AMA 112 – The Gold/Oil ratio with Mike Lingenheld

Mike Lingenheld appears on the AMA show today to talk about what’s happening in the oil industry. He talks to Jason Hartman about different gold ratios and that there are gold/oil correlations to economic crises. Mike and Jason also do a deep dive and talk about the European economy as well as the dollar being the reserve currency.

 

Key Takeaways:
2:10 – What’s happening with oil right now?
5:00 – Saudi Arabia isn’t hurting economically due to their vast savings from the oil industry.
8:15 – Gold and silver does an accurate job in reflecting current inflation.
12:30 – Whenever the gold and crude ratio goes above 20, there seems to be an economic crisis.
15:30 – Mike thinks the US dollar will be the reserve currency for the next 15 years, at least.
18:40 – If Greece wanted to exist, it wouldn’t be the end of the world.
20:45 – If Spain were to exist, there would be problems. Mike explains why.

 

Tweetables:
“I don’t think the market will find a bottom in oil until the sense of inventories have peaked.”

“Every time the gold/crude ratio has broken 20 there has been some form of crisis and we’re are in that scenario now.”

“The Swiss are essentially just breaking down all their secrecy laws and anybody who wants access can get access.”

 

Mentioned In This Episode:
http://www.forbes.com/sites/michaellingenheld/2015/01/21/texas-saudi-arabia-and-the-collapse-of-oil/
http://cupandhandlemacro.com/

 

Transcript

Jason Hartman:
It’s my pleasure to welcome Mike Lingenheld. He is managing editor of Cup & Handle Macro research. He recently had an interesting article in Forbes entitled, “Texas, Saudi Arabia, and the Collapse of Oil” and it is nothing short, at least in my opinion, astonishing what has happened with oil prices. Mike, welcome, how ar eyo?

Mike Lingenheld:
Good, Jason. I’m doing well. Thank you for having me today.

Jason:
Yeah, good. Well, I hope you can give us some insight into this craziness that is happened with oil. I mean, I think it surprised everybody. I mean, I predicted it would decline, but not this much.

Mike:
No, it’s really startling and it shocked a lot of investors and there’s at least 3 trillion dollars in investment hanging in the balance. It’s a very important move for the market.

Jason:
Yeah, a trillion dollar market, wow, that’s very significant. Well, first of all, tell our listeners where you’re located.

Mike:
I’m located in Connecticut outside of New York city.

Jason:
Good stuff. What is going on? I mean, your article, just maybe speak to the title of the article, Texas, Saudi Arabia, and the collapse of oil. Why that title?

Mike:
The broader market has been very focused on oil as commodity for some time, probably since the summer of 2014 and it’s really a matter of, as an investor, the short oil trade, I don’t necessarily think it’s over, but 60% move is obviously substantial. I think the next derivative of that move will be the impact on the producers and not only the companies that do produce oil, but also the regions and Texas and Saudi Arabia certainly, probably the two most prominent oil producing regions in the world, at least in my estimations. A huge percentage of their economy comes from oil.

Jason:
So, there’s a lot of theories floating around and on the face of it, I think the sort of simple view would be, “Gosh, this decline in oil, it really sucks for the Middle East. I mean, Saudi Arabia is really going to be hurting from this.” But then I’ve heard other theories that say, “Saudi Arabia loves this, because what they want to do is they wanna get the US to sort of just curtail it’s oil production and then they’ll have that market back.” What do you make of those really opposing ideas?

Mike:
Saudi Arabia is certainly very interesting and obviously has gotten more interesting now that King Abdullah has past away.

Jason:
Yeah, I was always wondering what that would mean, if anything, to this.

Mike:
There’s a lot of uncertainty in the region now. I know President Obama just stopped there on his way back from India.

Jason:
By the way a good criticism for Obama. He didn’t have any time to go to France oddly, but anyway..

Mike:
So, really I think a lot of the blame has placed on Saudi Arabia certainly by OPEC members, by oil producers in the US, and with the assumption they’re just floating the market with supply and I actually think it’s a lot more complicated than that for why oil has declined and I think the general perspective is that they’re trying to shake out Shell producers in the US and certainly that’s part of it, they want to maintain market share, but alternatively; I don’t mean to get conspiratorial about this, but it behooves them to punish Russia so to speak. I mean, the Sunni-Shia struggle across the Middle East, especially in Syria, Vladimir Putin is really the only thing standing between the west, between..I can’t think of the force..oh, the UN security council, excuse me, yeah, the UN security council. The only thing standing between an intervention in Syria from the UN security council is Russian. They’re one of the..

Jason:
It would seem, you know, like I had a guest on recently who talked about really this is all about the futures market and that’s how you manipulate oil prices and the US is doing this on purpose to hurt Russia, to hurt China, and you would to think to hurt Saudi Arabia. It just seems like it would totally hurt the Middle East, that would be my initial view of it.

