• Tony Hayes CFA

Forecasting is Hazardous, Particularly the Future

COVID -19 ate my forecast of DJIA 30,000 by Q1 2020. Sorry.

Fed and U.S. government flood the system with money.

Gold on track for US$ 2,000 by mid-year and US$ 3,000+ by year-end

DJIA Price of 23,019 is at an 83% discount to its value of 131,845

DJIA rebounding due to upward pressure from a record dividend of $662.07 and a 30 year T bond yield of 1.16%

Where do we go from here? New highs for Gold and the DJIA

In response to COVID-19, the Fed has accelerated with a vengeance the increase of the U.S. monetary base which it restarted in October 2019. In the space of five weeks since the end of February, the Fed added US$ 1 trillion to the total monetary base to a record US$ 4.5 trillion on April 8, 2020. This increase is 18% more than was the total monetary base of US$ 0.84 trillion in August 2008 which had taken 232 years to create.

With the base at US$ 4.5 trillion and likely to continue to grow, the question becomes:

How quickly will this increase take to flow into the real economy?

Fiscal action by the Federal Government in sending out support payments to millions of citizens, which will bypass the banks is one way of speeding up the process.

The Fed also acted to encourage the banks to start pushing out the excess reserves which they have held at the Fed for much too long. On March 23, 2020, the Fed lowered the IOER to 0.1 % in a clear attempt to get banks to do what they are supposed to and push the money created by the Fed out into the real economy.

For far too long, banks have been hoarding excess reserves at the Fed which has been happy to pay risk- free interest to keep bankers in the bonuses and lifestyle to which they have come to believe they are entitled. The result of this inaction was the very modest rate of economic recovery seen since Lehman.

How long it will take for banks to start moving money out into longer-term and higher risk-assets is hard to say, given the panic over COVID-19. However, it seems certain that economic rebound from this recession has been financially extremely well primed by the Fed and is ready to roar once the fear and dread of the pandemic recedes as seems to be the case in its country of origin, China.

Perhaps there will be a third-quarter medical resolution of COVID-19. Should this be the case, devastation seems to be well priced in. As the second half of 2020 unfolds the economic recovery should be underway as the fiscal and monetary pumps are truly well primed with the US$ 2 trillion stimulus package from U.S. government and the promise of US$ 4 trillion from the Fed. Further stimulus packages are also in the offing including the much-debated Infrastructure bill.


On October 17, 2019, in an article entitled “Fed Tolls the Bell for Gold US$ 2,000” it was postulated that the re-establishment of QE would drive the U.S. price of gold to $2,000 per ounce by mid-2020.

An increase in the AWBM was expected to weaken the U.S. dollar relative to other currencies and thus drive up the U.S. dollar price of gold. However, COVID-19 has subsequently led all countries to increase their respective monetary bases at seemingly an even greater rate than the Fed. Hence, the U.S. dollar is showing more resilience than expected against other currencies but relative to gold all currencies are falling. Thus the rise in the U.S. dollar gold price and its probable continued upward trajectory.

How high could the U.S. dollar price of gold go?

That depends on how high the AWMB rises. It seems certain that US$ 2,000 per ounce will soon be exceeded and probably be above US$ 3,000 per ounce by year-end. Such a development should lead to excellent gold share price performance as well as speciality gold funds which will attract inflows of cash and ultimately buying by generalist funds.


As this unfolds in the year ahead, the conversation should switch from COVID-19 leading to an elongated recession and possible depression with persistently low commodity prices and deflation to the realization that inflation seems certain to accelerate as the increased world monetary base flows through to the real economies.

It is difficult not to imagine a return to significant inflation given the huge explosion in the monetary base. It is also equally hard to imagine the Fed acting rapidly to kill inflation by quantitative contraction and run the risk of another recession so soon after that of 2020.

The DJIA Price of 23,019 is at 83% discount to its value of 131,845

A new twist on the old adage, “The market goes up the escalator down the elevator” since Lehman the market has climbed a wall of worry by going, “Up the stairs and down the elevator shaft”!

In the stock market, the blood of those trying to catch the falling sword has been running in the streets. However, the move by the U.S. Administration to slow down the potential spread of COVID-19 there appears to be some hope that the collapse in the price of the DJIA to 23,019 via 18,592 on March 23, 2020, will soon recover as even the 20 day moving average of the dividend discount value of the DJIA stands at 116,802.

Impact of Dividend Changes

The staggering dividend discount value of the DJIA at 131,845 is the result of there being no change yet in the record DJIA dividend of US$ 662.07 and a substantial drop in the 30 year T bond yield to 1.16% via 1.00% on March 9, 2020. While there is a high probability of dividend cuts by companies in the retail, travel and hospitality industries the potential aggregate drop in the DJIA dividend would have to be substantial to offset the positive impact of the 1.16% 30 year T bond yield.

