Despite clear evidence of a slowing US economy, the stock market there continues its relentless march higher. A few days ago the Dow Jones index surpassed 46,000 points for the first time and the Magnificent 7 total market cap surpassed $20trn. But with investors acting like drunken sailors are the cops ready to call time on this party?
The catalyst?
Later today (17 September) the Federal Reserve is expected to cut interest rates by 25 basis points. Investors are cheering, viewing the move as a tonic for the next leg up in the stock market. Certainly there is precedent for this.
Back in the late 1990s, when the tech bubble was in full swing, the Fed cut rates aggressively. The market responded with the S&P 500 crossing the 3,000 then 4,000 points mark in a matter of months. At that point, all the sceptics had thrown in the towel, and everyone was diving in.
Soon after that the market crossed 5,000 points, before then crashing 78% over the next two-and-a-half years.
Stagflation
Could we repeat such a situation today? Yes we could. Volatility is low, investors are buoyant and animal spirits are everywhere.
But there are also some big differences between then and now. For starters the US national debt today stands at 5% of GDP, crippling the country with interest expense. Secondly, many valuation metrics today are way higher than they were back at the peak in 2000.
But the biggest difference today is that clear signs are emerging that the economy is heading for stagflation. Not seen since the 1970s this is the dreaded cocktail of elevated inflation, low growth and rising unemployment.
Gold
To my mind gold does not go from $1,800 to $3,600 in a few short years, without telling you something. Some argue that, along with the rest of the market, investors have caught the gold bug and are riding the wave.
However, what many conveniently miss is that most of the buying to date has been driven by foreign central banks repatriating gold and silver in record amounts. That does not look like a speculative bubble to me.
What such moves tell me is that faith in the Western financial system, with the US dollar at its core, is weaker than it was.
Miners
One stock that I believe can continue to do well in such an environment is Fresnillo (LSE: FRES). Year to date it is by far the best performer in the FTSE 100. One of the reasons for my attraction is its healthy exploration pipeline.
Exploration is an inherently risky business. Drill results can so easily disappoint leading to a downward revision in total resources. But even if an explorer successively finds new a deposit, there is no guarantee that it will ever be able get it out of the ground. Local opposition and a protracted permitting process are two major obstacles to overcome.
Today, Fresnillo is a cash cow and even if gold was to correct, say by 20%, it would remain so. For me, hard asset exposure is a necessity in today’s uncertain world, which is why the stock remains a core part of my portfolio. For investors who can look beyond the potential for a short-term correction in the precious metals market, it is certainly a stock worthy of consideration.
