Watch Out for the Onrushing Credit Crisis!

Stress in the U.S. credit system is growing. It is evident in consumer debt among lower-income borrowers, commercial real estate (especially offices), and parts of private credit and leveraged lending.

The growing credit crisis is most visible in commercial real estate as we can see in Commercial Mortgage-Backed Securities (CMBS) (fixed-income investment products backed by mortgages on commercial properties, offices, retail, hotels).The office sector reached a record delinquency rate of 12.34 percent in January.That is higher than in the 2008 crisis. The overall CMBS delinquency rate is approximately 7-7.5 percent.

We might add that war is not helpful when credit is already under a cloud.

What happens when a credit bubble pops? Daniel Oliver, founder of Myrmikan Capital, provides a history lesson:

The first recorded credit bubble popped in 594 B.C. Athens. Threatened with a civil war of creditor versus debtor, the Athenian ruler Solon pulled down the mortgage stones to free the debtors and devalued the drachma by 27% to relieve the bankers. Every credit collapse since – from the Panic of A.D. 33 to John Law’s Mississippi Bubble to the Great Depression and many others besides – has followed Solon’s template of debt default and currency devaluation.

We recall J.P. Morgan’s admonition to Congress last century, “”Gold is money. Everything else is credit.” He was pointing to the tangible reality that is gold, which has no counterparty risk. It is not dependent on the solvency of a bank or promises by debtors to pay what they are unable to pay. Gold is money in its own right. Credit and paper currencies are promises. The promise that a paper currency has dependable value is breached with each new issuance of more paper. Credit depends on the borrower’s creditworthiness which changes abruptly in a crisis.

How does the current credit bubble come undone? Oliver says “I don’t expect to see a huge stock market crash the way it happened in ‘29 or 2008. What I expect instead is for gold to crash higher [emphasis added].”

How high? Oliver makes an estimation that is on the conservative side:

Gold is free market money and, therefore, its end goal is to balance balance sheets. We do not subscribe to the claim that the Fed’s balance sheet should be 100% gold, which would currently imply a price of $25,190/oz. Historically, the market forced central banks to maintain gold reserves of between a third and a half, which would currently imply a price of between $8,395/oz and $12,595/oz.

Keep a close eye on the developing credit crisis and supplement your gold holdings along the way.  When the credit bubble bursts the damage will be widespread.