Great Investment Articles
A repository of great articles to help make informed investment decisions.
Sunday, August 27, 2006
Resource Stocks Prepare to Rise
By: Dr. Richard S. Appel
Friday, 25 August 2006
I believe that the vast majority of exploration shares have posted their correction lows. They are now in the process of building important bases before resuming their Bull Market. After staging a major price rise between the summer of 2005 and May, 2006, the wind was abruptly let out of their sails as they followed gold sharply lower. Now, I am confident that the tide has begun to change in their favor.
The yellow metal peaked at $730. It then began a downward journey and quickly found itself at its July $550 low. Today, the eternal metal is priced $75 above that nadir. Yet, the junior resource stocks continue to languish. Given the large paper and real losses sustained by most investors, why shouldn’t we all just throw in the towel and liquidate our stockholdings like so many commentators suggest? It would certainly lessen the pain.
Why? Because this is likely the worst possible moment to take such action. Great Bull Markets tempt onlookers by laboriously working higher over an extended period. This moves numerous observers to berate themselves for not having the courage to earlier invest.
They watched from the sidelines while others garnered substantial profits. Gradually, one by one, many of these investors are drawn in by the fear of missing the entire Bull Market or by the allure of fast, easy profits. Purchases that are fostered by these motivating factors typically occur during a periodic, exciting up-wave such as we experienced leading to the May peak, or at a Bull Market top. Unfortunately, these investors tend to not only add to the frantic price rise, but they typically find themselves making their purchases near or at its ultimate high.
Later, after suffering large losses and all of the froth and excitement is drained from the market, they may even sell. They will do this for fear of sustaining even greater damage to their asset base. The average investor is ruled by his emotions. This is why he historically buys near market tops and sells at lows.
If individuals truly believed that the Bull Market was real they would not act in this fashion. Even if they did and chose the very peak of any intermediate up-wave to make purchases, the bull would ultimately carry them with him and turn their paper losses into real profits. If they only had the courage to believe in the Bull Market, they would ride it towards its ultimate breathtaking high.
Herein lies the rub of remaining invested in any Bull Market! Prior to the final stage, all Bull Markets experience one or a number of periodic, terrifying price and breadth declines. These generate sufficient fear or doubt in investor’s minds to force all but the greatest believers from the bull’s back. It is damaging to those, who left the market licking their wounds, but is good for the future of the market and those investors who remain.
In this fashion hoards of interested onlookers are available to plunge into the market during its final, excited ascent. Even those who sustained earlier losses may return, caused by the allure of a later major bull advance.
Terminal periods in all Bull Markets are accompanied by not only wild excitement, overinvestment, and outlandish price predictions, but by a general feeling of euphoria and the belief that this bull will live forever. Further, is at these times when comments such as “we’re in a new era” or “this time it’s different” become the mantra of the day. These act to soothe and placate the fears that begin to well up in the hearts and minds of those who sense that something isn’t right, and that prices have lost touch with reality. This keeps many of them fully invested as they approach the precipice.
At the end of all Bull Markets greed-driven feelings have replaced the fearful ones which prevented their owners from taking earlier investment positions. Only then do these emotions emerge to take control of their masters. This causes them to jump aboard the bull, and drive prices to their final dizzying heights.
Eventually, the last bullish investor invests his last dollar. The rest is history! The Bear Market is then born, and losses accrue to all those who remain invested and are carried by the bear on his inexorable downward journey.
Any experienced resource stock investor, or for that matter any sophisticated market player, has many times been through trying periods such as face us today. These act to test our mettle! If I am correct, this is but another hair-raising price decline that this resource bull has placed in our path. Be prepared, it will not be the last!
“All price movements whether primary or secondary are ultimately corrected.” The recent explosive price run that ended in May was destined to be followed by a corrective phase. They always are! These act to remove the earlier excessive enthusiasm, reduce the overextended prices, and allow the market to stabilize at a new higher level. This is normal price action for all markets.
THE PRESENT PRICE REVERSAL IS THIS BULL MARKET’S MOST SEVERE
The first major resource stock decline began in the spring of 2002. It lasted about twelve or thirteen months before a broad-based, multi-month advance permeated the sector’s stock board. The next great down-wave had its birth in the spring of 2004. This one took over fifteen months before the excesses of the earlier great price advance were bled from the market, and an across the board skyward rise ensued. In both of these primary corrections it was not surprising for a junior company to fall 60% or more from its earlier peak.
