A new Goldman Sachs report warns of a “likely to return to energy shortages.” It predicts crude futures will reach $85 by the end of this year and $95 by the end of next year. For what it’s worth, crude futures were up 4.1% in New York to $68.71. That’s a seven-month high. Just like old times, isn’t it?
Energy is a great long-term investment theme. As we’ve mentioned before, the collapse in capital spending in 2008 almost guaranteed that any resumption in demand growth would trigger higher prices because of much lower supply growth. Everyone’s been focused on inventories and the global recession. But it’s supply that you should keep your eye on.
Of course Goldman is just talking its own book. Everyone is talking his own book, come to think of it. But in this case, we like the book. And more importantly, we think a carefully selected portfolio of energy shares (conventional, unconventional, and alternative) is big part of making money as an investor over the next five years.
Switching gears, did you see what RBA governor Glenn Stevens said yesterday? He said the RBA would be willing to cut rates again if it needed to. But he also said, “It would be counterproductive, though, if further reductions in interest rates induced a large number of marginal borrowers into debts they could service only at unusually low interest rates.”
Wow. What’s gotten into these central bankers lately? First Ben Bernanke puts on his serious face and tells the U.S. Congress that large deficits threaten financial stability. And now we have Mr. Stevens pointing out the dirty little secret of lower rates. They encourage debt bombs that become debt bombs.
Shhh though. Don’t tell anyone else. It would be bad for confidence.
Do you think maybe Dr. Bernanke is just trying to talk his book too? After all, the U.S. Treasury has heaps of debt to sell this year (gross issuance over $3.25 trillion according to Goldman). If Dr. Bernanke makes adult sounds come out of his mouth, it might give people the impression the U.S. is returning to sobriety and fiscal sensibility.
And on due, ten-year bond yields did in fact fall in Thursday trading in New York. Ten-year yields on U.S. notes now stand at 3.54%. Remember that after the Fed said it would be buying U.S. bonds, yields plunged to 2.04% in November of last year. But by May 28th-as the true scope of America’s debt bonanza became apparent to global investors-yields soared to 3.75%.
We still think bond yields are the prime mover in this market, but not for the reason that you’ll read in the paper. Investors aren’t selling bonds because the economic recovery is sound and stocks hold better value. You’re seeing a bear market in sovereign bonds because many governments are running into a fiscal and demographic brick wall.
Bond yields also hold the key to explaining how a higher Aussie gold price is possible given the Aussie dollar’s recent strength against the greenback. With the Aussie chugging along against the USD, it’s been an uphill climb for gold prices in Australian terms. But just you wait.
The yield on Aussie ten-year notes was 4.88% in mid-May. It’s now 5.67%. That’s a 16% rise in three weeks. Granted, it’s not the huge spike you’ve seen in U.S. yields. But it does tell you something.
It tells you that the Australian Office of Financial Management has its work cut out for it in selling the $1.4 billion in debt a day to finance the country’s growing federal deficit. You borrows the money and you pays the higher interest rates. Or, your central bank-like the Fed-does its part if necessary to buy your debt.
Inflation on the way with real interest rates negative
Source: Reserve Bank of Australia
That sort of debt monetisation isn’t on the cards yet in Australia. For now, there should be plenty of domestic and foreign investors willing to add a little high-yield government debt to their portfolios. But given the chart above that shows-by the RBA’s own admission-that real interest rates are already negative, there are plenty of monetary forces already in the mix in Australia that will lead to expansion of the money supply.
That sort of monetary expansion, along with deficit spending and higher yields, is just the sort of thing that’s going to power Aussie gold and precious metals prices higher. If it doesn’t, we’ll eat every single hat here at the Old Hat Factory.
for The Daily Reckoning Australia