A Perfect Marriage

A new bull market…not only in the "fastest-growing primary energy source in the world," but in an increasingly widespread method of transporting it.

It’s no secret – the world is draining dry its oil inheritance. Outside of the Middle East, a new giant oil field hasn’t been discovered in 30 years. America has only 21 billion barrels of oil reserves left, enough to meet demand for just two years.

Even in the Middle East, new oil fields are becoming harder to find. Meanwhile, China and India hunger for vast amounts of energy to satisfy a population of 2.3 billion people demanding the comforts of an industrial economy.

Alternative energy sources are no elixir. Giant windmills spin, but only when wind blows. In North America, the last nuclear power plant was built in 1978, and scientists are still vexed with what to do with the radioactive waste. Hydrogen can power vehicles, but only if the vehicle is as big as a bus.

Liquid Natural Gas: Oil Sands and Natural Gas

Yet there are two energy sources that can indeed meet the world’s demands for the next half-century – oil sands and natural gas. The latter just happens to be the fastest- growing primary energy source in the world.

The Department of Energy projects that 900 of the next 1,000 U.S. power plants built will burn natural gas. Worldwide, consumption of natural gas is projected to more than double between now and 2025. But the most robust growth in natural gas demand will occur in the developing world, where demand is expected to rise by 4% per year.

According to the Department of Energy, "Much of the growth in [the developing world] is expected to fuel electricity generation, but infrastructure projects are also underway for natural gas to displace polluting home heating and cooking fuels in major urban areas, such as Beijing and Shanghai."

It would seem like a perfect marriage: The nations with the largest amounts of natural gas – like Russia and of course, the Middle East – are eager to sell, while the nations with the greatest need for natural gas are eager to buy. And since natural gas is a clean fuel, even the environmentalists are happy.

However, there is one problem: How do you get that gas from the countries that hold major gas reserves – distant countries like Iran, Saudi Arabia or Venezuela – to the United States?

Liquid Natural Gas: Cooling the Gas

Unlike oil, which is liquid at room temperature, methane is gaseous. In its natural form, the only viable way to transport natural gas is via pipeline. But to move massive amounts of natural gas through pipelines from, say, Saudi Arabia to China is not only economically unfeasible, but politically foolhardy. Fortunately, there is a solution: Liquid Natural Gas, or LNG.

Liquid Natural Gas is methane cooled to less than -161°C. At that extreme temperature, it becomes a boiling liquid that can be stored in heavily insulated tanks. Every chemistry student knows that such extreme temperatures are difficult to achieve, even in a test tube. Yet great technical advances over the past half-century have made the conversion and transportation of liquid gas economically feasible.

The first experiments with turning methane to liquid were carried out in the United States in the 1950s. In 1959 LNG was delivered to England. Commercial deliveries of LNG from Algeria to Europe began in 1964, and five years later the industry grew greatly when steady deliveries of LNG were made from Alaska to Japan.

The Arab oil embargo in 1973 spurred growth in the industry, and the first LNG supply contracts were signed. During the 1970s, four LNG terminals were built in the United States. However, the development of gas pipelines from Alaska and Canada to U.S. markets resulted in the collapse of LNG sales to the United States.

Yet the LNG market bounced back and grew steadily in the 1980s and ’90s, principally with imports moving to Asia and Europe. The necessity of LNG, coupled with cost-cutting technologies and economies to scale, have made LNG an increasingly competitive fuel source.

Liquid Natural Gas: Markets Opening Up

Since 1999, the high cost of crude oil and a sharp increase in demand for natural gas have resulted in the rapid growth of the market for LNG. Today’s major LNG market is Asia, where 71% of the world’s LNG cargo is delivered. But other markets are already opening up: Europe, for instance, where LNG terminals in Spain, Portugal, Turkey and Greece will probably soon be joined by terminals currently under consideration in France, Italy and Spain.

The interest in LNG has also spread to our portion of the globe. An LNG terminal was completed in Puerto Rico in 2000, while another is under construction in the Dominican Republic. There is even a proposal to build a terminal in Mexico, a country with considerable oil reserves.

But the interest in LNG doesn’t stop there. In the past three years, new production and port facilities have also been built in Oman, Qatar, Nigeria and Trinidad.

Clearly, any past prejudices against LNG and concerns surrounding producing and delivering it are dissipating. "What is [now] being challenged is the mystique about LNG technology – that in order to be viable, LNG plants must be large, with increasing sophistication and complexity," says Martin Houston, a senior LNG administrator. "In addition there was the view that only a few companies had the necessary technical expertise to undertake LNG projects."

With production and delivery concerns subsiding, interest in LNG is growing. Currently, LNG makes up only 6% of the world’s natural gas trade. But as demand for natural gas grows – especially in the developing world – the LNG industry will see a surge in growth.

