More on How Inflation Turns Us Into Con Artists

Thursday, March 31st, 2011

via ZeroHedge.com

Here's a Phil's Stock World favorite for today.  John Rubino is the co-author of the book "The Col­lapse of the Dol­lar" and writes fre­quent arti­cles about the econ­omy at his blog, "Dol­lar Col­lapse." — Ilene

More on How Infla­tion Turns Us Into Con Artists

Cour­tesy of JOHN RUBINO of Dol­lar Collapse

John May­nard Keynes once said of inflation:

There is no sub­tler, no surer means of over­turn­ing the exist­ing basis of soci­ety than to debauch the cur­rency. The process engages all the hid­den forces of eco­nomic law on the side of destruc­tion, and does it in a man­ner which not one man in a mil­lion is able to diagnose.

Here’s one of the “hid­den forces of eco­nomic law” to which Keynes referred, cour­tesy of yesterday’s New York Times:

Food Infla­tion Kept Hid­den in Smaller Bags

Chips are dis­ap­pear­ing from bags, candy from boxes and veg­eta­bles from cans.

As an expected increase in the cost of raw mate­ri­als looms for late sum­mer, con­sumers are begin­ning to encounter shrink­ing food packages.

With unem­ploy­ment still high, com­pa­nies in recent months have tried to cam­ou­flage price increases by sell­ing their prod­ucts in tiny and tinier pack­ages. So far, the changes are most vis­i­ble at the gro­cery store, where shop­pers are pay­ing the same amount, but get­ting less.

For Lisa Stauber, stretch­ing her bud­get to feed her nine chil­dren in Hous­ton often requires care­ful mon­i­tor­ing at the store. Recently, when she cooked her usual three boxes of pasta for a big fam­ily din­ner, she was sur­prised by a smaller yield, and she began to sus­pect some­thing was up.

“Whole wheat pasta had gone from 16 ounces to 13.25 ounces,” she said. “I bought three boxes and it wasn’t enough — that was a lit­tle embar­rass­ing. I bought the same amount I always buy, I just didn’t real­ize it, because who reads the sizes all the time?”

Ms. Stauber, 33, said she began inspect­ing her other pur­chases, aisle by aisle. Many canned veg­eta­bles dropped to 13 or 14 ounces from 16; boxes of baby wipes went to 72 from 80; and sugar was stacked in 4-pound, not 5-pound, bags, she said.

Five or so years ago, Ms. Stauber bought 16-ounce cans of corn. Then they were 15.5 ounces, then 14.5 ounces, and the size is still drop­ping. “The first time I’ve ever seen an 11-ounce can of corn at the store was about three weeks ago, and I was just floored,” she said. “It’s sneaky, because they fig­ure peo­ple won’t know.”

In every eco­nomic down­turn in the last few decades, com­pa­nies have reduced the size of some prod­ucts, dis­guis­ing price increases and avoid­ing com­par­isons on same-size pack­ages, before and after an increase. Each time, the mar­ket­ing cam­paigns are coy; this time, the smaller ver­sions are “greener” (pack­ages good for the envi­ron­ment) or more “portable” (lit­tle carry bags for the take­out lifestyle) or “health­ier” (fewer calories).

Where com­pa­nies can­not change sizes — as in cloth­ing or appli­ances — they have warned that prices will be going up, as the costs of cot­ton, energy, grain and other raw mate­ri­als are rising.

“Con­sumers are gen­er­ally more sen­si­tive to changes in prices than to changes in quan­tity,” John T. Gourville, a mar­ket­ing pro­fes­sor at Har­vard Busi­ness School, said. “And com­pa­nies try to do it in such a way that you don’t notice, maybe keep­ing the height and width the same, but chang­ing the depth so the sil­hou­ette of the pack­age on the shelf looks the same. Or some­times they add more air to the chips bag or a scoop in the bot­tom of the peanut but­ter jar so it looks the same size.”Thomas J. Alexan­der, a finance pro­fes­sor at North­wood Uni­ver­sity, said that busi­nesses had lit­tle choice these days when faced with increases in the costs of their raw goods. “Com­pa­nies only have pric­ing power when wages are also increas­ing, and we’re not see­ing that right now because of the high unem­ploy­ment,” he said.

Most com­pa­nies reduce prod­ucts qui­etly, hop­ing con­sumers are not read­ing labels too closely.

But the down­siz­ing keeps occur­ring. A can of Chicken of the Sea alba­core tuna is now packed at 5 ounces, instead of the 6-ounce ver­sion still on some shelves, and in some cases, the 5-ounce can costs more than the larger one. Bags of Dori­tos, Tos­ti­tos and Fritos now hold 20 per­cent fewer chips than in 2009, though a spokesman said those extra chips were just a “lim­ited time” offer.

Try­ing to keep cus­tomers from feel­ing cheated, some com­pa­nies are intro­duc­ing new con­tain­ers that, they say, have ter­rific advan­tages — and just hap­pen to con­tain less product.

Kraft is intro­duc­ing “Fresh Stacks” pack­ages for its Nabisco Pre­mium saltines and Honey Maid gra­ham crack­ers. Each has about 15 per­cent fewer crack­ers than the stan­dard boxes, but the price has not changed. Kraft says that because the Fresh Stacks include more sleeves of crack­ers, they are more portable and “the pack­ag­ing for­mat offers the ben­e­fit of added fresh­ness,” said Basil T. Maglaris, a Kraft spokesman, in an e-mail.

And Proc­ter & Gam­ble is expand­ing its “Future Friendly” prod­ucts, which it pro­motes as using at least 15 per­cent less energy, water or pack­ag­ing than the stan­dard ones.“They are more envi­ron­men­tally friendly, that’s true — but they’re also smaller,” said Paula Rosen­blum, man­ag­ing part­ner for retail sys­tems research at Focus.com, an online spe­cial­ist net­work. “They announce it as great new pack­ag­ing, and in fact what it is is smaller pack­ag­ing, smaller amounts of the prod­uct,” she said.

Or mar­keters design a new shape and size alto­gether, com­pli­cat­ing any effort to com­par­i­son shop. The unwrapped Reese’s Minis, which were intro­duced in Feb­ru­ary, are smaller than the foil-wrapped Minia­tures. They are also more expen­sive — $0.57 an ounce at FreshDi­rect, ver­sus $0.37 an ounce for the indi­vid­u­ally wrapped.

At H. J. Heinz, prices on ketchup, condi­ments, sauces and Ore-Ida prod­ucts have already gone up, and the com­pany is sell­ing smaller-than-usual ver­sions of condi­ments, like 5-ounce bot­tles of items like Heinz 57 Sauce sold at places like Dol­lar General.

Some thoughts:

• When Fed offi­cials claim that infla­tion is “well con­tained” are they mea­sur­ing per ounce or per pack­age? It wouldn’t be a sur­prise, given how dis­con­nected from real­ity they fre­quently sound, if they’re being fooled by man­u­fac­tur­ers’ pack­ag­ing scams. [The Fed offi­cials may mea­sure pack­age to pack­age with­out being "fooled."  I remem­ber read­ing that that was per­mis­si­ble and will look for the ref­er­ence.  See also Michael Panzner's "More than a lit­tle doubt." — Ilene]

• If man­u­fac­tur­ers are play­ing games with pack­age sizes you can bet they’re also using cheaper ingre­di­ents, so not only are we get­ting less of our favorite things, they’re prob­a­bly not as good as they were when we first devel­oped an attach­ment to them.

• It’s an arti­cle of faith among mod­ern econ­o­mists that a lit­tle infla­tion is a good thing because it lets com­pa­nies raise prices and work­ers get raises, so every­one feels richer. But that ignores the other side of the equa­tion, which is, as we’re now see­ing, a decline in prod­uct qual­ity and pro­ducer cred­i­bil­ity. In the end we don’t feel richer because we got a raise; we feel ripped off by com­pa­nies we used to respect.

• Those same econ­o­mists see defla­tion as a bad thing because it makes debt harder to carry. But this also over­looks the impact of incen­tives on behav­ior and char­ac­ter. Con­sider: if you make, say, candy bars and the prices of sugar and choco­late are going down, you want to avoid hav­ing to cut your sell­ing price because hold­ing the line on price pro­duces a wider profit mar­gin. So you start using higher-grade choco­late or increas­ing your candy bars’ size — and you let your cus­tomers know that you’re improv­ing your prod­ucts. Your cred­i­bil­ity goes up because you’re offer­ing a bet­ter deal, and doing so very pub­licly. As this prac­tice spreads through the larger econ­omy, the result is a cul­ture of qual­ity and integrity and cus­tomer ser­vice. Where infla­tion turns mer­chants into secre­tive con artists, defla­tion pro­duces trans­par­ent pur­vey­ors of ever-better deals. In a defla­tion­ary world, our pay­checks don’t rise as much, but every­one seems to be work­ing for us rather than try­ing to rip us off.

• Viewed this way, only an idiot (or a Key­ne­sian econ­o­mist) would choose infla­tion over deflation.

Pic­ture credit: Jesse's Café Americain

Tags: Canned Vegetables, Co Author, Collapse, Con Artists, Currency, Economic Law, energy, Family Dinner, Food Packages, Frequent Articles, Grocery Store, John Maynard Keynes, John Rubino, Man In A Million, New York Times, oil, Price Increases, Stauber, Stock World, Surer, Three Boxes, Time Ms, Whole Wheat Pasta
Posted in Credit Markets, Energy & Natural Resources, Markets, Oil and Gas | Comments Off

Revolution Or Evolution In The World Oil Market?

Wednesday, March 30th, 2011

Rev­o­lu­tion Or Evo­lu­tion In The World Oil Mar­ket?

By Bob van der Valk

Time has not made much of a dif­fer­ence since 2008...at least in the price of crude.  The price for the U.S. West Texas Inter­me­di­ate (WTI) crude oil was $107 a bar­rel on Sep­tem­ber 28, 2008, vs. around $105 per bar­rel today.

On the other hand, the aver­age price at the pump was $2.57 a gal­lon then, com­pared with the aver­age is $3.58 per gal­lon today.  The chart below shows the aver­age price for the period from March 24, 2009 through March 24, 2011):

The rea­sons for the dif­fer­ence in the pric­ing of gaso­line is exactly the oppo­site of why they were back on Sep­tem­ber 28, 2008.  Back then, the US econ­omy went into a tail­spin with fuel prices decreas­ing faster than crude oil prices. They even­tu­ally caught up with each other in early 2009 and have been increas­ing in-sync ever since.

Today's fuel prices are keyed more to the Brent crude oil price post­ing on the Inter­con­ti­nen­tal Exchange (ICE) in Lon­don instead of the WTI crude oil post­ing on the New York Mer­can­tile Exchange (NYMEX), which has become some­what incon­se­quen­tial since it is land­locked in Cush­ing, Oklahoma.

Cush­ing, OK is the deliv­ery point of NYMEX from where WTI is shipped by pipeline to var­i­ous U.S. Mid­west and Gulf Coast refiner­ies.  In con­trast, the Brent crude oil inven­to­ries are held at a har­bor in Bel­gium eas­ily reached by any ship able to carry large amounts of crude oil into and out of that location.

The volatil­ity in the price of crude is caused by any world events threat­en­ing crude oil sup­plies as they are the world's main source of energy.  Wall Street bankers and their clients are a big influ­ence in the com­mod­ity mar­ket and tend to exag­ger­ate prices by mak­ing bets for or against the price of crude oil caus­ing spec­u­la­tion in the
oil markets.

Prior to the 1980’s, the price of crude oil was set by the par­ties involved in actu­ally pro­duc­ing and refin­ing it. That changed when the NYMEX started trad­ing first in crude oil and gasoline, and added nat­ural gas and heat­ing oil later on.

Phys­i­cal and futures mar­kets were meant to run respond­ing to actual sup­ply and demand, but instead have added a layer of uncer­tainty for any­one pro­duc­ing fuel in order to keep prices within an afford­able range to their consumers.

The Com­mod­ity Futures Trad­ing Com­mis­sion (CFTC) is now propos­ing lim­its for energy spec­u­la­tors. Ten big US banks will be affected the most and will have the option to trade on the Inter­con­ti­nen­tal Exchange (ICE) based in Lon­don, which does not have any trad­ing limits.

Now, the Mid­dle East and North African (MENA) rev­o­lu­tions have also been added to the equa­tion mak­ing crude oil a com­mod­ity spec­u­la­tors dream to come true.  Trou­ble brew­ing in MENA and Saudi Ara­bia will keep both crude oil and fuel prices on an ever increas­ing path until the unrest set­tles down.

Iran­ian Oil Min­is­ter Mas­soud Mirkazemi, who cur­rently holds the OPEC rotat­ing pres­i­dency, was quoted as saying:

"There is no need for an OPEC emer­gency meet­ing in the cur­rent sit­u­a­tion as the oil mar­ket is well bal­anced. OPEC is only able to pump about 30 mil­lion bar­rels of oil to the world mar­kets per day, which is nearly a third of the global oil production."

This was reported by the local Eng­lish lan­guage satel­lite Press TV in Tehran, Iran report on Sun­day, March 28, 2010.

OPEC will cut oil ship­ments to its low­est level since Octo­ber as civil war halted exports of crude oil from Libya. OPEC oil exports are due to fall to 23 mil­lion bar­rels a day in the four weeks to 9th April, down 1.8 per­cent from 23.5 mil­lion in the period to 12th March.

Oil pro­duc­ers typ­i­cally respond to strong price sig­nals and are able afford to wait until OPEC’s reg­u­lar meet­ing in the mid­dle of June before decid­ing whether to raise crude oil out­put. It will be too lit­tle too late to pre­vent higher oil prices.

Crude oil prices are deter­mined on a “futures” mar­ket at the NYMEX or ICE. The prices of crude oil traded today deter­mine the future prices at the pump.  Thus, if the spec­u­la­tors see cur­rent inven­to­ries are suf­fi­cient to cover demand until futures con­tracts are deliv­ered, the down­ward price hap­pens almost immediately.

A war and rev­o­lu­tion in Libya has caused higher prices for gaso­line and diesel all the way in the U.S.  The lyrics in John Lennon’s song Rev­o­lu­tion are as applic­a­ble today as they were back in 1968,

“You say you want a rev­o­lu­tion? Well you know, we'd all want to change the world. But if you want money for peo­ple with minds that hate, all I can tell you is brother you'll have to wait”

About The Author - Bob van der Valk is an Inde­pen­dent Con­sul­tant with over 50 years of expe­ri­ence in the petro­leum gaso­line and lubri­cants industry.

The views and opin­ions expressed herein are the author's own and do not nec­es­sar­ily reflect those of Econ­Mat­ters.

Tags: Brent Crude Oil, Brent Crude Oil Price, BRIC, BRICs, Commodity Market, Crude Oil Inventories, Crude Oil Price, Crude Oil Prices, Crude Oil Supplies, Cushing Oklahoma, Delivery Point, energy, Gulf Coast Refineries, Intercontinental Exchange, Market Revolution, Mercantile Exchange Nymex, New York Mercantile Exchange, oil, Price Of Crude Oil, Van Der Valk, West Texas Intermediate, World Oil Market, Wti Crude Oil, York Mercantile Exchange
Posted in Emerging Markets, Energy & Natural Resources, Markets, Oil and Gas | Comments Off

TSX: Global Concerns, Local Impact?

Wednesday, March 30th, 2011

John Smolin­ski, Port­fo­lio Man­ager, TD Cana­dian Equity Fund, dis­cusses the impact of the Japan­ese cri­sis and the polit­i­cal tur­moil in the Mid­dle East and North Africa on the Cana­dian bank­ing and energy sec­tors and shares names of some stocks that he likes.

In the inter­view, TD Mutual Fund's John Smolin­ski addresses the fol­low­ing concerns:

• How are you man­ag­ing the con­stantly evolv­ing global risks?
• What has been the impact on the markets?
• Will nat­ural gas ben­e­fit from increased demand?
• How are you posi­tion­ing the portfolio?
• Are there any sec­tors or com­pa­nies that you like?

Click on the image below, or here, to watch the interview:

John Smolin­ski, CFA
Title: Man­ag­ing Direc­tor
Edu­ca­tion: BA Eco­nom­ics, York Uni­ver­sity, Char­tered Finan­cial Ana­lyst
Indus­try Expe­ri­ence: Since 1990
Funds: TD Cana­dian Equity Fund, TD Bal­anced Growth Fund

Tags: Ba Economics, Canadian, Canadian Equity Fund, Canadian Market, Cfa, Chartered Financial Analyst, Director Education, energy, Energy Sectors, Global Concerns, Global Risks, Industry Experience, Interview John, Managing Director, Middle East, Mutual Fund, Natural Gas, North Africa, oil, Political Turmoil, Portfolio Manager, Smolinski, Tsx, York University
Posted in Canadian Market, Energy & Natural Resources, Markets, Oil and Gas | Comments Off

China Part 1: Planning for its Future (Mobius)

Tuesday, March 29th, 2011

by Mark Mobius, Vice-chairman, Franklin Tem­ple­ton Investments

Chi­nese offi­cials are con­cerned about future devel­op­ments in their coun­try. As a result of some labor short­ages and ris­ing wages in the low-end labor inten­sive man­u­fac­tur­ing sec­tor, some man­agers are mov­ing parts of their pro­duc­tion out of China to lower-cost coun­tries such as Viet­nam. This of course raises the ques­tion of unem­ploy­ment in the export-oriented area which, com­bined with infla­tion, could result in social tur­moil and labor unrest, if it’s not well-managed. One pos­i­tive aspect is that the Chi­nese gov­ern­ment rec­og­nizes the issues and addresses many of them in their new Five-Year Plan.

China’s 12^th Five-Year Plan adopted in March of 2011 includes a pro­gram to shift away from its reliance on cheap exports towards greater domes­tic con­sump­tion. This will  hope­fully  help to cor­rect the trade imbal­ances that have devel­oped, which are a con­cern to the global com­mu­nity,   although China now dom­i­nates in so many con­sumer goods areas  and increas­ingly in tech­ni­cal prod­ucts that a stronger ren­minbi could result in even greater trade imbal­ances, at least in the short-term, since buy­ers have no other source of sup­ply. The Plan calls for improve­ment in 12 areas: (1) grow­ing its ser­vices such as insur­ance, bank­ing, retail trade, etc.; (2) improv­ing its indus­tries with empha­sis on added value; (3) encour­ag­ing local inno­va­tion; (4) rely­ing less on global demand and poli­cies; (5) reduc­ing trade fric­tion by increas­ing imports; (6) reduc­ing the por­tion of invest­ment devoted to gov­ern­ment  fixed asset invest­ment; (7) address­ing the envi­ron­ment to pre­vent fur­ther envi­ron­men­tal degra­da­tion; (8) improv­ing energy effi­ciency and thereby lim­it­ing energy demand; (9) ensur­ing bet­ter dis­tri­b­u­tion of wealth from future eco­nomic growth; (10) pre­vent­ing labor unrest by address­ing work­ers’ rights and bet­ter union rep­re­sen­ta­tion; (11) ensur­ing that cit­i­zen com­plaints about hous­ing, health care, edu­ca­tion and other areas are addressed; and (12) reduc­ing regional disparities.

