One Index Finally Makes Water a Great Investment

“Water Shortages Pose Growing Risk for American Companies,” warns the Financial Times.

According to the article, now nearly a month old, iconic firms like AT&T and Hershey say one of the key factors in deciding where to build new facilities… is access to water.

“I think water is becoming the next big issue,” said John Schulz, assistant vice president of sustainability operations at AT&T. “There is a rising awareness from a business risk perspective that if we don’t start getting control of this, it could become a real business-impacting issue.”

In everyday life, California has been in dire straits too — with no relief in sight this spring from a paltry Sierra Nevada snowpack. Drought in Texas is prompting the state government to explore desalination, the removal of salt from seawater. Important locations overseas are parched as well — drought in Brazil has driven coffee prices to a record high.

You’d think water would be a compelling investment theme. And you’d be right. Unfortunately, you’d also be early.

Truth be told, water’s been a compelling investment theme for nearly a decade. The entire time, we’ve been regaled with alarmist factoids:

• The Ogallala aquifer that waters the Great Plains will be gone “in our lifetime,” according to the U.S. Agriculture Department
• Half the rivers in China have disappeared since 1990
• Worldwide demand for water will outstrip supply by 40% come 2030, according to a 2009 study prepared for a handful of giant companies including water guzzlers like Coca-Cola, Nestle and brewer SABMiller.

But investing in water has been, at best, a hit-or-miss proposition. The big water ETF, the PowerShares Water Resources Portfolio (PHO), underperforms the S&P 500. Ditto for supposedly slam-dunk stocks with California water rights, like the pricey and closely held J.G. Boswell Co. (BWEL).

Our own Chris Mayer made it work after issuing his readers a report on “Blue Gold” in 2006, recommending a basket of five obscure water stocks. Three of them doubled within 18 months. “But all investment themes eventually play out or expire,” he says. He sold them and moved on.

Which leaves a dangling question: When will water investing’s moment arrive… and fulfill its immense potential?

To date, water’s been a mostly unattractive investment because no one has a clue how much it really costs to bring new supply online.

“The oil industry will tell you that $100/barrel oil is the value below which capital allocation can earn a return,” writes Scott Rickards, CEO of Waterfund and son of Currency Wars author Jim Rickards. “Given its critical importance in our lives, why does the water industry not have a similar fast answer to the question?”

Whatever the reason, we’re living with the consequences: Water “has taken a back seat to virtually every other resource in the battle for private investment dollars,” Rickards says. Result: A place like Uganda can have abundant water… but only 7% of the country has indoor plumbing.

To help channel more investment dollars into water, Rickards’ firm teamed up last year with IBM to help shed light on water production costs. Together, they now publish the Rickards Real Cost Water Index (below).

Nearby, you see the global composite cost — up about 24% in the last five years. Of course, water is a local market, so Rickards and IBM have separate figures broken out for dozens of locations around the world.

The idea is to make this information form the basis of new financial instruments that can help investment banks and private equity firms hedge their risk — so they’ll no longer shy away from funneling capital into the sector.

“At one end of the spectrum, you have housing, the most overfinancialized sector of our economy,” Rickards told Yahoo Finance last year. “At the other end, you have water — there’s not a single financial product. Investors, Wall Street have pretty much ignored water. What we’re doing is using derivatives and insurance products to link to the index and enable risk management to actually take place for the first time in the water industry.”

Regards,

Addison Wiggin
for The Daily Reckoning

P.S. In time, Rickards anticipates one of the new financial products will be an ETF — giving you a chance to “go long the cost of water.” And in today’s email edition of The Daily Reckoning, readers were treated to a first-hand look at what Jim Rickards considers one of his “best investments” when it comes to investing in water. If you didn’t get it, you missed out on half the story – and all the profit potential that comes with it. Don’t let that happen again. Sign up for the Daily Reckoning email edition, for FREE, right here.