The current price reversal stands alone to date. This is due to the rapidity with which these nascent companies shed their earlier hard fought for gains. The first important declines unwound like slow, grinding water tortures, compared with the recent waterfall-like breadth collapse. The present one saw many solid junior companies fall 40% to 50% or even more from their peak prices, in the space of but a few brief months. In both of the earlier cases once the stocks resumed their northward trend, a multitude of stocks struck new bull highs, and many of the more successful companies multiplied in price.
I believe that the recent historic price collapse has reversed investor sentiment. It is now near comparable levels where stocks arose from the two earlier major declines. If I am correct, the junior companies are now on the bargain counter for the taking.
True to form, few investors today have any interest in making purchases. This can be attested to by the low level of trading volume, and general indifference if not disgust with which most investors view this market. The resource bull has been successful in disillusioning and chasing from his arena all but the most staunch believers of his existence!
As difficult as it might be to believe, it is at times like these for which seasoned investors and traders yearn. This is especially true of resource stock investors.
Exploration and development companies require long time-frames to advance their projects. All companies are faced with extended down-times when the flow of news virtually halts. Time delays may occur when a company is waiting for the exploration season to begin. It may take many months before a geologist can even set foot on a project. Explorers must first receive government permits, create an adequate access to their property, or acquire a drill-rig or a seasoned crew. Or, they may be delayed by the need for a replacement part, waiting for assays from a lab before planning their next step, or for any number of other reasons. All of these issues often work to the detriment of their share price, but they can benefit an astute investor.
No matter how important the project, the absence of positive news is normally met with gradually declining share prices. This is accentuated during weak market periods. In fact, recently, many instances where companies presented good news to the market were met with yawns if not sales. Sell orders, because the news generated some buying. This allowed anxious individuals who were forced to raise capital the opportunity to do so. They could liquidate some of their stock without seriously affecting its share price. This maintained the value of their remaining stockholdings in the equity. If they sold other stocks they would find few bids. This would drive the stock price lower before they could sell their entire position, and widen their losses.
Knowledgeable investors look forward to periods such as now after the resource stocks have suffered severe declines. They also wait until trading volumes are low and the selling appears to have subsided. This allows them to acquire solid companies that have sustained the most severe losses, or those that had the opportunity to importantly advance their major projects, without a commensurate increase in their share prices. In both instances, wise investors can pick and choose the best risk vs. reward candidates in which to invest, knowing that they should lead the next advance.
Adding to the softness of the resource sector is the fact that we are in the period known as “the summer doldrums”. This is characterized by vacations when time spent with the family dominates the minds of most investors and brokers. This timeframe ends in early September when all of the players return and are ready for action.
Historically, the junior market begins to firm by mid-September. It then launches its seasonal Fall rally that normally continues to the end of October or into November. In fact, the past three years have witnessed strong price advances in the major and junior mining stock groups during this time.
HIGHER PRICES ARE IN THE OFFING
There are a number of factors that lead me to believe that we are destined for sharply higher share prices in the foreseeable future, if not within the next few months. First, I do not believe that the current prices for both the precious and base metals have been fully factored into the stock prices of the companies which mine or explorer for them. Copper is trading at $3.40, nickel at $15 and zinc is priced at $1.50. Nickel is posting all-time highs while copper and zinc are within striking distance of their recent record high prices.
Despite the fact that these and other metals are at historic highs, neither the marketplace nor most experts believe that they are lasting. To my mind, barring a major worldwide economic slowdown, I believe that the rise of China, India, and Brazil as well as a number of other countries will continue to place upward pressure on these and other metals for at least the next several years. If this analysis is correct, investors will eventually realize this inevitability and re-price upward these companies. When this occurs, a virtual stampede into the junior exploration sector will ensue.
Gold and silver stocks are not immune to this occurrence! The term “gold fever” is a euphemism that has been repeated throughout mankind’s history. During times of fear or uncertainty, and whenever a government destroyed the purchasing power of its currency such as the U.S. is now in the process of achieving, gold was a major beneficiary.
The common man purchases gold in his effort to protect himself. “Gold fever” occurs whenever a sufficient number of ordinary citizens become frightened by the declining purchasing power of their local monetary unit. When this tipping point arrives they jettison their nation’s currency for the safety of gold.
Silver on the other hand has been in an ongoing supply deficit for over a decade and a half. Further, virtually all of the available above ground stocks have been absorbed to fill this gap. Additionally, if Ted Butler, Gold Antitrust Action Committee (GATA.org) and other experts are correct as I believe they are, the white metal’s short interest is at a record level. These conditions set the stage for a breathtaking silver price rise. If these beliefs are true, both gold and silver stocks will follow the approaching explosive rises of their respective precious metals.
