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The Daily Reckoning PRESENTS: Many investors seem to think that the bull market in natural resources has come to a halt – but Puru Saxena looks at many of the factors surrounding the commodities market and determines that this bull is still alive and kicking…


The past couple of quarters were traumatic for the commodities investor. After a huge advance, the natural resources’ bull came to a grinding halt before falling off the proverbial cliff. The carnage that followed yet again reminded investors not to chase “hot” assets after a big rally. So, what caused this sudden reversal…and is the commodities bull dead?

In my view, the recent decline was a classic correction or consolidation within the context of the primary bull-market and was caused by fears of monetary tightening. Back in May, everyone was worried about rising interest-rates; even the Bank of Japan had joined in the party by declaring an end to its zero-interest rate policy. As fear grew amongst the investment community, leveraged positions got unwound, causing a sharp reversal in commodities prices.

So, what will the future bring? In order to examine the commodities market, let’s review the following fundamental factors:

· Rapid industrialization and urbanization of Asia (led by China & India)

Whether you like it or not, the next century will belong to China. Apart from a major war, or natural disaster, not much else can stop the world’s oldest civilization from replacing the United States as the world’s most significant economy. The Chinese economy (GDP) continues to grow at an annualized rate of 10.4%, industrial production is surging by 16.1%, and its foreign exchange reserves are set to cross US$1 trillion within a matter of days, representing more than 20% of global reserves.

Sure, there is a lot of talk about the coming slowdown in China, but I suspect these fears are overblown. Even if its economy was to slow down considerably to, say, 7-8% of GDP growth, what difference will it make? Do you really think that the millions of Chinese would then park their cars, abandon their urban homes and move back to their communal villages? Somehow, I just don’t see this scenario unfolding. Even if the Chinese economy slowed down to 5% of GDP growth (50% decline from current level), it would still be far superior to the current economic growth-rates in the United States (3.5%), Australia (1.9%), Britain (2.8%) or Eurozone (2.7%). So, as far as the eye can see, I expect China to remain a major consumer of natural resources.

Moreover, if my assessment is correct, I anticipate India to become a major player in the commodities’ markets over the coming years. In tandem with China, India is developing at a rapid pace and its “modernization” will also require an immense amount of raw materials. The Indian economy is growing at 8.9%, industrial production is chugging along nicely at 9.7% and its foreign exchange reserves have soared to US$160 billion. Furthermore, the Indian government has recently unleashed plans to improve infrastructure (roadways, airports and shipping ports) by agreeing to build “special economic zones” within the country – great news for the commodities investor.

According to the Asian Development Bank, while the population in Asia as a whole grew by roughly 125% over the past 40 years (2.1% per annum growth), its urban population grew by 365% over the same period – to a level almost five times of the United States. Should current trends remain intact, the urban population in the region will rise by another 500 million by 2015.

In summary, over the coming decade, millions of Chinese, Indians and other Asians are likely to migrate to urban areas in search of a better life. People in cities consume more goods and (fortunately for the commodities investor) this additional demand will generate gigantic profits over the years ahead.

· Consumption-growth in Asia

During the past five years, the real driver of the world economy has been Asia, accounting for over half of the world’s growth since 2001. On the other hand, during the same period, the United States accounted for only 13% of global real GDP growth, using purchasing-power-parity (PPP). Even in current dollar terms, Asia’s 21% contribution to the increase in world GDP growth exceeded the 19% contribution from the US.

Contrary to the consensus view, the bulk of Asia’s economic-growth has been driven, not by exports to the United States, but by domestic demand. In fact, Asian domestic demand (consumption and investment) has been responsible for a big chunk of the region’s economic growth in the past year. This holds especially true in China, India, Malaysia, Japan and Indonesia. In direct contrast, growth in Taiwan, Hong Kong and Singapore has been largely export-driven, so an economic slowdown in the United States is likely to affect these economies a lot more than the rest of Asia.

For some bizarre reason, the majority of “experts” interviewed on the financial media often blame the Chinese for being too frugal and not spending enough. However, closer inspection reveals that domestic demand has been robust.

