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Merk's Views: Stocks, Gold, and the Fed
03/07/2016 10:00 am EST
Axel Merk is a gold and currency expert and president and chief investment officer of Merk Investments. Here, we discuss his outlook for stocks and his expectations for additional downside risk in stocks, his outlook for gold and non-US currencies, as well as some opinions on the impact of the elections on the financial markets.
Steven Halpern: Joining us today is Axel Merk of Merk Investments. How are you doing today, Axel?
Axel Merk: Very well, thank you.
Steven Halpern: Thank you for taking the time. Last summer, I interviewed you for MoneyShow, and at that time, you had issued an all-out bear market forecast. The market has, indeed, followed your outlook and I was hoping now you could give us an update on whether or not you believe the damage you expected has already been done or if there are still continued reasons for caution.
Axel Merk: Yes, you might recall that we spoke before the turmoil actually happened and what we said is that the Federal Reserve and other central banks had taken fear out of the market.
And, as the Federal Reserve is trying to engineer an exit, it’s akin to taking the lid off a pressure cooker and that would create more volatility, and everything else equal, that increased volatility is going to push asset prices lower.
Now clearly, we’ve had some steam come off the pressure cooker. The question is, as you point out, well, is it over, is it all a bright sky from here onward? And I would say, I don’t think so.
The reason is, when I talked to people late last year, they were starting to express some concern, but they hadn’t really done anything to their portfolios and some sentiment indicators now suggest that some people are very negative, but I still don’t see enough people that have actually changed the way that they structure their portfolios.
What I mean with that is, as the good times were raging on, people were buying more and more risk assets, equities, most notably, junk bonds, MLPs, and now they have realized that they can actually lose money with some of those.
And the process—from trying to buy the dips to shifting towards capital preservation—is a process that’s going to take a very long time, especially as you go up the ladder towards more institutional investors.
An institutional investor’s going to take a long time before they look at the world differently. Remember just a few months ago, they said, “Oh, we’re not going to invest any money in hedge funds anymore.” And so that entire attitude will have to change.
The reason it has to change is because, ultimately, when equities come down, you’ve got to find ways to diversify. When “everything has gone up,” you’re not going to find that easily, and in most places, that’s not commonly available.
Steven Halpern: Now, speaking of diversification, you’ve long been known as one of the market’s leading experts on gold and—as you had forecast—metals have done very well this year. Is this simply a short-term move or is it fine for long-term investors to build positions here?
Axel Merk: Well, a couple of things. What we know is that historically gold has had a very low correlation to equities and, as such, when people are overexposed to equities and are looking for ways to diversify, gold is something that I believe every investor should have a look at.
Now, that doesn’t answer the question whether gold is going to do well and whether other people will buy gold as well.
I happen to think that, because of that increased level of volatility, people are going to look for something that acts differently and, therefore, they will look at gold.
I happen to think that the Federal Reserve is going to have a very difficult time raising rates. It’s very relevant for the price of gold because gold doesn’t pay any dividends and so what matters is whether you’re properly compensated for holding cash. I don’t think you will be compensated properly for holding cash.
Then, to your question whether the interest in gold is picking up, we see it, we see it in our own gold ETF, we see it in other places, and it is because you not only have the long-term investors in gold, you have some technical investors that are interested in it. And you have the general folks that want to diversify.
And so, as such, we see a substantial increase in gold, although not as much as we had a few years ago. So I think this is only the beginning of people taking more of an interest in gold, which would ultimately, of course, change the dynamics and the price of gold a little bit, but for now, I think it’s very positive that more people are looking at gold again.
Steven Halpern: As you’ve alluded to, much of the market’s attention is focused on actions taken by the Fed, what are your future expectations there and what does this mean for investors going forward?
Axel Merk: We have spent years being prepped for the so-called exit; and what that has caused is that expectations about a rate hike have been very high.
If you look at the future’s markets, those expectations have come down, but adjustments in other markets, I think, will take a considerable period, most notably an international context where people still think that the rest of the world is going to ease and then the US, maybe, will hold.
Those expectations will have to be adjusted further, and in both directions, that on the one hand, the Fed is not going to be as hawkish as some people think, and then other countries will be more hawkish.
I’m thinking most notably of Sweden, for example. They just released GDP growth of 4.5%, yet they have negative interest rates because the inflation is so low.
That is not sustainable in my view, and so as you see, the world perception of being black and white to turn more grayish, that should be a headwind for the US dollar, and as people are repricing what’s going to happen, and the Federal Reserve will sooner, rather than later, have to do a U-turn towards the more dollar side.
Steven Halpern: You mentioned the US dollar. You actively follow and invest in currency markets. Are there any particularly interesting trades that you see out there.
Axel Merk: Well, I mentioned the Swedish krona specifically. I don’t want to give a specific investment recommendation because our view can change at any moment.
What we really like about currencies is that, just as gold has historically had a low correlation to equities, in the currency space, you can design a portfolio that has low correlation, meaning, most notably, when you have a long/short approach.
Say, you buy the Swedish krona versus the euro or the Australian dollar versus the New Zealand dollar. I don’t expect most investors to take on those positions directly, but you can do that through mutual funds, and most notably, that’s the sort of direction that investors might want to look at.
If they want to have something that will perform differently from the equity portfolio, and you want to do that should equities come down further, then you want to look at long/short type of strategies, such as a long/short currency strategy or something else in the alternative space.
And the reason I mentioned gold is because gold is much more easily understood than some exotic currency strategy or something else that’s much more difficult for anybody to wrap their head around.
Steven Halpern: Before you go, I was wondering if you could share your thoughts on how the upcoming elections in the US could impact the market psychology and investor portfolios.
Axel Merk: Sure, and of course we’re opening a can of worms here, but let me just give a few pieces of food for thought as far as it relates to our market since we’re talking about currencies and gold here.
If we have tariffs imposed because we want to penalize foreigners, well, what would happen is that, in our experience, if a country has a current account deficit, meaning if we need foreigners to finance our deficits, then when you introduce trade barriers, the currency tends to suffer, and so, if we elect somebody who’s favoring higher tariffs, then that would be a bad thing for the dollar.
Conversely, if you were to move to an environment where rather than penalizing savings and investment, you penalize consumption, that might be a positive for the dollar.
Now, I’m not endorsing in the formal scenario Donald Trump, nor am I endorsing, for example, Ted Cruz, who wants to have a consumption tax, I’m just saying that that’s the sort of market reaction you might be getting.
I’m not even going to get into many other policies that we might get with different candidates.
What’s really important—if we want to get economic growth—is to make the US a better place to invest in, make it more favorable to invest in, and there we hear some talk of some of the candidates, whether it’s going to pan out or not is a completely different question.
Just one more thing, there’s one candidate that says that we have or there are multiple candidates that say we have to stop tax aversions, but they’re very different attitudes about how to stop that.
Some candidates, like Hillary Clinton, appear to want to tax foreign investments when they take it back, whereas, I think it was Donald Trump who said that we might want to encourage them to take the monies back rather than penalizing them.
Again, I’m not endorsing any candidates yet, but if you want to have people—companies—take their money back, you really have to provide an incentive to take it back rather than penalizing them.
Steven Halpern: Again, our guest is Axel Merk of Merk Investments. Thank you so much for your time today.
Axel Merk: My pleasure.
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