Commodities & Energy Sector

What is liquidity? How is it created and destroyed? And when does it trigger turning-points in financial markets?

All three of Trump's signature policy proposals - increased deficit-financed infrastructure spending, a more restrictive immigration policy, and trade protectionism - are dollar bullish. These policies could cause the U.S. economy to overheat, forcing the Fed to raise real rates more than it otherwise would. Equities could rally in the near term following a Trump victory, but are likely to face stiff longer-term headwinds. Treasurys would still suffer modest losses, while, ironically, the one asset that could suffer the most from a Trump victory is gold.

While the Fed's recent forward guidance leading markets to increase the odds of a policy-rate hike earlier than previously expected will restrain the recovery in crude oil prices, fundamentals will dominate price formation now that markets have rebalanced.

Gold is correcting short-term overbought conditions on the back of a more hawkish Fed and rise in the U.S. dollar, but we doubt any correction will constitute a trend change. The big picture is increasingly shifting toward even more policy unorthodoxy. If central banks ultimately get their way, gold's appeal as an inflation hedge will eventually increase. In the meantime, real interest rates, the opportunity cost of holding a zero-yielding asset like gold, have slipped back into negative territory, and may need to fall further to reverse chronically subpar economic performance. Gold shares can take their cue from balance sheet flexibility (Corporate Health Monitor shown advanced, bottom panel), as increasing rigidness often breeds business cycle and financial market volatility, which boosts the appeal of gold, and vice versa. BCA's Cyclical Gold Indicator has an excellent long-term track record in forecasting gold stock price trends. It is currently signaling that while gold prices may be overbought on a short-term basis, cyclical conditions remain extremely bright (top panel). Keep in mind that gold sentiment is still not overly bullish, despite this year's rally, suggesting that the surprise may be resilience in gold prices and gold stock relative performance on a cyclical horizon. We are sticking with an above-benchmark allocation. The ticker symbols for the stocks in the S&P 1500 gold index are: BLBG: S15GOLD - NEM, RGLD.

Special Report

The Turkish central bank has almost exhausted its foreign exchange reserve. It has been printing money to keep interest rates lower, and sustain the credit boom in the economy. Such policies are unsustainable and the currency will plunge anew. Currency depreciation will push up market-based interest rates. Stay short/underweight Turkish risk assets. A new trade: Short 2-year local currency government bonds.

There is a risk that global bond yields move higher in the near term, although we prefer to position for that move <i>via</i> cross-market spread, yield curve and inflation trades.

Markets will remain stuck in a trading range, driven by two policy feedback loops: the Fed's and China's.

Investors have embraced renewed Fed hawkishness as a vote of economic confidence and confirmation of analysts' rosy earnings forecasts, but the bounce in financials looks unsustainable, outside of REITs. Hang on to gold shares.

Both hawks and doves at the Federal Reserve, including Chair Yellen, have stepped up efforts to condition financial markets for a rate hike as early as June.

For the month of May, the model underperformed both global equities and the S&P 500. For the month of June, the model is further paring back its risk exposure.