Big Pharma’s Covid-19 Profiteers

How the race to develop treatments and a vaccine will create a historic windfall for the industry — and everyone else will pay the price

By MATT TAIBBI

Pharma
Brian Stauffer for Rolling Stone


On June 29th, 2020, while America remained transfixed by anti-police protests, the chairman and CEO of the pharmaceutical company Gilead issued a much-anticipated announcement. In a breezy open letter, Daniel O’Day explained how much his company planned on charging for a course of remdesivir, one of many possible treatments for Covid-19. “In the weeks since we learned of remdesivir’s potential against Covid-19, one topic has attracted more speculation than any other: what price we might set for the medicine,” O’Day wrote, before plunging into a masterpiece of corporate doublespeak.

The CEO noted a study by the National Institute of Allergy and Infectious Diseases, a division of the National Institutes of Health, showing that Covid-19 patients taking remdesivir recovered after 11 days, compared with 15 days for placebo takers. In the U.S., he wrote, “earlier hospital discharge would result in hospital savings of approximately $12,000 per patient.”

The hilarious implication seemed to be that by shortening hospital stays by four days on average, remdesivir was worth $48,000 a dose. That O’Day might come to such a conclusion was not outlandish. Gilead became infamous a few years ago for charging $84,000 per course of treatment for Sovaldi, a “groundbreaking” hepatitis-C drug. The company’s policies for pricing have more than once prompted congressional hearings, as in the case of Truvada, a drug to combat HIV transmission that was developed in part with the aid of government grants and that earned Gilead more than $30 billion in revenue. Would they try something similar at a time of unprecedented medical terror with one of the few available Covid-19 treatments?

No, as it turned out. Although “we can see the value that remdesivir provides” — i.e., we could have charged $48,000 per dose — Day wrote, “we have decided to price remdesivir well below this value.” He went on to say that to “ensure broad and equitable access at a time of urgent global need,” Gilead had generously decided to place the price for remdesivir at a measly $3,120 per patient.

Investors were bummed. Gilead even undercut the prediction of the Institute for Clinical and Economic Review (ICER), a watchdog that calculated a fair price for remdesivir at $4,500 per course of treatment. When Gilead announced a price below that level, it caused a tremor on Wall Street, as its share price fell. The company had already offended the Gods of Capitalism by donating hundreds of thousands of existing doses of remdesivir to the government. What self-respecting American corporation voluntarily undermines its own market?

Not Gilead, as it turns out, and really, not any pharmaceutical company. What Americans need to understand about the race to find vaccines and treatments for Covid-19 is that in the U.S., even when companies appear to downshift from maximum greed levels — and it’s not at all clear they’ve done this with coronavirus treatments — the production of pharmaceutical drugs is still a nearly riskless, subsidy-laden scam.

Americans reacted in horror five years ago when a self-satisfied shark of an executive named Martin Shkreli, a.k.a. the “Pharma Bro,” helped his company, Turing Pharmaceuticals, raise the price of lifesaving toxoplasmosis drug Daraprim from $13.50 to $750 per pill. Shkreli, who smirked throughout congressional testimony and tweeted that lawmakers were “imbeciles,” was held up as a uniquely smug exemplar of corporate evil. On some level, though, he was right to roll his eyes at all the public outrage. Although he was convicted on unrelated corruption charges, little about his specific attitudes toward drug pricing was unusual. Really, the whole industry is one big Shkreli, and Covid-19 — a highly contagious virus with unique properties that may require generations of vaccinations and booster shots — looms now as the ultimate cash cow for lesser-known Pharma Bros.

“The power of the industry combined with fear is driving extraordinary spending,” says U.S. Rep. Lloyd Doggett (D-Texas), who has been an outspoken and sometimes lonely voice warning about pandemic profiteering. “It all suggests rosy times ahead for the pharmaceutical industry.”

Doggett cautions that the rush for a cure is already padding the bottom lines of drug companies. Take the example of remdesivir, which he describes as having been “pulled off the scrap heap” to become a major revenue-driver. Having failed to be approved as a treatment for hepatitis and Ebola, it is now one of the most in-demand products in the world, and its price isn’t quite so low as Gilead claims.

For one thing, ICER reported it costs just $10 of raw materials to make each dose of remdesivir. Generic-drug producers in Bangladesh and India were already making a version of it, and their price per course of treatment was $600. Meanwhile, Gilead’s own price for governments around the world — the price it settled on for everyone except American private insurers — was $2,340 per treatment.

Moreover, ICER’s assessment of remdesivir’s price relied significantly on the idea that it would actually help save the lives of Covid-19 sufferers. “If the drug doesn’t impact mortality, and only shortens recovery time,” says Dave Whitrap of ICER, “we figure a course of treatment is worth about $310.”