Rather than focus­ing purely on growth, it seems that this new plan will stress bet­ter devel­op­ment with an empha­sis on a “har­mo­nious soci­ety”. In order for China to make this tran­si­tion, many econ­o­mists real­ize that the gov­ern­ment will need to rely more on pri­vate cap­i­tal and mar­ket forces. This even­tu­ally amounts to a relax­ation of gov­ern­ment con­trols over the mas­sive state enter­prises so that they can expand inter­na­tion­ally. In other words, the gov­ern­ment needs to rely less on resource allo­ca­tion and instead allow con­sumers to deter­mine those allo­ca­tions.  This means that the gov­ern­ment must focus on infra­struc­ture, devel­op­ment of human cap­i­tal with bet­ter edu­ca­tional facil­i­ties, social ser­vices and health care.

The Chi­nese gov­ern­ment has been mov­ing in that direc­tion since Deng Xiaop­ing re-opened China to the world and intro­duced a series of eco­nomic reforms. The state-owned sec­tor has fallen from 78% of the over­all indus­trial out­put in 1978 to an esti­mated 30% in 2009.[1] Nev­er­the­less, the gov­ern­ment still exerts a high degree of con­trol over things such as grain and energy prices, as well as wage-setting in state and many listed government-controlled com­pa­nies.  The new Plan calls for more market-oriented pric­ing, a lib­er­al­iza­tion of inter­est rates and a fur­ther reduc­tion of state-owned enterprises.

Signs of an increas­ingly con­sumerist soci­ety are read­ily evi­dent. China has become the world’s largest auto­mo­tive mar­ket with annual sales of 18 mil­lion com­pared to 13 mil­lion for the U.S. [2]

We have seen an increas­ing use of credit cards, the rise of local min­i­mum wages in most provinces and increas­ing div­i­dend pay­outs to share­hold­ers of state-owned com­pa­nies. The gov­ern­ment wants to put more money in the hands of con­sumers by rais­ing bank inter­est rates so that they get bet­ter returns from their sav­ings, cut­ting income taxes and expand­ing con­sumer credit. In addi­tion, the gov­ern­ment is also build­ing more afford­able hous­ing and rais­ing social spend­ing so that con­sumers need not save as much for edu­ca­tion, health­care and retire­ment. When we con­sider that the cur­rent num­ber of Chi­nese in the mid­dle income class is 157 mil­lion[3], about half the size of the U.S. pop­u­la­tion, there is sub­stan­tial room for expan­sion within the consumer-related sector.

I have heard queries from baf­fled investors about past under­per­for­mance of the Chi­nese stock mar­ket despite the long-term pos­i­tive out­look for China. One key fac­tor that I would like to stress is that, as equity investors, we look at indi­vid­ual stocks rather than the mar­ket as a whole. There is quite a dif­fer­ence between what’s hap­pen­ing in the domes­tic Chi­nese A share mar­ket and the H share mar­ket in Hong Kong, which is where we are buy­ing and hold stocks. The A share mar­ket is gen­er­ally closed to for­eign investors, the ren­minbi is not con­vert­ible in this mar­ket and the cap­i­tal cost struc­ture and a sys­tem­atic short­age of equity sup­plies; all con­tribute to higher volatil­ity. In addi­tion, the under­per­for­mance of the broader Chi­nese A share mar­ket last year was a result of the influx of ini­tial pub­lic offer­ings, which made a strong come­back on the main­land, soak­ing up a sig­nif­i­cant amount of liq­uid­ity from listed stocks to higher-valued new com­pa­nies. We con­tinue to focus on the H shares and the so-called “red-chips” listed in Hong Kong, which is where we find­ing the most inter­est­ing oppor­tu­ni­ties. Most impor­tantly, mar­kets go through cycles, and invest­ments, and the Chi­nese mar­ket are no excep­tion. This under­scores the impor­tance of patience and our view that any seri­ous investor should have at least a five year invest­ment horizon.

[1] Source: ©2009 OECD, State Owned Enter­prises in China: Review­ing The Evi­dence. As of Jan­u­ary 2009.

[2] Source: China Asso­ci­a­tion of Auto­mo­bile Man­u­fac­tur­ers (CAAM), as of Jan­u­ary 21, 2011.

[3] Source: ©2010 OECD, The Emerg­ing Mid­dle Class in Devel­op­ing Coun­tries. As of Jan­u­ary 2010.

Copy­right © Franklin Tem­ple­ton Investments

Tags: Asset Investment, China, Chinese Government, chinese officials, Citizen Complaints, Distribution Of Wealth, Domestic Consumption, Emerging Markets, energy, Energy Demand, Environmental Degradation, Five Year Plan, Fixed Asset, Franklin Templeton Investments, Global Demand, Improving Energy Efficiency, Infrastructure, Labor Shortages, Labor Unrest, Manufacturing Sector, Mark Mobius, Moving Parts, oil, Social Turmoil, Union Representation
Posted in Credit Markets, Energy & Natural Resources, Infrastructure, Markets, Oil and Gas, Outlook | Comments Off

Commodities in Portfolio Construction (Lee)

Tuesday, March 29th, 2011

Com­modi­ties in Port­fo­lio Con­struc­tion

by Alfred Lee, CFA, DMS
Vice Pres­i­dent & Invest­ment Strate­gist
BMO ETFs & Global Struc­tured Invest­ments
BMO Asset Man­age­ment Inc.
alfred.lee[at]bmo.com

Monthly Strat­egy Report March 2011

Over the last decade, com­mod­ity and commodity-related invest­ments have gained sig­nif­i­cant pop­u­lar­ity with both insti­tu­tional and retail investors. Given their siz­able returns over the last ten years, his­tor­i­cal low cor­re­la­tion to tra­di­tional asset classes and emerg­ing mar­kets soak­ing up much of the sup­ply, it should not come as much of a sur­prise. Com­ing out of the credit cri­sis, major cen­tral banks around the globe, most notably the U.S. Fed­eral Reserve (Fed), were focused on reflat­ing the global economy.

The co-ordinated easy mon­e­tary poli­cies, gov­ern­ment stim­u­lus mea­sures along with quan­ti­ta­tive eas­ing were largely a pos­i­tive for broad com­modi­ties which tend to be used as a hedge against declin­ing cur­rency val­ues and par­tic­u­larly a falling U.S. dol­lar. Essen­tially, investors ben­e­fited from merely hav­ing expo­sure to a broad bas­ket of com­mod­ity and com­mod­ity related investments.

With global stim­u­lus and the sec­ond instal­ment of quan­ti­ta­tive easing1 (QE2) mov­ing fur­ther into the rear-view, the refla­tion trade should be less of a dri­ver in global com­mod­ity prices going for­ward, espe­cially con­sid­er­ing the Fed is antic­i­pated by some to remove QE2 stim­u­lus this sum­mer. Inde­pen­dent sup­ply and demand fun­da­men­tals as a result should play a more impor­tant role in dri­ving com­mod­ity prices going for­ward. In addi­tion, with polit­i­cal tur­moil in the Mid­dle East and now the unfor­tu­nate tsunami in Japan, these issues will have dif­fer­ent macro fac­tors on the vary­ing com­mod­ity sub-groups.

Com­mod­ity Differentiation

With that in mind, investors may want to con­sider com­mod­ity dif­fer­en­ti­a­tion at this point in their port­fo­lio con­struc­tion process. As global eco­nomic fun­da­men­tals slowly improve, cor­re­la­tion between assets and within assets such as com­modi­ties should nat­u­rally decrease (as detailed in the cor­re­la­tion matri­ces on the fol­low­ing page) in an eco­nomic thaw­ing process. More­over, as pre­vi­ously men­tioned, the neg­a­tive head­lines will have vary­ing impacts and ram­i­fi­ca­tions on each of the com­mod­ity groups. Investors should there­fore focus on com­modi­ties that have the best risk-adjusted returns and those which will fur­ther opti­mize their over­all portfolio.

As many investors are aware, the pro­lif­er­a­tion of exchange traded funds (ETFs) and exchange traded prod­ucts (ETPs)2 have allowed investors to effi­ciently imple­ment com­mod­ity expo­sure to their port­fo­lios in a num­ber of dif­fer­ent ways. Through ETFs and ETPs, investors can access com­mod­ity futures, com­mod­ity related com­pa­nies and in some cases, spot prices. Investors should how­ever first be cog­nisant that dif­fer­ent com­mod­ity sub-groups react dif­fer­ently to macro-economic events and each also has its own fun­da­men­tal and tech­ni­cal trad­ing pat­terns. Sec­ondly, how each ETF or ETP struc­ture reacts to these same macro-events can also be dif­fer­ent based on how it is access­ing the spe­cific under­ly­ing com­mod­ity (ie through spot, futures or equities).

For fur­ther infor­ma­tion on the advan­tages and dis­ad­van­tages of each com­mod­ity ETF/ETP struc­ture, please see the “Gain­ing Com­mod­ity Expo­sure Through ETFs” on our web­site. In the fol­low­ing pages, we will out­line our fun­da­men­tal and tech­ni­cal out­look on four major com­mod­ity sub­groups: agri­cul­ture, base met­als, energy and pre­cious metals.

• Agri­cul­ture. As we men­tioned at the begin­ning of the year in our BMO ETF 2011 Out­look Report, food price infla­tion will be a topic du jour this year, with global pop­u­la­tion antic­i­pated to hit seven bil­lion and the ris­ing wealth in the emerg­ing nations con­tin­u­ing to place upward pres­sure on soft com­mod­ity prices. Fur­ther­more, extreme weather pat­terns over the last year in Aus­tralia and Latin Amer­ica will lead to tighter sup­plies. Already this year, we have seen the
future con­tracts of a num­ber of soft com­modi­ties such as wheat hit its limit up3 in trading.

Now with a num­ber of agri­cul­ture com­mod­ity con­tracts such as wheat, corn and soy­beans cur­rently trad­ing in backwardation4 or in mild contango5, we pre­fer attain­ing soft-commodity expo­sure through futures based ETFs/ETPs. Some agri­cul­ture related com­pa­nies may expe­ri­ence expan­sion at the mid­dle por­tion of their income state­ments should they not be able to pass full grain cost appre­ci­a­tion to con­sumers. As a result, futures may pro­vide a more pure expo­sure to higher agri­cul­ture prices con­sid­er­ing the cur­rent char­ac­ter­is­tics of the com­mod­ity curve. We would cau­tion how­ever, that with the strong run up in many of the agri­cul­ture con­tracts, we would look at tech­ni­cal indi­ca­tors such as RSI6 and MACD7 for entry points.

Poten­tial Invest­ment Opportunities:

• BMO Agri­cul­ture Com­mod­ity Index ETF (ZCA)
– on pullbacks.

• Base met­als. Base met­als as a group saw very siz­able returns in 2009 with the S&P/GSCI Indus­trial Met­als Spot Index gain­ing 91.2%. As cop­per, zinc and nickel are largely tied to indus­trial pro­duc­tion, prices in these met­als are rather sen­si­tive to eco­nomic expan­sion. In addi­tion base metal prices are highly cor­re­lated to stock mar­ket sen­ti­ment, given equity val­ues on a whole are also a lead­ing macro-economic indi­ca­tor. In 2010, volatil­ity in equity mar­ket sen­ti­ment with
investors switch­ing fre­quently between the “risk-on” and “risk-off” trade, led base met­als as a group to lag other com­mod­ity groups. We are the least favourable on base met­als when look­ing for assets to best opti­mize a portfolio’s risk/return char­ac­ter­is­tics because of the high cor­re­la­tion between cop­per, zinc and other indus­trial met­als to equity prices.

More­over, as we see equity mar­ket volatil­ity shocks to be a com­mon theme this year, base metal future trades should be uti­lized more for higher-beta momen­tum trades based on tim­ing than port­fo­lio con­struc­tion build­ing blocks. For investors look­ing for base metal expo­sure, we do how­ever cur­rently favour futures based ETPs over equity-based ETFs as base-metal related com­pa­nies have run sig­nif­i­cantly against the S&P/GSCI Indus­trial Met­als Spot Index. The futures curve char­ac­ter­is­tics for base met­als are mixed with a num­ber of con­tracts recently mov­ing to a steeper back­war­da­tion. Nev­er­the­less, prod­ucts incor­po­rat­ing a “smart-roll” fea­ture that look to reduce roll effects should be con­sid­ered by those desir­ing expo­sure in this area.

Poten­tial Invest­ment Opportunities:

• BMO Base-Metals Com­mod­ity Index ETF (ZCA)
– for momen­tum based trades.

• Energy. Energy prices remain one of the wild­cards in the revival of the global econ­omy. Should Brent crude prices and, to a lesser extent, West Texas Inter­me­di­ate (WTI) defy grav­ity for a sus­tained period of time, it could poten­tially put the brakes on the global recov­ery as higher oil prices would increase every­thing from costs of pro­duc­tion inputs to trans­porta­tion. How­ever, much of the recent rise in crude prices is also a result of the mar­kets pric­ing in a risk pre­mium and an emo­tional ele­ment, seen through a widen­ing gap between implied and real­ized volatil­ity on crude.

Investors with an extremely short-term hori­zon may want to con­sider futures-based energy ETPs. Though we wouldn’t be sur­prised to see the price of Brent crude and WTI rise fur­ther, it comes at a higher risk/reward trade-off given the siz­able amount of emo­tion that is cur­rently priced into oil. Last month, when rumours that Libyan leader Muam­mar Gaddafi was shot broke out, the emo­tional pre­mium in oil prices quickly dis­si­pated before rapidly recov­er­ing after the news was declared
false. This demon­strated the exces­sive level of polit­i­cal pre­mium cur­rently built into crude prices. An invest­ment in crude through futures is there­fore an indi­rect bet that tur­moil in the Mid­dle East will con­tinue. Addi­tion­ally as we had fore­casted back in Jan­u­ary, higher crude prices would come at higher volatil­ity lev­els this year. As such, we believe oil related com­pa­nies have a bet­ter risk/reward trade-off at this point, even if they have lagged crude prices as they show a more sta­ble trend and have exhib­ited lower volatil­ity levels.

Poten­tial Invest­ment Opportunities:

• BMO Energy Com­mod­ity Index ETF (ZCE)
– Shorter-term investors

• BMO Junior Oil Index ETF (ZJO)
– Longer-term investors

• Pre­cious Met­als. Of the four com­mod­ity groups men­tioned, pre­cious met­als have shown to be the least cor­re­lated to broad based equi­ties. The non-correlation to both the S&P 500 Com­pos­ite Index and the S&P/TSX Com­pos­ite Index is largely the affect of the market’s uti­liza­tion of pre­cious met­als, such as gold, as a multi-purpose hedge. Last year, the sov­er­eign debt cri­sis and con­cerns of a global cur­rency war led to the use of pre­cious met­als as a hedge against fiat cur­ren­cies. This year, with food and com­mod­ity prices ris­ing, money is slowly tran­si­tion­ing out of the for­mer trade as an alter­na­tive cur­rency and into a hedge against infla­tion concerns.

On a tech­ni­cal level, gold prices have recently shown strength par­tic­u­larly against the equity mar­ket and base met­als. Within the pre­cious met­als sec­tor, small-cap gold com­pa­nies, which we were extremely bull­ish on through­out 2010, have recently been gain­ing rel­a­tive strength against large-cap gold com­pa­nies. Investors look­ing for port­fo­lio diver­si­fi­ca­tion may want to con­sider bul­lion or ETPs that track gold through bul­lion or futures, whereas investors look­ing for ways to gen­er­ate port­fo­lio alpha should con­sider junior gold companies.

Poten­tial Invest­ment Opportunities:

• BMO Pre­cious Met­als Com­mod­ity Index ETF (ZCP)
– Investors look­ing for port­fo­lio diversification

• BMO Junior Gold Index ETF (ZJO) – Investors look­ing
to gen­er­ate port­fo­lio alpha

In con­clu­sion, we believe com­mod­ity expo­sure will remain an instru­men­tal build­ing block for both insti­tu­tional and retail port­fo­lios. How­ever, with cor­re­la­tions between com­mod­ity sub-groups on the decline, investors should first con­sider the sub-group of com­modi­ties that will best opti­mize their invest­ment strat­egy and then deter­mine the invest­ment struc­ture that is best suited to exe­cute their objec­tives. With the pos­si­bil­ity of the removal of QE2 stim­u­lus by the Fed quickly approach­ing, investors will also need to con­sider indi­vid­ual sup­ply and demand fun­da­men­tals of each com­mod­ity since the refla­tion trade will be less preva­lent in keep­ing all com­modi­ties afloat.

Foot­notes

1 Quan­ti­ta­tive eas­ing: An uncon­ven­tional mon­e­tary pol­icy used by some cen­tral banks when tra­di­tional mea­sures have not pro­duced the desired effect. Money sup­ply is typ­i­cally increased in an effort to pro­mote increased lend­ing and liquidity.

2 Exchange-traded prod­ucts (ETPs): A broader cat­e­go­riza­tion of exchange-traded funds that also include prod­ucts that hold com­modi­ties, futures and other asset types.

3 Limit up: The max­i­mum amount by which the price of a com­mod­ity futures con­tract may advance in one trad­ing day. Some mar­kets close trad­ing of these con­tracts when the limit up is reached; whereas oth­ers allow trad­ing to resume if the price moves away from the day’s limit. If there is a major event affect­ing the market’s sen­ti­ment toward a par­tic­u­lar com­mod­ity, it may take sev­eral trad­ing days before the con­tract price fully reflects this change. On each trad­ing day, the trad­ing limit will be reached before the market’s equi­lib­rium con­tract price is met.

4 Back­war­da­tion: When the futures price is below the expected future spot price. Con­se­quently, the price will rise to the spot price before the deliv­ery date.

5 Con­tango: When the futures price is above the expected future spot price. Con­se­quently, the price will decline to the spot price before the deliv­ery date.

6 RSI: Rel­a­tive Strength Index is a tech­ni­cal momen­tum indi­ca­tor that com­pares the mag­ni­tude of recent gains to recent losses in an attempt to deter­mine over­bought and over­sold con­di­tions of an asset. A read­ing of 30 or less is gen­er­ally con­sid­ered over­sold, whereas a read­ing of 70 or more will be con­sid­ered overbought.

