The Glory of the Financial Markets

Think the price of oil has soared? Think again.

Our colleague in Buenos Aires sets us straight:

“Since 2001 the dollar price of oil and gold have run in almost perfect tandem,” writes Chris Lowe. “The gold price has risen 239% since 2001, while the oil price has risen 267%. This means that if the dollar had remained ‘as good as gold’ since 2001, oil today would be selling at about $30 a barrel, not $99. Gold has traditionally been a rough proxy for the price level, so the decline of the dollar against gold and oil suggests a U.S. monetary policy that is supplying too many dollars.”

So there you are, dear reader. In terms of real money – gold – oil is still cheap. Then again, in terms of real oil, gold is cheap. In terms of anything real, everything else is realistic. In terms of gold, the ordinary American house is cheaper today than it was five years ago. In terms of oil, the average stock is barely half what it was five years ago. In terms of soybeans, even health insurance is a bargain.

What to make of it?

In terms of oil or gold, other commodities begin to look reasonable too. In fact, everything begins to look reasonable…even the euro (EUR). The European money has gone from a low of 88 cents to a high of nearly $1.50. Is the euro so great…or the dollar so awful? In terms of euros, American houses are about the same prices they were 10 years ago. Yes, there is a foul odor coming from the financial barrel. But it is the dollar that stinks.

One thing we make of it is the obvious thing: it is better to have real money than phony money. Real money holds up. When you have real money, you can buy real things…even if the price of those real things has soared in nominal terms.

Houses are real things. Land is even more real…in the sense that it can’t be fiddled with easily. You can build more houses, but you can’t create more land – at least, not easily.

“Land prices up 35%” says the Buenos Aires paper. Sellers are asking as much as $10,000 a hectare – about $4,000 an acre – for the best farmland. Small parcels bring as much as $15,000 per hectare, continues the report. They’ve been going up for the last six years, says La Nacion…which is about the same time commodity prices have been going up…and about the same time gold has been going up.

What a coincidence, no?

Soybeans have gone up 50% in the last six months. Farm profits have exploded, which have caused farmers to boost production as fast as they could. Small farmers and big agricultural corporations are both adding productive land as quickly as they can. Of course, a boom in production always precedes a crash of prices. But what does it mean when prices have only kept up with gold…that is, when adjusted to gold, they’re not really up very much at all?

We don’t quite know. But it looks to us that gold is doing its job. It’s telling the truth about what things are really worth, which is why we find it such an interesting investment. And if you’ve been toying with the idea of adding some of what we call ‘the ultimate wealth insurance’ to your portfolio, but have been turned off by the high price of the yellow metal – never fear. We know of a way you can still benefit from the epic rise in gold prices…without breaking the bank. In fact, you may only have to tap into your piggy bank.

A barrel of oil is worth about 1/8 of an ounce of gold. That’s about what it was worth in 2001…and it’s about what it is worth now. And wheat…and soybeans…and farmland…they’re all correctly priced too. At least in terms of each other. But many people are getting the wrong signals. They’re mistaking inflation gains for real gains…and they’re making errors. That’s what happened to the homebuilders, who thought that higher nominal prices meant that there was more real demand. Finally, they realized that the higher prices were largely an illusion. In the first place, they represented no real increase in demand…and in the second place; nominal prices went so high that people couldn’t afford to pay them. Result: falling sales.

And now we see farmers planting more soybeans as if they were houses. Argentina is covered with soybeans. And America is covered with corn and houses. House prices have already started to go down. It won’t be long before farm prices collapse too. All mistakes are corrected.

U.S. housing price increases, in the period 1997-2007, were mostly caused by increases in land prices – not increases in houses themselves. Builders thought they were making money…and so they built more. Really, what was happening was that the price of land was responding to a decrease in the value of the dollar. Builders were deceived. They were making more nominal dollars, but not necessarily more real dollars. And as they built more and more houses, pretty soon, the price of their output went down. Then, they stopped making even nominal gains. And even some of the best builders – notably Levitt and Sons – went bust.

Meanwhile, a sad note: gold, oil and wheat may be at record prices…but salaries have barely gone up at all. In other words, in terms of dollars, the average American is earning a bit more than he did five years ago. But in terms of gold, oil and wheat…his earnings have been cut in half – or worse. That is the great glory of the financial markets. No matter what people say…no matter what officials do…the markets always do what they have to do. Americans have been spending beyond their means for years. They haven’t been saving any money. And they’ve been losing their competitive edge to foreigners. Somehow, they had to get poorer, because that’s what excess consumption does to a people. But how could they get poorer? Could wages fall? Could the value of their assets go down? Yes, to both of those questions.

While American economists have been applauding the falling dollar – because it makes our exports cheaper – it also makes our labor cheaper. And it devalues every dollar we’ve saved…or earned…or carry around in our pockets. A lower dollar makes us poorer.

U.S. officials are doing all they can to deny inflation. They jiggle the numbers. And then they crunch them. And then they twist them into strange new shapes. But that’s nothing new…it’s just part of their futile attempt to prop up our current faltering economy and delay their coming day of judgment for just a little while longer. Find out who’s not telling you the truth here.

