Posted on 06 April 2011.
A Look at This Week’s Show:
-Rampant Speculation is again replacing a common sense approach.
-No one protests free liquidity until it turns into inflation.
-How to have a disciplined approach to your money vs. taking emotionally charged miss-steps.
Imagine that ten years ago you invested $10,000 in the S&P 500. How much would it be worth today, adjusted for inflation with dividends reinvested? The purchasing power of your investment has grown to $10,533.11, an annualized real return of a rather disappointing 0.51%.
Had I posed the same question in March 2009, the answer would have been a depressing $5,518.55. The -5.93% real return would have cut the purchasing power of your initial investment virtually in half.
Now let's imagine that we time-travel back to September 2000 and pose the same question. Your ten-year inflation-adjusted gain would have been 396% for an annualized real return of 16.13%. As the chart illustrates, investment performance with a 10-year timeline has been a real roller coaster as far back as we have data.
If we extend our investment horizon to 20 years, the roller coaster is less volatile with higher lows and lower highs.
The volatility decreases further with a 30-year timeline. But even for that three-decade investment, the annualized returns since the 1901 have ranged from less than 2% to over 11%.
As these charts illustrate, and as many households have discovered over the past few years, investing in equities carries risk. Households approaching retirement should understand this risk and make rational decisions about diversification. They should also consider fixed income alternatives for that part of the nest egg that will pay non-discretionary expenses not covered by Social Security and pensions.
Let’s think back to September 2010. Japan confronted China at sea in a dispute over fishing rights. The Japanese arrested a Chinese fishing boat captain. The Chinese soon imposed an embargo on rare earths exports to Japan.
Suddenly, rare earths – a relatively obscure set of industrial minerals, oxides and metals – became the stuff of high international attention and intrigue. It became common knowledge that China controls about 97% of the world’s rare earths output. Overnight, the dire industrial and political implications of that geological monopoly became apparent.
Investors were – and are – right to be interested in this situation. Just last week, we learned that the value of China’s rare earths exports has soared almost nine-fold, year on year. That is, a tonne (i.e., a metric ton) of Chinese rare earths – a weighted composite of 17 different materials – currently rings the cash register for just over $109,000. This is up dramatically since July 2010, when each tonne averaged buyers a mere $14,405.
In other words, China is raking it in. In fact, the prices of rare earths out of China have averaged about a $10,000 increase per tonne per month over the past year!
It gets worse for non-Chinese users. In February 2011 China reportedly exported a total of 750 tonnes of rare earths to a global array of buyers. This was slightly more than the 647 tonnes China shipped in January. Yet in just this one month, the average price for a tonne of rare earths leapt ahead by $34,000, according to a calculation by Reuters News Service based on data from China’s customs office.
The rapid increase in price is due to the Chinese government’s successful effort to restrict and reduce the volume of rare earths exports. Adding to the confusion, China has also changed the way it reports rare earths exports. This has artificially boosted the volume figures by including products made from rare earth metals in the total.
Could things get worse for Western buyers and users? Well, yes. Also last week, we learned that China might soon start importing some of the rare earths that its economy needs but doesn’t produce in sufficient quantity.
According to Liu Junhua, the deputy secretary for China’s Baotou Rare Earth High-Tech Industrial Development Zone Committee, “China may eventually need to import [heavy rare earths] materials.” According to Mr. Liu, speaking at a recent conference, there’s a “strong possibility of [China] importing heavy rare earths” in the next three-four years.
So here’s the scenario: Chinese export volumes are down. World prices are rising, and fast. And China may soon be importing the heavy rare earths for its own industrial needs.
Let’s review what this all means for investors…
The share prices for rare earths companies began to soar last fall. After the Japan-China dust-up in September, rare earths companies quickly became stock market darlings.
Many of the rare earths stocks I recommended to the subscribers of Energy & Scarcity Investor doubled in fairly short order. I suggested taking profits on two of those stocks, but still advocated long-term investments on selected stocks in this sector.
Looking back toward the end of 2010, pretty much any company with a “rare earths” tag line was a strong performer in the stock market. The investment community threw big money at a large stable of rare earths investment opportunities. But times have changed.