7 MACD: Mov­ing Aver­age Con­ver­gence Diver­gence: A trend-following momen­tum indi­ca­tor that shows the rela­tion­ship between two mov­ing aver­ages of prices. The MACD is cal­cu­lated by sub­tract­ing the 26-day expo­nen­tial mov­ing aver­age (EMA) from the 12-day EMA. A nine-day EMA of the MACD, called the “sig­nal line”, is then plot­ted on top of the MACD, func­tion­ing as a trig­ger for buy and sell signals.

For more infor­ma­tion on BMO ETFs, please visit our web­site bmo.com/etfs or con­tact your finan­cial advisor.

To be added to the dis­tri­b­u­tion list for our Monthly Strat­egy Report and Trade Oppor­tu­ni­ties Report, please visit our home­page at bmo.com/etfs to sub­scribe or email alfred.lee@bmo.com with title: “Add to dis­tri­b­u­tion list.”

Stan­dard & Poor’s®, S&P® and S&P GSCI® are reg­is­tered trade­marks of Stan­dard & Poor’s Finan­cial Ser­vices LLC (“S&P”) and have been licensed for use by BMO Asset Man­age­ment Inc. BMO Agri­cul­ture Com­mod­ity Index ETF, BMO Base Met­als Com­mod­ity Index ETF, BMO Energy Com­mod­ity Index ETF, BMO Pre­cious Met­als Com­mod­ity Index ETF are not spon­sored, endorsed, sold or pro­moted by S&P or its Affil­i­ates and S&P and its Affil­i­ates make no rep­re­sen­ta­tion, war­ranty or con­di­tion regard­ing the advis­abil­ity of buy­ing, sell­ing or hold­ing units of the ETFs.

Com­mis­sions, man­age­ment fees and expenses all may be asso­ci­ated with invest­ments in exchange traded funds. Please read the prospec­tus before invest­ing. The funds are not guar­an­teed, their val­ues change fre­quently and past per­for­mance may not be repeated.

This com­mu­ni­ca­tion is intended for infor­ma­tional pur­poses only and is not, and should not be con­strued as, invest­ment and/or tax advice to any indi­vid­ual. Par­tic­u­lar invest­ments and/or trad­ing strate­gies should be eval­u­ated rel­a­tive to each individual’s cir­cum­stances. Indi­vid­u­als should seek the advice of pro­fes­sion­als, as appro­pri­ate, regard­ing any par­tic­u­lar investment.

BMO ETFs are admin­is­tered and man­aged by BMO Asset Man­age­ment Inc., a port­fo­lio man­ager and a sep­a­rate legal entity from the Bank of Montréal.

® Reg­is­tered trade-marks of Bank of Montréal.

Tags: Alfred Lee, Asset Classes, Asset Management Inc, BMO, BMO ETFs, Central Banks, Commodities, Commodity Prices, Correlation Matrices, Credit Crisis, Currency, Currency Values, Economic Fundamentals, Emerging Markets, energy, ETF, ETFs, Global Commodity, Global Economy, Gold, Instalment, Investment Strategist, Last Decade, Last Ten Years, Macro Factors, Monetary Policies, oil, Political Turmoil, Portfolio Construction, Rear View, Retail Investors, Strategy Report, Structured Investments, Tsunami In Japan
Posted in Commodities, Credit Markets, Energy & Natural Resources, ETFs, Gold, Markets, Oil and Gas, Outlook | Comments Off

Tilting Toward Energy

Tuesday, March 29th, 2011

Tilt­ing Toward Energy

by Brad Sorensen, CFA, Direc­tor of Mar­ket and Sec­tor Analy­sis, Schwab Cen­ter for Finan­cial Research
March 23, 2011

Key Points

• Despite dra­matic cur­rent events impact­ing mar­kets, tac­ti­cal shifts to your energy-sector allo­ca­tion could add a small per­for­mance boost over the next sev­eral months.
• Volatil­ity will likely remain ele­vated as events unfold in the Mid­dle East and recov­ery con­tin­ues from the dev­as­tat­ing dis­as­ter in Japan.
• For investors look­ing to make shorter-term, tac­ti­cal adjust­ments to a portfolio.

Whether you're look­ing at the lat­est news­pa­per head­lines or watch­ing cable news, there's a lot going on to make investors ner­vous. How might you adjust your port­fo­lio mix in light of increased geopo­lit­i­cal ten­sions cen­tered in oil-producing areas of the world, the tragedy in Japan, and esca­lat­ing infla­tion fears?

If you're look­ing to make shorter-term adjust­ments to your portfolio—tactical shifts—we believe increas­ing your allo­ca­tion to the energy sec­tor may boost your per­for­mance over the next sev­eral months. A note of cau­tion, how­ever: This does not mean going whole hog into energy, but rather allo­cat­ing a few per­cent­age points more of your stock allo­ca­tion to the sector.

It may also take a bit of a strong stom­ach over the next sev­eral months to be invest­ing in energy. Volatil­ity will likely remain ele­vated as events unfold in the Mid­dle East and recov­ery con­tin­ues from the dev­as­tat­ing dis­as­ter in Japan.

Strong demand likely to con­tinue …
We've seen the price of oil pull back after the earth­quake and tsunami as con­cerns grew that the world's third-largest importer of crude would see demand lessen. While that's prob­a­ble to a small extent, we believe it's a short-term phe­nom­e­non, and that an eas­ing of prices should help keep global demand solid.

We'd moved the energy sec­tor to an out­per­form rat­ing before the ten­sions began to esca­late, and we believe the under­ly­ing story remains firm. The world econ­omy is now solidly in expan­sion mode, which likely means an increase in demand for energy—especially in the all-important United States and China. Encour­ag­ingly to us, China has been tight­en­ing mon­e­tary pol­icy, but its demand for energy has remained solid, and the energy sec­tor appears to be tak­ing the tight­en­ing action in stride.

Addi­tion­ally, adding to the energy sup­ply is cer­tainly pos­si­ble in the longer term should reg­u­la­tions loosen in the United States, but in the near term it seems unlikely that a large amount of new drilling will be allowed—helping keep new sup­ply lim­ited. Cer­tainly there's an ele­ment of spec­u­la­tion that's keep­ing the price of oil ele­vated, but with global ten­sions likely to remain height­ened, we don't see that pre­mium being pared back to any great degree in the near future.

… but risks do remain
There are, of course, risks to the sec­tor, which is one rea­son we con­tinue to advo­cate a diver­si­fied port­fo­lio. The largest risk we see right now is demand destruc­tion due to ever-higher prices. At some point—likely if we were to approach $150 per bar­rel in the near term—economies around the world would slow down, as prices at those lev­els would be a sub­stan­tial "tax" on nations.

As a result, energy demand would likely be pared back, result­ing in declin­ing prices and at least a short-term period of under­per­for­mance for energy stocks. We don't believe this is an overly large risk, how­ever, as The Orga­ni­za­tion of the Petro­leum Export­ing Coun­tries (OPEC) has indi­cated that it rec­og­nizes that risk and stands ready to increase sup­ply if needed to limit price gains.

Instead of fear­ing the increase in energy prices and the geopo­lit­i­cal sit­u­a­tion, we sug­gest you attempt to use some tac­ti­cal adjust­ment to try to make money on the increased fear and uncer­tainty. And with more sector-specific invest­ment vehi­cles avail­able, increas­ing your allo­ca­tion to the energy sec­tor in a diver­si­fied way is open to more investors.

Impor­tant Dis­clo­sures

Due to the sec­tor focus of this strat­egy, investors may expe­ri­ence greater volatil­ity than invest­ments with a broader invest­ment strat­egy. This strat­egy is not intended to serve as a com­plete invest­ment pro­gram by itself.

Schwab Sec­tor Views do not rep­re­sent a per­son­al­ized rec­om­men­da­tion of a par­tic­u­lar invest­ment strat­egy to you. You should not buy or sell an invest­ment with­out first con­sid­er­ing whether it is appro­pri­ate for you and your port­fo­lio. Addi­tion­ally, you should review and con­sider any recent mar­ket news.The Schwab Cen­ter for Finan­cial Research is a divi­sion of Charles Schwab & Co., Inc.

Diver­si­fi­ca­tion strate­gies do not assure a profit and do not pro­tect against losses in declin­ing markets.

The infor­ma­tion con­tained herein is obtained from sources believed to be reli­able, but its accu­racy or com­plete­ness is not guar­an­teed. This report is for infor­ma­tional pur­poses only and is not a solic­i­ta­tion or a rec­om­men­da­tion that any par­tic­u­lar investor should pur­chase or sell any par­tic­u­lar secu­rity. Schwab does not assess the suit­abil­ity or the poten­tial value of any par­tic­u­lar invest­ment. All expres­sions of opin­ions are sub­ject to change with­out notice.

Copy­right © Charles Schwab & Co., Ltd.

Tags: Cable News, Caution, China, Current Events, Earthquake, energy, energy sector, Expansion Mode, Global Demand, Inflation Fears, Largest Importer, oil, Percentage Points, Portfolio Mix, Price Of Oil, Schwab, Sector Allocation, Sector Analysis, Stock Allocation, Tensions, Volatility, Whole Hog, World Economy
Posted in Energy & Natural Resources, Markets, Oil and Gas | Comments Off

To QE or Not to QE? That is the Question

Sunday, March 27th, 2011

To QE or Not to QE? That is the Ques­tion
March 25, 2011
by Paul Kas­riel and Asha Ban­ga­lore, North­ern Trust

Down­load PDF Version

At its March 15 meet­ing, the FOMC decided to con­tinue with its pro­gram of quan­ti­ta­tive eas­ing, which would result in a net increase of $600 bil­lion of Fed­eral Reserve hold­ings of secu­ri­ties by the end of June. Of course, the FOMC issued a pro­viso with its deci­sion. To wit, "The Com­mit­tee will reg­u­larly review the pace of its secu­ri­ties pur­chases and the over­all size of the asset-purchase pro­gram in light of incom­ing infor­ma­tion and will adjust the pro­gram as needed to best fos­ter max­i­mum employ­ment and price sta­bil­ity."  Upon what "incom­ing infor­ma­tion" should the Com­mit­tee base its deci­sion to mod­ify its quan­ti­ta­tive eas­ing pol­icy between now and June or, as impor­tant, beyond June?

The con­ven­tional wis­dom is that the FOMC should base its QE deci­sion on incom­ing infor­ma­tion related to the behav­ior of the real econ­omy and infla­tion. The pre­pon­der­ance of recent incom­ing infor­ma­tion with regard to the per­for­mance of the real econ­omy has been good, if not bet­ter than expected. One excep­tion is data related to the per­for­mance of the hous­ing sec­tor. Data relat­ing to prices of goods and ser­vices show an accel­er­a­tion in the rate of increase in gen­eral indices of these prices. To some degree, neg­a­tive sup­ply shocks, such as geopo­lit­i­cal and cli­matic events, have boosted the prices of energy and food prices. Nev­er­the­less, these prices count in the ulti­mate "box score," too. So, bar­ring a near-term rever­sal of trends in incom­ing data with regard to real eco­nomic and goods/services price per­for­mance, con­ven­tional wis­dom would sug­gest the FOMC should ter­mi­nate its quan­ti­ta­tive eas­ing pro­gram at the end of June, if not sooner.

After hav­ing read our com­men­taries through the years, you will not be sur­prised that we have a cri­te­rion for decid­ing on the issue of con­tin­u­ing or end­ing quan­ti­ta­tive eas­ing that is out of the main­stream. We believe that the FOMC should look to the behav­ior of a credit aggre­gate we have called Mon­e­tary Finan­cial Insti­tu­tion (MFI) credit for guid­ance with regard to its quantitative-easing deci­sions.  To refresh your mem­ory, MFI credit is the sum of the credit cre­ated by the Fed­eral Reserve, the com­mer­cial bank­ing sys­tem, the sav­ings and loan sys­tem and the credit union sys­tem. All of these enti­ties have the abil­ity to cre­ate credit fig­u­ra­tively "out of thin air." The Fed­eral Reserve can the­o­ret­i­cally cre­ate an unlim­ited amount of credit out of thin air. The com­mer­cial bank­ing, sav­ings and loan and credit union system's abil­ity to cre­ate credit out of thin air is lim­ited by the amount of "seed" money pro­vided them by the Fed­eral Reserve. A unique char­ac­ter­is­tic of an increase in MFI credit is that no entity in the econ­omy needs to cut back on its cur­rent spend­ing when the recip­i­ents of MFI credit increase their cur­rent spend­ing. This cat­e­gor­i­cally can­not be said of increases in non-MFI credit.  The gen­e­sis of MFI credit is the Aus­trian school of eco­nomic thought's con­cept of cre­ated credit. A the­o­ret­i­cal impli­ca­tion of the unique char­ac­ter­is­tic of MFI credit — recip­i­ents of MFI credit increase their cur­rent spend­ing while no other entity need cut back on its cur­rent spend­ing — is that changes in MFI credit would be pos­i­tively cor­re­lated with changes in nom­i­nal GDP, the value of goods and ser­vices pro­duced in the economy.

Chart 1 shows the rela­tion­ship between year-over-year per­cent changes in MFI credit and year-over-year per­cent changes in nom­i­nal GDP. The obser­va­tions are quar­terly, start­ing in Q1:1960 and end­ing in Q4:2010. Dur­ing this inter­val, the aver­age year-over-year change in MFI credit was 7.6%. The year-over-year change in MFI credit in Q4:2010 was only 3.0%. The cor­re­la­tion between the two series is, in fact, pos­i­tive and the cor­re­la­tion coef­fi­cient between the two series is 0.59. If the inter­val were trun­cated at Q4:2007, the cor­re­la­tion coef­fi­cient would rise to 0.64. In 2008, when Lehman Broth­ers failed, the com­mer­cial paper mar­ket shut down. In response, cor­po­ra­tions drew down their credit lines at com­mer­cial banks for pre­cau­tion­ary rea­sons, not for the pur­pose of cur­rent spend­ing. As a result, MFI credit spiked as GDP growth contracted.

Chart 1

As men­tioned above, the year-over-year change in total MFI credit was up by 3.0% — a rel­a­tively slow rate of growth in an his­tor­i­cal con­text. We do not have monthly data for sav­ings and loan and credit union credit. We do, how­ever, have monthly data for Fed­eral Reserve and com­mer­cial bank credit. As of Q4:2010, com­mer­cial bank­ing sys­tem credit accounted for almost 84% of pri­vate MFI credit — i.e., the sum of com­mer­cial bank, sav­ings and loan and credit union credit. Chart 2 shows the year-over-year per­cent change in monthly obser­va­tions of the sum of Fed­eral Reserve and com­mer­cial bank credit. As of Feb­ru­ary, the year-over-year change in this credit aggre­gate had risen to 4.5%.  Chart 3 shows the year-over-year per­cent changes in monthly obser­va­tions of Fed­eral Reserve and com­mer­cial bank credit sep­a­rately. Chart 2 shows that the recent accel­er­a­tion in the growth of Fed­eral Reserve credit is what accounts for the recent accel­er­a­tion in growth in com­bined Fed­eral Reserve and com­mer­cial bank credit. To fur­ther empha­size the point that increases in Fed­eral Reserve credit are the dri­ver behind recent increases in com­bined Fed­eral Reserve and com­mer­cial bank credit, Chart 4 shows that in the 19 weeks ended March 9, approx­i­mately the time the FOMC has been engaged in its sec­ond round of quan­ti­ta­tive eas­ing, Fed­eral Reserve credit has increased a net $283 bil­lion and com­mer­cial bank credit has decreased a net $118 billion.

Chart 2

Chart 3

Chart 4

To sum­ma­rize, his­tor­i­cally, per­cent changes in MFI credit "explain" a large pro­por­tion of per­cent changes in nom­i­nal GDP. Com­mer­cial bank credit accounts for the largest com­po­nent of pri­vate MFI credit. Since the FOMC com­menced its sec­ond round of quan­ti­ta­tive eas­ing in early Novem­ber 2010, the increase in com­bined Fed­eral Reserve and com­mer­cial bank credit has been dom­i­nated by the increases in Fed­eral Reserve credit. If the FOMC ter­mi­nates its quan­ti­ta­tive eas­ing pol­icy in June and pri­vate MFI credit cre­ation does not pick up, then total MFI credit growth will slow, per­haps even con­tract. All else the same, this would augur poorly for nom­i­nal GDP growth in the sec­ond half of 2011.

The FOMC has given no pub­lic indi­ca­tion that its cri­te­rion for con­tin­u­ing or ter­mi­nat­ing quan­ti­ta­tive eas­ing beyond June is based on our con­cept of MFI credit. Regard­less of the FOMC's cri­te­rion, if the FOMC were to ter­mi­nate quan­ti­ta­tive eas­ing after June and pri­vate MFI credit cre­ation fails to pick up, we would be inclined to lower our second-half 2011 nom­i­nal GDP fore­cast with the real com­po­nent of nom­i­nal GDP account­ing for most of the lower growth forecast.

Another fac­tor that might lead us lower our second-half real GDP fore­cast would be the rise in the price of crude oil. The price of crude oil had been trend­ing higher since the late fall of 2010. Then, in mid­dle of Feb­ru­ary 2011, the price of crude oil spiked higher in reac­tion to actual or antic­i­pated declines in pro­duc­tion, pri­mar­ily from Libya, which accounts for about 2% of global crude oil pro­duc­tion.  All else the same, this would be stagfla­tion­ary. An out­right decline in the sup­ply of crude oil would limit the global economy's and the U.S. economy's abil­ity to grow because of supply-side con­straints. If MFI credit growth remained the same in the face of slower short-run poten­tial real GDP growth, then higher infla­tion would ensue. We are not yet pre­pared to revise down our second-half real GDP fore­cast or revise up our second-half CPI infla­tion fore­cast because we are not yet con­vinced that cut­backs in Libyan crude oil pro­duc­tion will lead to cor­re­spond­ing cut­backs in global crude oil pro­duc­tion in the sec­ond half of 2011. We assume that there is enough excess pro­duc­tion capac­ity by other oil pro­duc­ers to make up for any Libyan short­fall. We would be more inclined to reduce our real GDP growth fore­cast and raise our CPI infla­tion fore­cast if civil unrest led to a decline in Saudi Arabia's crude oil production.