Mike:
Saudi Arabia has been such a huge producer for so long that they have ample savings stocked away and they’re obviously a low-cost producers, so they can withstand this pressure a lot better than say, like Venezuela, for example.

Jason:
Venezuela is really in trouble. I mean, they were in trouble before this, but now they’re really, really in trouble.

Mike:
So, it behooves Saudi Arabia to maintain market share even if it comes at some short term costs, really.

Jason:
So, what’s going to happen? I mean, you think oil is still going to decline, right?

Mike:
My general outlook would be that oil still has room to fall. I think moves like that typically end in a very violent fashion when there’s major capitulation and I think really the market will find a bottom once there’s a sense that inventories have peaked. Inventories in the US are obviously elevated and the other major sources and demand in the world also, you know, China is the other big player..actually to bring in an interesting fact, I believe for the first time since the 1940s the US is not the largest importer of oil in the world now, it’s China. No body really knows what’s happening with Chinese stock piles, so the demand half the equation is really unclear, but I don’t think the market will find a bottom in oil until the sense of inventories have peaked and I don’t really see that just yet.

Jason:
Tell us about the gold to oil ratio. I mean, what does that tell us? All these ratios are very interesting. You look at the gold to silver ratio, the gold to oil ratio, you know, I guess you could have gold to coffee ratio and the soybeans to oil ratios. I’m not sure all of that have any meaning, but I think some of them do.

Mike:
Yeah, absolutely, before getting into gold/oil, you mentioned gold and silver. There’s a correlation that I have found between gold and silver and break even inflation in the US, pretty much the real time barometer of what the market is pricing info forward inflation. 10 years out the correlation between that and gold denominated silver is really remarkable and I think that..

Jason:
Okay, let’s hear about that. So, what is the ratio again, what is this one?

Mike:
Gold and silver.

Jason:
Gold/silver ratio and what does it mean for inflation/deflation/disinflation/stagnation, what does it mean? What does it tell us?

Mike:
Silver has much more youth in industrial production whereas gold has really no industrial use, so gold therefore is much more monetary asset and when the price is moved relative to each other, that really mirrors the market pricing and inflation. It’s a good real time barometer. I mean, what’s the best metric for inflation we have? It’s really CPI and that is backward looking and can be revised for some of them, so we really don’t have an accurate real time gauge and I’ve found that gold/silver does that job remarkably well.

Jason:
What is that ratio now? What was it before? Give us some reference points.

Mike
Yeah, gold/silver right now is around 71.

Jason:
So, 71 ounces of silver to one ounce of gold?

Mike:
Correct.

Jason:
Okay.

Mike:
And in just say June of 2014, before the movement in oil really got started, it was around 62 ounces.

Jason:
62. Alright. So, does that tell you where silver and gold are going?

Mike:
Not necessarily. They’re related metals, so it’s a relative value play. I will say that oil is also a good way to gauge inflation just because of its impact every, you know, it’s included in the cost of production in every commodity, every business uses oil, so it has major deflation/inflationary tendencies and the last two 50% declines in oil in 1986 and 2008, the following year gold rallied at least 25%, so I think that’s probably pretty telling and reasonable bullish gold here.

Jason:
You’re bullish on goal, but interestingly, you don’t think that inflation is coming real soon. It sounds like you think it’s ultimately coming, but there may be a couple of years of, you know, where we don’t see inflation in any significant way, right?

Mike:
Correct. The US dollar is a really deflationary headwind impact and it’s the world’s reserve currency, so it impacts the global economy. Producer prices in China are negative. China has been exporting deflation for a long time and that’s continuing. There’s just a lot of forces, especially the decline in oil is very deflationary and finally wages haven’t gone anywhere, there are actually decline, the growth is decline I should say, to extremely low levels and wages are a huge percentage of CPI, so my short-term outlook is definitely deflationary. At some point, you know, maybe when the commodity cycle bottoms things will pick up again, but in the mean time, deflation is king.

Jason:
That’s so interesting, because it seems like inflation is such a good business plan for governments. It really gets them out of everything. It’s almost hard to see how we can have much in the way of deflationary pressure when the amount of money creation over the last eight years has been nothing short of phenomenal. Speak to that if you would.

Mike:
The presses by which money creations inflation is really, there’s a demand component as well and I just don’t think demand or credit has really come anywhere close to where we need it to be in order to see inflation.

Jason:
Do you think that’s because the banks are still, I mean, in my view, post-financial crisis, I think the banks over corrected. I think they were too liberal on their lending before, way too liberal, but I think they really over corrected. Would you agree with that assessment and is that still part of the credit impact now?

Mike:
Yeah, I say banks were very reluctant for a long time and I think that’s..I think they’re more willing to lend now, especially when you see things like sub-prime auto loans, which they’re either offering seven year loans for cars now at just obscene rates, which I think is a function of QE among other things, but..

