Inflation Hedge Needs Are Evaporating

As oil continues its spectacular decline, and prices for gasoline start eyeing $1.50 per gallon in some places, inflation seems like some old fading cowboy from a Saturday afternoon movie serial riding into the sunset on his aged horse. Goodbye, Old Paint. (That’s the standard name for an old cowboy’s horse.)

While “core” inflation will hold out against the effects of lower gasoline prices, diesel, and liquefied natural gas for vehicles a little while longer, eventually manufacturers will build the plummeting cost of transportation into their products. That means inflation will stay the same or go down.

Aside from the powerful effect on gold and silver, the result of the diving prices will allow the United States and parts of Europe to continue their manufacturing renaissance. Their new market growth will be found on their own continents. Removing the ship-transport cost and adding low on-continent land shipping costs makes domestic manufactures all that more attractive. Some products from China and other parts of Asia will continue to flow, of course, but homegrown products become gain appeal as oil prices keep going down.

How long the price of oil continues in decline is, naturally, anyone’s guess. But there are some relatively sane analysts out there talking $40 a barrel. Some are even hinting at $25.

As you would expect, bond yields continue to creep down in the three major markets. The U.S., German and Japanese bonds are all off today.

The equities markets worldwide maintained their upward momentum. The Dow is actually poised to break 18,000. Another day like today (up 137 points) and it will barge through the barrier.

Reviewing the above, there is another ramification. Low, or even lower, inflation will probably give the FOMC great pause before raising interest rates. (Although there is a school that says it’s best to get way out ahead of inflation since effects of rate changes take a long time to filter into the actual mechanics of lending and liquidity.)

Right now, however, if oil keeps sliding, gold and its salutary effects in fending off inflation problems will hold little sway.

A further note of caution: the trading volume in gold is more than 25% off its 100-day average. That spells volatility. This week and next will be tricky for traders as that volume remains low. It might be noted, too, that the last time volatility in gold was this high was January 10^th of this year (2014). It then began to decline. So, there is something to seasonal or cyclical volatility that we need to remain aware of. 

Wishing you as always, good trading,