Between 1995 and 2001, pipeline exports grew by 39%. The LNG trade grew by 55%. And think about this: World LNG trade totaled 120 million tons in 2002. It is expected to surpass 160 million tons by 2006, a growth of another 34%.

That kind of growth is extraordinary, especially for an energy thirsting world…and it’s phenomenal for real asset investors. Look for exciting opportunities ahead in this sector, as the market for LNG really gets off the ground.


John Myers
for The Daily Reckoning
February 19, 2008

P.S. LNG is clearly a subject of increasing attention…especially since last summer, when Energy Secretary Spencer Abraham proposed holding a LNG summit, which took place in December of 2003. Fed Chairman Alan Greenspan is also singing the praises of LNG, noting that LNG is an important industry that can act as a "safety valve" for the energy needs of the United States.

That’s a lot of attention to pay to a relatively new industry. Yes, LNG has been around since the 1960’s, but only recently have energy leaders stressed its importance in meeting the world’s future energy needs. That’s an important factor to remember. Since these developments are so new, now is the time to get in on this sector.

Editor’s note: John Myers – son of the great goldbug C.V. Myers – is the editor of Outstanding Investments. Our man on the scene in Calgary, John has his fingers on the pulse of natural resource profits – including oil, gas, energy and gold.

This essay was originally published in the February edition of Outstanding Investments, in which John takes an in-depth look at opportunities to profit from the exploding market for LNG.

"We live with fraud and pretense everywhere…our lives are wrapped up in them. Best not to try to deconstruct them too much; you will have nothing left."

Merryn Somerset Webb is the editor of the U.K. magazine MoneyWeek and a Daily Reckoning aficionada. She offered your editor this sage advice over lunch yesterday.

We are thinking about it, dear reader. Everywhere we look, we see fraud, vanity, deceit, and charlatanism. And yet, we dare not scratch the surface too hard, for we fear to scrape away what lies beneath…something real…real blood…real tears…genuine, honest, feelings.

That is what is really behind the big patterns we see in markets and economies, said Ian Gordon over drinks last night. "Mood" drives the credit cycle. Take away all the numbers and the economists’ jargon, and it is the public’s emotions that cause the massive swings in prices.

Ian is a professional Canadian mining capitalist and amateur historian. He writes his own newsletter, The Long Wave Analyst, in which he applies Kondratieff theory to today’s market conditions.

In a recent issue, he quotes W.D. Gann’s letter to clients from 1928:

"When the time cycle is up, neither Republican, Democrat, nor our good President Hoover can stem the tide. It is natural law. Action equals reaction in the opposite direction."

"The time cycle has now moved from the Kondratieff autumn to winter," Ian continues, bringing us up to date, "and there is nothing that Alan Greenspan, President Bush, or other ‘powers that be’ can do to bring back autumn. Nor can they reverse the inevitability of the Kondratieff winter, which is now upon us. Like his Republican predecessor, Herbert Hoover, President Bush will probably be a one-term president…"

Back to 1928 and W.D. Gann: "The present bull campaign has lasted longer than any previous campaign in the history of this country. The fact that it has run longer and prices have advanced to such abnormal heights means that when the decline sets in, it must be in proportion to the advance.

"In making my calculations on the stock market, or any future event, I get the past history and find out what cycle we are in and then predict the curve for the future, which is a repetition of past market movements. The great law of vibration is based on like producing like."

"It’s really very simple," Ian explained after he’d had a few. "People go deeper and deeper into debt during the expansion stage of the long cycle. Then, they have to pay it back."

In the epoch described by Gann, Americans’ debt rose to more than 250% of GDP. Then, in the ‘winter’ of the cycle, Americans saved like the Chinese. Savings rates hit nearly 20% during the ’40s. By 1950, debt had dropped to less than 150% of GDP. It took nearly another half century before the public’s mood returned to the exuberant levels of the late ’20s.

"The most important thing is to know where you are in the cycle," says Ian. By his reckoning, it is later than most people think: early winter. The decline has begun, but the average investor has not yet realized it. Debt to GDP has reached over 300%. We have seen estimates as high as 360%.

Advice to readers: You don’t have to be a weather forecaster to own a winter coat.

And now, while we’re waiting for bad weather, here’s Addison with the financial news:


Addison Wiggin, writing in Paris…

– "The market can remain irrational," we remind readers of the insufferable Keynes quote again, "longer than you can remain solvent."

– Past events require us to suspend our disbelief while examining today’s irrational stock prices. "History suggests," said a study published by a firm called CyberTrader featured in today’s USAToday Money section, "that stocks might still have room to run before suffering a 5% pullback."