Another reason I anticipate higher exploration stock prices this Fall is that gold should soon add wind beneath their wings. We are entering the period that is typically marked by a vibrant gold market. This is spurred by jewelry and other companies when they purchase the yellow metal to satisfy their Christmas Season needs.
Further, the past few years have witnessed resource companies spend billions upon billions of dollars in exploration. This has allowed a number of companies to progress to the point where I believe the odds greatly favor the announcement of one or more major discoveries. These may come as soon as during the present field season. This market is driven largely by greed. I believe that the reporting of one or more such events has the potential to explosively ignite this small market. When investors see vast fortunes accrue to other shareholders caution is often thrown to the wind, and their purchases soar in the hope of achieving similar personal success.
Finally, Barrick Gold announced a hostile take-over bid for Nova Gold. If they or a yet-to-be announced “white knight” succeed, Nova’s shareholders will be rewarded with $2 C. billion or more by the sale of the their stakes in their company. Most of Nova Gold’s shareholders will use some or all of their proceeds to acquire other junior resource companies. They will do this in the hope of finding yet another Nova Gold, and similarly riding it from the pennies it was worth but four years ago when many bought it, to its $19 C. range of today. This amount of fresh money reentering the exploration market is sufficient to alone launch a major sector advance.
The summer is still with us and we are continuing to experience weakness among the junior shares. Yet, despite this fact it is difficult to acquire important positions in many of these companies without driving their prices substantially higher. I believe that we are witnessing an important watershed. The selling is drying up and the buyers are slowly beginning to return. It is only a matter of time before the share prices begin to rise and reflect this occurrence.
I am confident that the resource bull is far from dead. We will again be rewarded for our courage and belief, as one by one the above factors come together and incite him with a vengeance, back into action.
Wednesday, August 23, 2006
Interestingly, this analyst with a great track record says this forecast is "definitely conservative"...
By Chia-Peck Wong
Aug. 24 (Bloomberg) -- The demand for zinc in China, the world's biggest consumer of the metal, may rise 56 percent by 2010, Beijing Antaike Information Development Co. has forecast.
The country may need 4.8 million metric tons of zinc by the end of the decade, from 3.08 million tons in 2005, as it requires more of the metal to coat steel to prevent corrosion, Feng Juncong, a senior analyst at Antaike, a research agency that advises the government, said yesterday at a conference.
``As China's construction and transportation sectors grow, consumption has entered its peak growth rate,'' she said in a presentation in Inner Mongolia, a region in western China.
Zinc prices in London have surged 75 percent this year and reached a record $4,000 a ton in May on expectations China's expanding economy will require more metals, while smelter output in China has been stymied by a lack of mined material.
``China will definitely need to rely on imports to fulfill its annual needs'' in the next few years, said Feng, who has been tracking the industry for 12 years and correctly forecast China would become a net importer of refined zinc in 2004.
The domestic supply of mined zinc is likely to lag behind demand by more than 10 percent this year, pushing up concentrate prices, she said. She didn't provide an estimate of China's zinc production in 2010, saying that the country is likely to remain a net importer till then.
This year, China's net imports of zinc products, including mined output, or so-called concentrates, are likely to be stable at 860,000 tons, little changed from last year, as higher internationally-traded prices led Chinese smelters to export more, she said.
Zinc prices in London, which have fallen about 16 percent from their record, are likely post a new peak in the fourth quarter as stockpiles continue to dwindle, Feng said.
``The fundamental demand and supply factors are still good,'' she said, without forecasting how high prices may rise.
Zinc stockpiles at warehouses monitored by the London Metal Exchange have plunged 55 percent this year to 179,175 tons as of yesterday, the lowest since early 1992.
China's lead consumption may surge 43 percent to 2.3 million tons in 2010 as demand from lead-acid battery makers soars 65 percent to 1.79 million tons, Feng said.
The forecast is ``definitely conservative as over the past 10 years, apparent consumption in China has grown 20 percent every year,'' she said.
Friday, August 18, 2006
looks for an opportunity to profit from the Dell battery recall, and concludes that zinc miners should be future winners. Below are some excerpts:
Dell's battery recall prompted us to look for an opportunity to profit. After some digging, we uncovered a possible winner: zinc.