To recap: Gilead, a company with a market capitalization of more than $90 billion, making it bigger than Goldman Sachs, develops an antiviral drug with the help of $99 million in American government grant money. Though the drug may cost as little as $10 per dose to make, and is being produced generically in Bangladesh at about a fifth of the list price, and costs about a third less in Europe than it does in the U.S., Gilead ended up selling hundreds of thousands of doses at the maximum conceivable level, i.e., the American private-insurance price — which, incidentally, might be about 10 times what it’s worth, given its actual medical impact.

But almost no one cared. A day after the remdesivir price was announced, Donald Trump bought 500,000 doses through September, basically the entire world supply of the drug. There were a few stories in the American press quoting Europeans who seemed startled by the selfishness of the act. “Imagine if this was a vaccine?” Liverpool University’s Dr. Andrew Hill wondered. Mostly, however, the reaction to the U.S. hoarding one of just two drugs shown to have positive effects in treating a civilization-imperiling disease (the other is the steroid dexamethasone) was muted.

Why? As articulated by Trump press secretary Kayleigh McEnany, no sick person will ever see anything like a bill for the real cost of the drug. “The hospitals have to eat the cost of treatment use,” McEnany said. “The patient will not see the cost.”

This sounds great on the surface, but of course, Americans, through their tax dollars, will pay for treatments like remdesivir and for potential vaccines. Recent House and Senate emergency-spending bills allocate as much as $20 billion or more for vaccine development, and another $6 billion for manufacturing and distribution. “The public will pay for much research and manufacturing,” says Doggett. “Only the profits will be privatized.”

Still, because individuals won’t be handed physical bills for pills or shots, nobody balks at prices companies set, if they even know what they are. With remdesivir, “nobody in the Trump administration complained” about price, says Gerald Posner, author of Pharma: Greed, Lies, and the Poisoning of America. “Just as nobody in a Biden administration likely would have complained. Does anybody care?”
   President Donald Trump (R) is joined by Gilead Sciences Chairman and CEO Daniel O'Day and Vice President Mike Pence to announce that the Food and Drug Administration issued an emergency approval for the antiviral drug remdesivir in the Oval Office at the White House May 01, 2020 in Washington, DC.
President Donald Trump (R) is joined by Gilead Sciences Chairman and CEO Daniel O’Day and Vice President Mike Pence to announce that the Food and Drug Administration issued an emergency approval for the antiviral drug remdesivir in the Oval Office at the White House May 01, 2020 in Washington, DC. / Erin Schaff-Pool/Getty Images

It’s surprising, or maybe it isn’t, that all of this is going on during a period of intense political protest. For as much as America is going through changes, many of the dumbest aspects of our political system have remained impervious to reform. There was political will to change the formula for Big Pharma in the early Nineties and in the Obama years, and revolution is in the air now. Just likely not enough to bring drug prices down to a reasonable level.

Profiteering over the coronavirus pandemic is still in the larval stage. The average news reader has heard some enraging stories — a man busted for a $45 million scheme to defraud New York City through phony PPE sales, another arrested for hoarding 192,000 N95 respirator masks and 598,000 medical gloves, a third caught trying to bilk the VA out of $750 million — but the giant-scale gouging will take place later. And it will all be legal.

Soon enough, the infected and uninfected alike will pay any price to try to stave off illness through vaccines and cocktails of expensive treatments. It is an unprecedented profiteering opportunity, because most everyone on Earth is destined to become a customer of some kind — in fact, the United States is already a massive buyer of Covid-19 treatments despite no evidence of efficacy. “We’re in the extraordinary position of spending billions on vaccines before we know if they work,” says Doggett.

Some of the rush to spend money on treatments is driven by a perhaps-unrealistic expectation that vaccines will be available soon, or at all. Dr. Robert Gallo, co-founder and international scientific adviser of the Global Virus Network and one of the world’s leading virologists — he is the co-discoverer of HIV and the developer of the HIV blood test, among other things — worries that the unique characteristics of Covid-19 will make it hard for any traditional vaccine to have “durability.”

“You look at the structure of the proteins, and it’s a lot like HIV, because of its glycan shields,” he says, referring to sugars that protect viruses from antibodies. “Antibodies that are glycosylated in this way do not last.” Because of this, Gallo says, he worries that companies might be tempted to declare victory prematurely. He warns that people who put timetables on when treatments might be available — Trump often says things like, “We’re very close,” and press observers like Politico have warned that the administration is sitting on an “October vaccine surprise” — are almost always being disingenuous. “I’ve always said, you don’t have a vaccine until you have one, until you’re sure it works.”

Still, there’s widespread expectation that vaccines are coming — we’ve heard reports about vaccines like AstraZeneca’s AZD1222 supposedly producing good results in trials — and an observer looking on the surface level might conclude that Big Pharma in this crisis is breaking long-standing patterns of exploitation. After all, several of the biggest drugmakers have made public pledges to produce vaccines at cost, including Johnson & Johnson and AstraZeneca. “We’ll do it at no profit,” AstraZeneca CEO Pascal Soriot said. “This is what a successful, healthy pharmaceutical industry can do.”

