FOCUS ON: Negative Side Effects of NIRP and ZIRP (W. Snyder)
The World Gold Council has examined the situation created by NIRP and ZIRP (Gold in a World of Negative Interest Rates – March 2016) and comes to the unsurprising conclusion that demand for gold is favored by a negative interest rate environment. Various other effects of the long-term implementation of this nefarious policy on the part of central banks are also mentioned. Bonds are, of course, considered in some detail. This Newsletter has advised avoiding investment in bonds for a long time, and the World Gold Council suggests that gold can compensate for the poor results obtained by fixed-income securities that offer negative returns.
There are, however, other points that should be considered. As investors seek higher-yielding investments, they are tempted to take greater risks, which otherwise would be unwarranted. Companies have resorted to massive share buyback programmes that have helped to sustain high equity prices to the advantage of executives rewarded not only with high salaries but also with stock and stock options. Growth is not promoted by such tactics. At the same time capital expenditure has not been favored in the US while in China there was overexpansion of capacity in many industries that now have to retrench.
The oil glut has resulted in US oil firms being put under heavy financial pressure, which has also affected oil producing countries that have seen their income from oil more than half in six months. This has caused many sovereign wealth funds to sell securities to cover deficits. Despite this the stock markets have recovered nicely from the dip in January and February It is a recovery for which fundamentals are lacking for a long-term continuation of a bull market.
Real estate, an alternative investment, was not considered by the World Gold Council, intent as it was on promoting gold as a safe haven. The risk of deflation can also apply to real estate since the prices of land and buildings can fall just as they can rise. However, the returns on real estate are still much higher than negative returns on sovereign bonds. Real estate investment can be direct with the purchase of land and buildings or it can be indirect through the purchase of the stock of companies that invest in real estate. The latter is obviously more liquid and can be easily traded while direct ownership of real estate entails a long period of ownership and ensuring difficulty in finding a buyer. Even so, in times of uncertainty, portfolio diversification is an advantage and can help avoid being subject to high volatility in the stock and bond markets.
The conclusion to be drawn is that a portfolio that can produce reasonable returns in a negative interest environment should have a higher gold content, even up to 10%, as well as real estate in both direct and indirect investment. As for equities, solid companies that regularly produce dividends and have a reasonable P/E ratio as well as a solid balance sheet are to be preferred to stocks that are the subject of speculation (FANGS, for example). Bond holdings should be limited to high yield issues of reliable companies that are unlikely to default.
When and if ever the central banks of the US, EU, Japan, Sweden and Switzerland try to raise interest rates, the holders of bonds with negative interest rates will see their balances suffer because they wanted to be on the safe side. Gold does not suffer in a negative interest environment and as soon as the criminal manipulation of the gold price on the part of the BIS is stopped, the price of the yellow metal will soar. At the same time real estate will also prove to be a winner.
Walter Snyder