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Housing Debt Double Century

22 November 2019

Precious Metals Commentary

A relatively quiet week for precious metals with gold trading slightly lower in USD to $1,466 at time of writing, and silver much the same at $17.10. The uncertainty around potential US-China trade deals seems to have the market jumping around either way until we get some more clarity on that front. In AUD terms, we are largely unchanged from last week at $2,160 for gold, and with silver we remain just above $25 an ounce with some weakness in the AUD this week.

Canadian Investment Bank and financial services provider TD Securities has turned bullish gold for 2020, stating “our analysis still shows that $1,650/oz gold next year is in the cards, once the weak longs get shaken out and as modest global growth assure a low rate environment and continued Fed monetary accommodation”. Even though they see the metal potentially reaching a low of $1,425 this year, a 2020 target of USD $1,650 would see gold in AUD above $2,425 assuming an unchanged exchange rate. They base their analysis on the likelihood that the Fed will deliver more monetary accommodation and continued central bank buying, with the below chart highlighting a recent purge of USD in CB FX reserves in favour of additional gold. 
 
Bloomberg Charts 2019
For more on the technical short-term setup, we had comments this week from Nicholas Frappell in our Monthly Technical and PM Positioning Report.


Household Debt Double Century

Global Financial Crisis Chart

In a performance that would make Steve Smith proud, Australia has recently hit a double century when it comes to household debt as a percentage of household income. Low wage growth and a recovery in property prices have contributed to the record-breaking number. Having significantly high household debt leaves the country vulnerable to any sort of shock in the labour market, and it is no surprise that this number usually peaks right before a financial crisis.

The milestone 200% of household income number really puts into perspective the risk of the Australian property market as a whole, when compared to previous catastrophes in other countries. Take Spain for example; at the peak of their housing bubble in 2007, household debt only reached a peak of 135% of household income before the country had a financial crisis it is yet to fully recover from. In the US, they reach a peak of circa 130% of income right before the bubble burst, sparking the Global Financial Crisis.

Household Debt to income ratio chart

(Spain: Household Debt to income ratio)

Another common measure of housing risk is household debt to GDP and we are currently beating pre-GFC US data on that front too, with Aussie household debt over 120% of GDP today, compared to the US peak just under 100% in 2007. How we navigate out of this we don’t know, but it seems the answer to the problem from the RBA’s perspective is to keep fuelling the fire for a long as possible.
 

US Debt ‘Unsustainable’

In testimony to the US Joint Economic Committee last week, Federal Reserve Chair Jerome Powell said that the US federal budget was on an unsustainable path. While the amount of US government debt at over $23 trillion is a shockingly large figure, the issue of sustainability is one of the ability of an economy’s ability to service that debt and what is does with it.

Powell’s sustainability comment was driven by the observation that “the debt is growing faster than the economy. It's as simple as that”. And it really is that simple but maybe needed saying as politicians are not dealing with the issue. The ever-growing US government debt is starting to look more and more like a Ponzi scheme, as the debt ‘ceiling’ simply gets raised every time it gets hit.

Our own RBA has raised similar concerns, saying that they (primarily via lower interest rates) can only do so much and government also needs to step in. Cynically one could say that the central bankers are just trying to cover themselves when things blow up, but to be fair there is only so much central planners can do with the few levers they have.

The question of whether interest rates should be centrally planned in the first place is ignored, of course.

The best way to understand the debt sustainability issue is via the concept of the marginal productivity of debt. It is measure that few economist talk about because it doesn’t paint a great picture, but our friends at Monetary Metals are one of the few who focus on it.

Below is a chart of the ratio for the United States, which is calculated by working out how much additional gross domestic product (GDP) is added for each newly-borrowed dollar.

Marginal Productivity of Debt Chart

It is not a perfect figure, given the flaws with GDP as a measure, but the key thing to note is the falling trend, which is saying that we are getting less bang for each buck since the 1950s.

Powell was a little weak in taking politicians to task on its ever-increasing debt, saying that although the maths of having to reduce the budget deficit was inevitable (even with low rates and decent growth), “that’s a need over time. We’re not in the business of advising [congress] of when to do that or how to do it”.