The problem with these pledges is nobody knows what they mean. In the case of Johnson & Johnson, the company promised to produce vaccines at cost “for the duration of the emergency.” When Doggett and his staff asked what this means, they got no answer. Nor is there any transparency about what terms like “cost” mean, or how the billions allocated for research are being spent.

Add the unique arc of the Covid-19 story — which may require decades of intense, ongoing investment — and gestures like the ones made by Johnson & Johnson and AstraZeneca begin to give off an ominous odor. “You can put about as much faith in their promises as you can in the pitch of any salesperson,” says Doggett.

The Covid-19 disaster will rely significantly upon these corporate drugmakers to not only come up with cures and treatments, but to also create a manageable price for people around the world, since the pandemic won’t be stopped unless the whole world gets treated. “Is Big Pharma going to do the right thing?” asks Dana Gill, U.S. policy adviser for Doctors Without Borders. Citing the historic example of the drugmakers’ reluctance to provide HIV drugs to poor nations, and even the high price of hepatitis treatments like Sovaldi, she adds, “There’s plenty of examples of pharma companies not doing the right thing.”

What guarantees there will be a problem? The central role of the United States, whose dystopia of a medical bureaucracy is God’s gift to pharmaceutical companies.

Every other country in the world has a three-stage process for approving and pricing prescription drugs. Governments first ask if the drug is safe. If the answer is yes, it asks if the drug is effective.

If the drug passes those two hurdles, most governments then ask how much more effective the new drug is compared to existing medicines. This efficacy calculation becomes the starting point for price negotiations, which usually involve threatening to keep the drug out of the country’s state-insured pool of medications if the company does not come up with a reasonable price.

The U.S. either skips or botches these steps. First, there is no regulatory review that determines comparative efficacy. In the U.S., the FDA review ends after the first two steps: Once a drug is deemed safe and effective, it goes on the market.

Then comes the whopper: All FDA-approved drugs must, by law, be covered by Medicaid. This rule dates to 1990 with the creation of the Medicaid Drug Rebate Program. The “grand bargain” that was supposed to be built into this reform concept was that all FDA drugs would be purchased by Medicaid, provided that manufacturers gave the government either the best price available to insurers, or a 23.1 percent discount over the drug’s list price.

This sounds great, except drug manufacturers simply began figuring the Medicaid “discount” into their list-price calculations. If the medical condition is serious enough and the drug has no effective analog, companies can dictate their price. As a result, we end up with situations like the 2014 Sovaldi episode, in which Medicaid spent $3 billion in a single year just on the one drug, and was still forced to severely ration the medicine, giving it to just 2.4 percent of hepatitis-C patients. Gill notes that only 37 percent of Americans are treated for hepatitis C even now, in part because of the high price of the drug.

The business model for Big Pharma is brilliant. A substantial portion of research and development for new drugs is funded by the state, which then punts its intellectual work to private companies, who are then allowed to extract maximum profits back from the same government, which has over decades formalized an elaborate process of negotiating against itself in these matters.

How big are these giveaways? Since the 1930s, the NIH has spent about $930 billion in research. Between 2010 and 2016, every single drug that won approval from the FDA — 210 different pharmaceuticals — grew at least in part out of research funded by the NIH. A common pattern involves R&D conducted by a small or midsize company, which sells out to a behemoth like Gilead the instant its drug makes it through trials, and obscene prices are set.

This was the case with Sovaldi, for instance, which Gilead acquired when it spent $11 billion in 2012 buying out original developer Pharmasset, which had worked on a line of hepatitis drugs. Within five years, Gilead earned more than $58 billion on a line of hepatitis treatments it won in the Pharmasset deal.

This same pattern seems likely to hold with Covid-19 treatments, only the cycle of exploitation will be accelerated. “It’s a microcosm of a larger broken system, in which you have an R&D system that’s profit-driven rather than people-driven,” says Gill. “These problems existed before Covid-19, and now the U.S. is pumping billions of taxpayer funds into these companies, in most cases with no strings attached.”

Those billions are going to a handful of pharmaceutical companies participating in the Trump administration’s Operation Warp Speed, the stated aim of which is to deliver 300 million doses of Covid-19 vaccine by January 2021. On March 30th, the Department of Health and Human Services announced $456 million in spending for a Johnson & Johnson vaccine program. On April 16th, it announced $483 million for Moderna, a company that (this is not a joke) has never once successfully brought a drug to market. AstraZeneca got $1.2 billion for its vaccine program on May 21st.

On June 1st, Emergent BioSolutions won $628 million to provide manufacturing for vaccines.

On July 7th, Novavax cashed in, with $1.6 billion for vaccine development. Toward the end of July, the Trump administration announced a deal with Pfizer and the German firm BioNTech to spend $2 billion on 100 million doses of a vaccine. One of these companies is likely to develop the drug that allows the world to go back to normal, and the heroism of those researchers is going to be overshadowed by a profiteering system that rewards their bosses instead of them.

