Frank Holmes: Tariff War Akin To Raising Taxes, Recession Looms

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Mike Gleason: It is my privilege now to welcome in Frank Holmes, CEO and Chief Investment Officer at U.S. Global Investors. Mr. Holmes has received various honors over the years, including being named America's Best Fund Manager for 2016 by the Mining Journal. He is also the co-author of the book, The Goldwatcher: Demystifying Gold Investing and is a regular guest on CNBC, Bloomberg, Fox Business, as well as right here on the Money Metals podcast.

Frank, welcome back and thanks for joining us again. How are you today?

Frank Holmes: I'm great, and it's great to be chatting with you about this languishing gold market.

Mike Gleason: Yeah, we certainly have a lot to talk about. Never a dull moment here in these markets. To start out here, Frank, when we had you on back in March, we talked about the steel and aluminum tariffs Trump imposed. Things have escalated since then. The president is talking about tariffs on European automobiles and another $2 billion on imports from China. We're very curious about what impact this trade policy might have on the dollar and, by extension, precious metal. So far, at least, the dollar has been strengthening, but we aren't sure how seriously the markets are taking the possibility of a trade war becoming a currency war. If that happens, the U.S. certainly seems vulnerable. We have by far the most to lose given the dollar's status as a global reserve currency. What do you make of the recent strength in the dollar, and where do you think things may be headed if we wind up in a full-blown trade war?

Frank Holmes: Well, first, what I'd like to say is I wrote a piece said, "President Trump, you can't suck and blow a balloon at the same time." It was a just amazing feat to get corporate taxes down, and that was really the catalyst that launched the stock market, that fulfilled and provided visibility for the next several years of robust economic growth. When I talk to all the macroeconomists, all the macro analysts who are pointing out that immediately Walmart increased salaries as a consumer company, and a manufacturing company started spending more money on factory upgrades. 10 years since they've really spent a lot of money on durable goods. And that was really important for the metals as a whole.

But with this whole tariff war, well, that's basically raising taxes. Tariffs are always an indirect tax on an industry or sector of the economy, and it's defeating. And this week, the Fed chair was saying that, Powell, that he's getting feedback that exports are starting to be canceled because of the tariff battle right now. So, I think the combination of the stronger dollar along with the tariff battle is only going to set us up for a recession faster than we thought, unless he can tune back what he's been talking about.

But I think to understand capital markets, the flows of funds, that historically when the two-year government bond, which is the bond that relates to all the short-term currency fluctuations, they compare 90 days and two-year government yields to the inflationary rate of their country, and then they look at all the countries and compare them to net positive return. And right now, the U.S. dollar is strong because the two-year government bond is above the dividend yield of the S&P 500. Well, as soon as that happened, immediately, pension fund institutions stopped buying stocks because they can turn around and get a guaranteed yield for the next two years with no risk on a dividend yield that's higher than what the S&P's forecasted to deliver in the future of two years and giving now.

So that creates this VIX explosion. And then we have this sort of fear that rates are going to continue to rise with the CPI number because inflation is rising, and that's put a dent in the price of gold and made the dollar strong. But a strong dollar at this stage, along with tariffs, is the worst thing for economic growth and prosperity. And Trump's ego is big enough and rational that he wants growth and he wants economic growth, so I think we're going to see in the second half, we've had a peak in rates, and we'll see rates come off. And I think then you'll see this move in the price of gold.

Mike Gleason: Setting aside any ramifications for the dollar, do you think the U.S. can win a trade war? I mean, the president certainly seems confident. On the one hand, we agree with an observation you made when we spoke last, China has stolen a lot of intellectual property, and it would be nice if we could do something about that. But on the other hand, tariffs are bound to raise prices for Americans. It's a tax, like you said, and there are plenty of examples of trade restrictions and that sort of central planning leading to all sorts of unintended consequences. So how do you rate the president's chances for success here, Frank?

Frank Holmes: It's a very different battle in an election cycle to go after Hillary Clinton in a very bellicose, war-like manner and bullying person, to go after every other leader in the world. That's just bad for business, and he has to become, I think, much for sensitive of that. That's the reversed pushback that could be really serious. What I think is it seems to me he likes to have these big numbers, big shake things up, and then pull back and reconcile for easier trade. But I get concerned that he's going to hurt the huge benefit of lower corporate taxes, which made America competitive. Making America great again, not just domestically but foreign-wise, was to have competitive corporate taxes, and he did that. Don't usurp that with a tariff war. But I think he's smart enough, he's cagey enough that he'll pull back from preventing that to backfire on him.

Mike Gleason: I want to get a little bit more into the metals here. What do you make of the recent weakness in gold and silver spot prices. I mean, we've now given up all of the 2018 gains in the metals. Yes, the dollar has been stronger, but not so much for the past couple of weeks, and that's the period when the metals have been sliding lower. We've seen some selling in the stock markets. It seems to us like metals should be getting more love than they are as a safe-haven. It looks like a familiar pattern. The bullion banks are cashing in on their short positions. Maybe it's a delayed response to the strength of the dollar, but what are your thoughts?

Frank Holmes: I think that this two-year government bond issues no doubt has an impact on gold. And gold stocks historically have a high correlation to bullion, and there's this sort of tension that's taking place. But there's been so much negativity on anything else but the U.S dollar. It's from Bitcoin to all the cryptocurrencies to gold. There's a pervasive pushback. How long do I think that will take place? All I do know is that there's been lawsuits out there and discovery and examination finding out that there's been collusion to manipulate LIBOR, collusion on the gold markets, collusion there.