In China, over the past decade, real consumer spending has been growing at a blistering pace of 10% per annum – the fastest in the world and much faster than in the United States. Moreover, the savings of Chinese households have in fact fallen from 20% to 16% of GDP over the past decade. Despite rapid consumption-growth, the reason why the Chinese savings rate is so high (close to 50%) is due to the fact that the Chinese companies have been hoarding a big slice of their corporate profits.

Furthermore, it is not only the Chinese who have increased their consumption. Excluding China and India, Asian household savings have fallen sharply, from 15% of GDP in the late 1980’s to 8% today.

Today, several economists believe that a slowdown in United States consumer spending will destabilize the global economy and cause the prices of commodities to crash. I tend to disagree with this view since there is sufficient evidence that America’s importance in the global economy is diminishing. Over the past five years, America’s share of Asia’s total exports has fallen from 25% to 20% as regional trade has boomed and supported the economy. It is interesting to note that both South Korea and Japan already export more to Greater China (China, Taiwan and Hong Kong) than they do to the United States.

At present, household debt levels in China and India are extremely low compared to the developed nations, and this is another reason to be optimistic about commodities. In China, consumer debt represents only 12% of GDP, which is miniscule when compared to the more developed nations in Asia. In the future, when the Chinese banking system matures and credit becomes more easily available, I expect a big surge in Chinese consumption.

Today, per-capita consumption levels in emerging-Asia are extremely low and expected to rise significantly in the years ahead. This transformation will continue to have a profound impact on the prices of commodities.

· Global monetary inflation

Furthermore, on the monetary front, central banks continue to create inflation through money-supply and credit growth. As long as paper currencies are inflated, their value will continue to diminish against hard, tangible assets whose supply can’t be increased at the same blistering pace: thereby causing the prices of commodities to appreciate.

Based on the above factors, and considering that the public hasn’t even really started investing in commodities, I conclude that the natural resources bull is alive and well. The recent correction in this sector seems to be over and now is the time to load up on precious metals, base metals and energy.


Puru Saxena
for The Daily Reckoning
November 21, 2006

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Puru Saxena is the editor and publisher of Money Matters, an economic and financial publication available at www.purusaxena.com

An investment adviser based in Hong Kong, he is a regular guest on CNN, BBC World, CNBC, Bloomberg TV & Radio, NDTV, RTHK Radio 3 and writes for several newspapers and financial journals.

The above is an excerpt from Money Matters, a monthly economic publication, which highlights extraordinary investment opportunities in all major markets. In addition to the monthly reports, subscribers also benefit from timely and concise “Email Updates”, which are sent out when an important development in the capital markets warrants immediate attention. Subscribe Today!


When is a stock on the NYSE like a taxi?

From Paul Montgomery we learn that in the 1970’s people were so worried about the future of equities that you could buy a seat on the New York Stock Exchange for the same price as a New York taxi medallion. You can’t sell stocks on the exchange without purchasing a seat…and you can’t drive a legal cab in New York City without buying a medallion. Apparently, the rate of return was about the same for a stockbroker as for a taxi driver.

But now the financial industry is flush and the ratio is 18:1…with a seat on the NYSE going for $5 million and a taxi medallion for only $275,000. There must be a lot more money in stocks than there used to be. Whether measured by the VIX or by the DOW, Wall Street and its johns have never been so fat or so happy.

No break in stocks…no fall in the dollar…no fumble in America’s faith in its financial technology, its economy, and its empire…

Ergo, those things must still lie ahead.

The dollar/euro exchange rate has barely budged in many months; it seems to have put down roots – at $1.28 per euro.

And if you want to get rich buying stocks, dear reader, it looks like you’ll probably have to wait a few years more. Right now, stocks have no ‘wall of worry’ on which the shares can climb. Nobody worries about anything.

One exception is supposed to be the builders. While the market as a whole is blithe and rosy, the builders face little grumpy walls of worry all of their own.