Indeed, the Pfizer deal surprised some, because it seemed to be priced at just $19.50 per dose.

But experts estimate that when all is said and done, the same drug will sell overseas for about half that cost. As one Democratic Hill staffer puts it, “They’re making sure that the U.S. pays the highest possible price.”

The Trump administration has tools at its disposal that it could use to lower prices. The Bayh-Dole Act of 1980 gives any agency that funds research leading to a patent to use “march-in rights” to give out licenses to other manufacturers, if, among other things, the patent holder has not done enough to meet the “health or safety needs” of consumers.

The president could also employ a federal law called Section 1498, which essentially allows the government to ignore patent rights in an effort to lower prices. Such rights have been invoked before, such as when Bayer cut prices of the anti-anthrax drug ciprofloxacin after the Bush II administration threatened to use that authority (ironically, current Trump HHS Secretary Alex Azar worked under Bush during that time).

“Taxpayers are the angel investors in pharmaceuticals,” says Doggett. “Any other investor would demand a stake in the outcome.”

To date, Trump has shown no interest in invoking either power. He recently signed four related executive orders that ostensibly would lower prices of generics through several means, including allowing importation from Canada and forcing Medicaid to buy drugs at the same prices that other countries pay. One Democratic aide called it “interesting” — but it was amusing to hear Pfizer CEO Albert Bourla complain that Trump was ushering in “socialized medicine.”

The casual follower of this story is probably best served understanding the Covid-19 crisis less as a historic boondoggle (that’s more likely to be found in the financial bailouts) and more as an all-out war by industry lobbyists to retain a system that is already sociopathic and grotesquely anti-competitive in the face of intense public pressure during the pandemic. To be sure, companies like AstraZeneca and Pfizer will end up making a giant pile of money from vaccines and therapies. This is particularly the case because of the somewhat eccentric nature of the disease.

Lab technicians load filled vials of investigational coronavirus disease (COVID-19) treatment drug remdesivir at a Gilead Sciences facility in La Verne, California, U.S. March 18, 2020.
Lab technicians load filled vials of investigational coronavirus disease (COVID-19) treatment drug remdesivir at a Gilead Sciences facility in La Verne, California, U.S. March 18, 2020.
Gilead Sciences Inc/Handout/REUTERS


“We might need several vaccines,” says Whitrap, echoing a sentiment suggested by numerous scientists, that the best course ultimately might be a cocktail of different antibody-producing techniques that will have to be administered in an overlapping strategy, perhaps with regular booster shots.

Add the fact that treatment of the already-infected will involve combination therapies (like remdesivir with dexamethasone, to begin with), and the endgame for pharmaceutical companies might be years if not decades of doses that will have to be stockpiled in enormous quantities everywhere on Earth.

This will be worth many billions to firms like Gilead, but the more important win for these companies is staving off efforts to end the monster-subsidy system built into the grant-to-patent process that is suddenly in plain view because of this disaster.

The early days of the pandemic provided ominous clues on these fronts. In March, Gilead had the stones to apply for an “orphan” designation for remdesivir, which would have given it a seven-year exclusivity window, tax breaks, waived FDA fees, and other commercial advantages.

The orphan designation was created in 1983 to provide an incentive for drug companies to develop treatments for rare disorders that affect comparatively small numbers of people, like Wilson’s disease or familial hypercholesterolemia — horrific diseases that are a major challenge to treat, but don’t offer drug companies a potential significant windfall if they develop a cure. Under the law, companies can earn orphan designation for a drug if it’s intended for treatment of fewer than 200,000 Americans.

Gilead applied for orphan perks before there were 200,000 sufferers of Covid-19 in the United States, but everyone knew this was no rare disease. Such a brazen effort to try to get the government to hand over tax credits and help squeeze out generic competitors through the use of a law designed to bribe pharmaceutical firms into developing cures for financially unpromising diseases was crude, but effective. The FDA granted the request! (Gilead did not respond to requests for comments on this story.)

Public Citizen called the move “outrageous,” and so did Bernie Sanders (well, Bernie said “truly outrageous”), and there was enough of a backlash that Gilead rescinded its own request on March 25th.

The Gilead orphan example, however, was indicative not only of the pharmaceutical companies’ thinking, but also of the political climate. Big Pharma has been extraordinarily adept at lobbying and keeping effective control of Congress. In 2003, Congress passed the Medicare Prescription Drug act, a bill pitched as a way to reduce drug prices that became a titanic industry handout.

The Bush-era law included a notorious anti-competitive provision barring the government from using its purchasing power to negotiate with companies. Much of the bill was written by Louisiana Rep. Billy Tauzin, who retired from the House shortly after it was passed and took a $2 million-per-year Thank You for Smoking-style plum job from the trade group PhRMA as the drugmakers’ Spokesperson for Evil.