Jason:
Soon we’re going to have 40 year car loans.

Mike:
Yeah.

Jason:
Just kidding.

Mike:
It’s crazy.

Jason:
So, in other words, what kind of rates are you talking about? What are people paying for these seven year car loans?

Mike:
I don’t have any numbers off the top of my head, but the fact that their duration for a car loan is that high.

Jason:
You could justify it on a high-end car, you know, a brand new high-end Mercedes or Bimmer, you know, like a seven series or a S-class. I mean, they’ve had that type of stuff.

Mike:
Absolutely, but I think that the numbers show that the growth in auto loans was really coming from used cars and it’s just really the bottom of the barrel in terms of quality and I think that’s ominous and I’m actually in the process of writing something on that, so stayed tuned.

Jason:
Interesting point. I think you’re right about that, by the way. Okay, go ahead with your thought though.

Mike:
I really wanted to bring it back to gold in terms of crude oil, which is what we touched on a little while ago before I went on a gold/silver tangent, but every time since 1990 that the gold/crude ratio has broken above 20 there has been some form of crisis and we’re are certainly in that scenario right now. Currently one ounce of gold will buy you 24 barrels of oil. The chart has really exploded. In September of last year it bought you 13 barrels. I think the only crisis, so to speak, it did not predict was the NASDAQ bubble in 2011, but the Euro sovereign debt crisis, it was above 20. The great recession obviously in 2008 was above 20. Asian currency crisis in 1998 and the Latin America savings and loan crisis in 1994. It just seems to be a really good barometer of crises.

Jason:
See, when you say crisis, you really got to tell us what type of crisis, because crisis come in so many flavors, right? For us to act, we gotta know what flavor is coming.

Mike:
I hear you 100% and that’s I spend my time thinking about honestly. The only one that really had a material impact on the US was the great recession was 2008, actually. Even in 2011 during the Euro crisis the SMP finished high around the year, just did not impact US stocks, but I really think this ratio speaks to the market pricing and safety versus growth. Obviously gold is not a consumable commodity, its purposes are really financial more than anything where as oil is consumable and used in all forms of economy activity and when the ratio gets really screwed like that, I just think it has kind of ominous..it’s not a great sign for the prominent market.

Jason:
What do you say to people who, you know, there’s this whole school of thought and I think these people are just largely kind of wrong, that the US is going to lose its reserve currency status, the dollar is just being debased and I mean, the complete opposite has happened. What do you say to people like that and I want to ask you, because you talk so much about gold, I just gotta ask you, Mike, about Bitcoin and whatever your thoughts are on it.

Mike:
Absolutely. The US dollar is not going to lose its reserve currency status in the next 15 years. I think it’s typical to make predictions beyond that not that I think it will happen, but yeah, there’s really no challenge. I mean, obviously the Euro is the second most liquid currency and I don’t see any reason to own Euro at the moment. Renminbi is obviously the existential threat, so to speak. I think China has plenty of problems of their own including excess debt and I believe I saw this morning in terms of Swift volumes of currency transactions around the world, Renminbi is now the number five just surpass Canadian dollars and that’s great that it’s out there. It incorporates the Chinese economy into the global economy a little bit more, but China, like I said, China has plenty of problems and the Renminbi is just not going to cut it.

Jason:
I agree. I agree. Plenty of problems in so many ways. I mean, possible government instability, civil unrest, population problems, Japan has major demographic problems too.

Mike:
Especially if you think about it, sorry to interrupt, the primary reasons the US dollar is the world reserve currency is that the US has rule of law, its legal system is second to none, and it also has the most powerful military. It has 14 aircraft carriers that can, you know, put substantial US forces on the ground at any part of the world very quickly and I don’t..you know, China has one aircraft carrier, I guess now, and the bureau of law is certainly suspect. Again, I just don’t see any threat.

Jason:
Finally a guy who agrees with me. Thank you. I used to, you might not agree with me on the gold part, because I’m not a gold bug. I own some, but I just don’t think it’s a big deal. I think the dollar is really the thing, maybe not because it’s so great, it’s just that everything else is so much worse, you know, from the negative side rather than the positive side possibly, but people say, “Well, the dollar is not backed by gold.” Well, yeah, but it’s backed by aircraft carriers, fighter jets, the largest economy in the world, the largest brand name in the world in terms of a country, great rule of law, certainly we have our complaints about it, but compared to what?

Mike:
Exactly, compared to what? I would say the two alternatives, so to speak, the safe heaven currencies if you’re not including gold and what I’d like to point out, US dollar was the best performing currency last year, but gold is actually number two, but anyway, the two alternatives have traditionally been Switzerland is obviously one with the banking secrecy laws.

Jason:
Well, I don’t know if you have that any more though.

