What happens now?


Firstly: how did pollsters get it so wrong?

Second: what an interesting reaction.

As we all saw, the markets threw a fit when it started to look like Trump was going to win. Gold gained as much as 5.5% to touch $1,337 per oz., US futures fell sharply (Dow Jones Industrial Average futures were down as much as 5% at one point), the US dollar lost 1.5% in a flash, and other safe havens like the Swiss franc and the Japanese yen rose.



Then Trump took the stage and delivered a calm and reasonable acceptance speech. Had he been all fired up, had he mentioned the wall or tearing up trade agreements or any of his more contentious policies, market reaction might have been very different.

Markets hate uncertainty and (because of all those terribly inaccurate polls) Trump’s victory injected a whack of precisely that. But his calm response, amazingly, calmed the markets. Gold gave back all of its gains. The US boards gained. The dollar rose. And the discussion was downright rational: he doesn’t take office for another two-plus months and we don’t yet know what his presidency will actually look like, so let’s wait and watch before freaking out.

The point about not knowing what Trump will actually do is key. The list of reforms he has pushed spans the policy spectrum, including immigration, trade, health care, energy, personal and corporate taxes, and financial regulation. No president has ever achieved so much change, let alone one who has created open dissent in his own party.

Trump will have to focus. The first question is where that focus will rest. The second is how he will achieve change – while the House and Congress are both Republican, Trump will need to adapt his ideas to foster support from the more mainstream side of his own party. That’s just politics.

Some of his policy ideas bode well for the US economy. Infrastructure spending, corporate tax cuts, deregulation, and military spending all have the potential to promote economic growth and provide jobs. One interesting angle on that is a real recovery in the US economy would require markets to change focus from easy money to actual performance. We have a long way to go before achieving that, what with earnings falling five quarters in a row and equities overpriced, and such a shift would take time and involve volatility, but at the end of the day it would be fundamentally good if the markets started reacting to reality again.

Other policy planks are more concerning in terms of US economic outlook, such as his desire to tear apart free trade deals.

Most significant, though, is the question of how he will fund all his new infrastructure spending and military expansion and corporate tax cuts. He has provided few details on this front, just pointing to government excesses and inefficiencies, but his goals are very expensive, on the order of trillions of dollars of new spending. The bond market reacted immediately, with yields spiking.

At the same time, all that spending points to inflation, especially if the economy does perform. Higher yields plus inflation should mean higher nominal interest rates…but US government debt is so large that servicing it at today’s ultra low rates already costs over $400 billion annually. Significant interest rate hikes would make the debt incredibly expensive to service.

Within that context, the idea that Janet Yellen floated at her last press conference – to let the economy “run hot” for a while, letting inflation get ahead of interest rates – seems the likely path. That means real rates will remain negative.

Negative real rates are the fundamental driver for gold. With inflation and government debt both very likely to increase under Trump, the fundamental argument for gold remains strong.

The short term, however, is less certain.

On the markets front, volatility is the name of the game going forward, for several reasons. One is uncertainty over what Trump means for America. Another is that a changing of the guard in the White House always spikes volatility. Then there’s the fact that the gridlock in Washington in recent years has been frustrating for Americans but comforting for markets, which did not have to worry about significant change. Now, with Republicans in control in Congress, the Senate, and the White House, change is back on the menu and increased market volatility is almost guaranteed.

Volatility will increase as we approach inauguration day. At the moment it looks like investors are erring on the side of optimism. If that persists, the US dollar will keep inching up and gold will struggle.

The other thing that will happen between now and January 20th is the December meeting of the Federal Reserve. Predictions of what might happen at that meeting also swung wildly on election night, with expectations of a December rate hike falling from 80% to 40% before rebounding to 90%.

Janet Yellen will raise rates. Trump’s victory makes it almost certain. Janet Yellen has been talking about raising rates for almost a year. Her entire tenure was a giant monetary experiment and a rate hike, justified by an improved economy and stronger labour market, would suggest the experiment worked. (That’s not saying that it did; it’s saying she would argue it that way.)

And December might be her last chance. President Trump may well replace Yellen. He has certainly been clear about his preference for keeping rates low, an idea that probably keeps Yellen awake at night for fear the US is left without the ability to cut rates in a recession. So his victory boosts the odds of a hike – Janet will want to get it done if it’s the very last thing she does.

So what does it all mean for metals investors?

  1. We should all be thankful that the markets have responded so rationally. At this point there is little in the way of actual reason to react.
  2. Yellen is going to raise rates. Gold will slide into that event, finding the second bottom of this correction.
  3. Even though they abated quickly, the swings we saw on election night show how strongly the market will react when Trump does something big. And he will, because he was elected for big, contentious ideas. At this point we don’t know what that something will be and whether it will be good or bad for equities.
  4. In general, the changing of the guard and the length of the US bull market mean a US market correction remains very likely.
  5. Support for gold remains strong, and in fact strengthened with Trump’s election. Fear of point #4 supports gold. So would commitments of spending largesse and tax cuts from Trump without an explanation of where the money will come from, or any moves to disrupt free trade agreements, or strife with international partners, or…the list goes on.

The near term for gold is challenged. The US dollar is performing, based on US market optimism. A rate hike is very likely. Investors are interpreting Trump’s win as a risk off event, for now at least, and that takes interest away from gold. As such gold’s correction will continue for the near term, unless US markets turn down.

But fundamentally the gold story remains strong. The timeline until it is back to bull is unclear, but the big picture says this correction is an opportunity for gold investors.