Here in Argentina, the official inflation rate is only 9%. But everyone knows the statisticians are lying. Experts say the ‘real’ inflation rate is closer to 20%. And even the government itself admits that the numbers are bogus. When it came time to adjust government salaries for inflation, the bureaucrats were happy to take an increase far above their own official numbers. In that sense, the Argentines are more honest than their American counterparts.

*** “Hurry up please, it’s time. Hurry up please, it’s time.”

In the parlor people come and go, talking not of Michaelango, but of Henry’s favorite book…or what he did last summer…or why he wants to study mathematics.

Two days after Christmas, we were all scheduled to get on a plane for Salta at 6:30 AM. But at 5 AM Henry and his mother were still at work on college applications – after working all night.

This peculiar behavior could be traced to a number of things. Henry’s procrastination. His mother’s distractions. His father’s world travel. Or the strange state of modern American educational system. Applications had to be posted by January 1st. And though it is true that Henry had 17 1/2 years to get his paperwork together, it was still not together at the last minute…which, in his case, was the moment he was supposed to leave for the high desert.

Not wishing to dwell on the shortcomings of Henry, himself or his family, your editor has decided to rant against higher education. Not merely because it caused both mother and son to miss their plane. But because it is a giant humbug.

“Dad, they want me to write an essay on ‘What would be the title of my autobiography and why,” Henry announced on the previous day.

“What a goofy idea…” his father replied helpfully, “Seventeen year olds don’t write autobiographies because they don’t have anything to say. They haven’t done anything yet. Maybe it should be something like ‘Blank Slate’ or ‘Empty Vessel’ or something like that.”

“Don’t you be silly,” Elizabeth joined in. “Henry has to get these applications in. And you’re just wasting his time. All of these essays are just an opportunity for Henry to sell himself. That’s what it is all about – selling yourself to the universities. And you have to go at it seriously or you won’t be able to get into a good one. Henry has to take this seriously. So, you should take it seriously too.”

By that time, your editor was taking it seriously. He had already come to realize what a serious flimflam the whole thing was.

Selling yourself to a major university is not easy. Apparently, each year thousands and thousands of children sell themselves…cramming for SAT tests…sweating to get good grades…scouring the Internet for a good college essay they can pass off as their own.

And what are they really doing? Why do they work so hard to sell themselves to a prestigious university? If they succeed, what do they get? For most, nothing but the opportunity to spend $150,000…drink beer…and fill their brains with a lot of useless, trivial, nonsensical and just plain wrong claptrap.

“You’re right Dad,” said Jules, a third-year student in Boston. “I know what I’m doing is a waste of time. I really should pay you back…I mean, it’s vaguely interesting…and I don’t know what else I’d do now. But it really isn’t worth the money.”

Jules is studying film.

“What do you actually do?” we wondered.

“Mostly, we watch movies and talk about them. Nothing I couldn’t do on my own…by watching movies and reading the film reviews.”

Ah, dear readers will say, that’s just film, a subject that is notoriously loose and un-serious.

Well, then, take economics. Much more serious, no? It’s the only subject we know anything about. And from what we can tell, the study of economics at the university level is a net-negative discipline. We cited some study recently. It told us that people who had taken an economics class did no better on a test of basic economic ideas than people who’d never opened an economics textbook. If they’d tracked these economics students a bit further they would have discovered that it got worse; the longer they stuck with it, the less they knew. The only theories in economics that make any sense are those that are simple, instinctive, and practically common sense. But the more people study economics, the more they come to believe fantasies. By the second year, they think you can boost employment by printing money. By the third year, they commonly think that central banks can control the business cycle…and by the fourth year they believe in the Tooth Fairy.

We studied English literature in college. And then law. A total waste of time, in our opinion. Psychology, sociology…the list of phony disciplines is the list of what modern universities offer – along with new ‘disciplines’ such as Africana and Gender Studies, Alternative Sexuality, and other folderol. Unless you’re studying the sciences, time in university could be better spent on a chain gang.

Still, the education industry has the entire country bamboozled. It puts out a velvet cord, as in a cheap nightclub, and insists that you have to pass through a rigorous selection process to get in. You’d think it would be the other way around. If a student is willing to spend $150,000, you’d think the university would have to stand in line to get the loot. Other luxury industries advertise heavily to get customers. A guy walks into a Tiffany showroom, for example, and is treated with respect. Normally, businesses are so eager for big-spending customers that they fall all over themselves to get them. But not the education business.

“Hey Dad, this one wants to know how I’ll contribute to the ‘learning community.’ It says, ‘learning takes place everywhere…not just in the classroom, but on the sports fields, the assembly rooms, the campus lawn, and the food hall. Tell us how you will contribute to the learning community on our campus.'”

And here the conceit of the industry reaches some crescendo. Of course, learning does take place everywhere – in nightclubs, assembly lines, and in the dark sweats of night. And every bit of learning comes at a price…but universities are the only places with the gall to charge you extra for it.

