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In one night, hedge fund guru and billionaire Stanley Druckenmiller, the founder and former chairman of Duquesne Capital, who's delivered average returns of up to 30% per year, made a complete about-face on the U.S. economy and the outlook for gold.
Gold took center stage for Druckenmiller in May
Back in May, at the Sohn Investment Conference, Druckenmiller listed gold as his hedge funds' largest capital allocation, stating that his primary recommendation for investors was to "get out of the stock market."
At the time, Druckenmiller found a lot not to like about the U.S. economy. For instance, he questioned the use of debt in the corporate world. Rather than taking on debt to reinvest back into businesses, Druckenmiller points out that debt was being used to finance stock buybacks and mergers and acquisitions. The end result is that net debt was rising and cash flow was actually turning negative for some businesses.
Druckenmiller also criticized the highly dovish policy of the Federal Reserve, which has kept interest rates hovering near historic lows. As the billionaire investor stated:
The Fed has borrowed from future consumption more than ever before. It is the least data dependent Fed in history. This is the longest deviation from historical norms in terms of Fed dovishness than I have ever seen in my career. This kind of myopia causes reckless behavior.
Lastly, Druckenmiller was critical of China's GDP growth prospects, believing recent attempts to ignite growth wouldn't work.
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Trump's victory changes everything
However, following the surprising victory of Donald Trump on Election Night, Druckenmiller's outlook has completely reversed. According to Druckenmiller, he sold all of his funds' gold on the night of the election -- a prescient move, now that it's fallen more than $100 per ounce off its early morning highs on Nov. 9 -- and now favors stocks that respond to growth, as well as the idea of shorting bonds.
Druckenmiller firmly believes that Trump's policies could ignite U.S. GDP growth. Specifically, the hedge fund mogul is talking about Trump's individual and corporate income tax cuts, which are designed to put more capital in the hands of consumers and businesses, and the possibility of a special tax rate for the repatriation of the $2.4 trillion in corporate profits currently being held overseas. Remember, U.S. GDP is more than 70% based on consumption, and this added capital in the hands of businesses and consumers could lead to growth and job creation.
Druckenmiller briefly mentioned the possibility of deregulation in America, too, which can be widely viewed as a positive for corporate America. Rolling back Dodd-Frank could be a boon to the banking sector, while easing drilling restrictions on the oil and gas industry, as well as emission restrictions for utilities, could reignite energy growth within the United States.
The billionaire investor also tempered his thesis a bit by pointing out that rapid growth could be constrained by rising interest rates, making Trump's goal of 4% GDP seem somewhat unsustainable over a long period of time. According to Druckenmiller: "If it wasn't for the messy conflict of rates rising with the stronger economic growth through [fiscal] policy, I would think there's so much low-hanging fruit in terms of deregulation and tax reform, we could get a jolt of 4% [growth] for about 18 months. I do think interest rates could cut that back into the high 2%, low 3%."
Is Druckenmiller wrong?
Druckenmiller's track record speaks for itself. According to Ken Langone, an investor with Duquense Capital, Druckenmiller hasn't had a down year yet. But I'd opine that it's possible he could be wrong about the future path of gold.
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What can't be argued is that the Federal Reserve seems intent on raising its federal funds target. A combination of low unemployment levels and stronger-than-expected third-quarter GDP has given the regulatory body every reason to consider hiking in December. Since opportunity cost -- the act of giving up a nearly guaranteed gain for the chance to make a bigger gain -- plays a big role in influencing gold prices, this could certainly have an adverse effect on the lustrous yellow metal. Higher yields on interest-bearing assets could coerce investors to swap out of gold for stocks or bonds, which is probably what we've been witnessing over the past week.
But there's another side to opportunity cost that investors are probably overlooking -- that being the trade-off between the nominal yield and the inflation rate. For investors to really be enticed by interest-bearing assets, they'll need to be making real money. If the inflation rate rises during a Trump presidency, which seems plausible given his spending plans in infrastructure, higher bond and CD yields may still not surpass the rate of inflation, thus leading to real money losses. In such a scenario, precious metals like gold can still thrive.
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Supply and demand also can't be ignored. Gold miners have been collectively working smarter, not harder, thus some have actually seen production slip in recent years as mining companies have emphasized lower costs and reduced capital expenditures. The result is that gold supply has been growing at a snail's pace, while investment demand for the yellow metal has surged. As with any good or service, high demand coupled with constrained supply often supports higher prices.
Lastly, we have the "X factor" that is Donald Trump himself. It's always possible that Druckenmiller is spot on and Trump leads the economy to 3%-plus GDP growth. But we can't forget that we're dealing with someone who has no experience in political office and is more likely to run Washington like a business. There are going to be hiccups along the way, and those hiccups could perpetuate a drawn-out flight to safety.
By no means should gold be your only investment in the current low-yield environment, but there's also little reason to believe gold is tarnished as an investment just because Trump was elected as the next president.