The past four times the S&P 500 has gone 217 trading days without a 5% correction, the market has kept chugging higher. Performance history:

Year           Next 3 mos.           Next 12 mos.
1954          8.5%                      38.3%
1958          8.9%                      11.2%
1993          4.1%                      1.5%
1995          7.6%                      14.2%
Avg.           7.3%                      16.3%

– "Through the end of January," William Livesey, the CyberTrader report’s author, told McPaper, "the S&P 500 had gone 217 trading days without losing 5%. There have been four other occasions since 1954 when the benchmark index enjoyed a correction-free period of 217 sessions. In every case, stocks were higher three, six and 12 months later, the study found. The average gain a year later: 16.3%. More encouraging is the fact that, on average, the market went an additional 76 days before sinking 5% or more."

– Livesey, of course, interprets the data as being bullish. "I’d say we will probably not see a correction until after May," he said. Then again, the fact that this study graces the front page of the USAToday Money section is dubious news to any self-respecting contrarian. For when the herd all thinks the same thing, he knows…they’re about to get another think comin.’

– Not so yesterday, however. The S&P 500 fought off selling pressure following a lower-than-expected Institute of Supply Management index number. The ISMN index came in at 63.6 – a 20-year high for the third straight month, but missing analysts’ projections by nearly half a point. The S&P immediately began selling off…but fought back in late trading to close 4 points higher for the day at 1,135. Yesterday’s gain of 4 points to 1135 stretched that to 218 days. Likewise, the Dow tacked on 11 to 10,499. The Nasdaq was off 3 at 2063.

– We’ve been ogling the fact that the stock market circa 2003 resembles the bubble year 1999 in disturbing ways. And disturbing it is…at least, for ‘investors.’ ‘Speculators,’ on the other hand, are stripping off their clothes and leaping headlong back into the pool…skinny dipping in broad daylight…fearless of getting caught with their pants down.

– A chart in this morning’s Wall Street Journal shows just how brazen these lumpen-hussies have gotten. Since the beginning of what the editorial staff at the WSJ has now begun to call the new Bull Market, guess which sector is heading the pack? Why, tech stocks, of course! Since October 9, 2002, the Dow Jones tech stock sector has raced ahead 105%, followed distantly by the Financials at 60% and our old pal Telecom, up about 45%. Ohhh…will the shameless never learn?

– "…Of some concern to investors," the WSJ grants, "is the fact that the technology surge seems to be powered by the same fuel that powered in 1999: monetary stimulus. As was the case in 1999, when the Federal Reserve was worried about possible computer glitches in the year 2000, low interest rates and easy money have provided more cash than companies can invest in their businesses, and a lot of that money has found its way into stocks." Really…

– Of course, despite the fact that the S&P 500 is trading at 24 times trailing earnings…and the Nasdaq 100 at 54 trailing earnings…the WSJ mollifies its readership by suggesting things aren’t quite as heady as the bubble top in 1999. Back then, you’ll sigh with relief, the S&P 500 traded as high as 36 times trailing earnings. The Nasdaq 100 was getting lightheaded at 165 earnings. So…never fear, trade on!

– But please do be careful. As recently reformed tech bull Porter Stansberry points out, pitfalls abound. "Red Hat," writes Mr. Stansberry in The Blast, a daily e-mail for subscribers to his Pirate Investor group of investment advisories, "a company that packages the free Linux computer operating system and sells it to corporate users, is now valued by the stock market for $3.6 billion. That’s almost 30 times its sales estimate for 2004. Not 30 times future earnings…30 times future sales.

– "That’s about the richest valuation I’ve ever seen for a company with over $1 billion in market capitalization," Porter continues. "It must be a super-profitable company, right? Wrong. Over the last three years the company lost $232 million…before giving away $181 million in stock options. How ridiculous is Red Hat’s share price? Barron’s recently pointed out that Red Hat is trading for a larger value than the entire likely future revenues of its industry.

– "By 2007, software analysts estimate the total size of the paid-Linux market will reach $600 million…that’s about 1/6th of Red Hat’s current market capitalization. How much would a knowledgeable investor pay for a company like Red Hat? Novell, a long-established corporate software maker, paid $210 million for German Linux reseller, SuSe Linux last year. What do individual investors know about Linux that Novell doesn’t? Nothing. The drunks are paying 14 times too much.

– "Careful," warns Stansberry, "the drunks will wake up soon." And then we’ll be in 2000 all over again…with fuzzy-headed investors rubbing their eyes in disbelief…trying to make out the numbers printed in their retirement account statements.


Bill Bonner, back in London…

*** Gold is down…great! The yellow metal dropped as low as $395 yesterday, comfortably below our buying target. Buy! Gold is like a winter coat, we remind readers; we may not need it, but we ought to have one anyway. The seasons have a way of changing whether we want them to do so or not.