After Dell Inc. <DELL.O
> recalled laptop batteries made by Sony Corp. <SNE.N
> on Aug. 16, our first reaction was to slam Sony. After all, $400 million is a lot of money even by multi-national standards. But rather than cursing the darkness, we thought that we'd light a candle instead. What companies stand to benefit from faulty laptop batteries? Companies that mine the only thing that all future battery technology must contain: metal.
With that in mind, we turned to the idea of the future. Unfortunately, the development of batteries is not as fast-paced as that of, say, semiconductors. The big future technology seems to be "fuel cell" tech. Fuel cells are similar to batteries, but run off of a fuel that can be replenished in an ongoing manner. Advances in the field seem to be geared around use in battery-powered and hybrid vehicles and using water as a fuel source, which is mostly theoretical right now. Wikipedia, though, notes that there is one type of fuel cell in mass production: zinc-air batteries, which are disposed of rather than refilled.
So let's imagine a world in which zinc-air batteries fuel the next generation of laptops. One would imagine the demand for zinc increasing, naturally. Fundamental Metals Monthly said in an Aug. 17 report that "According to the International Lead and Zinc Study Group, global consumption of zinc is increasing, while production of the metal is decreasing." (The most recent information at the International Lead and Zinc Study Group is subscriber only, but the reader is invited to check it out anyway
. ) The research report also states that the price of zinc is up 80.2 percent so far this year.
At this point, one could imagine that futures contracts on zinc might be the way to go. Not so fast. Zinc-air is one of several competing technologies
; we've merely concentrated on it because it's the best tested. Betting on a winner in a standards war, particularly when there's another tech that dominates now, is a high-risk strategy. Furthermore, zinc's price is cyclical, reflecting its importance in industrial materials; zinc is the coating that galvanizes galvanized steel. Given recent economic uncertainty, now might not be the time to go into a financial instrument tied to a cyclical material and that carries an expiration date.
That said, all battery technology has one thing in common: metal. Lithium, zinc, nickel, even potassium or barium
are used in current or potential battery technology. If this is the case, then we might want to turn to the suppliers of metals in general for investment ideas, since a significant increase in demand for any metal would likely be good for a profit boost. The first idea, then, is the SPDR Metals & Mining ETF, <XME.A
> which would simply be exposure to the industry in general.
Our analysis of zinc, however, suggests that perhaps we can do better with an equity investment in some company that mines the metal specifically.
Wednesday, August 09, 2006
, from February, gives a great overview of the commodities bull market we expect and why we believe select commodity stocks represent the best investments for the long term.
Scott Wright February 3, 2006
The turn of the century has brought upon a change of guard for the financial markets. The general stock markets peaked and a new secular commodities bull was born. Even though many have had to endure the pain of a bursting stock-market bubble, the global economy has been thriving since the turn of the millennium and I suspect those in the future will look back on the 21st century and tag it as the Consumption Age.
Globally this consumption is not necessarily that of excess or overindulgence. Rather it may be considered more or less a movement of economic progressivism. Lending part to this trend is the fact that our global population is growing at a blistering pace and will continue to do so for years to come. Many people overlooked the incredible milestone that was attained in 1999. Our enduring planet lofted above the six billion mark in total population.
To put this growing and changing world into perspective, it was only about 200 years ago that the global population passed the one billion mark. According to the U.S. Census Bureau it only took another 118 years for the global population to double, reaching two billion in 1922. It then took 37 years to reach three billion, 15 years to reach four billion, 13 years to reach five billion and only 12 years to reach six billion.
Today we are already past the half-way mark to the next billion. Now with 6.5 billion potential consumers living in an era in which considerable industrial and technological advances are demanding more resources than ever, it’s no wonder global demand for commodities has soared. In this high-tech world we live in, commodities are zealously sought after in order to maintain, support and develop this growing population. Because of this, commodities of all types are soaring in value as their availability and economics are continually being challenged. Simply put, supply has not been able to keep up with demand.
This massively increasing population has contributed to an increase in consumption in virtually all goods and services, and in turn has contributed to the robust economies we are seeing today that are seemingly necessary in order to maintain status quo. Almost not surprising, GDP in the U.S. has increased ten-fold since 1972, China has seen a ten-fold since 1978 and the U.K. has seen its ten-fold since 1976. The macroeconomics we see here tell an incredible story in which commodities have and will play a large part now and in the future.
It is important for everyone to understand why we are in the midst of a commodities craze from a socioeconomic perspective, if for no other reason than to understand how it may affect their everyday lives. It is especially important to understand this if you are an investor. Investors and speculators who have taken part in the commodities bull thus far have scored incredible gains if they have played the upside of this secular trend.
