Why the 'debasement trade' lifting bitcoin and gold may continue, says JPMorgan

By Steve Goldstein

Gold has appreciated more than what would have been expected by changes in the inflation-adjusted 10-year yield, analysts say

The alternatives to the U.S. dollar haven't responded well to the latest Iran-Israel fighting, with gold (GC00) roughly flat and bitcoin (BTCUSD) down 3% since the point where oil prices started spiking higher.

But gold has recently being recording record highs. Strategists at JPMorgan led by Nikolaos Panigirtzoglou say gold has gone well beyond moves implied by dollar and real bond yield shifts. Instead, it has been driven by what's called the debasement trade.

"The 'debasement trade' is a term that reflects a combination of gold demand factors which in our client conversations range from structurally higher geopolitical uncertainty since 2022, to persistent high uncertainty about the longer-term inflation backdrop, to concerns about 'debt debasement' due to persistently high government deficits across major economies, to waning confidence in fiat currencies in certain emerging markets, and to a broader diversification away from the dollar," the strategists say.

These are all views, it should be said, that have been expressed for years - but gold around $2,700 an ounce and bitcoin around $60,000 give them new currency, so to speak.

Citing International Monetary Fund data, the JPMorgan analysts say the share of the U.S. dollar in currency reserves has fallen to a new low of 57% in the third quarter. And that, interestingly enough, has come even as China's central bank effectively paused its gold purchases since April.

The JPMorgan team then used some fancy math to show (in euro terms) that gold has appreciated more than what would have been expected by changes in the inflation-adjusted 10-year yield. From here, they say, "there is little doubt that the pace of central bank purchases is key to gauging the future trajectory for gold prices."

The JPMorgan team also looked at speculative demand from institutional investors, by examining U.S. Commodity Futures Trading Commission data. They find a bullish impulse in gold and bitcoin futures but not in ethereum futures. "To us this suggest that speculative institutional investors such as hedge funds might see gold and bitcoin as similar assets, i.e. both as beneficiaries of the so-called 'debasement trade', but not ethereum. In addition, the fact that bitcoin ETFs started seeing inflows again in September after an outflow in August suggests that retail investors might also see gold and bitcoin in similar fashion," they say.

This debasement trade may have legs, they say, boosted by rising geopolitical tensions and the U.S. election. A win by former President Donald Trump would not only boost bitcoin from a regulatory perspective, but would reinforce the debasement trade via tariffs that lift tensions as well as an expansionary fiscal policy. The strategists say in most other asset classes the likelihood of a Trump victory is not priced in.

"This is because investors have been rather occupied in recent months with the recession trade. If we envisage the Trump trade in a similar fashion to 2016, i.e. higher [U.S. Treasury] yields, stronger dollar, outperformance of U.S. vs non-U.S. equities, outperformance of U.S. banks and tighter credit spreads, so far we have seen only little shift in markets," they say.

The markets

After a quiet Wednesday, U.S. stock index futures (ES00) (NQ00) slipped in early Thursday trade. Crude oil futures rose while the dollar DXY gained ground, notably against the British pound (GBPUSD) after the Bank of England governor suggested the central bank may make more aggressive rate cuts if inflation eases.

   Key asset performance                                                Last       5d      1m     YTD     1y 
   S&P 500                                                              5709.54    -0.22%  3.43%  19.70%  33.91% 
   Nasdaq Composite                                                     17,925.12  -0.87%  4.92%  19.41%  35.43% 
   10-year Treasury                                                     3.811      1.10    7.80   -6.99   -89.71 
   Gold                                                                 2665.6     -1.09%  4.65%  28.66%  45.33% 
   Oil                                                                  71.59      6.12%   3.27%  0.36%   -13.29% 
   Data: MarketWatch. Treasury yields change expressed in basis points 

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Levi Strauss shares (LEVI) slumped in premarket trade as the jeans makers lowered its full-year sales forecast and said it may sell its Dockers business.

Israel continued to fight in Lebanon as investors waited to see if it responds directly to an Iranian missile attack.

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-Steve Goldstein

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10-03-24 0841ET

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