They’ve been hit hard by the slump in housing that everyone sees coming.

“Home Sales Fall in 38 States,” says yesterday’s AP report.

Falling home sales is bad news for the builders. Still, in terms of trailing earnings, many of the big home building stocks are now pretty cheap. Some of our friends think they’ve become value stocks – trading below 10 times earnings. Besides, these companies have a lot of experience with downturns in the housing market; they know how to get through tough times.

The big question is: How tough will times be? If they are as soft and easy as most people expect, the builders will probably bounce back and the bulls on building stocks will be proven right. But what if the slump is worse than expected? Wasn’t this the biggest boom in housing the world has ever seen? Wasn’t it funded by an ’emergency’ interest rate policy…with the Fed’s key lending rate held lower for longer than ever in history? And wasn’t the whole thing aided and abetted by the most reckless lending in the mortgage industry since compound interest was invented?

If the force of a correction is really equal and opposite to the deception that preceded it, won’t the slump in housing be one for the record books too? We don’t know, but we wouldn’t leap to the conclusion that since the building stocks are cheaper than they were a year ago, they must be a bargain.

A new boom in housing will require two things: a new source of money…and a new pool of buyers. Where will they come from?

Well, there’s the next generation. But wait…what’s this?

“Twenty-Somethings Drowning in a Sea of Bills,” reports ABC News. “Young people struggle with the kiss of debt,” adds USA Today.

This next generation is the one that paid a fortune to go to college…that learned to run through a credit card before it was licensed to drive down a road…and that likes saving even less than the generation that went before it.

Of course, even when you’re drowning in a sea of bills, you can still buy a floating island of a house – at least in today’s wet markets. All you have to do is borrow. It comes altogether too easily. And as it comes, it goes.

There was a time (we recall it dimly) when people bought a home quite differently…as if they were getting married. The decision might have been taken after solemn contemplation or sans frivolity, but it was expected to stick. For better or for worse, people stayed put.

It was because people once expected to stay in the same house for the rest of their lives that they didn’t feel secure, or even comfortable, with a big mortgage hanging over it. It threatened them. They worried about it. So, they saved…they scrimped…and they dreamed of the day when they would be free from the burden. Then, if they lost a job…or lost their savings…at least they would still have home sweet home.

Today, those ideas may persist in Europe. But in America, everything and everybody seems to be in perpetual motion. Houses have become as exchangeable as spouses. People come and go. They get rid of one house and take up with another. When their fortunes improve, they give the old working-class house a major face-lift or they ditch it altogether and trade up…to a sleeker, newer, more fashionable model. And then, later in life, when that becomes too much for them, they downsize.

Houses are just places to live now, it seems…people appear to have much less attachment to them. They choose them more on the basis of convenience and economy rather than sentiment and tradition.

Nor do they have any deep-seated fear of being ‘homeless.’ There are houses all over the place – many of them empty. And in every suburb of America, new houses are springing up by the thousands.

Home ownership today is a financial strategy, not a family imperative. Since people no longer regard a particular house as a permanent member of the family and never expect to pay off their 30-year mortgage, they have no particular desire to own one – at least not in the traditional sense. The whole idea of ‘buying’ a house has been transformed, anyway. ‘Buying’ no longer means owning. It only means that the buyer has taken a financial position that allows him to participate in capital gains (or losses). He may have put no money down. He may have accumulated no equity. He may intend to leave the place within nine months – or never live there at all. The house and its owner stay together like a modern couple – as long as it works for both of them, and not a minute longer.

As long as prices are rising, ‘buyers’ tell themselves that they are getting in on something good. But what happens when prices go flat, or fall? Will the next generation of house buyers have any interest in the sacred ties of home ‘ownership’ at all?

More news:


Chuck Butler, reporting from the EverBank world trading desk in St. Louis…

“While the report did show a positive reading of 0.2%, for once the media reported it correctly! Get the kids and hide out in the cellar, for the sky is about to fall if this continues!”