Mike:
Well, that’s the point I’m getting to. The other would be Singapore, which is kind of a new comer to the game, they also have very strict banking laws and makes it attractive to investors for that reason. Just this morning we had the Singapore monetary authority come out and say that they’re going to increase stimulus and that chart really looks dreadful. It looks like the Singapore dollar is going to decline substantially and as everyone knows by now, how could you really trust the Swiss national bank, which reneged on its promise to defend the Euro Swiss currency. While it did appreciate the Frank I understand, at the same time, they’re essentially just breaking down all their secrecy laws and anybody who wants access can get access. I don’t know that it’s going through yet, but it will shortly.

Jason:
So, what do you make of the Euro and of Europe in general?

Mike:
You know, it’s a great question. Euro has fallen along the way. I actually think in the short-term it may raise, but I think the next leg of this crisis, I think the market is fairly well prepared for Greece. I mean, if the Greece wanted to exist, I think it will obviously create some volatility, but it wouldn’t be the end of the world. The really troubling aspect..

Jason:
Well, especially with the election they just had. You know, they’re moving, I mean, of all things that seem so stupid, but it’s really hard to talk people out of entitlement. They just don’t want to give them up. You know, Greece moves more to the left and then I believe their new leader came out and said something to the effect of, it’s just not that important to pay back their debts.

Mike:
The real problem is that there’s a political part in Spain called Podemos who were celebrating the election victory in Greece, because they hold very similar principles and while the market could currently withstand a Greece exit, but Spain there would be no way and I really do think that the raise of political extremism across Europe and obviously the Charlie Hebdo tragedy is just going to boost that. I mean, extremism is certainly in a bull market era and I don’t see that stopping any time soon.

Jason:
Yeah and that is really scary. I think that is quite possibly the biggest threat the world faces. I don’t know if I’m being way over bold about that, but that concerns me greatly.

Mike:
It concerns me greatly as well and there is a political party in Germany that started very similar circumstances in the 1930s, late 1920s I guess.

Jason:
You’re talking about Hitler, of course. Yeah, right. It really is very scary. So, what would happen to the Euro and Europe in general if there was a Spanish exist? I mean, I was in Spain, last time I was there was about a year and a half ago and I was just so unimpressed, I gotta tell you. I think that country is just, sorry Spanish listeners, I think that country that the whole ethic is kind of lazy. I mean, France is that way too. Listen, it’s a European thing, except for the Germans, but then again, they even have six weeks of vacation and I was born in Germany, okay, but this socialist bent and this entitlement attitude is just very destructive.

Mike:
I think the problem with a Spanish exist would be just the intermingling of the banks and if it hit Spain very hard, obviously it’ll spread to France and ultimately the economy that you really can’t touch Germany, it’s just very intermingle there, and the ECB is essentially already maxed out on how much support it could provide and if there’s a deterioration, what could they do? They could do a lot of things I guess, but I don’t know that any of them would be productive.

Jason:
Yeah, wow. The Euro is just, it seemed like a cool idea way back when, but I just think that’s a really tough thing to do, you know, to put all those countries together like that.

Mike:
It’s very tough to do and they can’t, I mean, you can’t do it half way. It’s either going to be, you know, the banking systems are going to be integrated, socially they’re going to be integrated, all this stuff and really they just kind of used the common currency and it’s very nationalistic other than that, which I know is George Soros sticking point.

Jason:
Yeah, good stuff. Okay, good, well, give out your website if you would and tell people where they can find out more.

Mike:
Right, I am managing editor, like you said, of Cup & Handle Macro. My website is http://cupandhandlemacro.com/.

Jason:
The name by the way, Cup & Handle is from the chart, right?

Mike:
Yeah, cup and handle is a very classic and powerful technical signal. If you’re looking for it actually just to give your listeners a free sample here if you want to see a very classy example, go to a weekly chart of the dollar in Indonesia Rupiah right now. There’s one of the best cup and handle formations I’ve seen in a long time there and it portends very negatively for Indonesia and I think that currency can weaken a lot, but yeah, Cup & Handle does come from the technical signal and I produce a weekly newsletter, which is free. You can sign up on http://cupandhandlemacro.com/, comes out via Marketfy and also publishing on Forbes now, which is where you came across my article. I’ve got three or four articles up there now and I expect one soon on sub prime auto loans.

Jason:
Good stuff. Well, Mike, thanks for joining us.

Mike:
Thank you for having me, Jason, I appreciate it.

Announcer:
This show is produced by the Hartman Media Company, all rights reserved. For distribution or publication rights and media interviews, please visit www.hartmanmedia.com or email [email protected] Nothing on this show should be considered specific personal or professional advice. Please consult an appropriate tax, legal, real estate or business professional for individualized advice. Opinions of guests are their own and the host is acting on behalf of Platinum Properties Investor Network Inc. exclusively.

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