“Henry,” came the reply from his father. “We’re not paying $40,000 a year so you can talk to the other yahoos on campus. We’re paying the money so they can teach you…not so you can teach them. We’re paying the money so you can go to class and learn something in a disciplined, logical way. Tell them that if they want you to contribute to the education process out of the classroom, they’re going to have to pay you for it.”

Until tomorrow,

Bill Bonner
The Daily Reckoning
Buenos Aires, Argentina
Tuesday, January 8, 2008

The Daily Reckoning PRESENTS: As Bill mentioned above, the prices of commodities are soaring…especially the ones directly related to the ethanol boom, such as corn and soybeans. Our resident commodities guru, Kevin Kerr, tells us that another crop will benefit from all of the extra corn and wheat planting…and how investors can reap the rewards as well. Keep reading to find out…

By Kevin Kerr

It’s the start of a new year, and traders begin to try to figure out what trades will be the big winners in the coming 12 months. Now, it’s not exactly breaking news that agriculture markets have basically been on fire for the last couple of years. Corn has skyrocketed on the back of huge ethanol demand, and soybeans, for that matter, have too.

Wheat exploded this year on poor global crops and much higher demand. So is the big bull run for grains over? No, it’s actually just getting started. While I think wheat, soybeans and corn will continue to do very well, another crop may do even better in 2008 – cotton.

The longer-term effect of all the extra corn and wheat planting in the South could be a cotton shortage and much higher prices.

The general consensus is that many farmers are switching out of less profitable crops like cotton and rice and moving into the lucrative corn and wheat market, which has benefited from the ethanol boom.

According to the National Cotton Council’s early season planting intentions survey in 2007, U.S. growers intended to plant 13.2 million acres of cotton in 2007. This was a significant decrease of almost 14% from 2006, and 2008 is expected to be even more dramatic. Meanwhile, demand for cotton is showing no signs of slowing around the globe, especially in China.

China is wasting no time securing the natural resources it needs to keep its economy going – and that includes cotton. In fact, China’s so serious it has created its own futures market.

Chinese merchants and manufacturers are very serious about the cotton business; all you have to do is look at cotton futures trading on the Zhengzhou Commodity Exchange.

The exchange is no joke and is the center of cotton trading in Asia. Daily volume in Zhengzhou cotton futures, which will complete their first year of trading on June 1, is now running about 50,000 contracts. Open interest at the ZCE has been running between 60,000-80,000 contracts per day since last November – that’s just an incredible number.

To put it in perspective, 70,000 contracts per day is gigantic. It’s amazing to think that the New York Cotton Exchange reached this level only after a century of trading. Literally, it took 120 years and a record U.S. cotton crop to accomplish it. The ZCE did it in less than a year. The power of China is amazing.

Even with all the global interest in cotton, the futures have sold off heavily and there is a lot of bearish sentiment – at least until now.

If the picture is so bullish for cotton, then why has it been selling off so much lately? Good question!

One big reason is demand has not been as high as expected in the first quarter, which has limited the upside trade in cotton, at least for now.

Cotton futures have had a bit of a boost in the last few months that will likely continue into 2008 because of speculative fund buying in cotton. The price for cotton is still relatively very cheap.

Analysis of the farming regions in the United States indicates that all areas will have some reduction of cotton. The South will be affected the most.

Another factor to keep in mind is Mother Nature. Weather is always a major factor for any agricultural commodity, and it will be pivotal in determining final crop size, no matter what.

When we apply each state’s cotton yield in 2006 to its 2007 projected harvested acres, it generates a crop size of 20.5 million bales. At first glance, that’s not all that bullish, since it’s down only 1.2 million bales from the previous year’s number. But if we examine the numbers a little closer and look at history, we see crops are often subject to yield deviations – in other words, coming in less than expected.

When we look back over the past decade, a pattern of deviations is obvious. It suggests that under ideal conditions, 22 million bales would not be out of the question, while weather problems could also push the crop to the 18 million bale range.

Timing is everything in trading commodities. Be sure to act on buying the cotton before the planting intentions report. The best way to trade cotton is using the December 2008 cotton futures and/or options on the New York Board of Trade.


Kevin Kerr
for The Daily Reckoning

P.S. We are still urging readers to not get sucked into the ethanol hype…and we realize it’s hard, considering you can barely turn on the squawk box or pick up a newspaper without reading something about how it’s going to “save” America from their dependence on foreign oil – while being the best energy investment for your portfolio.

We beg to differ…ethanol isn’t a “miracle” at all – it’s a downright disaster in the making. For direct shareholders. For anyone in or around the industry. And for every American who believed the promises they’ve, so far, worked double-time to shove down our throats.

Editor’s Note: Kevin Kerr is the editor of two highly successful and acclaimed financial advisory newsletters, Resource Trader Alert and Outstanding Investments. A veteran commodities trader, Kevin uses his irreplaceable experience to advise his readers on a variety of commodities investments on a daily basis. Widely considered one of the nation’s top commodities gurus, Kevin’s expert opinions are routinely featured in the country’s premier media outlets.

The Daily Reckoning