It’s not too late though to continue to profit from this commodities bull. We are still likely in the first half of a long-term bull market. To this day commodities of all sorts are still in the midst of major economic imbalances. Global demand for both soft and hard commodities is on the rise and supply is struggling to keep up. It is the prudent investor or speculator who is able to recognize this pattern before it corrects itself and is able to leverage his capital to take advantage of the upside.
Our task now is to determine which commodities to focus on from an investment perspective. Now depending on whom you ask and where you look, the definitions for soft and hard commodities tend to range across the board. For our purposes we will consider any commodity that can be grown or raised a soft commodity, and any commodity that you have to mine or drill for a hard commodity.
Soft commodities tend to have a renewing characteristic. Crops can be re-grown, and typically in the same spot as the previous crop. And meat commodities are the result of animal breeding that has remarkably accurate forecasting. Softs are integral in this bull market, but are not the major player.
Commodities such as coffee, cotton, cocoa, orange juice and hogs are examples of soft commodities and are all non-finite in nature. As long as a global ice age doesn’t miraculously strike the earth, crops will always be grown. And I surely doubt that cows, pigs and chickens will ever become extinct.
Now there are external factors that can influence the pricing of these soft commodities and they are certainly not exempt from supply and demand pressures. Weather, disease, geopolitical unrest and labor are examples of some of these factors. But when an economic imbalance presents itself, the fact that these commodities are renewable typically avoids a pushing of the panic button.
Even so, soft commodities continue to play a large role in the overall futures markets and are not exempt from the volatility most people associate with commodities. Farmers need to lock in prices and speculators play the game to try and capture profits.
In come hard commodities. Hards consist mainly of energy and metals and require extensive capital expenditures in order to retrieve these commodities from the earth. These commodities are finite in nature and have limited resources. Hards have been on a tear the last four years, have captured mainstream media attention and are the major player in this secular commodities bull market.
Precious metals, crude oil and natural gas are not the only commodities that have taken part in this bull. These commodities do command the lion’s share of attention but let’s not overlook those others that play an integral part in the global economy. Below are many of the popular hard commodities and their bull-to-date highs since the beginning of 2001.
- Aluminum +94%
- Gold +124%
- Silver +142%
- Platinum +159%
- Zinc +220%
- Lead +252%
- Copper +280%
- Crude Oil +300%
- Nickel +302%
- Butane +330%
- Propane +346%
- Heating Oil +360%
- Gasoline +578% (+333% not including Katrina/Rita 3-day spike)
- Natural Gas +807% (+429% not including Katrina/Rita spike)
As you can see, these hards have had quite a run thus far and we’ll touch on them in more detail later. But in addition to these above, there are many other soft and hard commodities that trade in the futures markets. On top of analyzing each individually, it is equally important to get an overall perspective on the look and feel of this bull market in order to grasp the long-term trend of this commodities bull.
A good way to package all these commodities together and obtain this high-level look is to turn to the flagship CRB Commodities Index. The CRB Index has long been the benchmark that many investors use in order to track the overall progress of commodities.
Our first chart below provides an excellent representation of the development and progression of this commodities bull market. The 2001 low we see in this chart is the second bottom to a massive double-bottom in which the first in 1999 was within a point of what we see here. This bottom represents the lowest point the CRB has been since 1975.
As you can imagine, barring the occasional bear-market rally, commodities have been out of favor for quite some time. Today’s commodities bull is finally reflecting the importance of commodities and the realization that in this growing global economy the resources that support it are not to be taken for granted.
The CRB Index beautifully reflects this bullish trend. As you can see on this chart, the last four years display a textbook bullish footprint. The CRB Index has stayed within a relatively tight trend channel and has continued to produce higher lows and higher highs. In fact, just recently it surpassed its all-time high! In 1980 the CRB Index closed at its previous all-time high, but today’s commodities bull shattered it in recent weeks and has not looked back. Since its bottom in 2001, the CRB Index has risen 91%!
Now that we have our baseline for the look and feel of this commodities bull, let’s revert back to our soft versus hard commodity discussion. Currently the CRB Index is comprised of 19 commodity components. Today’s mix weights 59% as what we are calling hard commodities with soft commodities capturing the remaining 41%.
Interestingly, 9 of 19 components in the CRB Index are hard commodities, of which each is included in the list of 14 above. As mentioned previously, each of these gains are spectacular. While many hard commodities today are still hovering around their bull-to-date highs, most of the soft commodities that have actually produced gains are quite a bit off of theirs.
