The Inflationary Spike Unfolding While China Dumps Treasuries (2024)

The news of the week

What was the news of the week, last week? The S&P500 (SP500) breaks out to new all-time highs above the 5,300 level? The Dow Jones (DIA) closes above the 40,000 level for the first time? The CPI inflation shows some cooling?

At the same time, metal prices are spiking, the price of Copper (OTC:JJCTF) also reached an all-time high, above the 5.00 level. The price of Gold (GLD) closed at an all-time high level above the 2,400 level. Silver (SLV) broke out above the 30 level. Other metal prices spiked, including Platinum.

Also, the news broke out that China sold the record amount of US Treasuries during the first quarter of 2024, possible as much as $80 billion. This was revealed as the Biden Administration increased tariffs of some goods from China.

Let's also not forget that last week there was a major spike in meme stocks like GameStop (GME), and just before the spike, the major quantitative hedge fund Renaissance Technologies revealed that they actually boosted their investment in meme stocks.

So, what's the news of the week?

It looks like we are in the midst of an inflationary spike, based on the spike in commodity prices. It seems like the unfolding process of deglobalization is accelerating, and this is causing the spike in the price of metals, and thus, the inflationary spike. At the same time, the US stock market is going through the euphoria phase, ignoring all the negatives.

Let's look at the current situation in more detail.

China dumps US Treasuries

Based on the official TIC data from the US Treasury department, China is the second highest holder of US Treasury Bonds, behind Japan, at $767 Billion. However, over the last 12 months China sold more than $100 Billion of US Treasuries, with accelerating selling over the last quarter. In addition, China's official Treasury holdings can be tracked via Belgium holdings, which also have been decreasing.

In other words, China is dumping US Treasury Bonds (TLT). Here is the headline from Bloomberg:

Why is this important?

First, the US is running the largest peacetime, non-recessionary deficit ever at 6.19% of GDP. The projections are that the US would need to considerably increase the supply of Treasury Bonds to maintain the current and expected spending binge.

But who will buy these Treasuries? The globalization system-in-place is that the US outsources production, primarily to China, and thus imports from China, which causes the current account deficit (trade deficit). Further, China uses the profits from trade and invests the US Dollars back into the US Treasury Bonds, which allows the US to increase the supply of Treasury Bonds, and run the budget deficit.

Now that game is ending. The US and China have been going through de-coupling since the Trump election in 2016. The chart below shows the US imports from China, and the recent number is actually the lowest since 2016, excluding the pandemic in 2020.

Naturally, as the US-China trade de-couples, the investment flows will decuple as well, and that means China will continue to sell the US Treasuries.

Japan is trying not to tighten monetary policy significantly, as higher interest rates in Japan will also cause the reduction in Japanese holdings of US Treasuries.

The point is, as the process of deglobalization continues to unfold, the foreign demand for US Treasuries will continue to decrease, while the supply of US Treasuries will continue to increase.

The obvious outcome is that the US long term interest rates will have to continue to rise. This is negative for US stocks, and eventually it will be negative for the US Dollar (UUP).

Deglobalization is also resulting in escalating geopolitical situation, and due to the recent weaponization on the US Dollar via sanctions, many nations are diversifying away from the US dollar - and buying gold. And that's exactly what China has been doing - buying gold.

The unfolding inflationary spike

So, during the same week when the data showed that China is dumping Treasuries and buying gold, the metal prices spiked to the record highs, in case of Gold and Copper, and multidecade highs in case of Silver.

Obviously, these are the signs that we are in the process of an inflationary spike, triggered by deglobalization, or escalating geopolitics and trade wars.

The price of oil (USO) is not spiking yet, due to temporary deescalating situation in the Middle East and the proximity of US elections in November. The Biden Administration is doing everything possible to keep the oil prices "low" until November. However, it's only a question of time before the price of oil starts rising towards the $100 level.

Record highs in the US stock market

The S&P500 (SPX) has been rising due to the "expectations that the Fed will cut interest rates before a recession". This is a soft-landing scenario.

The sentence above in the quotation marks because this is just the market narrative, and nobody really believes that this will really happen.

Can anybody really expect that the Fed would cut interest rates, and say that inflation is sustainably on its way towards the 2% target, with the price of copper at an all-time high? Not possible.

The Fed needs to induce a deep recession to crash the price of copper, as well as the price of oil. A deep recession means a deep recessionary bear market.

The US stocks are in the euphoria stage, where everything is going up, the meme stocks, the cryptocurrencies, the AI stocks...This is a normal market top, it always feels like this at the top.

Yet, the reality is grim, and this is not an opinion. We are in the unfolding process of deglobalization, which is stagflationary. There are several real ways, in addition to trade wars, and cold wars. These are the facts.

Implications

The news of the week is that China is dumping US Treasury Bonds, and this is inflationary, as evident by spiking metal prices. Thus, the Fed cannot possibly cut interest rates, until a deep recession.

Thus, the S&P500 (SP500) is facing a recessionary bear market. Investors caught in the euphoria could see some further gains, which could be large. Or we could be at the top - this is known after- fact. Thus, the prudent decision is to recognize the macro environment and prepare for the bear market.

Damir Tokic