Bond crisis

As the yield on the 10-year US Treasury note soared, gold and silver came under selling pressure this week. But ahead of the weekend, bear closing in precious metals is evident. In European trade this morning, silver rallied to $23.00, down a net 55 cents from last Friday’s close. And gold traded at $1871, down a net $53. The numbers in other currencies were not nearly so grim due to dollar strength. The chart below shows the dollar’s Trade Weighted Index:

The TWI’s rally of almost 6% over the last quarter has hit minor currencies particularly hard., and gold priced in them has performed very strongly. Not only that, but energy prices being very strong in dollars are even more so in yen, rupees, and renminbi.

These currency developments have also led to significant premiums for gold prices on the Shanghai Gold Exchange, as domestic buyers do not have access to foreign currencies to escape yuan weakness. Furthermore, in early June China’s government embarked on a policy of encouraging the poorer classes to invest in gold through their bank accounts.

Why did they do this? Could it be that China sees the fragility of the Western capitalist system and its fiat currencies, and could it be that they see its collapse coming?

China has been dumping US Treasury notes recently, and with Japan also doing so analysts are beginning to worry about the funding of a rising US budget deficit plus the refinancing of $7.6 trillion of USG debt next year. Consequently, in the face of an economic downturn, bond yields are soaring, as the next two charts of US Treasury and German bund 10-year maturities illustrates.

Of real concern is the combination of a rise in the dollar against other currencies and soaring UST bond yields. Global collateral values take their cue from US Treasuries, which are the collateral for global credit. Rising yields for this bond mean that since March 2020 its value as global collateral has fallen by 30%. In effect, this is the extent to which circulating credit values in global markets have contracted. And that is why other bond markets, such as Germany’s are entering their own crisis.

On top of this, there are substantial increases in energy prices to absorb, which are up next.

Since June, WTI oil has risen 37% and heating oil by 44%. The US’s strategic reserve is on empty, so these prices are set to rise further. And the point about heating oil is that it is also a slightly heavier version of diesel, which drives over 95% of everyone’s logistics. Input prices for all manufacturing will rise accordingly.

With a combination of falling collateral values and soaring energy prices, it is not too surprising that gold has come under pressure. But these are the conditions that lead to a new round of bank failures, collapsing financial asset values and a new round of inflationary rescues. 

Ultimately, it will drive a flight from fiat credit into physical bullion.