very, very shocked if we see anything before the August recess in the realm of healthcare, certainly in the tax reform package. It is my best guess that in early 2018 Trump will ram through a very adulterated and attenuated package that will be mostly a minor reduction in the rates, which is for the most part offset by some type of a reduction or elimination in write-offs.
In other words, the market is extremely, extremely overvalued, and – and we'll get to this later – the only thing left holding this market together on top of a massive bubble is the perpetual QE from Europe and Japan. I do not expect the QE from Japan to end any time soon, although I do expect later this year at least some salvos from the BOJ, that that's something that they might be able to do in the future. I do expect QE to end in 2017 in Europe.
Mike Gleason: Leads me right into my next question here. You summarized things very well in your Pentonomics piece this week. And for folks who aren't getting those, you simply have got to get on the email list and get those on a regular basis. Go to PentoPort.com and sign up for that. It's truly fantastic stuff. I want to read an excerpt from that and then get your comments here. You wrote:
"The truth is this extremely complacent and overvalued market has been susceptible to a correction for a very long time. But just like Trump, it has so far behaved like it is coated in Teflon. North Korean atomic bomb tests, Russian election interference, Trump's alleged obstruction of justice, an earnings recession, GDP with a zero handle; who cares? As long as a tax cut could be on the way and global central banks keep printing money at a record pace, what could go wrong?"
With all that said, talk about the danger and when and where things might finally fall apart here, Michael.
Michael Pento: Wow, what a great question. Let's just look at the earnings picture for a second here. In Q1 2017, the projected, not the actual yet, but the projected earnings is going to be $30.77. This is from FactSet data. If I look at Q1 2015, and I'm going to explain in a second why I'm going to 2015, the S&P 500 earned $29.01. So, we have earnings growth in this country, if you go two years back, is only 6% over those two years. And, more importantly, let me say, Wall Street loves to cherry pick data, so if you look at the earnings growth year over year, it's much better. It's close to 15%. Of course, this is pro-forma earnings that I'm talking about here, not gap earnings.
The reason why Wall Street likes to do that is because we had a vicious draw-down in the oil price right around that time. There was negative earnings in the oil sector. Now the oil sector is displaying year-over-year growth of 630%. I can assure you, that's not going to be repeated in the future. So, if you look at earnings, the trailing 12 month earnings for all of 2016: $119.27; 2014: $118.96. so, the S&P 500 is up 30% in that time frame with virtually no growth in earnings. You have to ask yourself, why? Why would the stock market be up 30% -- after being up, by the way, significantly before then – when there's no growth in earnings?
People say it's all about earnings. I'll tell you, Mike, and this proves my point, I've always said the stock market is a function of monetary expansion. It's a function of the yield curve and it's a function of central bank money printing and private bank expansion of the money supply. And what we see now – and this is not my data, it's data you can find very easily – that the first four months of 2017 central banks have printed anew over one trillion dollars of phony fiat confetti credit. That stimulus primarily coming from Europe and Japan is fungible. It finds its way all over the globe.
That's when I wrote that commentary. I said, "You know what? Literally we have nuclear bombs being tested in North Korea. We just came out of an earnings recession, but the stock market went up 30%. Trump may be impeached. The market goes down one day and it's buy-the-dip. Why would this ever be the case?” Why would it be the case when the stock market, if you look at it as a percentage of the economy, is virtually at an all-time record high outside of a small window in the year 2000? If you look at price to sales, it is virtually at a record high.
Why is the market so expensive? Why is it so overvalued? Because central banks are still in the process of blowing up asset bubbles. That is changing. It has already started. In December of 2013 the Fed started tapering. That was tightening. They started to raise rates. This will be another rate hike probably in June. I think that'll be the Fed's last rate hike, but I do think they try to get one more in. And I'm fairly confident that the yield curve will invert sometime between June of this year and June of 2018.
If I can just have a little more leeway here, Mike, I want to explain why I think that is and why it's so important. Right now, you have to understand that the yield curve is very important to the economy and to the money flows that I was talking about into the stock market, because we have a fiat, debt-based money system. Banks lend money, and that increases the money supply. Banks will not lend money when the yield curve inverts. In other words, when they're paying their depositors more than they can collect on their assets, why would they make new loans? They stop. And when new loans dry up, asset bubbles plunge. That happened in the year 2000. It happened in the year 2007. The yield curve inverted, bank loan growth dried up, and the stock market fell 50%.
