Interest Rate Surge will Throw Economy into Reverse

Well, it’s official: the Fed is gearing up for a 75 basis point rate hike today – the largest since 1992. What does that mean for Canadian stocks? 

Get ready for a return to the nuclear winter that began in 2012 – except this time, without the counter surging tech bull.

With central banks in the G7 all staring rampant entrenched inflation in the eye, the unfortunate reality is that quantitative easing is not considered an option for reversing the effects of – well – quantitative easing.

The central bank practice of injecting capital into the economy through the miracle of fractional banking has caused such an excess of liquidity in the top quartile of the financial system that assets, inflated in price by the competition such excess liquidity induces, are now spiralling out of control.

So now, with only interest rate increases available to contain the artificial demand created, central bankers think that will eventually bring inflation to heel.

It will – eventually – but if the recession of 1992 – 1994 is any indication, that will take at least two years, and come with a likely serious reduction in GDP. That means fewer jobs, lower wages, less consumer spending, and stock market prices drifting ever lower.

The positive aspect of all this is the imminent collapse in home prices as a result of suspended borrowing to facilitate it will bring home prices across most of Canada back down toward levels that could be construed as more affordable.

Of course, that doesn’t really help if mortgage rates are pumped to double digits, as was the case in the 80’s. The average house price in Canada in 1982 was $440k.

Mortgage rates topped out at 21.46% in 1980.

There are a lot of features of the current economic landscape that have never been seen before: i.e. skilled worker shortages causing supply chain bottlenecks; commodity price fluctuation creating price bubbles in short time frames causing slowdowns as purchase decisions are delayed; FOMO price premiums paid for housing that is thus going to correct way more severely than otherwise; cascading foreclosures as a result of all of these factors adding another degree of intensity and duration to the real estate crash just now unfolding.

Never mind the fact that wheels coming off of crypto, tech stocks and housing at the same time means the pain is going to be felt a lot more broadly. Unless your house is paid for and you have no personal debt, this recession will likely cause hardship across the board.

So…what can we do? Will crypto bottom out and soar higher? The short answer is no. Incoming central bank digital currencies will likely be accelerated now that there will be a growing chorus of demand for better regulation against the massive abuses that are undermining any chance of crypto becoming currency. 

Will tech stocks bottom out and rally? No again. The fact is valuations are the result of artificial stimulus aka quantitative easing; so the combination of higher interest rates means less stock buybacks, less stimulus means less buyside interest; economic recession or worse means risk taking is dialled wayyyy back.

Real estate? I think we’ve covered that.

Historically, during times of long lasting market corrections, it is mining that finally catches a bid, though not until the bottom has been firmly established.

That’s what makes this a good time to selectively position one’s self in early stage junior mineral explorers that have excellent capital structures and proven management teams. Those two factors, plus a politically stable jurisdiction, are just a few of the ingredients needed to improve one’s odds of success in mining investment.

The other requirement is patience. If you want to maximize the upside in a well placed mining investment, you’re going to need a long time frame. Exploration success through drilling provides liquidity events to take money off the table, but it’s usually a minimum of 10 years from first drilling until a mine goes into production.

If the price of gold were to breakout to a new level during this turbulent time, it could be that a real boom in junior mining causes a feeding frenzy such as that which occurred from 2002 to 2009. If that happens, buying selectively now could prove to be as lucrative as crypto was from 2015 to 2021.

James West

Editor and Publisher

James West founded Midas Letter in 2008 and has since been covering the best of Canadian and US small cap companies. He covers global economics, monetary policy, geopolitical evolution, political corruption, commodities, cannabis and cryptocurrencies. As an active market participant, James is not a journalist and is invariably discussing markets...
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