Saturday, September 15, 2012

$3,350 Gold & $190 Crude

The consequences of unlimited quantitative easing are just now being contemplated as "endless easing" becomes official policy rather than a thought experiment. One consequence will be the repricing of assets, including gold and silver, in the ever devalued currency of the USD. For now, the US dollar is still the "petrodollar" that oil is primarily priced, so a devaluation of the dollar means the price of oil must go up as the dollar is devalued.

BofA has their own take on it given that the Fed will increase their balance sheet from $2.2 Trillion to $5 Trillion over the next few years. From Zero Hedge:

n other words, for once we actually were shockingly optimistic on the US economy. Assuming BofA is correct, and it probably is, this is how the Fed's balance sheet will look like for the next 2 years:

Or, in terms of US GDP, the Fed's balance sheet will have "LBOed" just shy of 30% of all US goods and services.


It gets worse:
Since the Fed is effectively becoming the marginal player in both the MBS and Treasury markets, a very relevant question is how much private market debt is left to sell. Short answer: not much. According to BofA's calculation, the Fed will own more than 33% of the entire mortgage market by 2014.
 That's half the story.
On the Treasury side, in just over 2 years, "Fed ownership across the 6y-30y portion Treasury curve is likely to reach about 50% by end of 2013 and an average of 65% by end of 2014." You read that right: in just over 2 years, the Federal Reserve will hold two thirds of the entire bond market with a maturity over 5 years (which by then will be part of the Fed's ZIRP commitment, yield 0% and essentially be equivalent to cash).
No wonder that David Rosenberg is worried that the Fed will soon run out of securities to buy (well, there are always equities of course, but the Fed will not monetize those until some time in 2015 when hyperinflation is raging).
And speaking of hyperinflation (and our earlier note that nothing "else is equal") the real question is if indeed the Fed will own $5 trillion in "assets" in 27.5 months, what does that mean for gold and crude? The answer is plotted below:

In case it is unclear, the answer is:
  • $3350 gold
  • $190 oil.

In coming days I'll provide analysis as to why continued QE will not work, except to inflate the price of commodities and (temporarily) the stock market.

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