A few years later, when a popular young politician named Barack Obama ran for president and won the White House promising to lower drug prices through reimportation and bulk negotiation, Tauzin and his crew met repeatedly with the new leader. At the conclusion of those meetings, the Obama administration took those proposed reforms off the table.

“The pharmaceutical companies are clearly nondiscriminatory in the political sense,” says Doggett. “Their political power is incredible.”

In March, we saw a dramatic demonstration, when the first $8.3 billion emergency-spending bill made its way through Congress. The bill included a provision inserted by Democrats that would have limited the intellectual-property rights of companies developing vaccines the government thinks are priced unfairly. Industry lobbyists not only managed to kill that provision, they also got another one inserted that protected the industry from having the approval of drugs delayed if the product is overpriced. “They couldn’t even hold off those two clauses,” Posner says.

For Posner, who has written extensively about Big Pharma, the spectacle of Democrats pounding the table for an end to price gouging is more like Kabuki theater. A few scattered members, like Doggett, will make elaborate demands, but in bills that have no hope of passing. Meanwhile, pharmaceutical companies always seem to get what they want. Posner points to the swine flu vaccine in the Gerald Ford years, when companies like Sharp and Dohme (Merck) refused to help develop vaccines unless they were guaranteed profits and shielded from liability.

Ultimately, the swine flu vaccine was a fiasco, resulting in a number of horrible side effects, including as many as 450 cases of the degenerative nerve disease Guillain-Barré. The taxpayer ended up paying for the swine flu vaccine coming and going, through guaranteed profits at the front and outlays for piles of lawsuits from victims on the other side. Nothing like that has happened with Covid-19, but the same pattern of major concessions won upfront, mixed with what amounts to guarantees of profit, is present.

“It’s a rip-off,” says Posner, comparing the olive-branch “no profit” promises by vaccine-makers to the free samples handed out by heroin dealers. In the lifesaving drug business, once you’re in the door, the rest is just counting money. And with Covid-19, the counting has already begun.

viernes, agosto 14, 2020

THE SPAC HACK / THE ECONOMIST

Buttonwood

The SPAC hack

The latest twist in the power struggle between Silicon Valley and Wall Street




In an episode of “The Phil Silvers Show”, a 1950s tv comedy, Ernie Bilko (played by Silvers) discovers that his fellow army sergeants have fleeced a new recruit in a poker game. His plan to get the money back involves leasing a shop.

“It’s just an empty store,” he insists. The others fear they are missing out. “When the smartest operator in the whole United States army suddenly decides to rent a store, we don’t ask no questions,” says one. “We just want to be cut in.”

An empty vessel can accommodate all manner of dreams. This trait helps explain the growing allure of the “special purpose acquisition company” (SPAC), a shell company listed on the stock exchange with a view to merging it with a real business. Ventures such as Virgin Galactic, in space tourism, and Nikola, in electric vehicles, have become listed companies by this route.

Silicon Valley’s dream factory spies a way to sidestep the trials of an initial public offering (IPO). Bill Ackman, a shrewd hedge-fund manager, has just raised a $4bn Mega-SPAC. He is looking for a unicorn to make a home in his empty store.

The view in Silicon Valley is that an ipo is a rotten process. There is typically a fixed fee, of up to 7% of the sum raised. And the value of the company is lowballed, say tech types, to allow for a satisfying first-day “pop” in the share price.

Yet cost is not the only bugbear—and, perhaps, not even the main one. What entrepreneurs and their venture-capital backers hate about the IPO is the loss of control. They are used to being big shots in Silicon Valley. They do not like deferring to Wall Street types at all.

An iIPOis meant to be a young company’s coming of age. It can be more like a funeral: a distressing ordeal that leaves you at the mercy of those you put in charge of it.

The problem lies with an asymmetry. For the firm going public, the IPO is a one-off. But not for the underwriting banks.

They have a relationship with the people buying shares. It is natural for them to favour repeat customers.

The bankers run the roadshow to build a book for the IPO. They control the allocation of shares.

And crucially, they set the price. If the IPO goes well, the banks retain the right to issue more stock to “stabilise” the market—a valuable option, known as a greenshoe.

This, complains a Silicon Valley bigwig, is a “rapacious practice”.

Enter the SPAC, which is a sort of pre-cooked IPO. A shell company is set up by a sponsor.

The spac is listed on the stock exchange via an IPO. The sponsor then finds a private business for the SPAC to acquire with the proceeds.

Typically this will be a late-stage (ie, fairly mature) private company, whose owners and venture-capital backers are looking to cash out. The private company merges with the SPAC, following a shareholder vote. It is then a public company.

You can see the appeal for Silicon Valley. There is no roadshow, no ploughing through the same slide-deck ten times a day for a fortnight. It all takes much less time. That is handy in the present circumstances, when venture-capital firms need to get cash-burning unicorns off the books.

