LAWRIE WILLIAMS: Fed rate cut boosts gold and silver, roils Wall Street
In an almost unprecedented move, the U.S. Federal Reserve (central bank) in an ‘emergency’ cut the U.S. base rate by 50 basis points (0.5%), two weeks before the next FOMC meeting after saying at the last FOMC meeting that the U.S. economy was healthy. The Fed cut was in response to the somewhat belated realisation that the Covid-19 coronavirus outbreak could lead to a recession as we have been warning for several weeks now. The effects on the supply chain of the virus in China alone, which is perhaps only operating at less than 50% of capacity, and now in South Korea, is certain to impact the bottom line of a number of major U.S. companies, not to mention the costs already being incurred by the big airlines, automotive sector, cruise industry, and tourism in general.
Fed Chair Jerome Powell, in a statement following the cut announcement, commented that the US economy remains strong but that it was difficult to predict the "magnitude and persistence" of the apparently advancing threat of the virus within the U.S. He went on to say that "The virus and the measures that are being taken to contain it will surely weigh on economic activity for some time, both here and abroad. We don't think we have all the answers. But we do believe that our action will provide a meaningful boost to the economy."
As an almost immediate result Wall Street, which one might have expected to see gains on the lowering of interest rates, went instead into mild panic mode with the main equity indexes all falling about 3% on the day after seeing something of a recovery from last week’s huge falls the day before. The U.S. dollar index also fell back quite sharply, but this may recover ground when, as expected, other countries also take similar measures.
The principal beneficiaries of the move were gold and silver, both rising sharply with gold touching $1,650 an ounce at one stage before pulling back a few dollars. Silver regained the $17 an ounce level having previously been brought down to the mid $16 level last week, but as has been the case recently seems to be unable to bring the gold:silver ratio (GSR) down below the 95 plus level it had suffered recently (the lower the GSR the better it is for silver).
The Fed rate cut outside of an FOMC meeting is almost unprecedented. The last time it happened was during the Great Financial Crisis in 2008 – a further indication of how seriously the Fed sees the potential downturn as a result of the global growth of the virus. The U.S. alone has 127 confirmed cases and a big boost in testing, as kits become available from the CDC (Centers for Disease Control and Prevention) in the coming weeks, is bound to throw up a large number of previously unrecorded cases. That news too may well have a further negative effect on U.S. equities. The cut will please President Trump who had called for such a cut to boost U.S. industry’s competitiveness on global markets in an election year, although the equities markets reaction will be less well-received!
The virus has spread to over 80 countries, although China is reporting a substantially reduced incidence of new cases, although some are sceptical of the Chinese numbers. Virus hotspots have arisen elsewhere in Asia and now also in the Middle East and Europe and undoubtedly there will be more given the virus can apparently be spread by unaware infected people showing no symptoms.
So what will happen to the markets? Wall Street my show a small recovery today taking its cue from European markets which opened a little higher. But this market optimism will likely be shortlived and we should expect some severe falls as U.S. and European confirmed cases rise, perhaps substantially and the likely virus impact on earnings becomes apparent. Gold should benefit in the long term at least, but short term assets sales due to liquidity issues may depress it, as well as possible engineered attacks in the futures markets in order to try and demonstrate that the economic impact is not as dire as reality suggests it may be. Silver is more difficult to call as its demand is mainly industrial nowadays, and pgms, where consumption is hugely tied to car and truck sales could well suffer heavy losses.