In the past six weeks or so, in the face of tight demand and fast-rising prices, investors have looked at the rare earths sector with even sharper, more discerning eyes. The rationale is twofold.
First, only a few non-Chinese companies will achieve output – and begin to generate cash flow – within the next three years. And second, only a small handful of companies will survive in the long-term race to supply the world with rare earths over the next decade or so.
One company I recommended should have a new mine up and running by the end of this year. Another company, one that I consider an excellent speculation, is modernizing a rare earths facility in Russia.
Meanwhile, there’s Molycorp, a company that is reconstructing its mine, mill and other facilities at Mountain Pass, Calif. It’s a major effort, with a sticker price in the vicinity of $500 million. The announced time scale is in the 24-month range. My concern about Molycorp is that the California project involves building a brand-new plant, with new equipment and bringing in a newly hired work force that’s still in training. Anything could go wrong and cause delays. And considering that it’s happening in mining-unfriendly California? I’m sure you get my point.
The larger point is the rare earths story is not going away. It is getting bigger every day and is sure to provide some outstanding opportunities for vigilant investors.
Regards,
After a brief dip in recent weeks, sentiment has shot back towards its highs. Although I’ve had trouble finding any definitive connections between QE2 and real economic growth, there is one certain connection – QE2 is having an enormous impact on investor psychology. Since QE2 began we have had a persistent optimism in the markets. This is clear in both of the major sentiment surveys I track where sentiment has remained at a permanently “extreme” range throughout QE2.
This week’s readings take us back towards this extreme level. Charles Rotblut of AAII elaborated on the AAII survey:
“Bullish sentiment, expectations that stock prices will rise over the next six months, improved 1.8 percentage points to 43.6% in the latest AAII Sentiment Survey. This was the third consecutive weekly increase and it puts optimism at a seven-week high. The historical average is 39%.Neutral sentiment, expectations that stock prices will be essentially unchanged over the next six months, remained essentially unchanged for the second consecutive week at 27.6%. The historical average is 31%.
Bearish sentiment, expectations that stock prices will fall over the next six months, fell 2.2 percentage points to 28.8%. This was the third consecutive decline in pessimism, which is now at a seven-week low. The historical average is 30%.”
The Investor’s Intelligence survey is showing an even more extreme trend. This week’s reading surged 5.7% to 57.3%. Investors are extremely bullish.
Thus far, this optimism has only fueled equities throughout QE2. Although QE2 is unlikely to have much of an impact on the fundamental economy we have to begin wondering what will happen when this persistent confidence high gets sucked out of the market?
(CNSNews.com) – House Budget Chairman Congressman Paul Ryan (R-Wis.) said President Barack Obama’s budget strategy is to “do nothing, punt, duck, kick the can down the road” while the debt remains on track to eventually hit 800 percent of GDP and the CBO is saying it “can’t conceive of any way” that the economy can continue past 2037 given its current trajectory.
Ryan also said that the House Republicans’ FY2012 budget, which he unveiled yesterday, would save Medicare and help the United States avoid a debt crisis.
“It all comes down to this: Either you fix this problem now where we, you can guarantee people who’ve already organized their lives around these programs get what they have coming to them, or you pick the president’s path, which is do nothing, punt, duck, kick the can down the road, and then we have a debt crisis and then its pain for everybody,” said Ryan.
“Then, you do start cutting seniors,” he said in a speech at the American Enterprise Institute (AEI) in Washington, D.C. on Tuesday. “So, the question here is not if we reform Medicare. The question is when and how we reform Medicare and by reforming Medicare now, you save Medicare.” Ryan said during
He continued, “So the question is, do we save these programs now by engaging in budget reform that preempts a debt crisis that gets this situation under control and gets this economy growing or do we worry about politics, do we worry about the next election and then by doing so, kick the can down the road, only to wake one day and see a real problem where you have to do indiscriminate cuts to everybody including senior citizens? We don’t want to have European austerity in this country, which is a debt-crisis-fueled cut to current seniors, tax increases on the current economy to slow us down.”