The 10 components that rank as soft commodities in the CRB Index have not had as impressive of a run thus far as hards. Corn and hogs are trading at the same prices today as they were in 2001. Wheat, soy beans and orange juice are up less than 50% from their 2001 lows. Cattle and cocoa are up a meager 62% and 87% respectively from their 2001 lows. And only coffee, cotton and sugar can boast gains in excess of 100% since the inception of this bull market.
Sugar is the truly interesting story among the softs. It has performed very well in this bull market, but for reasons that would exhibit the characteristics of a hard commodity. It recently hit a 25-year high not because more people are putting sugar in their coffee, but rather due to the huge increase in ethanol demand.
Sugar happens to be a common compound in ethanol production with well over 50% of the global ethanol supply coming from it. Ethanol consumption has significantly increased over the years and its demand is expected to continue to rise sharply in the years to come. As more and more countries are implementing ethanol as an alternate energy source we are now faced with a supply-deficit in sugar.
In fact, ethanol has been in such demand that both the New York Board of Trade (NYBOT) and the Chicago Board of Trade (CBOT) recently introduced futures contracts for sugar-derived ethanol. Because of this it is quite possible we may see gains in sugar that exceed the 282% we’ve seen since 2000.
Even with sugar as the stand-out soft commodity, it is evident that hard commodities are the strongest of the group and have been pulling their weight, hoisting the overall index. As with all indexes, the CRB Index went through a revision last July in order to reflect the weightings we see above. Hard commodities now become more of a focus and the results going forward should reflect more on their performance.
But now we look at the CRB Index, or commodities in general, and ask ourselves, why should we buy at all-time highs? But wait, are we truly experiencing all-time highs? Nominally yes, but in real terms, absolutely not! My partner Adam Hamilton penned an essay last year when the CRB Index broke 300 for the first time since 1981 and went into great detail on this topic. One of the charts he developed took a look at the inflation-adjusted CRB Index, and it revealed dramatic results.
I’d like to update this chart and show you why commodities, reflected through the CRB Index, are still relatively cheap in today’s dollars. When analyzing long-term price trends, it is always prudent to compare apples to apples and consider the true value of a dollar. Due to the relentless rolling of presses by the inflation-crazed Federal Reserve, a dollar today has nowhere near the purchasing power it did in 1981. And we need to highly consider this when we discuss the true value of a commodity.
If you only consider the nominal price of the CRB Index, then today’s highs are phenomenal as indicated by the blue nominal CRB line above. But when you factor inflation into the mix, as indicated by the red real CRB line, today’s prices are not as exciting as originally thought and it shows we still have a long way to go before true highs are met.
All we did was simply factor in the conservative CPI data in order to compare the purchasing power of today’s dollar to that of it in the past. The above chart reveals the fascinating reality of the true progress of this commodities bull market. In real terms, the CRB would have to nearly triple from today’s levels in order to approach its all-time high. This is a massive 200% increase over the nominal highs we’ve seen in the past month.
In real terms, today’s commodities prices are actually trading at the same levels they were in the early 1990s. In order to approach its real high in 1980, the CRB Index would have to rally up to over 777. And because of inflation, the 1980 nominal high is in fact not the true high as seen by the pinnacle achieved in 1974. Imagine the CRB Index trading at 1000! Well, this is what it would have to trade at in today’s dollars in order to equal its true all-time high. Commodities are still cheap!
Now that we’ve established the fact that commodities have enormous potential even at the nominal highs we are seeing today, how does an investor jump on board and leverage his capital in order to profit from this? Believe it or not there actually is a reason why I broke down the commodity types between soft and hard. In my humble opinion softs are nowhere near as exciting as hards, but regardless of this opinion, softs are just plain more difficult to invest in.
As an example, let’s say I saw further potential in sugar and wanted to jump on its bandwagon. Only one problem presents itself, I’m the average Joe investor, I invest in stocks, and not only do I not have a futures trading account, but I am not even interested in futures trading, way over my head!
Well, if you look real hard you will find various hedge funds out there that have recognized sugar’s potential and have thrown capital in its direction. But ultimately for the common investor there is really not an easy way to get a piece of the pie. Soft commodities are almost exclusively traded in the futures markets. You would be hard pressed to find a publicly traded company that produces a soft commodity and is exposed to its price fluctuations.
Hard commodities, on the other hand, offer wonderful opportunities for investors to join the party. Because of the massive capital expenditures and operating costs necessary to produce hard commodities, and because funding is always a challenge, most producers and servicers of these sorts are publicly traded in the stock markets.