Right now, we have a 1% Fed Funds rate and a 2.3% 10-year note. A 2-10 spread is what I'm particularly talking about. And the 2-10 spread is 1.3 to 2.3, a little bit less than it is right now, a little bit less than 1%. Very, very narrow spread. The Federal Reserve says that they can raise rates to 2.75%-3% on the Fed Funds rate by the end of 2018. You get that? In the next year-and-a-half, which is not too far away, the Fed is convinced they can take the Fed Funds rate to nearly 3%. I will tell you that if you have a 10-year note at 2.3% and a Fed Funds rate at 3%, economic Armageddon is around the corner.
Now I don't think they ever get anywhere near there. I don't think they can ever raise the Fed Funds rate anywhere near 3%. But I do believe they can raise it to around 1.5%. That means that the 10-year note, instead of rising, will fall, because what is the long-term rates most concerned with? They're most concerned with inflation. So, the long-term rates will fall, short-term rates rise, yield curve inverts, and you look at a chaos and a catastrophe sometime between June of this year and June of 2018.
Mike Gleason: The last time we had you on we were kind of wondering out loud together about whether Trump is going to be aiming for a strong dollar or a weak dollar. Now that we've seen him at work here for the last four or five months, what does it look like to you on that? Is what we're seeing and hearing from his administration and him indicative of his policies being dovish or hawkish?
Michael Pento: I've got to tell you, it's another good question. We don't know. (During) the campaign Trump was (saying): Janet Yellen must go, the Fed must raise rates rapidly, pop the bubble's extent in real estate and in equities, and we want a strong dollar. Now that's candidate Trump. So, President Trump ... In fact, even yesterday, I listened to Treasury Secretary Steven Mnuchin claiming that we can't have a border tax adjustment, we cannot have a BAT, because of its potential effect on the U.S. dollar. In other words, surging value of the U.S. dollar. That means to me – and Steven Mnuchin gets his marching orders from Trump – so that means that President Trump is diametrically opposed to candidate Trump as far as what he believes is a bubble and where he thinks the value of the dollar should be.
We have Trump is going to be able to appoint several members, five to six members, on the FOMC, including a chairperson. I think Yellen goes out February 2018. So, we will see for sure what kind of individuals. Are they Taylor-based, rules-based FOMC members? Or are they uber-doves? And it's my belief looking at what I see from Trump so far that they will be more on the dovish side of the ledger.
Mike Gleason: You have addressed some of the macro events that markets are facing. Let's get more specific for a minute and talk about the outlook for metals in the months ahead given the larger picture. Gold and silver got off to a strong start in 2017, fell back, and have begun a bit of a rally here the last week or two. Do you think we can expect safe haven buyers to return in force in the months ahead? And are there any drivers in particular you think investors should focus on when it comes to the metals?
Michael Pento: I'm looking very closely at the data, Mike. You had a big divergence between the hard data and the soft data. Now the latest data, if you look at the Richmond Fed manufacturing survey and the Empire State manufacturing survey, these formally erstwhile, very strong soft data points are starting to come out soft. The argument was, will the soft data lead the hard data up, or will the soft data drop down to the hard data? Looks to me like Q2 is not starting out very strongly if you look at new home sales, existing home sales that came out today, and various other soft data metrics that I just mentioned all point to the fact that I don't think you're going to have a Federal Reserve that's going to have the ability to raise rates two or three more times in 2017.
And on the other hand, you see some pretty good strength in Europe. Now I don't think the European strength is going to last either, but the point of the fact is that the diametrically opposed monetary policies, one of we have 60 billion euros printed a month in Euroland with Mario Draghi, and actually being prepared for quantitative tightening, I've called this quantitative tightening, where the Fed, instead of QE, which is when they buy longer-dated assets to push down on the yield curve, they are actually going to be unwinding their balance sheet, supposedly, later this year or early next year. We'll find out more when the FOMC minutes are released today. So, you have a fact that the Fed is actually threatening to sell trillions of dollars’ worth of bonds.
I don't think any of that's going to happen. As I said before, watch the yield curve for the value of equities. As the value of equities and real estate go, so goes the economy. That's been proven over and over again. Watch the yield curve. Watch these asset prices. I think as the yield curve continues to tighten, and all of your listeners should go and look at a 10-2 spread, look at a chart and notice how trenchantly dynamically that is tightening very, very rapidly. I think that we're going to have an inverted or very, very shallow real curve by the end of 2017, and that's going to bring about a change in monetary policy. This change in monetary policy to equal that of the ECB will cause the dollar to fall, and that is the big watershed change in precious metals prices.
That's what's holding gold back, especially in the miners. We haven't had stellar performance from the miners, or even gold, even though gold is up about 9% so far, 8%, 9% this year. I think we're going to go right back to all-time highs once that watershed event occurs. Again, what is that event? That event is when the Fed has to admit that it can no longer follow its dot plot and it reverts from a tightening monetary policy to one that is static or easing.