For the rest of this story, and for more market insights, see today’s issue of The Daily Pfennig


And more thoughts…reminiscences…and flights of fancy…

*** “Does that make any sense?”

Our tour guide in New Orleans punctuated his disquisition with this question so often that we began to suspect it didn’t.

“New Orleans is different from any other city in America,” he began. “While the English were setting up colonies on the East Coast, the French were building a model city right down here. They picked the best land, right here in the French Quarter, to build the city. And they warned that if we ever built beyond Rampart Street, which was the edge of the Quarter, we would regret it. And so what did we do? We went way beyond Rampart Street. We built just where the French surveyors said not to. Now, does that make any sense?

“Look at these buildings. You see, I like architecture, so I take care to look at these things. First, here in the Quarter the houses are jammed together without front yards on very small lots. Why did they do that? Because there wasn’t enough good land on which to build. And look…the houses here have very high ceilings. Why? Because it was very hot and humid down here and the high ceilings let the hot air rise. And look at the windows on these old buildings. They go almost all the way up to the ceiling. They’re vertical, not horizontal. Why is that? Because it allows the air to circulate better.

“Now when we get out of the French Quarter, we’re going to see how the Americans built their homes. You’ll see that they built not only on low land, but with low ceilings and low windows. Does that make any sense?

“Now, we’re going to drive over the bridge and over to the famous 9th Ward. You can see on your left where the levee gave way. Eyewitnesses say a wall of water came down the river here. Now, look what happened. Near to where the break occurred, the houses were practically wiped off the face of the map. See the vacant lots? And there were walls knocked over…the force of the water was so strong that it knocked down houses and picked up school buses. You know they’re finding school buses in the Gulf of Mexico now.

“And look at the sides of the houses that are still standing; you can see how high the water got – from six to nine feet. See how yellow those stains are? The water was contaminated with all sorts of things. And look on the sides of the houses. See how each one has been sprayed with a series of letters and numbers that tell rescuers what is going on in the house, if there are any bodies inside…alive or dead…and pets, and if they left anything for them? ‘F&W’ means ‘food and water.’ All told, the death toll is probably about 3,000 people.

“This whole neighborhood is a ghost town. All the houses have been torn down…or stripped. And look, there’s Fats Domino’s house. We thought we’d lost him. But he stayed in the house and survived. A few people have come back and are living in trailers. But these people are poor; they don’t have the money to rebuild. And they probably wouldn’t want to rebuild anyway…because who wants to spend a lot of money in a neighborhood that looks like it will be abandoned forever? They could pour a lot of money into the place and it might still be worthless. Does that make any sense?

“And if you wanted to rebuild, you’d have a hard time getting an electrician or a plumber – they’re all busy. And then, you’d pay a fortune for flood insurance. I mean, who wants to offer flood insurance to people who live below sea level? Does that make any sense?

“Now this next neighborhood is more middle class,” our guide continued. “These people are mostly Sicilians. They don’t give up. You can see that they’re rebuilding here. There’s one fellow who’s building his house up off the ground. There’s a guy with some brains. But most people are just pouring slabs of concrete and building just as they did before. Does that make any sense?

“They’re getting some help from the government. But I have to tell you, the government has been a total failure down here. All they do is put up those stupid, ugly trailers…the FEMA trailers, they’re called. They cost the government $60,000 each, even though you can get the exact same model for only $17,000 on the open market. They’re supposed to be temporary, but I know they’ll be here forever. And look on the roofs of some of these houses. See that blue plastic that covers many of the roofs? Well, that’s from the government too. It costs the government about $1,000 to put that on a roof…and then they have to replace it every three months. But you can go to any Home Depot and get the same thing for less than 200 bucks. I tell you, they’ve spent billions of dollars, but it hasn’t done much good for the people who live in New Orleans. Does that make any sense?

“Meanwhile, the mayor is going to Houston and Baton Rouge trying to get people to come back to the city. What he wants is for the poor blacks to come back – because those are the people who vote for him. New Orleans used to be a predominately black city…but since so many blacks left and haven’t returned, it’s a white city now. Does that make any sense?”