Because this is a merger, and not an IPO, the selling firm can disclose more information to the buyer, including financial projections. The price is negotiated directly with the buyer—and after the money has been raised, not before.

And it is all but certain, rather than at the mercy of the changing moods in the stockmarket, or a last-minute discount imposed by the bankers to sweeten the deal for favoured clients.

There is a downside, of course. Fees are unavoidable. Sponsors are typically paid with a 20% stake in the SPAC. This is in essence an indirect charge on the acquired firm. It is not obviously cheaper than an IPO.

In principle the sponsor can dilute his effective “fee” by, for instance, co-ordinating another round of capital-raising from private-equity or hedge funds at the time of the merger. A few sponsors might inspire a halo effect, increasing the share price just by association.

Investors will not question a really big name; they just want to be cut in. And the 20% fee is not set in stone. Mr Ackman, for instance, is taking a much smaller cut and making it conditional on reaching performance targets.

Trustworthy sponsors will keep their own capital tied to the venture.

But Bilko is not to be trusted, of course—where would the comedy be in that? His three rival sergeants realise too late that he has sold each of them a one-third stake in a worthless venture.

“Don’t you own a piece of it?” asks one in a panic. “Me? I’m in the army,” replies Bilko. “What would I want with an empty store?”

Linking real yields, the dollar and gold

Mike Mackenzie’s daily analysis of what’s moving global markets


© Dreamstime.com



Sentiment in financial markets understandably remains caught between renewed outbreaks of Covid-19 (India, Hong Kong and Spain, parts of the US and Latin America) that restrict economic activity, but which also heighten expectations of further stimulus.

This trade-off between economic pain and policy relief only intensifies recent market trends with the focus firmly on the US. These take the form of even lower real bond yields — adjusted for inflation — extended pressure on the dollar and a boon for commodities, particularly gold.

The haven metal certainly glistens and has climbed above its 2011 nominal peak to $1,945.26 a troy ounce on Monday. Traders expect a test of $2,000 and there are signs of that positioning. Demand for gold also has an ally in the shape of frosty relations between the US and China, a dynamic that is likely to enter cold storage once the presidential contest picks up the pace.

Line chart of $/ounce showing Gold shines as investor confidence wanes


Saxo Bank’s Steen Jakobsen reckons:

“With this latest price action, the next obvious psychological focus is on the $2,000 level for gold, while the $25 per ounce level is the next psychological marker for silver, still over 50 per cent below the 2011 high.

It’s not hard to see why gold has scope for pushing higher given how prevailing economic uncertainly should keep central banks and governments firmly in easing mode, led by the US — see Quick Hits — and all-time lows for a 10-year Treasury real yield around minus 0.9 per cent. The 10-year real yield began the year at plus 0.15 per cent, when gold was around $1,520.

BNY Mellon’s John Velis says:

“The story of real yields is the story of the rally in gold. As its nearest substitute, real interest rates on risk-free assets track gold prices very closely. The combination of expected inflation and expected real returns priced into real yields has driven the yellow metal higher.”

Falling real yields — driven by Federal Reserve policy — have been sapping the dollar for a while and the week has begun with the reserve currency registering broader losses.

TD Securities reckons “this US dollar move has become self-fulfilling” and that market sentiment is pushing for a test of $1.18 in the euro — shown below — before any snapback arrives.




It has not gone unnoticed in foreign exchange circles, that beyond a charging euro, other currencies now have an opportunity to catch up with a ropey looking US dollar, notably the Japanese yen.

Brad Bechtel at Jefferies notes that an Aussie dollar above 71 cents versus the reserve currency shows US weakness “is broad based” while he notes the Swedish krona is outperforming both the euro and the dollar.

All these moves are coming as the White House and Congress spar over a new round of spending measures. For all the near-term political jousting, the longer-term budgetary message does not look good for the US dollar. This chart from Citi suggests the dollar is heading a lot lower in value over an extended period as Washington keeps the spending spigot open:




From a policy standpoint, a depreciating dollar helps to offset a weaker US economy and the recent slide in the reserve currency reflects the surge in Covid-19 cases and renewed lockdowns in parts of the country.

Economic activity hobbled by restrictions and the open-ended prospect of fresh lockdowns hardly entails a vigorous recovery and perhaps does indicate that worries about another recessionary dip are warranted.

Ultimately a health crisis requires a treatment that enables a full restoration of economic activity. In the interim, government spending measures underwritten by central bank policies fill the gap.

For now, a midsummer reversal from the latest global Covid-19 spikes is hopefully the story, but for all the promise surrounding vaccines and treatments, there remains a risk of a deeper economic malaise.

Neil Shearing at Capital Economics notes:

“The question for the US, and indeed other economies, is whether any new outbreaks sit at the relatively benign end of the spectrum or whether they take a more malign form”, an outcome that would entail “the risk of wider and stricter restrictions — and thus a double-dip recession”.