The dev­as­ta­tion to the Japan­ese econ­omy as a result of the recent tsunami will limit that economy's abil­ity to grow in the imme­di­ate future due to the destruc­tion of its cap­i­tal stock. At the same time, if the Japan­ese cen­tral gov­ern­ment increases its spend­ing to rebuild destroyed infra­struc­ture and the Bank of Japan and/or pri­vate Japan­ese MFIs cre­ate the credit to fund the increased Japan­ese gov­ern­ment spend­ing, then Japan­ese imports of raw mate­ri­als, includ­ing petro­leum prod­ucts, will increase. All else the same, this will put upward pres­sure on global com­mod­ity prices and stim­u­late exports of raw mate­ri­als from other economies. As men­tioned, because of eco­nomic dev­as­ta­tion from the tsunami, Japan­ese pro­duc­tion of some goods has been adversely affected. To the degree that other economies pro­duce the same or sim­i­lar goods, these economies will expe­ri­ence increased demand for these goods. For exam­ple, in the U.S., we would expect the demand for Ford Motor Company's hybrid auto­mo­biles to increase in the face of a reduced sup­ply of the Toy­ota Prius model.  To the degree that Japan­ese gov­ern­ment spend­ing increases to rebuild Japan­ese infra­struc­ture and this increased Japan­ese gov­ern­ment spend­ing is financed by Japan­ese MFI credit, then an infla­tion­ary impulse would be trans­mit­ted to the global econ­omy, includ­ing the econ­omy of the U.S. As more infor­ma­tion is forth­com­ing, we will make appro­pri­ate adjust­ments to our forecast.

*Paul Kas­riel is the recip­i­ent of the Lawrence R. Klein Award for Blue Chip Fore­cast­ing Accuracy

The opin­ions expressed herein are those of the author and do not nec­es­sar­ily rep­re­sent the views of The North­ern Trust Com­pany. The North­ern Trust Com­pany does not war­rant the accu­racy or com­plete­ness of infor­ma­tion con­tained herein, such infor­ma­tion is sub­ject to change and is not intended to influ­ence your invest­ment decisions.

Copy­right © North­ern Trust

Tags: Asha, Asset Purchase, Box Score, Climatic Events, Conventional Wisdom, energy, Federal Reserve, Fomc, Food prices, Incoming Data, Information With Regard, Infrastructure, Maximum Employment, Northern Trust, oil, Paul Kasriel, Preponderance, Price Performance, Price Stability, Proviso, Qe, Sector Data, Supply Shocks
Posted in Credit Markets, Energy & Natural Resources, Infrastructure, Markets, Oil and Gas | Comments Off

What's Driving Russia's Outperformance?

Sunday, March 27th, 2011

What's Dri­ving Russia's Outperformance?

By Frank Holmes, John Der­rick and Tim Steinle, Co-managers of the U.S. Global Investors East­ern Euro­pean Fund (EUROX)

The Russ­ian MICEX Index, which increased 22.5 per­cent in 2010, has jumped 15 per­cent so far in 2011, sig­nif­i­cantly out­per­form­ing many other mar­kets.

China is the second-best per­former of the BRICs, ris­ing more than 5 per­cent, while India (down over 10 per­cent) and Brazil (down over 2 per­cent) have lagged. Over­all, the MSCI Emerg­ing Mar­kets Index has dropped just over 1 percent.

This has effec­tively recou­pled Rus­sia with the other BRIC coun­tries. The Russ­ian econ­omy lagged out-of-the-gate once the global recov­ery began, lead­ing some to ques­tion whether it belonged in the same cat­e­gory as Brazil, China and India. Those sen­ti­ments seemed pre­ma­ture and symp­to­matic of an anti-Russia mindset.

Russian’s out­per­for­mance has been dri­ven by sev­eral fac­tors. First, the Russ­ian ruble has appre­ci­ated 7 per­cent against the U.S. dol­lar, boost­ing stock mar­ket per­for­mance for U.S. investors.  This devel­op­ment also has a long-term ben­e­fit as a strong ruble ben­e­fits the country’s domes­tic sec­tors, some­thing we’ll dis­cuss later.

A sec­ond fac­tor dri­ving Rus­sia has been the geopo­lit­i­cal and nat­ural dis­as­ter events that have tran­spired dur­ing the past few weeks. Rus­sia is rel­a­tively safe from the type of polit­i­cal upris­ings seen in the Mid­dle East and North Africa. Its gov­ern­ment is decid­edly pop­u­lar with the pub­lic and the one-two punch of Pres­i­dent Medvedev and Prime Min­is­ter Putin give the gov­ern­ment clout on both inter­na­tional and domes­tic fronts.

The price of oil has risen roughly 25 per­cent since the unrest and tur­moil began in the Mid­dle East and North Africa.  As an energy exporter of crude oil and nat­ural gas, Rus­sia is one of the few large economies in the world that directly ben­e­fits from higher energy prices.

Rus­sia is the world’s largest oil pro­ducer and it’s esti­mated that for every $10 increase in the aver­age annual price of oil, Russia’s rev­enues rise by $20 bil­lion, accord­ing to the Finan­cial Times.  Since Rus­sia is not a mem­ber of OPEC, it is not bound by pro­duc­tion caps and can increase pro­duc­tion as it sees fit while prices are at ele­vated levels.

Rus­sia is also the world’s top exporter of nat­ural gas and Strat­for Intel­li­gence points out the sit­u­a­tion in Libya has shut down 11 bil­lion cubic-meters of nat­ural gas flow to Italy. As Europe’s third-largest con­sumer of nat­ural gas, Italy has turned to Rus­sia for gas sup­plies. In addi­tion, a shut­down of sev­eral Japan­ese nuclear facil­i­ties could mean as much as a 14 per­cent increase in nat­ural gas con­sump­tion to meet the Japan’s energy demands.

In the energy sec­tor, the East­ern Euro­pean Fund (EUROX) port­fo­lio empha­sizes com­pa­nies that show strong growth in pro­duc­tion, reserves and cash flow, rel­a­tive to their peers. Specif­i­cally, Novatek, Ros­neft and TNK-BP fit this profile.

Russ­ian energy equi­ties, which carry the largest weight­ing in the MICEX, have gained 25 per­cent this year. This is higher than non-oil Russ­ian equi­ties, which have risen only 7.7 per­cent. How­ever, as oil and gas taxes swell the government’s rev­enue, these funds are increas­ingly allo­cated to social and pub­lic works pro­grams which are likely to cre­ate an oppor­tu­nity for non-energy related equi­ties. These sec­tors appear poised to ben­e­fit from the cur­rent macro­eco­nomic environment.

This table from Mer­rill Lynch shows the per­for­mance of the dif­fer­ent sec­tors of the Russ­ian mar­ket fol­low­ing a sus­tained rise in oil prices. Mer­rill Lynch com­piled research on the seven instances where oil prices rose 20 per­cent in a two-month span and main­tained at least half those gains over the fol­low­ing six month period.

His­tor­i­cally, the aver­age gain for Russ­ian equi­ties is more than 34 per­cent. While energy gen­er­ally jumps out ahead when oil prices move higher, you can see that it lags other sec­tors as the rally pro­gresses. We have long been pos­i­tive on both Russ­ian finan­cials and the con­sumer sec­tor and these sec­tors appear well posi­tioned going forward.

Consumer-oriented equi­ties such as retail­ers have his­tor­i­cally been the best per­form­ers, net­ting an 85 per­cent gain on aver­age and triple the gain of energy equi­ties. Retail­ers X5 and Mag­nit should be able to cap­i­tal­ize on these trends. Russ­ian finan­cials are next with an aver­age 83 per­cent gain. Sber­bank, Russia’s largest bank, is the largest hold­ing in EUROX.

Another area that could directly ben­e­fit from the Kremlin’s cash-filled pock­ets is infra­struc­ture. Rus­sia is in dire need of a sig­nif­i­cant revamp­ing of its infra­struc­ture. Sim­i­lar to the Amer­i­can Soci­ety of Civil Engi­neers report that rates America’s  infra­struc­ture a “D,” the World Eco­nomic Forum says the qual­ity of Russia’s infra­struc­ture lags that of other emerg­ing coun­tries such as South Africa, Turkey, China and Mexico.

The areas most in need of upgrad­ing are Russia’s trans­porta­tion and elec­tri­cal power grid. The qual­ity of Russia’s roads ranks in the bottom-third in the world, accord­ing to Mer­rill Lynch, and it’s esti­mated that Rus­sia loses 6 per­cent of GDP each year due to under­de­vel­oped roads. In fact, the com­bined length of Russia’s road­ways declined 6 per­cent between 2002 and 2010 despite a 60 per­cent increase in car pen­e­tra­tion, Merrill-Lynch says.

It’s a sim­i­lar story for Russia’s air­ports and rail net­work. Rus­sia cur­rently has roughly 300 oper­a­tional air­ports but just 40 per­cent of them have paved run­ways and 30 per­cent do not have an air­field light­ing sys­tem, Mer­rill Lynch says. The rail net­work, almost entirely con­structed dur­ing the Soviet era, is highly con­cen­trated in the West­ern region of the coun­try and is esti­mated to require more than $70 bil­lion in invest­ment for upgrades and repairs by 2020, accord­ing to Mer­rill Lynch.

Russia’s aging power grid is unre­li­able and acci­dent prone. Mer­rill Lynch projects that sig­nif­i­cant invest­ment by 2020 is required to update and mod­ern­ize the grid. With indus­trial con­sumers account­ing for 85 per­cent of elec­tri­cal con­sump­tion, keep­ing the power up and run­ning is essen­tial to main­tain­ing Russia’s indus­trial pro­duc­tion levels.

To finance the much needed infra­struc­ture improve­ments, the Russ­ian gov­ern­ment cre­ated the $420 bil­lion Fed­eral Tar­get Pro­gram (FTP). The FTP focuses on key trans­porta­tion areas such as rails, autos, marine and civil aviation.

The FTP has spe­cific goals to meet by 2015 such as increas­ing the per­cent­age of roads that meet fed­eral stan­dards by 23 per­cent. The plan also calls for a 47 per­cent increase in the ship­ment of goods and a 40 per­cent increase in air­line pen­e­tra­tion through improve­ments of avi­a­tion infra­struc­ture.

In addi­tion to the FTP, three spe­cial events will help drive Russia’s infra­struc­ture spend­ing: The 2012 Asia-Pacific Eco­nomic Coöper­a­tion (APEC) Sum­mit, 2014 Win­ter Olympics in Sochi and the 2018 World Cup. Mer­rill Lynch esti­mates that total spend­ing for the World Cup will reach $50 bil­lion. Con­struc­tion for the Games in Sochi includes 161 miles of roads and 65 miles of rails, and the APEC calls for 48 new objects to be con­structed for a total of $83 million.

While higher energy prices are in dan­ger of slow­ing down con­sumers in the U.S., West­ern Europe and cer­tain emerg­ing mar­ket coun­tries, it has the oppo­site effect for the Russ­ian econ­omy. With increased cash flow from its nat­ural gas and crude oil exports, the Russ­ian gov­ern­ment has the much needed cap­i­tal to invest in the country’s aging infra­struc­ture and to sup­port domes­tic consumption.

This should drive out­per­for­mance of Russ­ian mar­kets through­out 2011 and stim­u­late demand for infrastructure-related com­modi­ties such as crude oil, cop­per, cement and iron ore.

Tags: Brazil, BRIC, Bric Countries, BRICs, China, Commodities, Disaster Events, Domestic Sectors, Emerging Markets, energy, Frank Holmes, Global Recovery, Holmes John, India, Infrastructure, John Derrick, Micex, Msci Emerging Markets, Msci Emerging Markets Index, Natural Disaster, oil, Oil Producer, Outperformance, Russia, Russian Economy, Russian Ruble, Steinle, Stock Market Performance, Term Benefit, U S Global Investors
Posted in Brazil, Commodities, Emerging Markets, Energy & Natural Resources, India, Infrastructure, Markets, Oil and Gas | Comments Off

U.S. Equity Market Cheat Sheet (March 28, 2011)

Sunday, March 27th, 2011

U.S. Equity Mar­ket Cheat Sheet (March 28, 2011)

The fig­ure below shows the per­for­mance of each sec­tor in the S&P 500 Index for the week. All ten sec­tors increased this week. The best-performing sec­tor for the week was energy which rose 4.08 per­cent. Other top-three sec­tors were tech­nol­ogy and mate­ri­als. Finan­cials was the worst per­former, up 0.50 per­cent. Other bottom-three per­form­ers were util­i­ties and healthcare.

Within the energy sec­tor the best-performing stock was Nabors Indus­tries which rose 10.67 per­cent. Other top-five per­form­ers were Massey Energy, Valero Energy, EOG Resources, and Range Resources.

Strengths

• The elec­tronic man­u­fac­tur­ing ser­vices group was the best-performing group for the week, up 9 per­cent, led by Jabil Cir­cuit. The firm reported sec­ond quar­ter earn­ings above the con­sen­sus esti­mate, and it pro­vided third quar­ter earn­ings guid­ance greater than the con­sen­sus. The strong guid­ance helped mit­i­gate con­cerns that the company’s busi­ness would be dis­rupted by effects of the Japan­ese earth­quake and tsunami.
• The edu­ca­tion ser­vices group out­per­formed, gain­ing 7 per­cent, with both mem­bers of the group (Apollo Group and DeVry) increas­ing. The Depart­ment of Edu­ca­tion is expected to issue gain­ful employ­ment reg­u­la­tions in late March or early April, and it appears that investors may be antic­i­pat­ing the rules to be soft­ened from the orig­i­nal proposal.
• The diver­si­fied sup­port ser­vice group was up 7 per­cent on strength in the stock of Iron Moun­tain. The data stor­age firm adopted a “poi­son pill” plan to fend off a hos­tile takeover by an activist investor.

Weak­nesses

• The com­puter & elec­tron­ics retail group lost 4 per­cent. The group’s largest mem­ber, Best Buy, sold off after pro­vid­ing earn­ings guid­ance below the con­sen­sus for the firm’s cur­rent fis­cal year. It also fore­cast that same-store-sales over the next 12 months would be flat at best and could decline by up to 3 per­cent as U.S. con­sumers deal with high unem­ploy­ment, a weak hous­ing mar­ket and high fuel prices.
• The tele­com wire­less ser­vices group under­per­formed, down 3 per­cent, led down by Sprint Nex­tel. The wire­less provider sold off fol­low­ing the announce­ment that AT&T had a con­tract to acquire T-Mobile USA. Some investors appeared to be con­cerned that Sprint might not have suf­fi­cient scale to com­pete with the enlarged AT&T and Ver­i­zon Communications.
• The other diver­si­fied finan­cial ser­vices group declined 2 per­cent. Group mem­ber Bank of Amer­ica declined after its request to increase its div­i­dend was denied by the Fed­eral Reserve Board.

Oppor­tu­ni­ties

• There may be an oppor­tu­nity for gain in merger & acqui­si­tion (M&A) trans­ac­tions in 2011. Cor­po­rate liq­uid­ity is high, thereby pro­vid­ing the means to pur­sue acquisitions.

Threats

• Should investors’ expec­ta­tions for an improv­ing econ­omy not come to fruition within a rea­son­able time frame, it could be a threat to stock prices.
• Quan­ti­ta­tive eas­ing cur­rently being imple­mented by the Fed might result in unin­tended consequences.
• The nuclear dis­as­ter in Japan cre­ates uncer­tainty, which is not good for stock prices.

Tags: Apollo Group, Best Buy, Consensus Estimate, Current Fiscal Year, Education Services Group, Electronic Manufacturing Services, Employment Regulations, energy, Eog Resources, Gainful Employment, Hostile Takeover, Jabil Circuit, Japanese Earthquake, Massey Energy, Nabors Industries, Performing Group, Poison Pill, Range Resources, Second Quarter Earnings, Storage Firm, Valero Energy
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Gold Market Cheat Sheet (March 28, 2011)

Sunday, March 27th, 2011

Gold Mar­ket Cheat Sheet (March 28, 2011)

For the week, spot gold closed at $1,429.75, up $10.84 per ounce, or 0.76 per­cent for the week. Gold equi­ties, as mea­sured by the Philadel­phia Gold & Sil­ver Index, rose 5.07 per­cent. The U.S. Trade-Weighted Dol­lar Index moved slightly higher, up 0.62 per­cent for the week.

Strengths

• The gold price rose to a record $1,447 per ounce, as unrest in Libya and the Mid­dle East and Portugal’s pos­si­ble $100 bil­lion bailout spurred demand for the pre­cious metal.
• Last week, the Utah leg­is­la­ture passed a bill allow­ing gold and sil­ver coins to be used as legal ten­der in the state, accord­ing to the true value of the metal in the coins and not by the face value stated on the coin. Sim­i­lar pro­pos­als have been devel­oped in Col­orado, Geor­gia, Indi­ana, Iowa, Mis­souri, Mon­tana, New Hamp­shire, Okla­homa, South Car­olina, Ten­nessee, Ver­mont, and Washington.
• In India, stan­dard 24-carat gold coins have been sell­ing extremely well at more than 466 post offices through­out the coun­try. Despite the high price, Indian con­sumers have been buy­ing small quan­ti­ties of coins to give dur­ing the fes­ti­val season.

Weak­nesses

• The Asso­ci­a­tion of Min­ing & Explo­ration Com­pa­nies (AMEC) reit­er­ated its oppo­si­tion of Australia’s Min­er­als Resource Rent Tax. AMEC’s chief exec­u­tive said it was extremely dis­ap­point­ing that con­cerns of mem­ber com­pa­nies have not been con­sid­ered by the fed­eral gov­ern­ment. “Sug­ges­tions by Trea­surer Swan that the indus­try has agreed with the Min­er­als Resource Rent Tax are incor­rect, as agree­ment was only reached with three large multi-national multi-commodity con­glom­er­ates and not other junior-tiered min­ing com­pa­nies that will be affected by this addi­tional tax.”
• The Las Vegas Review-Journal reported that Assem­bly­woman Peggy Pierce will intro­duce a bill that will cap the value of legally deductible expenses at 40 per­cent, which could cost the state’s min­ing indus­try more than $2 bil­lion in tax deductions.
• Nevada State Sen­ate Major­ity Leader Steve Hors­ford asked the Nevada Tax Com­mis­sion to embark on an emer­gency rule-making pro­ceed­ing that he hopes will fix the “incon­sis­ten­cies” and “loop­holes” that exist in Nevada’s net pro­ceeds of mines tax law. Rather than chang­ing Nevada’s Con­sti­tu­tion or remov­ing the cap on net pro­ceeds tax lim­its, Hors­ford seeks amend­ments to cur­rent allow­able deduc­tions for oper­at­ing costs, salaries, employee recruit­ment costs, mar­ket­ing, and con­vert­ing min­er­als into money. The Nevada law­maker would also elim­i­nate deduc­tions for con­sult­ing ser­vices, and, iron­i­cally, mine recla­ma­tion costs, which Hors­ford says should not be deducted because Nevada tax law did not pro­vide for mine recla­ma­tion deductions.

