Gold News

ECB QE: Clever, Very

Psst! It will be €50bn per month. Oh look! It's more...!
 
DID you see what they did there, dear reader? asks Greg Canavan in The Australian Daily Reckoning.
 
Wednesday the European Central Bank (ECB) leaked information to the press about how their imminent QE plan would be €50 billion per month.
 
But the real plan, it said Thursday, is for bond purchases (government and some private debt) of €60 billion per month, starting in March.
 
Clever huh? They're that desperate they're blatantly going for the 'bigger than expected' effect. The Financial Times obliged in spreading the word, as usual:
"The European Central Bank launched its long-awaited bid to revitalise the Eurozone economy and counter deflation with a €60bn-a-month bond-buying programme that was far larger than investors had expected."
As I write this morning, listening to Radio National's breakfast program, the 'news' is that the ECB is 'pumping more than €1 trillion into the economy to encourage people and business to borrow and invest'.
 
Financial journalism has become little more than a distribution system for public relations. The misinformation it spreads is astounding.
 
Which is where The Daily Reckoning comes in, Don Quixote-like, charging at windmills...
 
There is next to no chance of 'revitalising' the economy or 'countering' deflation by printing money. Sure, it will create asset price inflation, which does wonders for speculation. But it does nothing for real investment and job creation.
 
Oh well, that will become apparent in a few years' time when the economy is in an even bigger mess and the lunatics start discussing a bigger and bolder program.
 
Because the QE announcement was 'bigger than expected' markets reacted positively. Everyone was a winner.
 
Gold was trading lower leading into the announcement, at around US$1280 per ounce. But by the time Draghi's press conference occurred, gold started rising and by the end of the US trading session, it was just over $1300.
 
Bond yields fell across the board in Europe into even deeper record low territory. When bond yields fall, prices rise, so bond investors liked the news.
 
The German 10-year bond yield is now just 0.44%. If you want to put that into stock market terms, investing in the German government for 10 years provides an earnings yield of 0.44%. Put another way, that's a price-to-earnings (PE) ratio of 227. That means it will take 227 years for the earnings to repay your investment!
 
What about France with an earnings yield of 0.61%? That's a PE ratio of 164. How about Italy where you can earn a juicy 1.54% per year for 10 years? It's a veritable bargain on a PE ratio of 61.
 
Gee, where's the bubble here folks?
 
And of course, stocks rose as well. When you compare them to the alternative of buying bonds, that's no surprise.
 
It will all blow up of course, but no one knows when...hence the frenzied free-for-all. William White, former Chief Economist at the Bank for International Settlements, said in a recent interview with the UK Telegraph:
"Sovereign bond yields haven't been so low since the 'Black Plague': how much more bang can you get for your buck?
 
"QE is not going to help at all. Europe has far greater reliance than the US on small and medium-sized companies (SMEs) and they get their money from banks, not from the bond market.
 
"Even after the stress tests the banks are still in 'hunkering down mode'. They are not lending to small firms for a variety of reasons. The interest rate differential is still going up,"
White is an authority on monetary matters. He correctly warned about the risks in the lead-up to the 2008 crisis. This time around, he thinks things are worse:
"He said the global elastic has been stretched even further than it was in 2008 on the eve of the Great Recession. The excesses have reached almost every corner of the globe, and combined public/private debt is 20pc of GDP higher today. 'We are holding a tiger by the tail,' he said."
To cut a long story short, central banks everywhere are trying to devalue their currencies. 
 
They're trying to destroy the value of money in the vain hope of creating economic growth. In doing so, they've thrown hundreds of years of financial history in the bin, doused it in petrol and tossed a match on it.
 
The ECB wasn't the only book-burning central banks. The Danish cut rates again overnight in a futile attempt to maintain their peg with the Euro. Yesterday, Canada cuts its official rate to 0.75% due to the oil price slump. Canada is a major oil/energy exporter.
 
That means markets are now eyeing the RBA and expectations for a rate cut in February are increasing. Will Australia join in the currency wars?
 
For what it's worth, I think the RBA definitely will cut rates this year. But will it do so in a few weeks' time? I doubt it. The data hasn't been that bad of late and the lower Dollar and lower oil price offer a decent stimulatory effect.
 
RBA boss Glenn Stevens has said on a number of occasions that there are limits to what monetary policy can do. I think he'll be reluctant to cut rates right now. Give it a few more months though.
 
So what's the best investment strategy for sailing into these deep, uncharted waters? In a word, diversification. Have an allocation to cash, gold, shares (international as well as local) and bonds. You just don't really know what's going to happen so you need to have all bases covered.
 
However, with bonds, you need to recognize that the global bond markets are in one gigantic bubble. It's a bubble of confidence in central banks, and it will probably go on for a while longer. But it won't last forever, so keep an eye on your bond exposure!
 
Above all, recognize that the world economy and monetary system has never been here before. Like the famous Ferdinand Magellan trying to find a passage through the America's to circumnavigate the globe, it all seems pretty exciting at the start.
 
He finally found a way through a treacherous strait in Patagonia, in southern South America. It's the strait that bears his name, and is now a maritime backwater. Not used and long forgotten.
 
Magellan's crew were then decimated in the endless Pacific Ocean, before stumbling upon the Philippines...where Magellan finally lost his life to the locals. Years later, only a few of the original crew and one ship, the Victoria, made it back to Spain.
 
What's the point of the story?
 
New and highly risky adventures seem like a good idea at the time. But they often end up in disaster for those involved.
 
When the adventures are small, the risk is contained. We usually benefit from the risks taken on, via knowledge of the mistakes made. But when the adventure is global and everyone is exposed to the risks, well, that's a whole different story.
 
If we get it wrong, it will be disastrous.
 
Make no mistake. The central bankers are getting it wrong.

Greg Canavan is editor and publisher of Sound Money, Sound Investments, a weekly financial report devoted to unearthing great value investments amid today's "money illusion" of fiat currency. Formerly editor of Australia's market-leading finance newsletter, Greg has been a regular guest on CNBC, ABC and BoardRoomRadio, as well as a contributor to publications as diverse as LewRockwell.com and the Sydney Morning Herald.

See the full archive of Greg Canavan.

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