Quick Hits — What’s on the markets radar?

The Federal Reserve two-day meeting that wraps up on Wednesday is expected to lean very dovishly and that means maintaining downward pressure on real yields. This serves the purpose of pushing up market expectations of inflation and should sustain appetite for risk assets. But the fall in real yields does not bode well for the economy’s longer-term growth expectations and worryingly suggests a stagflationary outcome.

Market sentiment will take its cue from Jay Powell, the Fed chairman, during his press conference and expect no resistance to the idea that negative real yields are here to stay.

Lou Crandall at Wrightson Icap does not rule out a hint of more support from the US central bank ahead of wrapping up its policy framework review:

“Chair Powell is always careful not to prejudge [Federal Open Market] Committee decisions, so we expect him to limit himself to generalities again at this week’s press conference. That said, we would not rule out the possibility that the Fed might be ready to hint that it will tilt its [quantitative easing] purchases toward longer maturities once the framework review is completed in the fall.” 

Such a signal likely prompts lower real yields and a flatter nominal yield curve, represented by the difference between five-year Treasury notes and the 30-year bond. The gap between five and 30-year yields has now dropped below 100 basis points and from here a test of April’s low of 80bp and perhaps the flattening nadir of 52bp in March are possible outcomes.

Gold mining stocks are enjoying quite a ride with the likes of Newmont Mining and Barrick Gold up more than 50 per cent this year. Still, AJ Bell reckons they are lagging and note that the NYSE Arca Gold Bugs index — up 41 per cent year to date — “still stands at just 0.18 times the value of gold, compared to a lifetime (post-1997) average of 0.31x and an all-time high of 0.62x times in 2003”.




It adds:

“Gold producers offer huge leverage into changes in the gold price (up or down) as their costs are largely pretty fixed, so a minor change in price can lead to huge changes in profits, cash flow and therefore ultimately dividends.”

Gold’s evolution into a ‘must-have’ asset is storing up trouble

Price rise is being driven by investors adding the metal to long-term portfolios

Mohamed El-Erian

That gold is seen to offer something for everyone is yet another unintended result of the exceptional involvement of central banks in the functioning of markets
That gold is seen to offer something for everyone is yet another unintended result of the exceptional involvement of central banks in the functioning of markets © Leonhard Foeger/Reuters


Until recently, the rapid rise in the price of gold had more to do with opportunistic financial trading than any larger structural investment theme, let alone a drop in physical supply or an increase in industrial use.

Now, the metal is seen to offer something for everyone. That is yet another unintended result in a lengthening list of the exceptional involvement of central banks in the functioning of markets. Their expanded interventions to counteract the effects of the pandemic have pleased many now but will create problems for the central banks and the economy at large, if a sharp and lasting economic recovery continues to elude us.

After rising 17 per cent in the first half of the year, gold prices surged to record highs before retreating on Tuesday to just below $2,000. In the process, investors went from treating gold as a short-term momentum trade to seeing it more as a legitimate standalone option in long-term portfolios. You need only look at real yields on government bonds after adjusting for inflation to see why so many investors are buying gold as a long-term option.

Contrary to what most textbooks would suggest, the recent drop in nominal yields has coincided with a rise in inflationary expectations. This makes gold a more attractive substitute for government bonds in two ways. Investors who opt for gold forgo less income than they would if bond yields were higher. They also hedge against what would be a dramatic loss in the value of those bonds, should central banks stop trying to keep interest rates low by flooring official rates and buying massive amounts of market securities.

Gold is also proving compelling for other reasons, collecting quite an unlikely cast of backers in addition to the usual bugs who worry about currency debasement and geopolitical shocks. Some believe it will protect investors against further depreciation of the US dollar; others want it as a hedge against a global economic depression and a collapse in stock markets that, already, are stunningly decoupled from corporate and economic realities. Today’s gold camp even manages to attract those looking to protect against competing outcomes: deflation and inflation. 

Gold is not the only asset to have developed this multiple and seemingly bipolar personality. Big Tech stocks have also been seen as offering everything to everybody. They promise growth based on the shift from physical to virtual activities in the pandemic, but also downside protection because they have massive cash holdings, low debt and positive cash-flow generation.

The collapse in nominal yields on government and safe corporate bonds is also leading some investors to ask whether non-investment grade “junk” bonds can be a safe place to park their money.

Underpinning these contradictory developments is investor faith that central banks will protect them from big losses by continuing to intervene whenever markets slide. Gold is evolving into a “must-have” asset.

That drives the price upwards as the pool of potential buyers shifts from a small group of quirky bugs to the much larger pool of investors seeking risk mitigation. Like many sudden structural shifts, it is likely to involve an initial price overshoot.