Oppor­tu­ni­ties

• Texas Rep­re­sen­ta­tive Ron Paul has sched­uled an April 1 hear­ing of the U.S. House Sub­com­mit­tee on Domes­tic Mon­e­tary Pol­icy to exam­ine the bul­lion pro­grams at the U.S. Mint. Last week Paul intro­duced H.R. 1098, the Free Com­pe­ti­tion in Cur­rency Act of 2011 that would repeal legal ten­der laws in order to pro­hibit tax­a­tion on gold, sil­ver, plat­inum, pal­la­dium and rhodium bul­lion. The Coin Mod­ern­iza­tion, Over­sight and Con­ti­nu­ity Act of 2010 gives the U.S. Mint greater flex­i­bil­ity in meet­ing the demand for bul­lion coins as well as meet­ing the demand for gold and sil­ver which Paul’s bill would change.
• Gold­man Sachs said it fore­cast gold prices ral­ly­ing to a record $1,480 an ounce in three months on declin­ing U.S. real inter­est rates. The bank said it still expects gold prices to reach a peak in 2012 as U.S. inter­est rates are set to rise as the econ­omy con­tin­ues to recover. Gold­man has a six-month gold view at $1,565 an ounce, and a 12-month fore­cast of $1,690 an ounce.
• In a bub­ble, mar­ket play­ers seek to sup­ply the mar­ket with as much as they can pos­si­bly sell at inflated prices. The price of gold has quadru­pled in the past ten years and the gold indus­try strug­gles to sus­tain new mine pro­duc­tion of bul­lion at the same level it was in 2001.

Threats

• Even as gold min­ers report stronger cash flows and good prof­its, costs are increas­ingly becom­ing an area of con­cern and some worry about the impact costs will have on cap­i­tal expen­di­ture. Min­ers are wor­ried that cap­i­tal spend­ing on new projects will become unman­age­able as labor, steel and energy costs keep push­ing higher.
• On top of that, gold min­ers have suf­fered as the Cana­dian dol­lar, Aus­tralian dol­lar, Chilean peso and Mex­i­can peso strength­ened against the U.S. dol­lar (sales of most min­ers are typ­i­cally denom­i­nated in U.S. dol­lars, while costs are often based in local “com­mod­ity” currencies).
• Min­ing exec­u­tives at the Reuters Global Min­ing and Steel Sum­mit noted that coun­tries threat­en­ing to seize a big­ger share of min­ing returns risk alien­at­ing investors and adding another layer of expense to an already increas­ing cost line.

Tags: 24 Carat Gold, Canadian, Canadian Market, Currency, Deductible Expenses, Dollar Index, energy, Exploration Companies, Georgia Indiana, Gold, Gold And Silver, Gold Coins, Gold Equities, Gold Market, Gold Price, India, Indian Consumers, Las Vegas Review Journal, Legal Tender, Philadelphia Gold, Silver, Silver Coins, Silver Index, Small Quantities, Spot Gold, Utah Legislature, Vegas Review Journal
Posted in Canadian Market, Gold, India, Markets, Silver | Comments Off

Energy and Natural Resources Market Cheat Sheet (March 28, 2011)

Sunday, March 27th, 2011

Energy and Nat­ural Resources Mar­ket Cheat Sheet (March 28, 2011)

Strengths

• Oil traded near a two-week high of approx­i­mately $106 a bar­rel this week as con­tin­ued fight­ing in Libya fanned con­cern that unrest in the Mid­dle East will fur­ther dis­rupt supply.
• The lat­est data release from World Steel shows that Feb­ru­ary global steel out­put equated to 1.52 bil­lion tons per annum, up 8.8 per­cent year-over-year and a new all-time record. China’s 708 mil­lion tons per annum was a big part of this. The biggest con­trib­u­tor to the 1.6 per­cent month-over-month rise was a 7.2 per­cent pick-up in Europe, back to the 200 mil­lion tons per annum level seen in the sec­ond quar­ter of 2010. Japan also posted its high­est monthly total since 2008 at 116 mil­lion tons per annum.
• US and Cana­dian demand for alu­minum prod­ucts, as mea­sured by ship­ments from domes­tic pro­duc­ers plus net imports, increased by 13 per­cent year-over-year in 2010, accord­ing to the Alu­minum Asso­ci­a­tion. Net new orders of alu­minum mill prod­ucts increased by 18 per­cent year-over-year in Jan­u­ary and Feb­ru­ary 2011. U.S. alu­minum pre­mi­ums con­tinue to rise, sup­ported by warehousing-financing deals, and are now reported at upwards of 6.5 cents per pound deliv­ered in the U.S. Midwest.
• Ana­lysts at Jef­feries high­lighted that signs of a tight diesel mar­ket were appar­ent even before recent events in Libya and Japan with Euro­pean diesel cracks already at two-year highs and fuel oil losses widen­ing, sug­gest­ing con­ver­sion units were oper­at­ing at near-to-full capac­ity. These events could tighten the global mid­dle dis­til­late supply/demand bal­ance of approx­i­mately 700,000 bar­rels per day with spare capac­ity falling to unprece­dented levels.
• Iron ore prices moved up dur­ing the week after a month-long slide, with The Steel Index 62% Fe assess­ment CFR China ris­ing 1 per­cent week-over-week to $166.4 per ton CFR China.
• After col­laps­ing from $67 per pound before Japan’s nuclear cri­sis to as low as $49 per pound, ura­nium prices rebounded to trade at $61–$62 per pound late this week.

Weak­nesses

• Due to higher coal prices and the Chi­nese New Year, China’s net ther­mal coal pur­chases fell 67 per­cent to 5 mil­lion met­ric tons last month, hit­ting a 23-month low. The week long Chi­nese New Year break affected the power demand last month. Domes­tic coal demand is expected to remain weak in com­ing months as heat­ing needs fall and hydropower gen­er­a­tion increases.
• Aus­tralian ther­mal prices remained weak on real­iza­tion of weaker demand from Japan. New­cas­tle Index price stood at $122.98 per ton on Tues­day, down from $126.32 a week before.
• Toy­ota, the world’s largest automaker, announced that it will cur­tail some of its pro­duc­tion in North Amer­ica due to a short­age of parts. This comes after it had already shut­tered all of its oper­a­tions in Japan.

Oppor­tu­ni­ties

• China plans to start build­ing emer­gency reserves of coal this year to guard against poten­tial sup­ply dis­rup­tions, Wuhu Port Stor­age & Trans­porta­tion said. The gov­ern­ment aims to begin with 5 mil­lion met­ric tons of reserves, and Wuhu has been cho­sen to help store the commodity.
• Gold may rally for an eleventh year and aver­age 20 per­cent higher in 2011 as geopo­lit­i­cal con­cerns and low inter­est rates drive invest­ment demand, accord­ing to indus­try researcher GFMS. Prices may aver­age $1,470 an ounce in 2011 and may gain toward $1,500 and beyond, CEO Paul Walker said.
• The Aus­tralian weather bureau said one of the country’s key grain regions, East­ern Aus­tralia, is expected to see above median rain­fall dur­ing April through June. The favor­able weather con­di­tions will increase the chance of Aus­tralia, the world’s third largest wheat exporter, to have another pro­duc­tive har­vest after record pro­duc­tion in the 2010–2011 season.
• Clark­son Research is fore­cast­ing a 5 per­cent increase in ther­mal coal imports for Japan this year at 131.4 mil­lion tons from 125.3 mil­lion tons in 2010. It was pre­dict­ing a 1 per­cent decline before the disaster.
• China’s iron ore out­put should reach 1.5 bil­lion met­ric tons by 2015 from 1.1 bil­lion tons in 2010.
• Saudi Arabia’s new power gen­er­a­tion expan­sions are geared to use crude oil, accord­ing to the country’s junior elec­tric­ity min­is­ter. The coun­try plans to use 540,000 bar­rels per day of fuel for power gen­er­a­tion in 2011, up from 403,000 bar­rels per day last year.

Threats

• Indone­sia has redi­rected 60,000 met­ric tons of coal from Japan to China fol­low­ing force majeure dec­la­ra­tions by some Japan­ese com­pa­nies. The coun­try esti­mates that if the main­te­nance of the Japan’s power plants takes about six months, the coun­try may reduce its coal con­sump­tion by 5 mil­lion met­ric tons this year. How­ever, if the main­te­nance takes longer, it will threaten the world’s coal prices.
• Accord­ing to the Viet­nam Steel Asso­ci­a­tion, steel prices in Viet­nam are fore­cast to drop in April and May due to a reduc­tion in con­struc­tion projects. Steel prices have fallen as much as 400,000 dong a ton from March 21 at some com­pa­nies in the south. The gov­ern­ment has cut some projects as part of its fis­cal pol­icy tightening.
• The U.K. raised its sup­ple­men­tal tax on oil pro­duc­tion in the North Sea to 32 per­cent from 20 per­cent, tak­ing the total tax rate to 62 percent.

Tags: Aluminum Association, Aluminum Products, Annum, Canadian, Canadian Market, Cfr, Cheat Sheet, China, Conversion Units, Demand Balance, Diesel Market, Domestic Producers, energy, Fuel Oil, Global Steel, Gold, Iron Ore Prices, Jefferies, Nuclear Crisis, oil, Premiums, Steel Index, Steel Output, Time Record, Unprecedented Levels, Uranium Prices, World Steel
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Inflation in the 21st Century

Thursday, March 24th, 2011

March 18, 2011

by dshort.com

My monthly update Inside the Con­sumer Price Index iden­ti­fies the com­po­nents of the Con­sumer Price Index, doc­u­ments their rel­a­tive weights, and uses line charts to show the cumu­la­tive per­cent­age change of each since 2000.

In this post I'm using a bar chart to illus­trate the rel­a­tive change over the same time frame. The table below doc­u­ments the cur­rent weights assigned by the Bureau of Labor Sta­tis­tics (BLS) to the eight com­po­nents of CPI. I've also included the weights of the two aggre­gate cat­e­gories — Food (ex alco­holic bev­er­ages) and Energy — that are excluded from CPI to deter­mine the Core CPI. (Note: CPI is some­times referred to as "Head­line CPI" to dis­tin­guish it from the Core vari­ety.)

The bar chart below shows the rel­a­tive change for each com­po­nent and the two spe­cial aggre­gates. I've also added Col­lege Tuition & Fees, a sub­com­po­nent of Edu­ca­tion and Com­mu­ni­ca­tion, because of its sig­nif­i­cant impact on house­holds with col­lege expenses. Inci­den­tally, the BLS assigns a mere 1.5% weight to this sub­com­po­nent of CPI. But for house­holds plan­ning for col­lege expenses, the impact of infla­tion is dra­matic.

Click for a larger image
The Infla­tion Controversy

The table and chart above help to explain why infla­tion is such a con­tro­ver­sial topic. If your house­hold mir­rors the expense ratios of the CPI weight­ings, then the monthly CPI reports may seem rea­son­ably accu­rate. How­ever, house­holds on tight bud­gets will be highly sen­si­tive to the more volatile com­po­nents of CPI — food and espe­cially energy expenses. Also, for house­holds with greater expo­sures to energy costs (espe­cially gaso­line), med­ical expenses, or col­lege bills than the BLS weight­ings, the CPI data will def­i­nitely under­state your experience.

Copy­right © dshort.com

Tags: Alcoholic Beverages, Bureau Of Labor Statistics, College Bills, College Expenses, Components Of The Consumer Price Index, Consumer Price Index, Core Cpi, Cpi Data, Cpi Reports, Cumulative Percentage Change, energy, Energy Expenses, Expense Ratios, Headline Cpi, Index Documents, Line Charts, Relative Change, Relative Weights, Subcomponent, Tight Budgets, Volatile Components
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Goldman's Magnum Opus On The Economic Impact From Japan's Earthquake

Thursday, March 24th, 2011

Goldman's Dominic Wil­son has just released his mag­num opus analy­sis on the sit­u­a­tion in Japan and its after­math. Unlike the lunatic dri­vel dis­sem­i­nated each and every week by GSAM's Jim O'Neill, which would inter­pret the immi­nent col­lapse of the Earth into a neu­tron star as the most bull­ish event in the (soon to be over) his­tory of mankind, this report is actu­ally one of more biased we have read from the Gold­man strate­gists. That said, the nat­ural bias to spin every­thing in a pos­i­tive light still dom­i­nates the report (to which we retort: why not just blow up unpop­u­lated pieces of Amer­ica and rebuild them over and over: it does mir­a­cles for the Chi­nese "GDP" — it should work just as well in the US — plus Krug­man would be in a con­stant state of Key­ne­sian extasy). We obvi­ously dis­agree: never before has there been the added prece­dent of nuclear fall­out, or a pyscho­log­i­cal intan­gi­ble, to the mostly super­fi­cial infra­struc­tural repairs that have to be under­taken. Gold­man does acknowl­edge this as fol­lows: "The ongo­ing nuclear risk at Fukushima has the poten­tial to mag­nify the impact in other ways, although at the time of writ­ing these risks seem to be fad­ing." Based on what? Manip­u­lated data report­ing out of Japan, TEPCO and every­one else who is either guilty of strate­gic mis­man­age­ment, or is des­per­ate to avoid a world­wide panic. It is this type of rush­ing to con­clu­sions based on a com­plete lack of facts, that dri­ves objec­tive mar­ket observers furi­ous with blind rage at the idiocy of the authors (and yes, "idiots" is what Sean Cor­ri­gan called all those who only see the upside in the Japan­ese cat­a­stro­phe and ignore the mas­sive human, eco­nomic and finan­cial down­side). Yet for all those who can bot­tle their rage for 15 min­utes, we rec­om­mend read­ing the enclosed report as it is the very best that the Kool Aid crowd can serve at this point. Which, when apply­ing some com­mon sense, is not very much.

From Gold­man Sachs

The Eco­nomic Impact of Japan’s Earth­quake

As mar­kets assess the impact of the recent tragic earth­quake and tsunami in Japan, we attempt to place this issue into a broader per­spec­tive. While there can be no per­fect ana­logue in such a dis­as­ter, study­ing pre­vi­ous ones may pro­vide a sense of the prob­a­bil­ity dis­tri­b­u­tion around the macro and mar­ket impacts of such events, and their trajectory.

From a global mar­kets per­spec­tive, the broader macro con­text is impor­tant, and at the mar­gin, pos­i­tive. The Mid­dle East cri­sis remains a key source of uncer­tainty. But data is likely to con­firm global cycli­cal strength, Euro­pean sov­er­eign risks have calmed a lit­tle, and there are ten­ta­tive signs that the most intense EM tight­en­ing phase may pass.

We extend our deep­est sym­pa­thy to all those whose lives have been affected by the recent East-Japan earth­quake.

As mar­kets assess the impact of the recent cat­a­strophic East-Japan earth­quake and tsunami, in this week’s com­men­tary we try to place this issue into a broader per­spec­tive. While there can be no per­fect ana­logue in such a dis­as­ter, study­ing pre­vi­ous large dis­as­ters may help to gain a sense of the prob­a­bil­ity dis­tri­b­u­tion around the macro and mar­ket impacts of such events, and their tra­jec­tory.

Nat­ural Dis­as­ters in History

We have focused on three types of dis­as­ters (earth­quakes, floods and storms) that are sim­i­lar in nature: exoge­nous shocks with imme­di­ate destruc­tive impact. We obtained dis­as­ter data from the EM-DAT Inter­na­tional Dis­as­ter Data­base pro­vided by the Cen­tre for Research on the Epi­demi­ol­ogy of Dis­as­ters (CRED). Over 6,612 dis­as­ters of these types have occurred since 1980, so we nar­rowed our sam­ple by focus­ing on those in which the esti­mated direct eco­nomic dam­age (to build­ings, pro­duc­tion facil­i­ties, etc.) was greater than 1% of the pre­ced­ing year’s GDP. We also elim­i­nated dis­as­ters in coun­tries with­out suf­fi­cient macro­eco­nomic data avail­able dur­ing the cri­sis period. This leaves us with a sam­ple of 40 dis­as­ters in 23 dif­fer­ent coun­tries, nine of which occurred in the devel­oped world (DM) and the remain­ing 31 in emerg­ing mar­ket (EM) coun­tries. Some famil­iar recent dis­as­ters in this group include the Han­shin earth­quake in Kobe, Japan (1995), Hur­ri­cane Kat­rina in the US (2005), and the Indone­sian earth­quake and tsunami (2004).

Earth­quakes are by far the most destruc­tive in terms of both human impact and direct eco­nomic dam­age. The human impact is much larger in nat­ural dis­as­ters in EMs, where nearly three times as many peo­ple are affected. But the direct prop­erty dam­age (rel­a­tive to GDP) is much larger in the devel­oped world, likely because there is a more valu­able cap­i­tal stock already in place when dis­as­ters strike. Table 1 con­tains some basic sum­mary sta­tis­tics about the mag­ni­tude of these crises, as mea­sured by the esti­mated prop­erty dam­age and the num­ber of peo­ple affected and/or killed by the disaster.

A Short-Lived Hit to Growth on Average

In order to explore the short-term eco­nomic impact of a large-scale nat­ural dis­as­ter, we looked at quar­terly and (where avail­able) monthly data for a range of eco­nomic and mar­ket vari­ables. Look­ing at aver­ages does, of course, mask a great deal of vari­a­tion, but some clear lessons still apply.

Turn­ing first to GDP, we find two main results:

• Nat­ural dis­as­ters result in a strong con­tem­po­ra­ne­ous reduc­tion in aver­age GDP growth fol­lowed by a quick rebound in the fol­low­ing quar­ter. Sequen­tial growth is reduced by an aver­age of approx­i­mately 3ppts (annu­alised) in the quar­ter in which the dis­as­ter occurs, although this result is dri­ven mainly by EMs. Out­put falls by an aver­age of 0.55ppts below its pre-disaster trend before rebound­ing nearly all the way back in the next quarter.
• More destruc­tive dis­as­ters pro­duce a larger hit to growth. The size of the one-quarter hit to growth is strongly and neg­a­tively cor­re­lated with the size of the nat­ural dis­as­ter on all three of the mea­sures pre­sented in Table 1.

The short-lived impact on eco­nomic activ­ity is also con­firmed by a range of other vari­ables and is con­sis­tent with recent aca­d­e­mic stud­ies. Sequen­tial IP growth falls sharply in the dis­as­ter month but then rebounds in the sub­se­quent month. Export and import growth also both fall, in line with the over­all reduc­tion in out­put growth, before recov­er­ing in the next quar­ter. Invest­ment growth dips but then accel­er­ates strongly in the next 1–2 quar­ters, which sug­gests that the rebuild­ing of destroyed cap­i­tal stock is an impor­tant com­po­nent of post-disaster GDP resilience.