Politicians will just interpret “over time” as “don’t have to do it today” and “inevitable” as “leave it for the next sucker to deal with”. That sucker is us, by the way.

It is not just a US problem. As we noted lasted week, Global Debt hit a new high of over $250 trillion, representing 240% of the world’s gross domestic product.

As noted above, Australian household debt also reached a record high but more concerning is the observation that even with low interest rates on that debt, household debt servicing ratios are just short of their 2008 peak. If households can’t handle debt servicing when official rates are 0.75%, what would happen if rates rose to what they were back in 2008 – 7.25%?

No surprise then that the ANZ-Roy Morgan Consumer Confidence index fell to a two-and-a-half year low this week as a result of worries about a weak job market and subdued wages. Roy Morgan also reported that domestic holiday intentions have dipped to their lowest level in the last two decades, from 61.3% in March 2001 to 50.6% today.

Australians are hunkering down it seems, and looking to build up a buffer, with ANZ's Shayne Elliott noting that 93% of customers have not cut their mortgage repayments since the recent rate reductions.

Advisory firm Matusik Property Insights says that “a large portion of Australia is already in an ‘income recession’ and many more are about to enter one” and note the falling rate of home ownership that first home owner schemes cannot stop (and actually help to inflate prices).

Home ownership rates chart

With more and more young adults stuck at home, Matusik argue that “we are the first generation, in over 200 years in this country [to] leave our children (and probably our grandchildren too) worse off, economically, than we are”.
 

Safety Boxes for a Safe Haven

While the rich may not need to build up a buffer, they are still worried about protecting their wealth so their children will be better off.

Specialist vaulter, IBV International Vaults, was reported this week as seeing increased interest in safety deposit boxes by wealthy clients looking to avoid negative interest rates on cash as well as for bullion to protect against the threat of a global recession.

Their latest offering is an apartment-sized steel-walled room in London catering to billionaires that will cost £2.5 million a year.

There are apparently more than 25 million safe-deposit boxes in the US with Swiss bank UBS confirming they operate almost 250,000 safe-deposit boxes nationwide.

The super wealthy often manage their family money via dedicated and privately-held companies, called family offices. A recent Global Family Office Survey of 360 family offices, which manage around $5.9 trillion worth of investments, reported that only 0.8% was allocated towards precious metals, really highlighting how under-owned gold is for western investors.

Global Family Offices' Current Approximate Strategic Asset Allocation Chart

That may not sound like a lot, but it represents around 1,000 tonnes of gold. Interestingly, the survey said that over 75% of family offices would be retaining their gold allocation with 17% saying they would be increasing it in 2020. To be expected if 55% of them were expecting a market downturn to commence by 2020.

So maybe that is why the US and Switzerland have all those safety deposit boxes.

In Australia, at Custodian Vaults we have also seen rising interest in our purpose-built secure facility in Sydney, with availability filling up fast. If you have a reasonable amount of precious metals, a safety deposit box is worth considering as the fixed box lease fee can result in very low percentage storage fees - putting a counter fact to the claims that storing gold is expensive.

Until next time,
 
John Feeney and Bron Suchecki
ABC Bullion
 
If you have any questions or feedback about this week’s report, we would love to hear from you. You can contact John Feeney (@JohnFeeney10) and Bron Suchecki (@bronsuchecki) directly on Twitter, otherwise please feel free to send us an email at comms@abcbullion.com.au, or call us during trading hours on 1300 361 261.

Disclaimer
This publication is for educational purposes only and should not be considered either general or personal advice. It does not consider any particular person’s investment objectives, financial situation or needs. Accordingly, no recommendation (expressed or implied) or other information contained in this report should be acted upon without the appropriateness of that information having regard to those factors. You should assess whether or not the information contained herein is appropriate to your individual financial circumstances and goals before making an investment decision, or seek the help the of a licensed financial adviser. Performance is historical, performance may vary, and past performance is not necessarily indicative of future performance. Any prices, quotes, or statistics included have been obtained from sources deemed to be reliable, but we do not guarantee their accuracy or completeness.