Gold has been on a tear of late – up around 20% so far this year. Is this just a short term rally or is this the start of a longer term upward trend?
I'm Kim Parlee.
Thank you so much for tuning us in tonight.
Gold has been on a tear lately, up around 20% so far this year.
And that's the highest it's been in a year.
And the big question is is this just a short-term rally or is this the start of a longer upward trend?
My guest tonight is no gold bug, but he thinks there could be another 20% upside for gold in the short to medium-term.
Joining me now is Thomas George.
He's Portfolio Manager for the TD Resource Fund, here to educate us on everything that he is seeing.
Great to have you back.
Hey, nice to be here, always.
So, you're not a gold bug.
No, I'm definitely not a gold bug.
You know, I don't have a bunker somewhere.
You know from my perspective we view gold as an asset class, just like anything else, and there are times when that asset class makes--it makes a lot of sense to have that in your portfolio.
Take me through your thesis, then, if you will in terms of why you think there's more upside for gold from here.
You know it's very simple; there's two key pillars here that are really underpinning the tailwinds for gold.
First is negative yields globally.
That's one big, big trend that's happening and--that's one critical underpin.
And the second is declining U.S. real rates.
And I think--we're going to discuss both of those, but I think those are two critical pieces of a very powerful story here.
Take us through the first one.
So on--like when we think about negative yields--this is--I just really want to step back here and come back to the global financial crisis.
Troubling times--you know.
And effectively what ended up happening were Central Banks started to really chase these unconventional monetary policies, things we've never tried before: Quantitative Easing 1, 2, and many, many more to come.
From SIRP, then to NIRP.
And now we are at NIRP, right?
And so let's think about this.
Why were they chasing these unconventional monetary policies?
Because of anemic global growth.
That was the first issue.
And the fact there was no inflation.
So they were trying all their might to pump as much money into the system to try to get the velocity of money going, to get people just to spur . . . Buying and doing things, yeah.
People weren't . . . Yeah.
So welcome to the world of negative interest rates.
So what--what really--why are we going down this route, and why have five countries chosen to go down this route?
Basically the same reasons.
First and foremost they're trying to just spur growth, trying to push people away from safe asset classes into, you know, more specula-- Take a risk, invest in a business.
And secondarily, it's to devalue their own currency.
Because if you can't do it the other way, may as well just reduce your interest rate, which creates an interest differential issue, then ultimately that should devalue your currency.
So those are two key points to why you would--why a Central Bank would want to chase this NIRP--Negative Interest Rate Policy.
So that is one just to set the stage, ones we're dealing with.
The other, though, you're talking about is what?
Well, the other--so how that transmits-- and I think we've got this chart.
I think--there's a critical chart here.
So how this negative interest rate transmits is through--effectively global bond yields--this is a phenomenal chart here.
This is like an avalanche in reverse.
So this is--what we're seeing--things are tipping down into this negative . . . Yeah.
So let me show--let me really walk through this graph because I think it's phenomenal and there's a critical story to be told here.
So this is all bonds.
Every--every country in the world, their bonds are listed here.
So this is in excess of . . . It's all sovereign debt.
All sovereign debt.
If you're a country, you have a bond outstanding, this is here.
So we come into 2014--mid-2014, these bonds as you would--if I'm, you know, lending to a country I would want an interest rate on that.
But then something interesting happens here in mid-'14: you start to see this red start to creep.
These are the bonds outstanding--sovereign bonds outstanding--with negative yields.
So globally today nearly one-quarter of all global bonds have negative yields.
This is bizarre and perverse at its core.
The fact-- The whole--the whole point of buying a bond--just to remind everybody, too--is stability.
And getting your--getting your money back, right?
Now I've got to pay somebody for the privilege that--you know, my money is safe.
And what this all really does--it's very, very simple.
So coming back to the core: we have Central Banks doing really funny things, we've got global bonds saying-- you know.
There's--and what does negative yields mean?
That means people think there's absolutely no growth and we're heading into a deflationary spiral.
So what--what does that mean for gold negative interest rate policy?
Because I always thought gold was more of an inflation hedge.
Like . . . Yeah.
And you know we're going to touch on that.
And what I would simply say here is when you're doing--like simply put, this whole idea--"Can I leave my money with you and I have to pay you?" Pay for the privilege, yeah.