Ryan’s proposal, which cuts $5.8 trillion in government spending over the next decade, would provide Medicare beneficiaries with subsidies to purchase private insurance starting in 2022. The proposal would also end taxpayer support of Fannie Mae and Freddie Mac and provide no funding for the implementation of the health care reform law passed by Congress last March.
“We’re on a debt crisis path. We are on a path where the government goes from 20 percent of GDP, to 40 percent then 60 percent of GDP. We’re on a path where our debt goes from about 68 percent of GDP to 800 percent of GDP over the three-generation window,” Ryan said.
“I asked CBO to run the model going out and they told me that their computer simulation crashes in 2037 because CBO can’t conceive of any way in which the economy can continue past the year 2037 because of debt burdens,” said Ryan.
“So, we have to go out and give the country a choice,” he said. “We know the path the president’s put the country on. It’s a path that I fundamentally believe transforms this country into something it was never designed to be – into a cradle-to-grave social welfare state and economic stagnation.”
“We are offering a country that is true to this country’s founding principles that is prosperous, that is pro-growth, that lives within its means, that is an opportunity society with a sound, resilable safety net,” said Ryan.
Online retail sales keep climbing, big box retailers keep wondering what to do with all their space, and small stores struggle to survive at all. As a result of that nasty brew, Malls Face Surge in Vacancies.
Shopping Center Economic ModelMall vacancies hit their highest level in at least 11 years in the first quarter, new figures from real-estate research company Reis Inc. showed. In the top 80 U.S. markets, the average vacancy rate was 9.1%, up from 8.7%.
The outlook is especially bad for strip malls and other neighborhood shopping centers. Their vacancy rate is expected to top 11.1% later this year, up from 10.9%, Reis predicts. That would be the highest level since 1990.
In the Denver suburb of Westminster, Colo., city officials are negotiating to buy and raze the 34-year-old Westminster Mall and redevelop it into offices, homes and stores. The 1.2-million-square-foot mall, once home to a Macy's, Trail Dust Steak House and Mervyn's, has seen its sales-tax generation plummet in recent years, to $1.5 million last year from $8.5 million in 2000, city officials say.
The mall went "from a place that was once vibrant to something that is now virtually vacant."
Lease rates are going to sink, vacancies are going to soar, and the oncoming supply of mall space with no tenants is going to bankrupt many regional banks that funded such construction. The shopping center economic model will soon be history.Bank Failures
We tend to speak of leverage in financial terms, but as frequent contributor Harun I. notes, leverage and thus risk is ever-present in everything from oil to technology.
Some call it complexity or hyper-complexity, to me it's all about leverage. The greater the leverage the greater the instability. And developed societies are too heavily leveraged in technology (knowledge), finance (credit) and energy. Remember, your prediction of a 4% failure in housing causing a complete collapse in that sector was dead on. But that 4%, which globally represented much less, collapsed the entire global banking system.
Technologically, there are too few people holding the knowledge to systems that are now considered vital; the same can be said of the monetary systems (the Fed insists on black box operations in conducting monetary matters). Crude oil and all its derivatives from which we get fertilizer to Tupperware to space shuttles: the extend to which we are leveraged via oil is incalculable.
Thank you, Harun. The greater the leverage, the greater the inherent instability and thus the greater the risk.
We tend to think of crude oil as the feedstock for gasoline and jet fuel, but it's also the feedstock for agriculture (fertilizers and transport), plastics (a significant percentage of industrial products) and ultimately everything else via transport.
Conventional economists are constantly cooing that oil accounts for a smaller percentage of the U.S. economy that it did in the 1970s; but does that mean that the economy is any less vulnerable to supply disruptions? The concept of leverage helps us understand how removing $650 billion in crude oil from the U.S. economy (18 million barrels a day X 365 days = 6.5 billion barrels X $100 per barrel = $650 billion) is not just a simple subtraction of 4.5% of total GDP ($14.7 trillion): it would trigger the implosion of the entire U.S. economy.
That's leverage.
How many people truly understand the precise mechanics of last year's "flash crash"? Does anyone really understand what interactions of high-frequency trading computers led to a stick-slip/criticality/crash? How dependent is the system on their expertise?