Pol­icy rates tend to be reduced mar­gin­ally on aver­age, although this response gen­er­ally is delayed until a few months after the dis­as­ter and there is a large degree of vari­a­tion across cases. Equity returns dip in the month of the dis­as­ter but remain firmly in pos­i­tive ter­ri­tory (at around 1%mom non-annualised on aver­age), and then rebound sharply in the next month. Dis­as­ters have his­tor­i­cally had a neg­li­gi­ble impact on aver­age on the short-term dynam­ics of infla­tion, gov­ern­ment bud­get deficits and either nom­i­nal or real TWI exchange rates.

The Largest Global Dis­as­ters Tell a Sim­i­lar Story

In addi­tion to the lessons from the aggre­gate sam­ple of dis­as­ters con­sid­ered above, it is also help­ful to look more closely at some of the glob­ally most expen­sive dis­as­ters in recent history—since they are likely to pro­vide the clos­est ana­logue to the East-Japan earth­quake and tsunami. We sorted our sam­ple of dis­as­ters by the esti­mated dam­age as a per­cent­age of global (rather than local) GDP and, on this basis, the big five in descend­ing order are the Han­shin (Kobe) earth­quake of Jan­u­ary 1995, Hur­ri­cane Kat­rina in August and Sep­tem­ber 2005, the Irpinia earth­quake in South­ern Italy in Novem­ber 1980, the Sichuan earth­quake in China in May 2008 and the earth­quake in Los Ange­les in 1994. The dam­age in each of these dis­as­ters exceeded a tenth of a per­cent of global GDP in that year (see Table 2). Restrict­ing the sam­ple in this way results in a sam­ple biased towards the large advanced economies (with the excep­tion of China in 2008). On the other hand, these are not among the most severe dis­as­ters within the con­text of local GDP, as Table 2 also shows.

The con­clu­sions from look­ing at these big five dis­as­ters are qual­i­ta­tively very sim­i­lar to the results of the full sam­ple. But the scale of eco­nomic and mar­ket moves in these cases may pro­vide a bet­ter ref­er­ence point for the East-Japan earth­quake com­pared with the EM-heavy sam­ple analysed above:

• Even in the case of these large dis­as­ters in a ‘global’ rather than ‘local’ sense, the impact on eco­nomic growth fades quickly from the data. Notwith­stand­ing the intense human and social costs of such large global dis­as­ters, the eco­nomic cost barely reg­is­ters in quar­terly eco­nomic data. In all four cases with avail­able data, GDP growth was pos­i­tive in the quar­ter in which the dis­as­ter hap­pened. Out­put sub­se­quently returned to its pre-disaster trend within one quar­ter, with the excep­tion of the Chi­nese Sichuan earth­quake of 2008 (although this likely reflects the con­cur­rent global downturn).
• The impact of the dis­as­ter is more clearly dis­cernible in monthly activ­ity data. Indus­trial pro­duc­tion is the most reli­ably avail­able across coun­tries and over time. In the case of the Han­shin earth­quake in Kobe, Japan­ese indus­trial pro­duc­tion fell –2.6% mom in Jan­u­ary 1995, but pos­i­tive growth (+2.2%) was restored in the very next month. For the three months after the Jan­u­ary earth­quake, IP growth in Japan aver­aged 1.5%mom, dou­ble the aver­age of the three months prior to the earth­quake. And indus­trial pro­duc­tion was above pre-earthquake lev­els within two months, by the end of March. In the case of Hur­ri­cane Kat­rina in 2005, IP growth was flat in August and down –2% in Sep­tem­ber, but growth was pos­i­tive in Octo­ber, and the pre-hurricane level of indus­trial pro­duc­tion was sur­passed by the end of Novem­ber. The other three episodes were even less impact­ful: IP growth dipped to 0.5%mom in the month after the LA earth­quake, and was low but pos­i­tive in the months of the China and South­ern Italy earth­quake. Of course, the eco­nomic impact is greater if one zooms in on the region most directly affected by the nat­ural dis­as­ter. For exam­ple, large-scale retail sales in the Hyogo and Osaka area fell sharply over the January-March 1995 period (-6.7%yoy, –3.4%yoy and –1.7%yoy). But even here, there was pos­i­tive growth by April, and after drift­ing side­ways for much of the rest of the year, large-scale retail sales rebounded strongly in January-March 1996.
• Part of the rea­son that growth recov­ered quickly is that in most (but not all) cases, the boost from gov­ern­ment spend­ing off­sets the fall in activ­ity in other parts of the econ­omy. In three of the five large episodes—the Han­shin Earth­quake, the South­ern Ital­ian earth­quake and Hur­ri­cane Katrina—government spend­ing grew strongly in the quar­ter when the nat­ural dis­as­ter occurred or in the quar­ter just after. The con­trast is espe­cially clear in the case of the Han­shin earth­quake in Japan. In 1995Q1, real GDP grew 0.8%qoq, within which both pri­vate con­sump­tion and invest­ment spend­ing fell, but gov­ern­ment spend­ing increased by 2.8%qoq.
• From a mar­kets per­spec­tive, the impact has gen­er­ally been even more muted than the eco­nomic impact. We only find a clear impact on equi­ties in the largest dis­as­ters, the Han­shin earth­quake and Hur­ri­cane Kat­rina, and in gen­eral there are few if any per­sis­tent moves in rates and FX mar­kets. In the case of the Han­shin earth­quake, the Nikkei 225 fell about 8% in the week fol­low­ing the dis­as­ter, but it soon rebounded and had recov­ered more than half its losses in the week there­after. Bond yields (and the Yen) barely moved over this period, and con­tin­ued a sus­tained down­trend, largely owing to the grad­ual eco­nomic slow­down in the quar­ters thereafter.

Key Dif­fer­ences with the East-Japan Earthquake

The evi­dence from his­tor­i­cal dis­as­ters is help­ful to gain a sense of the prob­a­bil­ity dis­tri­b­u­tion around pos­si­ble eco­nomic out­comes and their likely tra­jec­tory. But there are unique fea­tures of the East-Japan earth­quake and tsunami cur­rently, most of which sug­gest that the impact may be greater. We high­light five key points:

• Even as the full extent of the dam­age in the East-Japan earth­quake and tsunami is being assessed, it is already clear that this is likely be one of the most costly dis­as­ters in global GDP terms. Accord­ing to the esti­mates by our Japan eco­nom­ics team, the total dam­age will be about ¥16trn, or around 1.6 times greater than the Han­shin earth­quake, which was the most costly dis­as­ter before this in our sample.
• The ongo­ing nuclear risk at Fukushima has the poten­tial to mag­nify the impact in other ways, although at the time of writ­ing these risks seem to be fad­ing. A sig­nif­i­cant nuclear risk event, apart from the neg­a­tive impact in the imme­di­ate affected area, is likely to affect con­sumer sen­ti­ment more broadly in Japan and poten­tially in other coun­tries too. So the sec­ond round of eco­nomic impact from these types of devel­op­ments could be sig­nif­i­cant. The nuclear dimen­sion has also added a chan­nel for inter­na­tional con­ta­gion as coun­tries such as Ger­many have accel­er­ated the shut­down and review of cer­tain age­ing nuclear power plants, putting more pres­sure on gas and oil prices, with the con­se­quent dele­te­ri­ous effects on growth.
• A pro­longed dis­rup­tion to the power net­work in Japan is a sig­nif­i­cant risk to Japan­ese growth and a mate­r­ial dif­fer­ence from many pre­vi­ous large dis­as­ters where power dis­rup­tions were mostly lim­ited and local. The sit­u­a­tion is evolv­ing daily but dam­age from the earth­quake has caused a shut­down of about 10%-12% of power sta­tion capac­ity through­out Japan. If power out­ages do not extend beyond end-April (our cur­rent base case), then after a con­trac­tion in 2011Q2, we expect +2% growth in Q3—a pat­tern not dis­sim­i­lar to the his­tor­i­cal evi­dence. How­ever, if in a worst-case sce­nario, power dis­rup­tion per­sists into late sum­mer or even to end-December, our Japan econ­o­mists esti­mate that GDP could decline until the end of the year.
• Although the affected regions are some­what fur­ther removed from Japan’s indus­trial heart­land rel­a­tive to the Han­shin earth­quake, the fact that Japan is such a key part of the global indus­trial sup­ply chain means that dis­rup­tions in spe­cific indus­tries and out­put could be mate­r­ial. Our equity ana­lysts believe that sec­tors where there is likely to be a sig­nif­i­cant impact on sales include semi­con­duc­tors, cell­phones, dig­i­tal cam­eras, petro­chem­i­cals and autos, whereas they see a rel­a­tively smaller impact on the machin­ery and steel sec­tors (Assess­ing earth­quake impact risk on pro­duc­tion in key indus­tries, Shin Horie, March 21, 2011). Mike Buchanan and team have com­bined this micro indus­try level data with coun­try trade link­ages and see mod­est down­side risks to growth in Sin­ga­pore, Tai­wan, Thai­land, the Philip­pines and Korea, but lit­tle impact on China or India. A key mit­i­gat­ing fac­tor is that in many indus­tries inven­to­ries are suf­fi­cient to meet com­po­nent demand for around six weeks. Still, dis­rup­tion that lasts much longer will mean more risks of a kind that a purely ‘macro’ per­spec­tive may miss.
• Lastly, part of the rea­son why the typ­i­cal eco­nomic growth impact from nat­ural dis­as­ters is fairly short-lived is the off­set­ting boost from gov­ern­ment spend­ing. We expect this off­set this time around too. Chi­woong Lee’s lat­est note (Japan Eco­nomic Morn­ing Pitch: ‘Financ­ing Earth­quake Recon­struc­tion Still Uncer­tain’, March 22) lays out some of the options cur­rently being con­sid­ered in the media: (i) using the FY2010 and FY2011 emer­gency funds (¥1.2trn together), (ii) revis­ing the FY2011 DPJ man­i­festo (¥3.3trn in total), and (iii) using gov­ern­ment reserves (¥2.5trn). What can­not be cov­ered by these sources will require increased issuance of new JGBs, but the scope for pol­icy flex­i­bil­ity is more restricted today at least rel­a­tive to the 1995 Han­shin earth­quake. In 1995, inter­est rates were still above 3% and the size of the fis­cal deficit was smaller (92% of GDP) than it is today (221% GDP). Japan­ese finan­cial con­di­tions have tight­ened since the earth­quake, though the joint inter­ven­tion on the JPY by major cen­tral banks has pro­vided an impor­tant inter­rup­tion to that dynamic.

Our Japan­ese fore­casts are cur­rently under review, although the key uncer­tainty around the growth pic­ture cen­tres around the longevity and mag­ni­tude of power dis­rup­tions. Reflect­ing the down­side risks to earn­ings, Kathy Mat­sui and our Asian Port­fo­lio Strat­egy team have already shaved 12% off their FY2012 earn­ings esti­mate for Japan’s equity mar­kets, and we now expect returns here to be more back-loaded.

At this stage, we are not plan­ning any sig­nif­i­cant revi­sions to growth fore­casts out­side Japan, although any changes there would mechan­i­cally influ­ence the global fore­cast. The impact through export chan­nels from tem­porar­ily lower Japan­ese demand is likely to be rel­a­tively small, even in non-Japan Asia where the link­ages are tight­est. And the other main source of transmission—through global finan­cial conditions—is so far not reg­is­ter­ing as sig­nif­i­cant.

From a Global Mar­kets Per­spec­tive, the Broader Macro Con­text is Mostly Constructive

While the earth­quake has dom­i­nated head­lines, it is impor­tant to keep an eye on other key devel­op­ments that have occurred over the last two weeks in assess­ing the broader con­text in which these impacts are play­ing out.

Along­side the Japan­ese dis­as­ter, the other source of ‘head­line’ risk for mar­kets in recent weeks has come from devel­op­ments in the Mid­dle East. Here too, we have seen sig­nif­i­cant news lately. Gulf forces have entered Bahrain and protests con­tinue both there and in Yemen. In addi­tion, a UN Secu­rity Coun­cil res­o­lu­tion autho­ris­ing a no-fly zone and esca­lat­ing sanc­tions against Libya have already resulted in mil­i­tary strikes against gov­ern­ment forces. In both cases, this could set the stage for greater sta­bil­ity in the region. But it is still dif­fi­cult to be sure exactly what paths the regional cri­sis will take and inter­ven­tions so far do not pro­vide a deci­sive res­o­lu­tion. This is there­fore a source of uncer­tainty that may remain with us even if con­cerns over the con­se­quences of the Japan­ese earth­quake subside.

The major trans­mis­sion to the broader out­look remains through oil sup­ply dis­rup­tions. We have had a struc­tural view that oil prices are likely to be under upward pres­sure in 2011. For this rea­son, we have gen­er­ally sought out energy expo­sure, directly and within equi­ties and FX. Dis­rup­tions to nuclear capac­ity in Japan may ulti­mately rein­force those struc­tural pres­sures. But our cen­tral fore­cast remains that the upward trend in oil prices will not prove to be a bind­ing con­straint on growth. That said, fur­ther sup­ply shocks would cer­tainly see fresh spikes in oil prices given low inven­tory buffers, so we remain vig­i­lant about this source of risk. Our ‘oil-adjusted’ Finan­cial Con­di­tions Index in the US—a sim­ple way of weight­ing the impact of finan­cial con­di­tions and oil prices on growth—tightened sig­nif­i­cantly in late Feb­ru­ary but has so far been fairly sta­ble in March.

Beyond the Mid­dle East, three other devel­op­ments that are high on our radar screens look a lit­tle more benign. The first is the broader cycli­cal land­scape. Last week's Philly Fed release was extremely strong and, as we move through the most macro-intensive part of the cal­en­dar, we expect the bulk of the data to rein­force a mes­sage of robust under­ly­ing growth. While the lit­eral track­ing of US GDP growth has been a lit­tle softer than our cur­rent fore­cast, the sur­vey data are con­sis­tent with stronger under­ly­ing growth, so we will likely see some reac­cel­er­a­tion in Q2. As we have shown recently (and as dis­played in Chart 6), because the growth recov­ery has been the major story behind the rally since the end of August, the mar­ket has gen­er­ally per­formed bet­ter in the data-intensive part of the month (between the Philly Fed and pay­rolls), with losses on aver­age out­side that period. If our pos­i­tive growth view is borne out, this pat­tern could con­tinue, as so far in March.

The sec­ond devel­op­ment that has been pushed off the head­lines but that we expect to return this week is the con­tin­u­ing push for fur­ther mea­sures to calm sov­er­eign fears in Europe. The March 9 Euro­pean Coun­cil meet­ing was, as we said at the time, a some­what mixed result that has left many details still to be ham­mered out. But the fact that a deal was reached early was pos­i­tive at the mar­gin, as was the upsiz­ing of the Euro­pean Finan­cial Sta­bil­ity Facil­ity (EFSF) fund­ing and the rene­go­ti­a­tion of Greek bor­row­ing terms, even if progress on Por­tu­gal and Ire­land was more dis­ap­point­ing. And with lit­tle fan­fare, we have seen Span­ish and Ital­ian spreads tighten mean­ing­fully, the lat­ter to lev­els not seen since last August.

This week’s EU sum­mit on Thurs­day and Fri­day is expected to rat­ify those deci­sions, but expec­ta­tions for any fresh devel­op­ments beyond that are low. The risk is that mar­kets will focus once again on what has not yet been resolved and the vague­ness of the future struc­ture of penal­ties for fis­cal lapses. But, as Francesco Garzarelli has argued in the past, there is ‘endoge­nous risk’ in the Euro-zone cri­sis and the relax­ation seen lately in Euro­pean credit mar­kets may itself have low­ered the risk that this issue becomes a source of greater shocks for the mar­ket in the next few months.

Finally, we con­tinue to watch the EM tight­en­ing dynamic closely. Since early Novem­ber, infla­tion pres­sures and tight­en­ing responses in China and more broadly across EM have kept us away from EM equity assets, despite a rel­a­tively con­struc­tive medium-term view. We have argued in sev­eral places before that while the sharp under­per­for­mance of EM equi­ties since then is lead­ing us to ‘warm up’ to the asset class, some key ingre­di­ents of a more pos­i­tive view have so far been absent—such as signs that the peak in the tight­en­ing cycles is at hand, eas­ing of sequen­tial infla­tion pres­sure and more con­crete signs of slower growth.

While we still do not have clear evi­dence that these con­di­tions have been met, we may be mov­ing fur­ther down that road. The past few weeks have pro­vided evi­dence that China’s econ­omy is slow­ing, sug­gest­ing that the tight­en­ing that our Finan­cial Con­di­tions Index has been sig­nalling may be start­ing to bite. More intrigu­ing is the break in the upward trend in agri­cul­tural prices, which The­mos Fio­takis dis­cussed in a Global Mar­kets Daily last week, with recent mar­ket dam­age rein­forc­ing a drop in global agri­cul­tural prices that had begun on the first evi­dence of mod­est inven­tory builds. Damien Cour­valin con­tin­ues to remind us that March 31 is the first real news day for the new crop and that, while high prices should incen­tivise a sup­ply response, the crop out­look will not be clear until well into the sum­mer, with sub­stan­tial fragility to sub-par weather given low inven­tory buffers. But with ‘nor­mal’ weather, crop prices are likely to fall and the infla­tion­ary impulse from food prices may be peak­ing for now. If that dynamic con­tin­ues, it would greatly add to the attrac­tive­ness of EM equity posi­tions. And while it is early to be draw­ing any firm con­clu­sion here, we think the mar­ket is pay­ing too lit­tle atten­tion to this dynamic.

Tags: Blind Rage, China, Corrigan, Drivel, Emerging Markets, energy, Extasy, Fukushima, Gold, Goldman Sachs, Gsam, History Of Mankind, Imminent Collapse, Impac, India, Kool Aid, Magnum Opus, Market Observers, Natural Bias, Neutron Star, Nuclear Fallout, Nuclear Risk, O Neill, oil, Tepco, Worldwide Panic
Posted in Credit Markets, Energy & Natural Resources, Gold, India, Markets, Oil and Gas, Outlook | Comments Off

Bill Paul: Investment Opportunities in the Alternative Energy Revolution

Tuesday, March 22nd, 2011

Invest­ment oppor­tu­ni­ties in the alter­na­tive energy rev­o­lu­tion. Finan­cial Thought Leader and energy ana­lyst Bill Paul dis­cusses some sur­pris­ing devel­op­ments and over­looked invest­ment ideas.

Source: WealthTrack.com

Tags: Alternative Energy, Alternative Investment, Bill Paul, energy, Energy Analyst, Energy Revolution, Investment Ideas, Investment Opportunities, Thought Leader
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Worldwide Inflation Is Hitting Home

Tuesday, March 22nd, 2011

This arti­cle orig­i­nally appeared in The Daily Cap­i­tal­ist.