With this, we need to again keep in mind the underlying reason why the CRB Index was revised to favor hard commodities. Its custodian’s goal is to reflect the commodities that are most important and influential in today’s economy. Energy and metals are such commodities today and are currently faced with serious economic and fundamental challenges.
Demand for these resources has reached unprecedented territory in order to service today’s global economy. And the supply that is being mined and drilled is not only slow to meet this demand, but for many of these commodities the reserves for future supply are quickly dwindling with new discoveries becoming increasingly difficult to find.
The reason you see these immense gains in hard commodities is because of the now and future economic imbalances that present themselves. For many years capital has poured into the general stock markets with focus on tech stocks, and though commodities need significant funding in order to sustain future supply, the funds had just not made it their way. For many years exploration budgets were slashed and new discoveries were few and far between. This brazen ignorance of commodities for so long has finally commanded the world’s attention.
It’s going to take many years for commodities producers to ramp up output in order to meet this increasing demand and even more to renew and build reserves for future sustainability. Because of this prices will most likely continue to rise as much-needed capital is directed towards these commodities producers. At Zeal we have gone into great detail analyzing the core economic fundamentals and imbalances that many hards are faced with, and I encourage you to research and discover the problem the world is grappling with today.
Now as mentioned earlier, the wonderful thing about these hard commodities producers is that most are publicly traded companies. Investors and speculators indeed have the opportunity to leverage their capital at the epicenter of this global commodities shortage.
Some commodities producers are more leveraged than others to their underlying product, but ultimately the stocks of these producers can be looked at as non-expiring call options in their various sectors that should continue to soar as this secular bull market in commodities climbs.
The stocks for many of these companies have produced gains far better than those of their underlying commodities thus far. And as the prices of their products rise as we expect them to, if they are leveraged correctly so will their profits rise. The continued appreciation of their stock price will reflect such.
The bottom line is commodities are still in the early part of a secular bull market. The global economy is starved for commodities and producers are struggling to keep up with demand. It will take many years for today’s economic imbalances to correct themselves and prices should only continue to rise.
The best way for investors and speculators to leverage their capital in order to take advantage of this commodities bull market is to invest in the stocks of the companies that produce these commodities.
Tuesday, August 08, 2006
By Karl Heilman 07 Aug 2006 at 12:07 PM
The financial wizard hired to invest billions of dollars for the state pension system is about to take the nation's largest pension fund where it's never gone before: into commodities.
Undeterred is Russell Read, who is taking over investments for the $208-billion California Public Employees' Retirement System. He thinks the risks are worth the potential payoff.
"We believe commodities are an important asset class that is likely to represent a core investment for our fund," Read said, choosing his words carefully during an interview in CalPERS' new $265-million headquarters building.
Read said he expected to begin putting his strategy in place at a September workshop on commodities trading with CalPERS' 13-member board.
Gold, Silver, Metals and Mining Shares
By Lawrence Roulston
August 7, 2006
Metal prices have already rebounded strongly from the recent sharp drops. The question now is: When will share prices follow?
The following is extracted from the July 2006-1 Issue of Resource Opportunities
When gold, silver and some of the base metal prices plummeted in May, shares of mining and exploration companies followed the commodities down. Those big drops in share prices have created a lot of pain for some investors.
The metal prices have already rebounded sharply, reflecting the enormous fundamental strength in the metal markets. Mining and exploration company shares are still languishing, as many investors enjoy a summer vacation.
The big consideration now is, when will the share prices get back onto an uptrend?
The short answer is that some of the companies have already recovered their recent losses and others are beginning to follow. As in the past three years, autumn should see a steady upturn in junior resource stocks.
Its worth a review of the metal markets to appreciate the extent of the upside potential in these markets.
Gold reached $730 in May, the highest level since its run-up to the all-time high of $850 in 1980. By mid-June, the gold price was under $570 – a gut wrenching $160 freefall. In almost as dramatic a fashion, gold regained $80, before taking another pause. The events in Lebanon are adding to the growing interest in gold among investors as a secure store of wealth. Yet, investor demand is but one aspect in the story of the gold market.
The silver market, as usual, was even more volatile than gold. Silver climbed from under $9 at the start of this year to $15 by mid-May, before plunging to under $10. Copper dropped from $4 to under $3, and then recovered to as high as $3.70 within weeks.
