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ENERGY, GOLD AND NON DOLLAR INVESTMENTS ARE ALL BENEFICIARIES OF CONTINUED GROWTH IN CHINA, INDIA AND BRAZIL

ENERGY, GOLD AND NON DOLLAR INVESTMENTS ARE ALL BENEFICIARIES OF CONTINUED GROWTH IN CHINA, INDIA AND BRAZIL

Today, world oil production and world oil consumption are roughly in balance [assuming production shut downs for recent hurricanes end soon]. World consumption and production of oil are each about 85 million barrels per day.

In a nutshell, world energy production is not rising, while world energy consumption is. The optimists have unrealistically been hoping that Saudi Arabia can go from 12 million barrels a day of production to 20 -25 million barrels a day over the next few years. This is unvarnished wishful thinking, and in my opinion, has a probability of less than 1%.

In 1985, world energy demand was 65 million barrels a day, and in 1950 it was 10 million barrels per day. The trend is up. The US may consume less due to higher prices, so too may every other developed country. However, in order to grow both India and China will each increase their oil demand by 6-8% in the next year. When you take into consideration all of the other nations who also want to grow, and thus consume more energy per capita, the trend is still higher. Consider the large populations in Russia, Brazil, Indonesia, and Latin America who want more energy. In our opinion, it is rational to expect continued growth of demand, even if demand from the developed world diminishes by a few percent per year.

What about supply? Can Saudi Arabia produce a lot more? We do not think so. Can other new supplies be found? Possibly, but only after large sums of money are expended, and much of this energy will be very expensive to produce. All of the previous points argue for higher energy prices. I have for some time, been predicting $100 dollar per barrel oil by 2008. I continue to hold that view.

Higher energy prices, higher prices for other commodities and a growing realization that inflation will again reassert itself are all reasons to own some gold and gold shares in your portfolio. Energy is a component of almost every economic activity. Gold is real money. Both should do well in the future.

CHINA HINTS THAT THEIR FOREIGN EXCHANGE RESERVES POLICY MAY CHANGE-THEY MAY BUY LESS U.S. BONDS AND MORE RESOURCES

Zheng Xinli Deputy Minister of China’s Central Policy Research Office recently said “I think that it is better that China should invest its huge forex reserves in “overseas energy resources” as reserves. Zheng made his remarks at an investment and energy conference. Note: China continues to buy up resources worldwide, most recently they purchased EnCana’s energy assets in Ecuador.

We are not alone is stating the obvious fact that China’s demand for raw materials has been driving China’s foreign policy. The September/October issue of Foreign Affairs magazine says the same thing. China is taking a very long-term view and in the longer term, they know will need a lot of raw materials.

ORGANIZATION FOR ECONOMIC COOPERATION AND DEVELOPMENT [OECD] EXPECTS RAPID CHINA GROWTH

China expected to grow at 9% plus in 2006 according to the OECD. If this is correct, China will continue to be a major force for the acquisition of raw materials, including energy, on a global basis. The OECD is predicting a growth of 8% in China’s demand for energy in 2006.

Some pessimists argue that China can’t grow that fast because the price of energy will stunt their growth. According to the OECD, energy intensiveness in China is higher than in the west but is declining. In other words, China is using energy more effectively, which will allow economic growth to continue. This is important. If China keeps growing, world energy prices and other commodity prices will stay higher for longer. We believe that China will keep growing rapidly at least for one or two more years.

CHINA IS MAKING ALL THE NEW TRADE AGREEMENTS AND IS ABLE TO NEGOTIATE NEW AGREEMENTS MUCH BETTER THAN THE U.S. AND EUROPE

China does not have to worry about appeasing labor unions and environmentalists so they are inking many new trade deals and have been doing so for years. This is one reason that China is growing so fast and the U.S. and Europe are lagging behind. In order for European or U.S. parliaments to pass trade bills, many interest groups must be appeased. China has no such problem. We look for China to continue to grow and the U.S. to continue to decline as a world economic power.

ECONOMIC DOMINANCE LEADS TO POLITICAL POWER

The key to U.S. economic dominance, and thus political power has been the U.S. education system, financial and accounting transparency, a durable and fair legal system, availability of capital, immigration, creativity, and the U.S. work ethic. Some of these advantages are being diminished rapidly. In my opinion, the problem areas are: an immigration policy that encourages uneducated illegal immigrants and discriminates against educated professionals who wish to enter the U.S. legally, and a deteriorating system of public secondary education that may eventually hurt the U.S.’s ability to compete.

If China, India and others can string together the positive characteristics of the U.S. that are listed above, for a prolonged period (maybe 5 decades), they can rise to world economic dominance and thus political dominance. It is however, easier said than done. Often repressive regimes have a problem with transparency, and fostering a legal framework that is considered fair enough to attract capital from foreign sources. In addition, hidebound, traditional nations typically do not like an open immigration that brings the best and brightest from around the world.

Democratic nations with a large percentage of undereducated but voting populace have a hard time making informed decisions about economic issues. Politically popular give aways and irrational economic planning often result.

Nations, which have a tradition of corruption, have a hard time ridding themselves of this scourge.

Some are quick to say that we will all be working for the Chinese or Indians in a few decades. It may come to pass, but may I point out that both countries have a lot of hurdles to clear before they are respected global political and economic leaders.

SUMMARY

In general, our thinking has not changed for over two years. We think that natural gas stocks, coal stocks, energy service providers, gold, gold stocks and energy related stocks in Brazil, India, Canada, Europe and the U.S. are attractive. We like the prospects for growth in Japan and Korea. We also believe that core positions in healthcare stocks in Japan, U.S. and Europe will be beneficiaries of powerful demographic trends.