Mike Gleason: A bit off topic here, and as we begin to close, Michael, at what point do you see the banksters on Wall Street coming up with a way to short Bitcoin? Because you know the Wall Street and central banking elites cannot be too thrilled with seeing Bitcoin's amazing rise.
Michael Pento: Well, I've got to tell you, I understand the philosophy behind Bitcoin. I'm not a huge fan of Bitcoin, because while I believe it's a wonderful currency and it represents the desire to get out of a fiat currency regime, we already have something called gold, which is not only a pretty good currency, but it's also perfect money. It's transferable. It's portable. It's beautiful. It's very rare and virtually indestructible. Where Bitcoin fails is that it's not money. It's not virtually indestructible. If you bring down the internet, your Bitcoin is worthless, or the grid or the internet. And it is not very rare because there's a virtually unlimited number of these digital currencies. So, it's trying to be money, and even though it's a perfect form of currency, it lacks all the qualities necessary to become money.
Gold, on the other hand, is perfect money, but it's an okay currency. But, if you ask me, what's the rationale behind Bitcoin? The rationale behind Bitcoin is very solvent and very true in that we need another alternative to central banks. Because I believe in the coming few years, and it might not even be that long, Mike, that physical currency will be banned and you will have negative interest rates in your bank deposits. So, the government will steal your money, telling you that you get a negative rate for this period of time, quarter or year — say negative 5%, negative 10% — and you must spend your money. You can either keep your money in the bank and lose the nominal purchasing power as well as in inflated adjusted terms, or spend it. And that is their way to get inflation going.
That's I think where we're headed down the road. It's a very real and credible danger. It's not my imagination. It's not my conspiracy theory. It's what they're actually discussing, and things of this nature have already happened around the world in countries such as India.
Mike Gleason: That's a very real possibility, and if the time does come when that happens, those that actually have something other than dollars, whether it be gold or Bitcoin or something along those lines, are going to be very glad that they had it when the time comes.
Michael Pento: Mike, one more thing I wanted to mention about gold. And for those who are temporarily suffering under gold, you should understand this, that we are in a condition in this country, in this nation that uses dollars, which is the world's reserve currency for now, we are in a condition now where deficits are set to absolutely explode in the next few years. I want to just go over it real briefly. The CBO projects that our deficit will be a trillion dollars per annum in the next 10 years, very early in that time frame. If we have a recession, you can add another $1.4 trillion, like we did last time, to the annual deficit.
The Fed is threatening to do something called quantitative tightening, like I mentioned before. They're going to sell around $3 trillion worth of treasuries and mortgage-backed securities over the next seven years. You can add that several hundred billion to that total. If we do have tax cuts that are not paid for, you can add about $5 trillion – even after assessing for growth – $5 trillion over the next 10 years. And for every 1% move higher in interest rates, you're looking at $200 billion each year.
So, deficits in the next few years have a very real chance, especially when we enter a recession — and I don't think the Fed has repealed the business cycle — to be multiple trillions of dollars in the next recession. That's a very, very real danger. And if you don't think that's going to bring back a change in monetary policy, you're sadly mistaken. That's when I think gold really hits its full stride.
Mike Gleason: Excellent stuff as always, Michael. It's great to have you on again. We certainly appreciate you making some time for us today. Now before we let you go, as we always do, please tell people who want to both read and hear more of your wonderful market commentaries and also learn about your firm and how they could potentially become a client if they're so inclined, tell them how they could do all that.
Michael Pento: The website is PentoPort.com. You can look under my Mid-week Reality Check there, sign up for it. You get a free trial. It's only $49 a year. You get all kinds of arcane facts and details and statistics that the mainstream media won't get you, but people like you, thank God, will have people like me on to talk about. So, it's PentoPort.com. The email here is [email protected], if you want to email me directly. The phone number for the office is 732-772-9500.
Mike Gleason: Again, wonderful insights, Michael. Thanks so much for joining us. Enjoy your Memorial Day weekend, and we look forward to having you back on again soon. Take care.
Michael Pento: Thanks again, Mike.
Mike Gleason: Well that will wrap it up for this week. Thanks again to Michael Pento of Pento Portfolio Strategies. For more information just visit PentoPort.com. You can sign up for his email list, listen to the midweek podcast and get his fantastic market commentaries on a regular basis. Again, just go to PentoPort.com.
And don't forget to check back here next Friday for our next Weekly Market Wrap Podcast, until then this has been Mike Gleason with Money Metals Exchange. Thanks for listening, and have a great weekend everybody.
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