How many people operate the Federal Reserve's many opaque interventions in the market? What sort of daisy-chain ties the Fed's moves to other central banks? What happens if that web of intervention breaks down or seizes up?
The conventional spectrum of punditry and economists dismissed the idea that U.S. housing was a highly leveraged sandpile waiting for a stick-slip event. But the leverage piled on leverage was self-evident: the consumer borrowing (home equity lines of credit, refinancing, etc.) that fueled much of the "growth" in spending was leveraged off the housing bubble, which also leveraged rising demand for lumber, granite countertops, high-end refrigerators, etc., and a stupendous mountain of derivatives, credit default swaps, mortgage-backed securities and other financial instruments which leveraged up Wall Street's profits and valuations.
The entire sandpile collapsed once its riskiest grains--the designed-to-default subprime option-ARMs and no-document liar loans--succumbed to the inevitable.
Some observers insist there cannot be another recession because there is always 7-10 years between recessions. This is just like saying the U.S. could brush off the removal of 18 million barrels of crude oil a day because the oil only represents 4.5% of the GDP, and surely the economy has declined 4.5% in the past without any permanent damage.
Except that 4.5% is highly leveraged, and the system is totally dependent on it. That leverage creates a fundamentally unstable system, which is highly vulnerable to disruptions which quickly cascade in a series of inter-connected, self-reinforcing feedback loops--just like "flash crashes" and markets which suddenly have no bid.
The recovery is self-sustaining, technology will save us, the U.S. economy is resilient, don't fight the Fed, the stock market is on a permanently high plateau thanks to the Bernanke Put, blah blah blah. Check back in in 15 months and let's see who's right: the "The recovery is self-sustaining, stocks are on a permanently high plateau" crowd or those of us looking at the leverage being piled on leverage.
While oil continues to rise to new highs, the price of natural gas dropped 2 percent Thursday and has remained relatively flat since the recession.
Traders say the reason is simple: oil is traded internationally and is heavily influenced by demand from China and other emerging economies. The U.S. is awash in natural gas but lacks the infrastructure to export it, and a recent boom in production has kept prices in check.
The contrast between the two was clear on Thursday. Natural gas plunged after the government said supplies dropped less than expected. It gave up 8.9 cents to settle at $4.057 per 1,000 cubic feet. Meanwhile, oil surged to $110.30 per barrel, reaching a new 30-month high, even though U.S. oil supplies have been increasing. They grew by 2 million barrels last week, according to the Energy Department.
Oil and natural gas seemed to be in lockstep in 2008, when prices for both spiked. "But there's really no relationship between them anymore," analyst Jim Ritterbusch said. The average price for natural gas dropped 5 percent last month, when compared with March of last year. Oil, on the other hand, surged 27 percent in the same period.
The emergence of shale gas drilling in the U.S. likely will keep natural gas storage facilities filled with a hefty surplus, Ritterbusch said. New technologies have helped drillers tap vast underground reserves that are estimated to be large enough to supply the U.S. for more than a century.
Shale gas production has soared more than 12-fold in the last decade, according to the Energy Information Administration.
Even after an especially chilly winter, when homes and businesses cranked up the heat, natural gas supplies haven't dropped as much as expected.
The EIA reported that natural gas stocks fell by 45 billion cubic feet last week. Analysts expected an even bigger drop of between 49 to 53 billion cubic feet. The report was another sign that "good demand is not even putting a dent in supply," analyst and trader Stephen Schork said.
Meanwhile, gasoline pump prices are still rising and setting records for this time of year. The national average increased nearly 2 cents on Thursday to $3.725 per gallon, according to AAA, Wright Express and Oil Price Information Service. A gallon of regular increased by 20.8 cents in the last month and is 88.1 cents higher than last year.
Americans are paying $247 million more per day at the pump than they were at the start of the year.
In other Nymex contracts for May delivery, heating oil lost 1.48 cents to settle at $3.2060 per gallon and gasoline futures lost 0.64 cents to settle at $3.1865 per gallon.
In London, Brent crude gained 33 cents to settle at $122.26 per barrel on the ICE Futures exchange.