Think of this as part of a broader shifting baseline. Investors are treating an ever growing number of traditionally risky assets as low risk, or even hedges against risk. In the short term, this pushes prices higher, reinforcing the attitude change and lulling politicians and central bankers into believing that the market cycle has been conquered. But they are likely to prove as wrong as those who, before the 2008 financial crisis, erroneously believed they had vanquished the business cycle.


The writer is Allianz’s chief economic adviser and president-elect of Queens’ College, University of Cambridge

DETAILED 2020/2021 PRICE FORECASTS FOR GOLD & SILVER

Chris Vermeullen



This research article may get a bit technical, so please excuse us in advance if we ramble on about Measured Moves, Fibonacci Price Amplitude Arcs, and other technical jargon. Our goal is to share with you our expectations for Gold and Silver near the end of 2020 and out into early 2021.

ARCS, MEASURES & THE US DOLLAR

Our first observation to share with you today is the potential for the “Measured Price Moves” in Gold and Silver to continue. We’ve seen near-perfect price advances over the past 8+ months relating to these Measured Moves. In Gold, the Measured Move equates to about $263.20. In Silver, the measured move equated to about $5.40.

Recently, both Gold and Silver rallied beyond the projected Measured Move level, for Gold the level was $1,945 and for Silver the level was $27.50. The extreme breakout in Gold and Silver pushed prices well above these levels and into extreme overbought levels. This big move in metals was propelled by the decline in the US Dollar as well. When the US Dollar declines, metals tend to move higher.

Additionally, we believe the decline in the US Dollar was partially related to the uncertainty related to geopolitical events and US policy events over the past few weeks. The US government leads the world, in a lot of way, in terms of Congress and Fed policies and capital controls. Uncertainty related to future expectations could cause the US Dollar and metals to move dramatically.

We also want to highlight the Fibonacci Price Amplitude Arcs on the following Gold and Silver charts (the Arcs and Circles). Our research team believes the current price moves indicate that these upside Measured Moves in Gold and Silver are targeting the Fibonacci Price Amplitude Arc target levels related to price range expansion. The Gold chart, below, shows how the price of Gold has move to and through each successive Fibonacci Price Amplitude level – recently clearing the 2.0x Fibonacci Price Amplitude Arc.




It is our belief that Gold will initiate another upside measured move, quite likely in correlation with a weaker US Dollar, that will target the $2,160 level next. After that level is reached, a brief pause in price will happen before another upside measured move will target the $2,400 level. This upside move is likely to happen before the end of January 2021.

Silver has also moved in a series of Measured Price Moves that correlate with Fibonacci Price Amplitude Arcs. The current Measured Move level, near $27.50, was reached on August 6, 2020. In fact, Silver rallied to a peak level of $29.91 the next day before peaking, rotating downward (retracing), and moving lower to close at $27.54 (almost exactly at our Measured Move Level).

When we add the Fibonacci Price Amplitude Arc analysis to these Measured Move structures for Silver, we quickly come to the conclusion that support near $27.50 should prompt another upside Measure Move targeting the $32.50 level. Beyond that, we can clearly see targets near $37.50 and $42.50. 

We do believe brief periods of congestion will take place throughout these upside Measured Moves – so pay attention to how price reacts near these targeted levels. Additionally, pay attention to any future price weakness in the US Dollar as that will relate to the speed and volatility of the upside price moves in Gold and Silver.




GOLD-TO-SILVER RATIO PREDICTIONS

Our researchers posted the chart below many months ago related to the peak in the Gold-to-Silver ratio near March 19, 2020. At that time, we suggested that a similar type of downside Pennant/Flag formation would setup, prompting a big breakdown in the extremely high Gold-to-Silver price ration.




The Gold-to-Silver ratio has recently moved from peak levels, near 125, to 73.1. This downward ratio collapse is the result of the incredible upside price move in Silver recently. Historically, this Gold-to-Silver price ratio should target levels near 55 (or lower) as Silver rallies to comparable price levels to Gold.

In 2010~2011, the Gold-to-Silver ratio fell to levels near 31. This happened when Gold rallied to near $2,000 and Silver rallied to near $50. Currently, Gold is trading just below the $2,000 level and Silver is trading near $27.50. This suggests that Silver still has another $24+ of rally waiting to explode higher if the fear and uncertainty expectations are similar to 2010~2011.

Should Gold rally to $2,400 or higher, there is a very strong possibility that Silver could rally above $60 per ounce while Gold continues to move to near all-time highs. In short, we believe this move higher in metals will likely continue as we head into the US Presidential Election and post-election transition.

From a trader’s perspective, the upside price trend, and the bigger downside price move setting up in November 2020 Presidential election cycle, presents very real opportunity for huge gains if you know how to time these moves and prepare for the risks. Right now, this market and the profits therein are fantastic opportunities for skilled technical traders. As we suggested throughout 2018 and 2019, 2020 and 2021 are going to be incredible opportunities for skilled technical traders. 

 This is just getting started, folks. Pay attention and avoid unnecessary risks.