So what that does for gold is it basically--it makes it--you're more likely to hold gold because you don't have to pay anyone to hold it, right?
Well, it's actually--the return is better on gold than on negative interest rates.
Exact-- You would--you would think.
So that's critical here.
And I think you've raised a--hit a really critical point here.
Gold has traditionally been seen as an inflation hedge.
And I think--the way I really want to classify gold, it is neither--sorry--it's both an inflation and deflationary hedge.
The way I like to think about it it's a hedge against extreme monetary policy.
So the inflation side is very simple to understand, right?
So, you know, you've got a dollar and inflation runs wild-- Yeah, it doesn't buy as much.
It doesn't buy as much and your purchasing power goes down.
So that--people can conceptually understand that.
The deflationary side is more . . . It's harder.
. . . nuanced, right?
And I'm going to help explain that.
The deflationary side is more nuanced but just as powerful.
And I would argue that gold can--gold is going to get to new high levels through this--through this deflationary side of it.
I want to bring up a chart here.
You've got here a 10-year U.S. real yield.
Oh, yes, this is it.
So let's bring this chart up and explain to me why you've brought this into the conversation, what we're looking at here.
So this is critical here and I--this is going to underpin how we think about gold.
Again, we think of gold as a financial asset class.
You know this is not about bunkering down; this is how we think about it.
Real yields drive it, right?
So what is a real yield?
I'm going to back it up a bit.
So a nominal yield is simply--you know it's that rate that you're going to get on a 10-year bond.
And then you have to subtract inflation because that's eroding your purchasing power.
Which is low.
Which is low.
But still relevant.
And then what you're left with is this real yield.
So the real purchasing power yield on that bond that you've lent out.
So this is a U.S. 10-year nominal real yield.
So what that is is looking at the 10-year--the 10-year bond and subtracting inflation, and what you're left with.
So in 2000 we were just over 4%; you know that's reasonable, that's probably the right number I want to give, even if I'm going to give some money to the government.
What you see here is this structural decline falling all the way to where we stand today, at 0.35%.
So if you think about this, this is the critical thing that underpins gold.
And we've done massive back studies looking at every possible which way--what could drive gold.
It's real yields.
If you can put--if you're not getting your money, you know, with Uncle Sam . . . Yeah.
. . . you know you've got an issue right here.
And so that's--that's the critical way to think about it.
And this whole nominal--take away inflation-- can explain both inflationary times and deflationary times.
Very much so.
So we're looking at--what is here?
Gold and gold price implied by the U.S. 10-year real rate.
Again . . . Yes.
. . . real rate being real yields.
So I'm going to walk through this slowly.
Important, because this is a very critical chart.
We came up with this--my fantastic associate, Annie Zhang, is--is behind the power here.
So we're going to walk through this.
So the green line here is gold; that's the gold price that's simply the gold price.
And the orange line there, that is the implied gold price when we use our regressive analysis, looking at the historical correlation of gold relative to 10-year real rates.
So simply put, at any point in time I input the U.S. real rate; we can get that.
We know--nominal mining inflation gets us the real, and you can tell where the theoretical price for gold should be, and that's that orange line.
What you can see here, there's a strong link, right?
Over a long period of time there's a strong--strong correlation here.
And so where we're sitting today at 0.35%, that tells us that gold should be at $1,265.
Which it--and where it is now is?
Basically ten bucks away.
So we are--we are damn close.
So this model is phenomenal; it tells us where it should be.
Now critically--the real question is where real yields go.
And that's that backdrop thinking-- you know, we've got an issue here, two-fold issue.
We've got global negative yields and we've got declining U.S. real rates.
So those two issues--if I tell you that the lower U.S. real yields go, the higher the gold price should effectively be.
So where--where do you think those yields are going?
For--what we see here is a real conundrum.
For Central Bankers, they're effectively pushing on a string; there is no doubt about that.
They're pushing on a string.
If you-- if you can't get people to borrow money--you know, at negative whatever, you're in a jam, right?
So the real question is how exotic do they get?
Where do they go?
That's going to be the real challenge.
That's going to be the real challenge.
And I can tell you, unless we can find growth--like, and the real question here is the Central Bankers are going down this very unconventional monetary policy pathway because we're in an over-levered society as it is, right?
