Novum Digital Asset Alpha – Daily Analysis 18 August 2020 (8-Minute Read)

Turning into Tuesday and it’s turning out to be terrific for markets as I hope it has been for you! 

In brief (TL:DR)

  • U.S. stocks closed mostly up on Monday, with the S&P 500 (+0.27%) and tech-heavy Nasdaq Composite (+1.00%) in the green, while the blue-chip Dow Jones Industrial Average (-0.31%) was down marginally. 
  • Asian stocks opened up initially, but drifted for the rest of the morning session after growing concerns over an impasse for more U.S. federal stimulus.
  • U.S. 10-year Treasuries continued their rise, as yields slipped to 0.683% from 0.709% in the previous session (yields generally fall as prices rise) on low volumes. 
  • Oil rose on Monday with WTI Crude Oil (Nymex) (+1.78%) at US$42.76 from US$42.01 a day earlier as traders bet on recovering demand.  
  • The dollar slipped in Asian trading as a fresh round of stimulus out of Washington grows increasingly delayed. 
  • Gold edged higher on Monday with Gold (Comex) (+2.37%) at US$1,996.10 from US$1,949.80 in the previous session, on heightened inflation concerns. 
  • Bitcoin (+3.80%) staged a massive rally on Monday, soaring past US$12,000 to settle at US$12,300 (GMT 0130) from US$11,850, with outflows from exchanges outpacing inflows by almost 50% (outflows typically suggest that Bitcoin investors anticipate greater price appreciation for Bitcoin). 

In today’s issue…

  1. Gold, Gold Everywhere, But Not A Nugget to Mine
  2. Inflation Threat In The U.S. Looms Large & What That Means For Investors
  3. Bitcoin Sails Past US$12,000 As Global Risk Markets Surge 

Market Overview

When’s the best time to throw a party? When someone’s been diagnosed with cancer, according to some doctors. 
 
Contrary to popular belief, a party, celebratory feelings and good cheer could help someone having to go through chemotherapy, generate the endorphin and dopamine that would greatly facilitate treatment and has been proven to be effective. 
 
And as the economy continues to be ravaged by the coronavirus pandemic, investors are certainly partying, sending the S&P 500 to near all-time records, despite the fact that earnings are in the realm of fantasy and outside of tech companies, most firms are languishing. 
 
Trading volumes have also come down as both professionals and retail investors sat on the sidelines while awaiting news of fresh stimulus from Washington. 
 
Asian stocks traded mixed at the open with Tokyo’s Nikkei 225 (-0.44%) and Seoul’s KOSPI (-0.21%) down, while Hong Kong’s Hang Seng Index (+0.49%) and Sydney’s ASX 200 (+0.16%) were up, as Chinese central bank injections of liquidity fed into Hong Kong stocks and renewed optimism over demand for Australian commodities.  

1. Gold, Gold Everywhere, But Not A Nugget to Mine

  • Gold miners are paying out record dividends at a time when most other companies have either cut back or stopped paying dividends altogether 
  • Miners have held back on expanding gold projects despite record bullion prices, but supply is not a primary determinant of gold’s price, unlike for other commodities 
Despite the recent selloff in gold, miners are riding high as the precious metal trades at record prices and even Warren Buffett has thrown his hat in the ring to buy into the world’s second largest mining company, Barrick Gold (+11.63%). 
 
Among the rarest metals in the earth’s crust, gold is getting harder to find and more expensive to extract, with the easiest bits already mined. 
 
And while this isn’t an immediate worry, miners face the longer-term prospect of higher costs and mining in harder to reach places, at a time when last week’s sharp selloff in gold reminded firms that high prices for gold can’t be taken for granted. 
 
Gold is now up some 28% for the year, but miners, wary of repeating the mistakes of costly over expansion during the last big gold rush, have used the rally in gold to pay down debt and increase dividends, instead of starting new projects. 
 
Lower supplies however won’t necessarily drive up gold’s price because supply doesn’t affect prices the way it does with other commodities, given gold’s status as a financial asset as much as it is a material for use. 
 
In fact, gold’s recent rally was driven by investors seeking havens amid the coronavirus pandemic and low (or in some cases negative) interest rates making the holding cost of gold almost negligible. 
 
Stocks of gold miners have soared along with the price of the metal, with Barrick Gold and Newmont (+7.05%) both up around 47% this year, and Kinross Gold (+6.77%) up 88%. 
 
And unlike other companies on the S&P 500 which have either stopped paying dividends or warned that dividends are likely to be much lower, Barrick Gold announced an increase of 14% for its second quarter payout, while Newmont has upped its divided by a whopping 79%. 
 
It may be tempting to take Buffett’s cue and go all-in on gold miners, but investors should also be wary that in the last gold rally of 2011, miners started expensive new extraction projects and went on acquisition sprees, which turned sour as gold’s price slid by 43% in the four years thereafter. 
 
And unlike a Bitcoin mining rig, you can’t just shut off a gold mine and extract something else.
 
The macroeconomic factors surrounding gold’s rally this time round however look more persistent, with inflation looming over the horizon, maybe Buffett knows something the rest of us don’t. 