Perhaps the most surprising story was nickel, which dropped from $10.30 in late May to $8. The nickel price since rebounded to $13 a pound. At the current price of $12, that base metal trades at the equivalent of $.75 an ounce.
Remember the commentators in May who misread the correction in metal prices and argued that it was all over for the metals? Sure enough, the run-up in prices in May was driven by speculators. The present rebound, coming after the speculators were washed out of the market, is part of a long term uptrend that is still at an early stage.
All you have to do is look at the longer-term metal price charts to understand the big picture. Five years ago, copper was $.60 a pound, nickel was $2 a pound, gold was $252 an ounce and silver was $4 an ounce. The stunning gains in metal price reflect fundamental changes in the economic world.
The gold and silver prices will probably continue to ratchet higher over time, in exactly the way they have over the past five years. The gains will be driven by the same factors that have been in place during that period. In the next issue, I will go deeper into the outlook for the gold market.
Nobody expects today's base metal prices to continue rising forever. But, the long-term forecasts that are being used are totally ludicrous. The big brokerage firms, the engineering firms, even the mining companies are showing long term metal prices that start well below the current levels and then drop back to so-called long term averages within about two years.
I keep asking the people who are working with those figures: What are the new mines that will come into production in two years that will bring the prices down?
The answer, from as many knowledgeable mining industry people as I have been able to put the question to its always the same: There are no big new mines that will come into production in that time frame. But, they argue, metal prices have always gone in cycles, and therefore they are imposing the historic cycles on the present situation.
The last cycle ended when economic growth slowed at the same time that several big new mines came into production. At that time, there was not a massive horde of wealth in the hands of oil exporting nations that we have now with $70 oil. China was not a factor. India was not a factor.
While analysts use the so-called long term averages for metal prices, the forecasters insist on using today’s energy price, based on $70 oil, for the life of the projects.
Not too many new mines look attractive with costs at the present level and revenues based on historical figures. We will never see those historical prices again. Those historic figures are measured in dollars that had an entirely different value than today or in the future.
In other words, even if demand for metals suddenly evaporated and an abundance of new mines started producing, the equilibrium in the markets would come at metal prices that reflect the fact that the dollar is worth substantially less now than it was a decade ago or two decades ago.
The handful of smaller mines presently under development won't come near to offsetting the older mines that will be shutting down as they run out of ore. The biggest copper mine in the world, Freeport’s Grasberg mine in Indonesia, has just seen yet another reduction in forecast production.
Instead of building new mines, the mining industry remains totally obsessed with buying, acquiring, merging, consolidating and otherwise shuffling the ownership of existing production. It takes many years to bring new mines into production and there are nowhere near enough new development projects under construction, or anywhere near construction, to come even close to offsetting depleted mines, much less catch up to rising demand.
The demand side of the metals markets is gaining strength. Copper's recent run to $4 was driven by speculators. After many of those speculators were washed out of the market, the current strength is coming from the fundamental demand for metals.
Many investors remain fearful of a sharp decline in the US economy. Certainly, the US economy has serious problems, including consumer debt, government debt, the on-going government budget deficit and the enormous trade deficit.
That situation is clearly unsustainable. There is no question that there must be a readjustment. I dare say that many investors seem to be missing the point that a process of adjustment has been happening for years… and will continue in a way that results in a gradual realignment of the US economy with the rest of the world.
That process of adjustment is based on the fact that the value of the US dollar continues to erode, having already lost 30 or 40% of its value against other major world currencies. The dollar has lost a substantially greater value when measured against hard assets, such as gold.
Many Americans, who are living comfortably within their own borders, are not even aware of how much of their wealth they have already given away. Those people will have a rude awakening if they ever venture abroad. Many places in the world now have a level of wealth and grandeur that makes American cities look old and tired – and comparatively cheap.
Nevertheless, the US remains a great country. Brilliant business minds and innovators and entrepreneurs will continue to overcome the best efforts of the government to wreck what remains the most powerful nation in the world.
In spite of years of forecasts by economists and would be economists about the imminent demise of the US economy, the country continues to enjoy strong growth. The economy will likely slow from this level, yet only a handful are predicting a situation as bad as zero economic growth. Those dire predictions, for the most part, are coming from the same commentators who have been making the same predictions for at least as long as the nine years that I have been following the markets as a newsletter writer. (Those predictions of doom and gloom likely go back even further, but in my previous life as an exploration company president, I wasn't following the market commentators.)
In short, even if a disaster case were to unfold, and the US economy were to plunge to zero economic growth, then America would merely consume the same amount of metals as in the previous year.
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