You--like, this is . . . Nobody wants the debt.
Nobody wants the debt, right?
So this--what Central Bankers fear against anything in the world is deflation.
Because you owe a debt?
That was last year's money.
Yeah, yeah, yeah.
You've got to pay that interest rate on, like, when interest rates were positive.
And today's interest rates are negative so the real--the real--it's a debt servicing issue; that's the critical point here.
So when people say, "We're in a deflationary environment so what you've just told me--because nominal yields are here and where deflation is here, there should be that nice real yield spread." It doesn't happen like that.
Because Central Bankers--as much as, you know, they've been maligned for where we're at today, they're not completely asleep at the wheel.
Because to be completely asleep at the wheel you wouldn't even--you wouldn't even be trying to do something because you've got to get ahead of it.
You've got to get ahead of it because once that deflationary spiral starts, then bad things happen.
Bad things will not happen when we come back because when we come back Thomas is going to tell us exactly how high he thinks gold could go and then maybe, perhaps, some of the best ways to play it.
You're watching Money Talk.
We'll be right back.
Welcome back to Money Talk.
We've been talking to Thomas George, Portfolio Manager of TD Resource Fund, about the gold rally and where he thinks it's going.
So you gave us a theory in terms of why gold is making the move and the core--actually you didn't mention one thing because we chatted--the correlation--if we could, I'm going to ask the control room to bring that chart back up--between, again, the gold price implied by the U.S. 10-year real rate and the actual gold price.
When that comes up--the correlation between those two, as you said--is is .8?
Is that . . . Yeah.
Yeah, it's .8, so that's very high.
In the world of finance if you can find anything that can explain something, you know, at .8--you know, 80% of that movement is explained by one variable--that's powerful.
So what's your target for gold, based on this?
So from our perspective you've got to--you've got to think back and say, like, "You know, right now gold is smack over where the real rate implies." Right?
So now I've got to make a decision on where think real rates go.
And as we chatted before the break, I believe real rates go lower, just given the context of where we're at; 23% of all global bonds are sitting at negative yields and U.S. real rates are falling.
So from that perspective if you were to think of a place where we could be--now the lowest point we've been in U.S. 10-year real yields--on the 10-year has been minus 1%.
I view that we can easily get to minus 50 basis points or 0.5%, and that would imply a gold price of $1,530.
Which is 20% upside from here, which is--which is meaningful.
And the critical point here is gold has negative correlation to most, if not all, asset classes in a distressed time period.
So that's the critical point we've got to mention here.
Gold is like a hedge, it's like a--you know, it's an insurance policy; that's what we've classified here.
Gold is an insurance policy in a period of negative global yields and declining U.S. real rates.
Um, so having said that--so if you're--if you're saying based on your model you see gold going up to $1,500 and in the-- what time frame would you say?
In the next . . . Oh, this is highly dependent on--on where Central Banks want to go.
And that's critical here, right?
Because, you know, they've been silly.
Let me ask you, then, if you were to say how this should actually--the investor should take a look at this; I mean is it through physical gold, because we've heard all--you know, is it through equities or--you know, what--what's the-- your choice way of actually looking at this?
So from our perspective--I manage gold equities and, you know, we're of the view if you've got a positive bias on gold you can definitely own the physical; that makes sense.
But old--gold equities give you full leverage--that's operational leverage--and it's-- and multiples expand as well.
So from our perspective if you think gold gets to $1,530 or over $1,500, gold equities have 130% upside from here.
It's powerful stuff really driven--you know it's--it's a margin expansion story and it's really that view that this is a fundamental financial asset class that starts to become a bigger and bigger part of--of global portfolios.
And especially given, I think--if you think about all the gold companies and what they've been through in the past little while, it's been a tough run.
And like--you know the greatest value upside is when you go from negative free cash flow to positive.
You know, you're crossing the Rubicon.
Like--look last week.
Like, there's not a gold miners--but look at all the--just broad based mining stocks.
Like--and they're super levered like oil and gas stocks.
Like, a 10 dollar move.
And least things are, like, up 200%.
It's life changing.
So that--you can easily get--you know, you can understand that.
Well, thank you for the education.
No, thank you.
It's been fantastic having you here.
I appreciate it.
Thomas George, Portfolio Manager with the TD Resource Fund, joining me here in the studio.