Furthermore, there will probably be a great reluctance on the part of the dividend aristocrats to cut their respective dividends. Indeed Johnson & Johnson has just increased its dividend. Any dividend elimination would be a big mistake as many dividend funds would have no choice but to sell into already weakened markets.

To bring the price of the DJIA into equilibrium with its value holding the 30 year T bond yield at steady at 1.16% the aggregate dividend of the DJIA would have to drop by 82% to US$ 119.17 per share. Such a catastrophic drop implies a much longer recession than the one we are in. It might even take a depression to result in such an outcome. At the moment this seems highly improbable.

In the great post-Lehman recession the dividend of the DJIA fell by 17% from US$ 328.62 on September 15, 2008, to $271.33 on February 5, 2010. The earnings decline was much greater, falling from US$ 844.45 on Oct 20, 2007, to US$ - 108.21 on September 15, 2008. However, it should be remembered that it was a financial crisis which brought this about with little or no apparent resolution in sight.

Today we have a medical crisis which already seems to be on the mend in some parts of the world. With a 20% drop DJIA value to 105.476, the DJIA price of 23,019 is already more than discounting a market as bad as 2008-2009. At a 50% drop in the dividend, the DJIA value would stand at 65,992, also well above its price.

Assuming that an economic recovery from the second quarter lows is underway in Q3, at today’s price of 23,650 the DJIA appears to be at a bargain-basement level and accumulation should be underway by anyone with profits in the US Treasury market where further upside would appear modest compared to the potential profit in the DJIA.

The Crash of 1987 - Cartoon style

For those who are trying to draw parallels, on the basis of price alone, with previous sharp market declines, such as October 1987, which seems to be a popular choice by many pundits, be cautious. The problem with 1987 was not October but the summer of that year when the 30-year T bond yield started to rise and the dividend discount value started to fall.

The crash of 1987 can be visualized as a scene from the Looney Tunes and Merrie Melodies series of cartoons about Road Runner and Wile E. Coyote.

Driven by falling interest rates in the first part of 1986, Road Runner charged up the red value hill in the chart below. Wile E Coyote chased Road Runner up the blue price glide path. As interest rates started to rise from the 7.25% low of 1986 to the 10.25% high of 1987, Road Runner became cautious and followed the red value-line down.

Like the majority of market participants, who have an amazing propensity for projecting the most recent trend ad infinitum, Wile E Coyote charged upward with abandon into the wild blue yonder. Only then did he realize that he was in thin air. The inevitable happened on Black Monday.

The bailout for both the DJIA and Wile E. Coyote was the quick action by the Fed and a broad flight to safety with the consequent sharp reduction of the 30 year T Bond Yield.

Bond Yield: Equity Yield Ratio Shows Market in State of Abject Panic

The bond yield: equity yield ratio is a way of looking at the value of the DJIA. The following chart shows the history of this ratio in black with the long term average being 2.33. The red line shows the actual level of the DJIA. The green shading is a + 0.33 band around the average. Above the green band shows how expensive the DJIA was in the summer of 1987 and again in the latter part of the 1990s when caution was warranted in a time of irrational exuberance. In 1987 the price of the DJIA corrected sharply, while it took the Dot-Com Bomb to correct the insane exuberance of 1999 -2000.

For the next 8 years, the ratio remained within the green zone as the DJIA price continued to rise as the dividend grew by 40%. And the 30 year T bond yield remained reasonably steady around 5%. The Lehman financial crisis followed and the bond yield: equity yield ratio plunged into a period of irrational pessimism. Despite this, the actual price of the DJIA rose to a record 29,551 on February 12, 2020, as the dividend discount value continued to rise to over 70,000 putting continuing upward pressure on the DJIA price.

The growing awareness of the severity of COVID-19 tipped the DJIA into the free-fall, seen above, down to 18,592 on March 23, 2020. This happened even as the dividend of the DJIA continued to rise and the 30 year T bond yield plunged to an intraday low of 0.5% on March 9, 2020.

Despite the very positive impact of both vectors, the bond yield: equity yield ratio plunged to the level of abject panic while the dividend discount value of the DJIA shot upwards to 150,000. With such upward pressure on the price of the DJIA, it is little wonder that there has been such a powerful rally in so short a time to 23,019 by April 21, 2020.

Abject panic persists as shown by the continuing low level of the bond yield: equity yield ratio, hence upward pressure remains intense on the price of the DJIA. As the dividend of the DJIA is still rising, and at a record level of US$ 662.07, while the yield of the 30 year T bond should remain low with the Fed panic easing and the government’s fiscal stimulus underway, it is possible to see the price of the DJIA making new all-time highs in the second half of 2020. While careful stock selection should result in improved returns the projected rise in the index will provide much comfort to all.

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