Economic Update: 1 September 2017
The Investment Management team round-up some of this week’s news.
Annual Jackson Hole Symposium
The annual economic policy symposium at Jackson Hole has been running since 1978. It is keenly anticipated by Central Bank watchers. With investor perceptions being shaped by key monetary policy decisions the outcome gave little of any substance to those hoping for clear signals.
Mario Draghi, President of the European Central Bank (ECB), managed to steer clear of immediate policy issues, despite the additional pressures associated with the recent strengthening of the Euro. Janet Yellen, Chair of the US Federal Reserve (Fed), used her speech as an occasion to issue a subtle warning to the Trump administration about their deregulation aspirations. Draghi, in a similar context, emphasised the importance of free trade and took a less subtle stance on deregulation stating, “to foster a dynamic global economy, we need to resist protectionist urges”. These remarks were directed at Donald Trump and his administration.
Trump has already expressed a preference to relax regulations in the financial sector citing the inability of businesses and individuals to obtain loans from financial institutions. Taking a different tack Yellen said, “already, for some, memories of this (credit crisis) experience may be fading – memories of just how costly the financial crisis was and why certain steps were taken in response”.
While Yellen is open to revising regulations, especially as the impacts become clear, she is still opposed to taking an axe to the post-crisis framework. Her opposing stance on deregulation could significantly reduce her chances of reappointment at the end of her term in February 2018.
The symposium left many unanswered questions regarding the direction of monetary policy and future actions by the Fed and ECB. Market participants will now have to wait until September’s Federal Open Markets Committee and Governing Council of the ECB policy meeting for further guidance.
For many investors Gold is a trusted ‘safe-haven’ asset. Over the past week demand spiked following news that North Korea’s Kim Jong-Un had launched another missile, this time over Japan and towards US territory.
In terms of price reaction the price of gold was hovering around $1293 per ounce before the news broke but announcement of the missile launch on Monday pushed the price to end the day at $1325, a 2.5% increase, leaving gold at its highest price since October 2016.
Gold Spot Price Per Ounce
Source: Bloomberg, 2017
Exactly how President Trump will react to the escalating tension with North Korea is something that analysts are pondering. He has already stated that he will not refrain from using force to halt Kim Jong-Un’s advances but part of his strategy is to send out mixed messages.In the meantime, the uncertainty this creates helps build a stronger investment case for gold bugs.
Of course there are other factors at play as well. Hurricane Harvey in Texas and Louisiana and the US dollar’s recent weakness have also influenced the price. The US dollar (USD) has been affected by political unrest in North America with the new government stalling on their proposed economic agenda involving tax cuts and infrastructure spending. Many investors see an inverse relationship between the USD and the gold price i.e. when the USD falls, the price of gold increases. Investors looking for alternative investment sources to store value and who fret about the future believe gold is a better bet than fiat money (money backed by government regulation). Since the credit crisis other assets (see chart below) have proved to be a better source of return but in one key sense gold is very different -its use as a source of diversification to mitigate risk during times of global instability.
Cumulative Performance From The Lowest Point After 2008 Financial Crisis
Source: Bloomberg. Data as of 31 August 2017
Harvey Has Gone Global
It has been a rocky year for oil producers with large swings in the oil price. Production cuts and more recently the disruption to US supply due to Hurricane Harvey in Texas, have proved largely ineffective against continuing overcapacity in the markets.
Over the last 12 months the West Texas Intermediate (WTI) oil price has been trading between $42 and $55 per barrel and is now standing at $46.96 per barrel, down 12.5% this year.
However the devastation and excessive flooding created by the hurricane has shut down a number of oil refineries in Texas. 30% of all US gasoline is refined in Houston and with oil refineries shut for an unknown period gasoline production is likely to be lower for longer in the region and refineries elsewhere within the country may find difficulty picking up the slack.
Weakening supply is causing gasoline prices to spike to an almost 3-year high and prices have gone up by 37.5% in the last five days. In the chart we can see the divergence between the price of oil and the price of gasoline.
Cumulative Performance Over 1 Year to the End of August
Source: New York Mercantile Exchange, 2017
Physical gasoline shortages in the US over the next month can be accommodated by suppliers in Europe and Asia who can ship over the refined oil product to US. However, this will take time to swing into action. Meanwhile, US drivers will continue to feel the effects of higher gasoline prices at the pump and this is expected to have a knock on effect, globally exacerbated by short term speculators who can force prices to over shoot.