And what really resonates with me is that money supply growth and the price of gold have had a very strong trend correlation. That is, they move in the same direction. But for the past four years during the QE period, they weren't. It just wasn't happening, and that just begs, well, that there is some type of a suppression in the prices of gold. And if these lawsuits are showing that they are, well, then I think there's something that's there. Germany takes all their gold back. They want to make sure their gold is in Germany, not with the Fed. And then we continue to see Russia buying gold. We see China continuing to increase their gold reserves.

So, there's a slow motion happening in that gold market that I think that could be explosive, and I don't know what will be the catalyst for it, but I think that it's in a position. And we look at the great Warren Buffett line on, "Price is what you pay, but value is what you get." And gold clearly is the value when you see Russia buying gold and China buying gold, and you see that still central banks from other countries are buying gold. So, I remain confident.

Mike Gleason: You alluded to it here in your last answer, but if I can, I'd like to ask you about a chart you recently published, which showed the average annual gold price and U.S. deficits. Gold prices have done a pretty good job of tracking deficits. The 2011 peak in gold prices mirrored the enormous federal deficits which followed the '08 financial crisis. The forecast is for federal borrowing to once again spike into the stratosphere. Right now, however, there isn't a whole lot of focus on Washington, DC finances. Conservative Americans were on high alert when Obama ran trillion-dollar deficits, but they are far less concerned under President Trump for some reason. Given that, what do you think rising deficits will mean for gold this time around?

Frank Holmes: Well, one thing I'll share with you about President Trump, this is a man that loves gold. There isn't one palace he's built or casa, they're always beautiful gold, loves gold. So, if people really are consumed with that as a fear trade and love trade, here's a person that really has shown a cultural affinity towards the color of gold and gold in every part of his life. So, I remain bullish on that end if that was the context.

But I really think that you have the real interest rates… and what amazes me is that a 10-year government bond in Japan is five basis points. The 10-year year is almost 3%. Germany is 60 basis points. They have negative real interest rates in Japan and negative in Europe. They should be backing up a truck and buying gold. I also take a look at the fact that when you have to have such a historically a differential in 10-year government yields, gold should be at $500 if that was the only proxy. So, I'm really actually quite impressed on a relative basis of Japan, the third biggest GDP in the world, Europe with they're paying on these 10-year negative real rates of return that only the U.S. is doing, and the U.S. dollar is not soaring.

Mike Gleason: Yeah. One of my recent guests talked about how the dollar is breaking out a lot more than gold has been breaking down. This was going back a month or so ago, but you do have to be somewhat encouraged by the fact that it has hung in there despite a stronger dollar here recently.

Well, Frank, as we begin to wrap up, what do you see ahead that could be a positive for gold and other precious metals? And what, if anything, do you see that might cause a reversal of some of the lackluster price action we've been seeing in the metals these last few weeks now… basically, what can get the metals moving to the upside again and maybe anything else that you're focusing on here as we begin to wrap up?

Frank Holmes: Chindia. China and India. And the correlation of the love trade is for 60% of all demand is love. And the rising GDPs per capita of China and India are very important for just greater consumption of gold, and I think that that's a very important long-term undercurrent to this whole gold market. On the top end is I think rates are going to peak here, and I think you're going to get a slowdown, and they're going to panic because we're going to have gubernatorial elections, and I think that that will be the spur for gold to trade higher and the dollar to correct.

But today is also the anniversary. We're celebrating launching GOAU, Go Gold, our smart beta ETF on the New York Stock Exchange. And it's a quanta-mental approach, and we're all thrilled. We're just ready to jump here to go and celebrate its first-year anniversary. And it has done exactly what it said it would do: it would outperform the GDX and GDXJ by a healthy margin.

Mike Gleason: Yeah, I did see that. Congratulations on the first year of that fund. I know it's doing wonderfully, and continued success there.

Well, we appreciate it as always, Frank, and look forward to following your work on the metals and other related topics as we move throughout the summer. Now, before we let you go, please tell our listeners a little bit more about your firm and your services and anything else they ought to know about you and U.S. Global Investors or its funds.

Frank Holmes: Well, we rate prolifically, and we rate every week in Investor Alert. You go to USfunds.com, and you subscribe to Investor Alert. We do a game film analysis from last week was a special on Russia because we have an Eastern European fund, we have China funds, gold funds, global resource funds, tax-free funds. So, what it means is that we write every week about the strengths and weaknesses that are impacting that fund, and we look at economic data coming next week could be an opportunity or threat to that asset class. And we even talk about blockchain technology because we invested in high blockchain, and I'm the chairman, so we like to try to weave in to understand where that direction is going. Subscribe to Frank Talk or Investor Alert, and you'll get a good feel for the pulse of what we have. And we have a JETS ETF listed, the only airlines ETF on the New York Stock Exchange. And we have GOAU, Go Gold, and we have GOGO, the smart beta for gold stocks in Canada.

Mike Gleason: Yeah, well, it's excellent stuff. That Frank Talk, I highly recommend it. If people aren't checking that out on a regular basis, they ought to. It's very good commentary, and that's one reason why we love to have Frank on here as he dissects a lot of the stuff that he's been covering on a regular basis. Well, continued success to you and your firm. Congrats on that first-year anniversary of the GOAU fund and keep up those great commentaries. And I hope you enjoy your summer. Take care.

Frank Holmes: Take care, and happy investing. Stay strong, stay long.

Mike Gleason: Well that will do it for this week. Thanks again to Frank Holmes, CEO of U.S. Global Investors and manager of the GoAU gold fund. For more information, the site is USfunds.com. Be sure to check out the previously mentioned Frank Talk blog while you're there for some of the best market commentary you will find anywhere on gold and other related topics. Again, you can find all that at USfunds.com.