2. Inflation Threat In The U.S. Looms Large & What That Means For Investors 

  • Key forward indicator of inflation, M2, a broad measure of money supply, hits record level in the United States 
  • Year-on-year change for M2 almost three times the level of the 2008 financial crisis, where inflation fears were unfounded, this time could be different 
That leak in the roof isn’t a problem until there’s a storm. 
 
And a storm of liquidity is looming over the horizon as a key indicator of inflation has spiked on unprecedented monetary and fiscal response by the U.S. Federal Reserve in the wake of the coronavirus pandemic. 
 
For more than a decade since the 2008 financial crisis, economists sounded like they were crying “wolf” warning of inflation as the Fed took on unprecedented money printing, yet inflation never showed up. 
 
But even then, loose monetary policy in the wake of the 2008 financial crisis looks like a rounding error compared to the monetary and fiscal policy response in the wake of the coronavirus pandemic. 
 
And this could trigger an unexpected burst of inflation that the Fed may struggle to control. 
 
The year-on-year growth in M2 – a broad measure of U.S. money supply, has rocketed this year due to the efforts of policymakers to reduce the economic damage caused by the coronavirus. 
 
And although the severity of the coronavirus economic shock makes deflation the most likely short-term outcome, there is now more than ever before, a greater likelihood for inflationary pressures to build, as Mike Wilson, Morgan Stanley’s chief U.S. equity strategist notes. 
 
Wilson contends that the “most powerful leading indicator for inflation has already show its hand – money supply, or M2.” 
 
And unlike the 2008 financial crisis, banks are today in much better shape today than they were then, making it more likely that money supply stays elevated – banks don’t need to hold back on liquidity because they are well capitalized. 
 
Inflation tends to be positive for stocks, because their earnings rise with higher prices and may help to explain why investors are driving equities up to record levels, but also for deflationary assets such as gold and Bitcoin. 
 
Fixed coupon bonds tend to become less attractive, and also helps to explain why buying activity for inflation-protected U.S. Treasuries has soared. 
 
Inflation may not have been a problem over the past decade, but like a leak in the roof, it’s not a problem until it becomes one, and when it becomes one, it tends to be a big problem. 

3. Bitcoin Sails Past US$12,000 As Global Risk Markets Surge 

  • Bitcoin sails past US$12,000 on broader risk appetite in the markets
  • Increasing institutional interest married with greater regulatory clarity and infrastructure are helping to fuel a narrative for Bitcoin as an inflation hedge, driving demand upwards 
For even the most cautiously optimistic, Bitcoin’s overnight rally past US$12,000 was nothing short of phenomenal. 
 
Over the coronavirus-riddled summer, Bitcoin had been vacillating just below US$12,000, dipping to as low as US$10,150 at one stage before rebounding to trade range bound between US$11,000 and just below US$12,000. 
 
But yesterday the benchmark cryptocurrency rose by as much as 5.3% to clear US$12,000 convincingly, an important psychological level of resistance. 
 
Bitcoin rose on the back of broader risk-on sentiment in the market which has seen investors drive the S&P 500 to near a new all-time high. 
 
A backdrop of ultra low (and negative real) interest rates and a growing number of mainstream analysts and other talking heads in the media have been talking up Bitcoin along with gold as a potential inflation hedge, should prices start to rise. 
 
Although the economic shock of the coronavirus pandemic is likely to have a more immediate deflationary effect, a key forward indicator for inflation has already shown its hand – M2 – a broad measure of money supply in the United States, suggesting inflation looms on the horizon. 
 
And while inflation is currently low, real yields are negative across the board, with monetary stimulus driving investors to seek out inflation hedges such as gold and Bitcoin. 
 
Growing institutional acceptance of Bitcoin, including the U.S. Comptroller of the Currency clarifying that banks are now able to custody cryptocurrency assets and provide banking services to cryptocurrency companies, will also likely see Bitcoin benefiting from a market seeking inflation hedges. 
 
It also helps that Wall Street veterans are taking a greater interest in Bitcoin and making public their bets on the cryptocurrency, including billionaire macro hedge fund investor Paul Tudor Jones who said that he’s been buying Bitcoin amid central bank money printing. 
 
Macro factors which thus far had a tangential link with Bitcoin, have now forged stronger bonds and seen Bitcoin climb by over 200% since its low in March, but still 40% shy off its all-time high of almost US$20,000 reached in December 2017. 
 
And technical factors are supporting the current rally as well, with signs that Bitcoin has not been overbought suggesting that gains may be sustainable. 
 
Bitcoin’s next level of resistance is likely to be at US$13,800, which will need to be cleared convincingly before a stronger move upwards. 

Novum Digital Asset Alpha is a digital asset quantitative trading firm.

Exclusive access to Novum Digital Asset Alpha’s Daily Analysis is made in conjunction with Bitcoin Malaysia.

The information and thoughts laid out in this analysis are strictly for information purposes only and should not be regarded as an offer to sell or a solicitation of an offer to buy any security in any jurisdiction where such an offer or solicitation would be in violation of any local laws.

It does not constitute a recommendation or take into account the particular allocation objectives, financial conditions, or needs of specific individuals.

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