*** The yen is up! Despite spending nearly a quarter of a trillion dollars over the last 13 months to put some spine in the greenback, the dollar slumped like a teenager yesterday…dropping to its lowest level against yen in 3 years. What would happen if the Bank of Japan just let nature take its course, we wonder?

*** Meanwhile, Americans are acting as though they had nothing to fear but fear itself. Bloomberg reports that they are spending money twice as fast as they earn it.

*** Here is something that looks like good news: Factory growth is at a 20-year high. But…what’s this…factory jobs are still declining! Oh, well…the laid-off factory hands can get jobs parking cars at Starbucks…(try to get some guy in Mumbai to do that!)…while other laid-off workers hang around, sipping coffee, checking the want- ads…

*** Oh là là… lies, lies, lies…

Bush and Blair went to war over weapons of mass destruction…

Of course, it was a lie – there never were any WMD, they now admit. Both Bush and Blair say it was an honest ‘mistake’; they blame the spies…each has called for an ‘investigation’…

Which is another lie, of course. As former Treasury Secretary O’Neill reports, the administration planned to go war with Iraq even before the WMD charge was invented…

So, the Bush team now attempts to shift the whole war aim to "building democracy"…which is yet another lie. Neither you, nor we, nor any sensible American really cares who governs Iraq…provided he minds his own business.

Besides, democracy is itself a fraud. People can vote all they want…it won’t make them any richer, happier, or thinner.

"Of course, democracy is a fraud," said Merryn. "Everybody knows it. But it may be a useful fraud, like patriotism… or plastic surgery."

*** This from our colleague, Dan Ferris:

The Last Cheap Stocks In America

I went to the stock screener at www.msn.com today. Looking for cheap stocks, I used the following criteria to find some great values:

1) under 10 times earnings
2) under 1 times book value, and
3) under 1.5 times sales

These are the basic benchmarks of what I call "deep value opportunities." If I also insist on a decent measure of liquidity, say 100,000 shares a day, I get a mere 9 stocks.

There are over 7,000 companies whose shares are traded on U.S. exchanges. And there are only 9 that qualify as potentially undervalued according to my established benchmarks.

Here they are, the cheapest stocks in America, by earnings, book value and sales.

Korea Electric Power Corporation (KEP) This is the company that provides South Korea with 99% of its electricity. It’s got a nuke-happy dictator as its neighbor, so people are afraid of it.

Orthodontic Centers of America (OCA) This company provides simple services like bill paying, payroll and basic supplies for orthodontic practices. It’s having a huge problem digesting a dirt-cheap acquisition it made a couple of years ago, which appears to be blowing up in its face.

Webzen (WZEN) This company is a developer of online games in Korea. About 370,000 people in Korea and China use this company’s only product, a role-playing game called Mu.

Friedman’s Inc. (FRM) Friedman’s is the national jewelry chain, with about 600 stores, that sold a bunch of bad receivables to a finance company. Over 50% of its sales are on credit. It sells cheap jewelry to low- and middle-income customers, who default at a high enough rate to get it into trouble.

Videsh Sanchar Nigam Ltd. (VSL) This is an ADR for an Indian phone company.

Sea Containers, Ltd. (SCRA) This company ships people across the English Channel, Irish Sea and Baltic Sea. It’s also in hotels, railroads and publishing.

Applica Inc. (APN) Applica bought Black & Decker’s household appliances division a few years ago. It sells toasters, blenders, fans, hair dryers, pest control devices, food processors…you name it. It has about six other brand names, besides Black & Decker.

Nortel Inversora S.A. (NTL) This is a holding company whose sole asset is 55% of Telecom Argentina STET-France Telecom S.A., the Argentine phone company.

PXRe Group Ltd (PXT) PXRe sells catastrophe reinsurance. Reinsurance is insurance for insurance companies. This company survived Hurricane Andrew and 9/11, the two largest insured losses in history. Like Sea Containers, it is domiciled in Bermuda.

…My little screening exercise suggests that there’s almost nothing left to buy in the U.S. markets. Or any other markets, for that matter. My search included all the U.S. traded shares of foreign companies, too. And only 6 of them made the list. Four of these companies do all their business outside the United States.

Think about that for a minute. Of the last 9 cheap stocks in America, 6 are foreign and four don’t make a dime from U.S. customers. I’m not the least bit xenophobic. But it looks like investing in U.S. companies right now is a really bad idea.

*** An Indian reader of the Daily Reckoning:

"…It could be that something different is happening as many Indians who have been great skeptics in the past now tell me that despite all the well-known problems in the country (500mn living on less than a dollar a day) there is a feeling that the mindset has changed – Indians are no longer afraid of the outside world and believe, for the first time, that India can compete in the world and its people and companies can compete against the best in the world."

The Daily Reckoning