Whichever way you look at it, price infla­tion is climbing:

From the BLS:

The Con­sumer Price Index for All Urban Con­sumers (CPI-U) increased 0.5 per­cent in Feb­ru­ary on a sea­son­ally adjusted basis, the U.S. Bureau of Labor Sta­tis­tics reported today. Over the last 12 months, the all items index increased 2.1 per­cent before sea­sonal adjust­ment. Though the sea­son­ally adjusted increase in the all items index was broad-based, the energy index was once again the largest con­trib­u­tor. The gaso­line index con­tin­ued to rise, and the index for house­hold energy turned up in Feb­ru­ary with all of its com­po­nents post­ing increases. Food indexes also con­tin­ued to rise in Feb­ru­ary, with sharp increases in the indexes for fresh veg­eta­bles and meats con­tribut­ing to a 0.8 per­cent increase in the food at home index, the largest since July 2008.

The index for all items less food and energy rose in Feb­ru­ary as well [1.1% annu­al­ized]. Most of its major com­po­nents posted increases, includ­ing the indexes for shel­ter, new vehi­cles, med­ical care, and air­line fares. The apparel index was one of the few to decline. The 12-month changes in major indexes con­tinue to trend upward. The all items index increased 2.1 per­cent for the 12 months end­ing Feb­ru­ary; the fig­ure was 1.1 per­cent as recently as Novem­ber. The 12-month increase in the index for all items less food and energy reached 1.1 per­cent in Feb­ru­ary after being as low as 0.6 per­cent in Octo­ber. The 11.0 per­cent increase in the energy index is the largest since May 2010, while the 2.3 per­cent rise in the food index is the largest since May 2009.

This is not sur­prise to read­ers of The Daily Cap­i­tal­ist ("A Note on Infla­tion: It's Here"). A recent arti­cle by Aus­trian the­ory econ­o­mist Frank Shostak put it very succinctly:

Let us exam­ine how prices in gen­eral could go up. The price of a good is the amount of dol­lars paid per unit of this good. So with all things being equal, an increase in the amount of dol­lars in the econ­omy must lead to a gen­eral increase in prices of goods and ser­vices. Now, when we talk about eco­nomic growth, we mean an increase in the pro­duc­tion of goods and ser­vices, i.e., an expan­sion in real wealth. Obvi­ously then, for a [fixed] amount of money, an increase in eco­nomic growth means a greater amount of goods and ser­vices, which must lead to a decline and not an increase in the prices of goods and ser­vices in gen­eral. (We now have more goods for the same amount of dollars.)

One need only look to the Fed's efforts at quan­ti­ta­tive eas­ing to see that they have injected mas­sive amounts of money into the econ­omy by pur­chases of US Trea­sury debt and paper issued by GSE's such as Fan­nie, Fred­die, plus var­i­ous pri­vately issued mort­gage backed secu­ri­ties. This has shown up in all indices of money sup­ply mea­sure­ment (M1, M2, and True (Aus­trian) Money Sup­ply). For exam­ple this chart mea­sures the CPI against the imple­men­ta­tion of QE1 and QE2 (ongoing):

As you can see, the blue line, CPI, cor­re­lates well with the injec­tion of money into the econ­omy start­ing in Novem­ber, 2008 for QE1 and in August, 2010 for QE2 (orange ver­ti­cal lines). M2 (red) and M1 (black) rise and fall in tan­dem in rela­tion to quan­ti­ta­tive eas­ing. Lest I am accused of con­fir­ma­tion bias or log­i­cal or empir­i­cal fal­lac­ies, the essence of Aus­trian the­ory is that an increase in money sup­ply is in itself "infla­tion," and price infla­tion is one of its many neg­a­tive results. There is an his­tor­i­cal cor­re­la­tion between money sup­ply and prices. The time lag varies, but the cor­re­la­tion is pos­i­tive. And, as Dr. Shostak put it, it is easy to under­stand why.

Tags: Adjusted Basis, Airline Fares, Apparel Index, Austrian Theory, Bls, Bureau Of Labor, Bureau Of Labor Statistics, China, Commodities, Consumer Price Index, energy, Energy Index, Food Index, Frank Shostak, Hitting Home, Household Energy, Major Components, New Vehicles, November The 12, oil, Price Inflation, Recent Article, Seasonal Adjustment, Urban Consumers
Posted in Commodities, Credit Markets, Energy & Natural Resources, Markets, Oil and Gas | Comments Off

Risks to the Global Economy Should Remain Contained (Doll)

Monday, March 21st, 2011

by Bob Doll, Chief Equity Strate­gist, Fun­da­men­tal Equi­ties, Black­Rock

Esca­lat­ing anx­i­ety over the dam­age from the earth­quake in Japan and result­ing nuclear reac­tor prob­lems as well as ris­ing ten­sions in Libya and the Mid­dle East resulted in an aggres­sive sell­off in equity prices early last week. Despite an end-of-week rally, stocks were down for the week as a whole, with the Dow Jones Indus­trial Aver­age falling 1.5% to 11,859, the S&P 500 Index declin­ing 1.9% to 1,279 and the Nas­daq Com­pos­ite los­ing 2.7% to 2,644.

The events of the last sev­eral weeks serve as a reminder about how quickly poten­tial risks can turn into down­side real­ity. The régime changes in Tunisia and Egypt, other upris­ings in the region, the esca­la­tion of the civil war in Libya and the poten­tial for nuclear cat­a­stro­phe in Japan have all worked together to drive investor unease higher and have caused sig­nif­i­cantly higher lev­els of mar­ket volatil­ity. Pre­dict­ing the exact out­come of any, let alone all, of these events is, of course, impos­si­ble, but based on the infor­ma­tion we have today, our assess­ment is that none of these risks have yet derailed, or will derail, the global eco­nomic recov­ery or the longer-term bull mar­ket in equities.

Tak­ing a look at the Mid­dle East, the biggest wild­card in our opin­ion is what might hap­pen in Saudi Ara­bia. Given its promi­nence in the oil trade, any polit­i­cal dis­rup­tion in Saudi Ara­bia would have a sig­nif­i­cantly higher impact than what we have seen already, but as we have dis­cussed in pre­vi­ous weeks, Saudi Arabia’s eco­nomic and polit­i­cal sys­tems are more sta­ble than those of its neigh­bors and the risks are cor­re­spond­ingly lower.

Regard­ing Japan, the cur­rent prob­lems will no doubt act as a short-term drag on Japan­ese eco­nomic growth lev­els, but over the longer term we expect recon­struc­tion efforts will help to make lower growth a tem­po­rary prob­lem. As a result of all of these, we do not believe that the cur­rent risks dom­i­nat­ing the head­lines will have an overly sig­nif­i­cant impact. Should con­di­tions worsen (par­tic­u­larly in terms of the nuclear cri­sis get­ting worse and/or a sig­nif­i­cant run up in oil prices) that may change, but for now we remain cau­tiously optimistic.

At present, we believe that the global eco­nomic recov­ery will stay on track, and we do not expect to see infla­tion rise notice­ably in the devel­oped world. Before the cur­rent risks devel­oped a few weeks ago, the global econ­omy had pretty solid momen­tum, and fun­da­men­tals remain strong. At the Fed­eral Reserve’s pol­icy meet­ing last week, cen­tral bankers acknowl­edged the risks of higher oil prices, but also indi­cated that the Fed had a more upbeat assess­ment of the over­all econ­omy. Cor­po­rate prof­its have remained strong and pre­lim­i­nary indi­ca­tions are that cor­po­ra­tions are not being neg­a­tively affected by the increase in energy costs. Indeed, cor­po­rate hir­ing plans have been accel­er­at­ing, and we believe that jobs growth should continue.

In any case, how­ever, short-term risks are clearly dom­i­nat­ing mar­ket sen­ti­ment and con­fi­dence lev­els have receded. Mar­kets have been in a cor­rec­tive mode for the last cou­ple of weeks and that trad­ing envi­ron­ment is likely to per­sist. Last week, the S&P 500 Index reached a low of around 1,250. We think that level may be a low from which mar­kets will expe­ri­ence a bounce (although that low may be tested again). We believe it will take some time, and addi­tional clar­ity, to move past all of this.

Sources: Black­Rock; Bank Credit Ana­lyst. This mate­r­ial is not intended to be relied upon as a fore­cast, research or invest­ment advice, and is not a rec­om­men­da­tion, offer or solic­i­ta­tion to buy or sell any secu­ri­ties or to adopt any invest­ment strat­egy. The opin­ions expressed are as of March 21, 2011, and may change as sub­se­quent con­di­tions vary. The infor­ma­tion and opin­ions con­tained in this mate­r­ial are derived from pro­pri­etary and non­pro­pri­etary sources deemed by Black­Rock to be reli­able, are not nec­es­sar­ily all-inclusive and are not guar­an­teed as to accu­racy. Past per­for­mance is no guar­an­tee of future results. There is no guar­an­tee that any fore­casts made will come to pass. Reliance upon infor­ma­tion in this mate­r­ial is at the sole dis­cre­tion of the reader. Invest­ment involves risks. Inter­na­tional invest­ing involves addi­tional risks, includ­ing risks related to for­eign cur­rency, lim­ited liq­uid­ity, less gov­ern­ment reg­u­la­tion and the pos­si­bil­ity of sub­stan­tial volatil­ity due to adverse polit­i­cal, eco­nomic or other devel­op­ments. The two main risks related to fixed income invest­ing are inter­est rate risk and credit risk. Typ­i­cally, when inter­est rates rise, there is a cor­re­spond­ing decline in the mar­ket value of bonds. Credit risk refers to the pos­si­bil­ity that the issuer of the bond will not be able to make prin­ci­pal and inter­est pay­ments. Index per­for­mance is shown for illus­tra­tive pur­poses only. You can­not invest directly in an index.

Copy­right © Black­Rock

Tags: Bob Doll, Currency, Dow Jones, Dow Jones Industrial, Dow Jones Industrial Average, Drag On, Earthquake In Japan, Economic Recovery, energy, Exact Outcome, Global Economy, Investor Unease, Market Volatility, Nasdaq Composite, Nuclear Catastrophe, Nuclear Reactor, oil, Oil Trade, Reconstruction Efforts, Regime Changes, Saudi Arabia, Selloff, Uprisings
Posted in Credit Markets, Energy & Natural Resources, Markets, Oil and Gas | Comments Off

Seismic Window (Saut)

Monday, March 21st, 2011

Seis­mic Window

by Jef­frey Saut, Chief Invest­ment Strate­gist, Ray­mond James

March 21, 2011

At the risk of sound­ing like a kook, I began writ­ing about the weird weather in Sep­tem­ber of last year. The text read like this:

“I revisit the coal theme this morn­ing because the La Niña weather pat­tern, com­bined with numer­ous vol­canic erup­tions that put large amounts of ash into the atmos­phere, has allowed the Tropic of Can­cer and the Tropic of Capri­corn to expand. The result has brought increased hur­ri­cane activ­ity, soar­ing tem­per­a­tures, Asian floods, droughts (Rus­sia has lost 30% of its wheat crop), and the list goes on. While the cur­rent focus is on the unusu­ally warm weather, don’t expect this to con­tinue as the North­ern Hemi­sphere faces an upcom­ing VERY cold/wet win­ter due to mas­sive amounts of vol­canic ash in the atmos­phere. Energy stocks, there­fore, should be over-weighted in port­fo­lios with the biggest ‘bang’ going to the Explo­ration & Pro­duc­tion stocks (E&P), as well as coal stocks.”

Again, at the risk of sound­ing like a kook, this morn­ing I offer another top­i­cal view from Jim Berk­land, a geol­o­gist that has a decent record of tar­get­ing poten­tial time­frames of increased earth­quake activ­ity. Know that Mr. Berk­land cor­rectly fore­cast San Francisco’s Loma Pri­eta earth­quake (aka, “The World Series” earth­quake) that occurred on Octo­ber 17, 1989 right before the third game of the World Series. He did so by using a com­bi­na­tion of tidal tables, lunar/gravitational phases, ani­mal behav­ior, beached whales, and a keen sense of the “Pacific Ring of Fire.” That pre­dic­tion caused a sus­pen­sion from his job as County Geol­o­gist for Santa Clara, Cal­i­for­nia on fears that future pre­dic­tions might cause mass hys­te­ria. Also know that many of his pre­dic­tions never came to pass and con­se­quently he too is con­sid­ered a kook by some.

That said, his inter­view with Neil Cavuto begins (see it here: http://www.youtube.com/watch?v=xQXDt4VdS0E) with Jim stat­ing that the months of Octo­ber, March, and April are the most dan­ger­ous for earth­quakes in the San Fran­cisco Bay area. He fur­ther opines that March 19th’s full moon, where the moon made its clos­est approach to Earth until 2016, coin­cides with the equinoc­tial tide. While some folks are famil­iar with ocean tides, most are unfa­mil­iar with Earth tides (caused by the Sun and Moon’s grav­i­ta­tion), as well as ground­wa­ter tides. Accord­ingly, all three tides will be at their zenith dur­ing what Jim terms the “seis­mic win­dow” between March 19 and March 26. He con­tin­ues by cit­ing the recent mil­lion dead fish in Redondo Beach and the “beach­ing” of whales. His claim is that the Earth’s mag­netic fields change dra­mat­i­cally right before earth­quakes; since most fish/animals have mag­netite in them to nav­i­gate those mag­netic fields, said fish/animals become con­fused by the change. As a side­bar, mag­netite (or lode­stone) is the most mag­netic of all nat­u­rally occur­ring min­er­als on the planet. Jim cites such events hap­pen­ing shortly before the 1989 World Series quake, the 2004 Indian Ocean earth­quake, the 1964 Alaska earth­quake, etc. He con­cludes with the fact that the Alaska’s 9.2 Richter scale quake occurred with a full moon.

While I cer­tainly don’t want to ride into his­tory as the Joe Granville of my era, I do find it unset­tling that Chile’s 8.8 earth­quake has been fol­lowed by New Zealand’s 6.2 quake and now Japan’s 9.0 tragedy in what appears to be a series of events occur­ring in a clock­wise rota­tion around the Pacific Ring of Fire. If so, the next tar­get should be either Alaska (the Aleut­ian Trench), or our west coast (the Juan de Fuca Sub­duc­tion Zone, see chart). Joe Granville, by the way, hit the peak of his stock mar­ket career with his faulty pre­dic­tion in April 1981 that a major earth­quake, “would make Phoenix water­front prop­erty dur­ing the week of April 10, 1981.”

Yet it is not really the threat of earth­quakes that keeps me cau­tious on the stock mar­ket. Despite the fact that we still have not had more than three con­sec­u­tive down days since Sep­tem­ber 1, 2010, and there­fore the Buy­ing Stam­pede remains intact, I can’t shake the feel­ing it actu­ally ended on Feb­ru­ary 18. If that sub­se­quently proves cor­rect, we are at ses­sion 20 of a Sell­ing Stam­pede. Recall, stam­pedes (both up and down) typ­i­cally last 17 – 25 ses­sions before they exhaust them­selves. A few have extended for 25 – 30 ses­sions, but it is rare to have one last for more than 30 ses­sions. Indeed, pre­vi­ously the longest stam­pede chron­i­cled in my notes was a 52-session upside skein, of course that is until the Sep­tem­ber 2010 to Feb­ru­ary 2011 affair, which if ended on Feb­ru­ary 18 was leg­end at 117 ses­sions. If not, today is ses­sion 137 in the upside stampede.

Another thing that keeps me cau­tious is that the U.S. is going to find it increas­ingly dif­fi­cult to finance its enor­mous debt given that our pri­mary lenders are going need more of their cap­i­tal at home. Think about it, the Chi­nese are now run­ning a trade deficit, the Japan­ese are going to have a huge “call” on their cap­i­tal, Europe is fac­ing larger and larger bailouts for the PIGs, the petro-dollar nations (Mid­dle East) are try­ing to buy-off dis­si­dents, and the Fed­eral Reserve is slated to stop QE2 in June. Unless the Mar­tians start lend­ing us money it is dif­fi­cult to see how our cost of cap­i­tal is not going to rise.

As for Japan, it is a strange feel­ing to attempt con­sid­er­ing how investors should posi­tion them­selves in light of this tragedy. As stated, I have thought Japan­ese stocks were cheap for quite some time. They obvi­ously got cheaper last week given the Nikkei 225’s 20% decline from its March 9 high into last Wednesday’s intra-day low before firm­ing late week. Plainly, this weak­ness caused a con­cur­rent drop in the two invest­ment vehi­cles I have been using since May 2009, namely Japan Smaller Cap­i­tal­iza­tion Fund (JOF/$8.70) and Wis­domTree Small­Cap Div­i­dend Index (DFJ/$41.55). These funds are now back to the lev­els I orig­i­nally rec­om­mended them. Those want­ing to invest in Japan should con­sider said vehi­cles using last week’s intra-day low as a fail­safe point. I also think Japan will use more liq­ue­fied nat­ural gas (LNG) and con­se­quently I have rec­om­mended 6%-yielding Teekay LNG Part­ners (TGP/$39.98/Strong Buy) for invest­ment accounts. Obvi­ously, the nuclear night­mare had an equally dele­te­ri­ous impact on nuclear stocks. Hereto, a buy­ing oppor­tu­nity may be at hand. Accord­ingly, investors should con­sider the Global X Ura­nium ETF (URA/$14.85), which is a fund that holds a bas­ket of more than 20 ura­nium stocks. I would use last week’s intra-day low of $13.25 as an “uncle point.”

While I remain cau­tious on stocks in the short-term, I am stead­fast in my two-year belief that the equity mar­kets are in an “up” phase for rea­sons often scribed in these reports. Last Fri­day the insight­ful folks at Minyanville gave me yet another rea­son to be con­struc­tive. To wit:

“The cur­rent myth is that it is ‘all one mar­ket.’ This was true from ~2005 to 2009 (accord­ing to the DeMark Indi­ca­tor) in what peo­ple called the ‘grand refla­tion’ or ‘refla­tion trade’ and sub­se­quently went bust. All stocks, vir­tu­ally all risk assets really, had iden­ti­cal DeMark counts. If you cov­ered up the name and price of the stock, and nearly all com­modi­ties, it was impos­si­ble to tell what you were look­ing at. They all looked alike, which in my uni­verse is the same as say­ing cor­re­la­tions went to 1.0, which is what hap­pens dur­ing bear mar­kets. At the onset of bull mar­kets the cor­re­la­tions break down and things begin to diverge once again. That has been hap­pen­ing for over a year now. It is not appar­ent in indexes due to their cap­i­tal­iza­tion weight­ing, but in indi­vid­ual stocks it is. Peo­ple now treat every com­pany as if it were AIG or Lehman Broth­ers. But some com­pa­nies actu­ally have good busi­ness mod­els and are mak­ing money despite the ongo­ing hous­ing col­lapse and eco­nomic stress.”

