Cockroaches and Gold

“Eeeekeedoo!”

Forgive me for the spelling; I might have it wrong. Maybe a phonetic pronunciation guide is better: Eeeee—kee—doo!

The exclamation is important. And you must exclaim it with great shock and fear—like when you turn on the lights at night and open a kitchen cupboard to find a cockroach the size of a gutter rat staring at you.

In fact, that is exactly the situation I am describing, and “Eeeekeedoo!” was precisely my grandmother’s reaction to a cockroach surprising her. Granted, the roach was never the size of a gutter rat. But no one could convince my grandmother of that reality. She was deathly afraid of these critters.

Which, naturally, brings me to Jamie Dimon, CEO of JPMorganChase.

He’s been talking cockroaches of late. See—it really was a natural segue.

Of course, the roaches America’s biggest banker is worried about are metaphorical. Cockroaches in America’s financial cupboard. If there’s one, there’s always an army of more cockroaches lurking somewhere you can’t yet see.

For Dimon, the visible cockroach is the recent bankruptcy of First Brands, an auto parts maker that had borrowed some $10 billion.

Jamie’s kingdom, JPMorgan, had no exposure to First Brands, but did write off $170 million in rotten debt after an auto dealership known as Tricolor gave up the ghost in September.

And there’s news emerging about America’s subprime borrowers, who historically tend to be a signal of bad mojo rising. From CNN:

A key group of American borrowers is falling significantly behind on their car loans. It’s yet another sign that the US economy is forming some serious cracks, leaving the most vulnerable in financial distress.

The percentage of subprime borrowers – those with credit scores below 670 – who are at least 60 days late on their car loans has doubled since 2021 to 6.43%, according to Fitch Ratings. That’s worse than during the past three recessions – during the Covid pandemic, the Great Recession or the dot-com bust.

All of which feeds into Jamie’s cockroach commentary:

“My antenna goes up when things like that happen. And I probably shouldn’t say this, but when you see one cockroach, there are probably more. And so we should—everyone should be forewarned on this one.”

I’ve been warning for many a month that the underlying US economy is built on pillars of sand, namely an American consumer that is largely living off the good graces of Visa and Mastercard. (I won’t go into all that here, but I will note that a recent survey by PYMNTS Intelligence shows that 67.6% of US consumers are living paycheck-to-paycheck, a 10 percentage-point gain in the last 18 months.)

Sure, parts of the economy are booming, and we hear about that all the time. AI, for instance. And the stock market is going up, so people (like a particularly stock-market focused president) think that means the economy is rollickingly fantabulous.

Alas, the stock market isn’t the economy. Moreover, one could argue that stocks are going up because inflation is running hot and the dollar is running cold, and stocks are where investors often go in such an environment to preserve purchasing power. So in some key ways, stocks going up right now speaks to a challenged economy, not a booming economy.

But the real story here is gold.

It recently fell out of bed after rocketing toward a new all-time high above $4,300 per ounce. As I write, gold is just above $4,000. That 7% decline has lots of people freaked out—as though $4,300 marked the top, and now the party is over and it’s all downhill from here.

The truth is a bit different.

Investors have been raising cash because of margin calls and concerns about margin calls. For the uninitiated, margin calls arise when an investor has borrowed money to invest in a particular asset, and if the value of that asset drops below a certain level, brokerage firms demand an investor deposit more cash to cover possible losses. When that happens, investors typically sell winners and funnel those gains into the margin call.

And gold has clearly been a very big winner.

The issue at play pushes us deeply into “inside baseball” territory, and I want to avoid that.

So I’ll summarize by noting a few bullet points:

• The Fed has been in so-called Quantitative Tightening mode since the summer of 2022, meaning the Fed is allowing $95 billion of Treasury debt and mortgage-backed securities to mature and roll off its balance sheet every month, effectively pulling $95 billion of liquidity out of the financial markets monthly.
• Now there’s worry too much liquidity has left the market.
• Which is causing interest rate volatility, generally pushing market interest rates higher (these are different from the rates the Fed sets).
• Which makes credit harder to come by for consumers and businesses.
• Which is causing bond prices to decline in value (rising interest rates mathematically means lower bond prices).
• Which, depending on the aggressiveness of the decline, can cause margin calls.
• Which, as noted, sees investors dump winning assets to cover the margin call.

Thus, gold isn’t down because the fundamentals in the gold market have suddenly changed.

Actually, Jamie Dimon’s cockroaches say that the fundamentals for gold are stronger because the economy is downshifting (even as inflation is pushing higher).

That’s a lovely environment for gold.

A gimpy economy—and the worries about inadequate liquidity—will see the Fed cut interest rates. That’s gold positive. Physical gold pays no interest or dividends, so its biggest competitor historically has been Treasury bonds and cash offering decent yield.

But if yield is coming down, then gold shines brighter.

On the other hand, inflation keeps pushing up. And that’s gold positive too.

Gold is a hard asset that has historically served as an inflation hedge. Inflation up… gold up.

The cherry on top: The dollar is having a no good, very bad year for all kinds of reasons I’ve written about many times. That’s also gold positive, since gold is the anti-currency. Dollar down… gold up.

So at this point, the best we all can do is scream “Eeeekeedoo!” at the mess the Fed has to deal with as cockroaches come out in force across the US economy.

And buy gold.

Light scares cockroaches.

And nothing these days shines brighter than gold.