The call for this week: Minyanville’s insight­ful CEO (Todd Har­ri­son) had this to say on Minyanville’s must have “Buzz and Ban­ter,” late last Fri­day, “A con­flu­ence of ele­ments have come together today, includ­ing a poten­tial ‘blink’ in Libya, rel­a­tive calm in the Mid East and opti­mism regard­ing the nuclear sit­u­a­tion in Japan. One other item bears men­tion­ing and that’s the news the Fed says some banks can resume div­i­dends after the stress test. That news has poked the ‘pig­gies’ back through the $52 level for the KBW Bank­ing Index (BKX/$52.09) and lent a ‘bid’ to the (over­all) tape.” Recall, after avoid­ing banks for ~10 years, I turned con­struc­tive on them last Novem­ber when the bank index began out­per­form­ing the S&P 500 (SPX/1279.20). While I have not rec­om­mended the money cen­ter banks, I con­tinue to embrace many of the regional banks often men­tioned in these let­ters. I also remain an energy bull and offer 6.8%-yielding LINN Energy (LINE/$38.80/Strong Buy) for your con­sid­er­a­tion. LINN has a 20-year reserve life, a 100% ROI on drilling, 30% organic growth, a 7% cost of cap­i­tal, is 95% hedged, and has a 50/50 mix of oil to nat­ural gas. As for the stock mar­ket, for weeks I have sug­gested that any cor­rec­tion should be con­tained in the 7% — 10% range. On cue, the SPX declined 7.06% from its intra-day high of 1344 to last week’s intra-day low (1249), beg­ging the ques­tion, “Is that it?” While I would like to think so, I just don’t believe it since we have had two 90% Down­side days and two nearly 90% Down­side since the Feb­ru­ary 18 high. How­ever, that opin­ion could change if the SPX can hold above 1280 com­bined with a 90% Upside Day.

Source: Granny Geek.

Sites for mon­i­tor­ing earth­quakes:
http://earthquake.usgs.gov/earthquakes/recenteqsww/Quakes/quakes_all.php
http://www.msnbc.msn.com/id/42037498/ns/world_news-asia-pacific/

Copy­right © Ray­mond James

Tags: Asian Floods, Beached Whales, Chief Investment Strategist, Coal Stocks, Commodities, Earthquake Activity, energy, energy stocks, ETF, Floods Droughts, Hurricane Activity, India, jeffrey saut, Jim Berkland, Mass Hysteria, Neil Cavuto, oil, Russia, Santa Clara California, Topical View, Tropic Of Capricorn, Volcanic Ash, Weather In September, Weather Pattern, Weird Weather, Wheat Crop
Posted in Commodities, Energy & Natural Resources, ETFs, India, Markets, Oil and Gas | Comments Off

The Influence of Fear (Watson)

Monday, March 21st, 2011

The Influ­ence of Fear

Gareth Wat­son, CFA – Vice Pres­i­dent, Invest­ment Man­age­ment and Research, Richard­son GMP

For some time now, mar­ket fore­cast­ers had been call­ing for some form of mar­ket con­sol­i­da­tion con­sid­er­ing that many global indices had been ral­ly­ing since Sep­tem­ber. The unfor­tu­nate dis­as­ter in Japan last week cre­ated the oppor­tu­nity for that con­sol­i­da­tion and investors acted accord­ingly. As we approached mar­ket close last Fri­day, lit­tle did we know how exten­sive the  dam­age was in Japan, nor  did we under­stand the nuclear prob­lems that would send global mar­kets lower on Tues­day in par­tic­u­lar. The lack of con­crete infor­ma­tion com­ing from the Fukushima Dai­ichi nuclear facil­ity forced many investors to hit the panic but­ton. Trad­ing off of fear causes us to sell first and think later. How­ever, once the ini­tial panic sell­ing tran­spired, there was a recog­ni­tion in a num­ber of mar­kets that such a broad based sell off had cre­ated some buy­ing oppor­tu­ni­ties. While many mar­kets fin­ished the week lower, they did man­age to regain lost ground as the week pro­gressed. The TSX Index was for­tu­nate enough to post a weekly gain.

With­out a doubt Japan dom­i­nated mar­ket activ­ity this week and will likely top head­lines again next week. How­ever, we did see other events develop across the globe includ­ing an esca­la­tion of ten­sions in Bahrain while the U.N. Secu­rity Coun­cil cre­ated a no-fly zone in Libya. Europe was still top­i­cal as Por­tu­gal was down­graded after last week’s down­grade for Spain, the United States bought itself more time to pass a bud­get, and Par­lia­ment returned to Ottawa before next week’s budget/confidence vote which could send our coun­try into an election.

Com­modi­ties were on quite a roller coaster ride as the events in Japan caused some investors to sell and hold cash while other investors feared that global demand for resources could decline as Japan is the third largest national econ­omy in the world. Yet, some com­mod­ity prices rebounded mid-week as the emerg­ing mar­ket growth story is still largely intact and geopo­lit­i­cal events in the Mid­dle East and Libya helped boost spec­u­la­tive pre­mi­ums in the energy space.

With the volatil­ity of com­mod­ity prices increas­ing, we also saw sim­i­lar trad­ing pat­terns for the Cana­dian dol­lar which lost just over a cent on the week, but was down almost 2.5 cents at one point on Tuesday.

What's Going On With the Japan­ese Yen?

Con­sid­er­ing what’s hap­pened to Japan over the past week, it would be nor­mal to assume that its cur­rency, the Yen, would weaken since so many aspects of the Japan­ese econ­omy have been
impaired. How­ever, the com­plete oppo­site hap­pened as the Yen appre­ci­ated against the U.S. dol­lar after the earth­quake and tsunami struck. The Yen strength­ened even after the Cen­tral Bank of Japan poured bil­lions of dol­lars into Japan’s finan­cial sys­tem to weaken the Yen and help exporters by mak­ing Japan­ese prod­ucts cheaper. The strength is likely a result of the expec­ta­tion that Japan may have to repa­tri­ate a lot of for­eign hold­ings in order to have the money required to rebuild the coun­try. Friday’s mate­r­ial weak­en­ing of the Yen was a result of G7 Cen­tral Banks com­ing together to sell Yen hold­ings while buy­ing bas­kets of other currencies.

The Trad­ing Week Ahead

There is no doubt that Japan will be a dri­ving fac­tor for investor sen­ti­ment next week as offi­cials try and get the upper hand on the nuclear sit­u­a­tion. How­ever, the intro­duc­tion of a no-fly zone in Libya and other stir­ring ten­sions in the Mid­dle East could cer­tainly see this region return to the front pages and have a mate­r­ial influ­ence on crude prices. Next week will be quiet   with respect to eco­nomic releases in Canada. How­ever, we will see some mean­ing­ful data in the U.S. per­tain­ing to GDP growth, con­sumer con­fi­dence and the hous­ing market.

As the vast major­ity of earn­ings sea­son has come and gone for the quar­ter, we won’t see many earn­ings releases amongst large cap com­pa­nies in North Amer­ica in the com­ing days. One excep­tion is Research in Motion which will report its fis­cal Q4/11 earn­ings on Thurs­day after mar­ket close. Investors will be anx­ious to see results from Christ­mas sales but will also be look­ing for more details con­cern­ing the launch of the long awaited Play­book tablet device which has been rumoured for release on April 10.

While cer­tainly less sig­nif­i­cant from a global per­spec­tive, the Con­ser­v­a­tive Gov­ern­ment in Canada will table a bud­get on Tues­day and as usual there is all kinds of spec­u­la­tion that we could be headed for an elec­tion. Regard­less of the out­come, we would not be sur­prised to see the Cana­dian dol­lar weaken slightly if an elec­tion is called, unless investors don’t expect Canada’s polit­i­cal land­scape to change. In this case, the loonie may not be affected at all by domes­tic politics.

Tags: Canadian, Canadian Market, Cfa, Commodities, Commodity Prices, Confidence Vote, Currency, Emerging Markets, energy, Escalation, Fly Zone, Fukushima, Global Demand, Global Indices, Global Markets, Gmp, Initial Panic, Investment Management, Last Friday, Market Consolidation, Market Forecasters, National Economy, Nuclear Facility, Nuclear Problems, Panic Button, Roller Coaster Ride
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Oil's Piracy Premium

Monday, March 21st, 2011

by Frank Holmes, CEO, CIO, U.S. Global Investors

Hol­ly­wood pirates such as Jack Spar­row and Black­beard are glo­ri­fied char­ac­ters among unciv­i­lized peers, steal­ing from the rich and acquir­ing boun­ties of gold. While the adven­tures of these 19th cen­tury car­i­ca­tures are enter­tain­ing, their 21st cen­tury descen­dants are a grow­ing threat to a ship­ping indus­try respon­si­ble for nearly 80 per­cent of the world’s trade.

Pirate attacks are on pace to set a nine-year record in 2011, accord­ing to data from the Inter­na­tional Cham­ber of Com­merce, which tracks global pirate attacks.

Over the past five years, the num­ber of attempted pirate attacks around the world has nearly dou­bled to 445 in 2010. Pirates suc­cess­fully boarded the attacked ves­sels in 50 per­cent of these attempts. It’s esti­mated that only 30–40 per­cent of attacks are reported to inter­na­tional agen­cies so these are pretty con­ser­v­a­tive fig­ures. Cur­rently, 750 sea­far­ers on over 30 ves­sels are held hostage by pirates demand­ing enor­mous ransoms.

Dur­ing that same time period, the aver­age ran­som paid to release hostages and ves­sels has increased dra­mat­i­cally. In 2010, the aver­age ran­som for hijacked ships was $5.4 mil­lion, includ­ing a record $9.5 mil­lion paid in Novem­ber for a South Korean oil tanker. This is up sub­stan­tially from 2005 when the aver­age ran­som paid was about $150,000, accord­ing to oil indus­try ana­lyst PIRA Energy Group.

The largest prob­lem area has been off the coast of Soma­lia. The country’s his­tory of piracy extends over 20 years since the fall of its gov­ern­ment. In an attempt to pro­tect their waters from being over­fished, Somali vig­i­lantes began forc­ing fish­er­man in the area to pay a tax.

The area Somali pirates con­trolled was once only along the coast of Soma­lia to the Gulf of Aden. Now, fol­low­ing a con­cen­trated effort by naval ves­sels to erad­i­cate piracy in the area, these pirates are extend­ing their destruc­tive efforts to one of the most impor­tant ship­ping areas in the world: the Ara­bian Sea, Red Sea and Indian Ocean.

Their tac­tics have become more sophis­ti­cated. The revised scheme is to use pre­vi­ously hijacked ves­sels, called “moth­er­ships,” to trans­port peo­ple and sup­plies as far as 1,500 nau­ti­cal miles from land, mak­ing it much more dif­fi­cult for naval war­ships to patrol.

With Somali pirates cov­er­ing a larger area, there’s an increased risk to energy tankers enter­ing the Indian Ocean headed for key ports in Indone­sia, India and China. In 2010, one-third of all pirate attacks were tar­get­ing ships car­ry­ing chem­i­cals, crude oil and nat­ural gas. This has increased from just 20 per­cent five years ago.

One coun­try bear­ing the brunt of Somali piracy is neigh­bor­ing Kenya. The Kenyan Ship­pers Coun­cil (KSC) esti­mates that piracy increases the cost of imports by $23.8 mil­lion per month, and exports by $9.8 mil­lion per month, accord­ing to One Earth Future, a global think tank on trade.

Across the con­ti­nent, Nigeria’s oil indus­try has been a direct tar­get of pirates. One Earth Future cal­cu­lated that Nigeria’s oil pro­duc­tion has dropped by 20 per­cent since 2006 as a result of piracy and other attacks. Royal Dutch Shell esti­mates that approx­i­mately 100,000 bar­rels a day (roughly 10 per­cent) of Nigeria’s oil pro­duc­tion is stolen every day.

To avoid the high-risk areas and pro­tect the work­ers on the ships and sup­plies from a pirate attack, these tankers have changed their routes. They now travel far­ther east toward the coast of India before head­ing south, adding six days of travel time for a West­ern des­ti­na­tion and increas­ing travel expenses for the ship­per. Energy tankers are also employ­ing armed secu­rity guards, pay­ing increased insur­ance rates and retro­fitting their ves­sels to lessen the chance of a pirate attack.

One Earth Future esti­mates the global cost of piracy on the econ­omy has grown to approx­i­mately $7 to $12 bil­lion a year.

Oil trans­port is specif­i­cally sus­cep­ti­ble to piracy because about one-half of total pro­duc­tion is moved by tankers on fixed mar­itime routes, accord­ing to the U.S. Energy Infor­ma­tion Admin­is­tra­tion (EIA). This oil flows through choke­points such as the Strait of Hor­muz between Oman and Iran and the Strait of Malacca between Indone­sia, Malaysia and Singapore.

PIRA cal­cu­lated the increased costs related to oil tankers in the table. Con­sid­er­ing all factors—vessel diver­sion costs, addi­tional bunkers, armed guards, hull insurance—the total cost is approx­i­mately 40 cents per bar­rel when trans­port­ing oil in and around this area.

When you con­sider a super­tanker can trans­port up to 2 mil­lion bar­rels a day, it adds up. Under PIRA’s cal­cu­la­tions, the piracy sur­charge tacks on another $800,000 to the total ship­ping cost.

Over the past 30 years, the Inter­na­tional Mar­itime Orga­ni­za­tion (IMO) has suc­cess­fully low­ered the risk of pirate attacks in other regions around the world. With the recent esca­la­tion of piracy around Soma­lia, gov­ern­ments and world­wide orga­ni­za­tions includ­ing the United Nations are now work­ing in con­cert with the IMO to curb these attacks. Their theme for 2011, “Piracy: Orches­trat­ing the Response,” rep­re­sents an increased aware­ness of the world-wide polit­i­cal changes required to reverse this trend.

Tags: Arabian Sea, Blackbeard, Bounties, China, Conservative Figures, energy, Energy Group, Frank Holmes, Gold, Gulf Of Aden, History Of Piracy, India, International Chamber Of Commerce, Jack Sparrow, Naval Vessels, oil, Oil Tanker, Pirate Attacks, Same Time Period, Sea Red, Seafarers, Shipping Areas, Shipping Industry, Somali Pirates, U S Global Investors
Posted in Energy & Natural Resources, Gold, India, Markets, Oil and Gas | 1 Comment »

U.S. Equity Market Cheat Sheet (March 21, 2011)

Saturday, March 19th, 2011

U.S. Equity Mar­ket Cheat Sheet (March 21, 2011)

The fig­ure below shows the per­for­mance of each sec­tor in the S&P 500 Index for the week. One sec­tor increased and nine decreased. The best-performing sec­tor for the week was energy which rose 0.37 per­cent. Other top-three sec­tors were mate­ri­als and tele­com ser­vices. Util­i­ties was the worst per­former, down 4.3 per­cent. Other bottom-three per­form­ers were tech­nol­ogy and con­sumer discretion.

Within the energy sec­tor the best-performing stock was South­west­ern Energy which rose 11 per­cent. Other top-five per­form­ers were Peabody Energy, Con­sol Energy, Cabot Oil & Gas, and Range Resources Corp.

Strengths

• The coal & con­sum­able fuel group was the best-performing group for the week, up 10 per­cent. All three stocks in the group increased for the week as investors appeared to seek out coal stocks in the expec­ta­tion that coal usage for power plants would increase due to uncer­tainty over the future of nuclear power as a result of the dam­age to the nuclear plant in Japan.
• The diver­si­fied met­als & min­ing group out­per­formed, ris­ing 4 per­cent, led by its largest mem­ber, Freeport McMoRan Cop­per & Gold. A major bro­ker­age firm reit­er­ated its “out­per­form” rat­ing on the stock, cit­ing their view that the shares are pric­ing in a lower cop­per price than they believe is war­ranted. The price of cop­per increased dur­ing the week.
• The con­struc­tion & farm machin­ery group rose 3 per­cent, led by its largest mem­ber Cater­pil­lar, which reported that retail sales were up 59 per­cent in the three months ended in Feb­ru­ary, an accel­er­a­tion from the 49 per­cent gain reported for the three months ended in Jan­u­ary. It was the tenth-straight month of improv­ing sales.

Weak­nesses

• The footwear group was the worst-performing group for the week, down 11 per­cent, led by its sin­gle mem­ber, Nike. The firm reported third-quarter earn­ings below the con­sen­sus esti­mate, and it said that gross mar­gins fell 1.1 per­cent­age points in the third quar­ter. Also, mar­gins are expected to nar­row by 3 per­cent­age points in the fourth quar­ter and con­tinue to decline in the next fis­cal year. The com­pany has been hurt by higher prod­uct costs, ele­vated freight costs, and a smaller pro­por­tion of license revenue.
• The apparel & acces­sories group declined 9 per­cent, led by Coach and Polo Ralph Lau­ren. Lux­ury goods retail­ers sold off in response to the nuclear power plant dis­as­ter in Japan.
• The elec­tronic man­u­fac­tur­ing ser­vices group under­per­formed, falling 8 per­cent. Group mem­bers Jabil Cir­cuit and Molex sold off after elec­tron­ics con­tract man­u­fac­turer Sanmina-SCI warned that its fis­cal sec­ond quar­ter end­ing in March will be below ana­lysts estimates.

Oppor­tu­ni­ties

• There may be an oppor­tu­nity for gain in merger & acqui­si­tion (M&A) trans­ac­tions in 2011. Cor­po­rate liq­uid­ity is high, thereby pro­vid­ing the means to pur­sue acquisitions.

Threats

• Should investors’ expec­ta­tions for an improv­ing econ­omy not come to fruition on a rea­son­able time frame, it could be a threat to stock prices.
• Quan­ti­ta­tive eas­ing (QE2) cur­rently being imple­mented by the Fed­eral Reserve might result in unin­tended consequences.
• The nuclear dis­as­ter in Japan cre­ates uncer­tainly, which is not good for stock prices.

Tags: Amp Farm, Brokerage Firm, Cabot Oil, Coal Stocks, Coal Usage, Consensus Estimate, Consol Energy, Copper Price, energy, Freeport Mcmoran, Freeport Mcmoran Copper, Fuel Group, Gold, Gross Margins, Improving Sales, Machinery Group, Mining Group, oil, Peabody Energy, Performing Group, Price Of Copper, Range Resources Corp, Southwestern Energy
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