I am happy to be able to write you just before what I see as a propitious time for action. In our opinion, things are about ready to change a lot for global markets, and this process is just getting underway.
ENERGY – THE SUPPLY OF ENERGY FROM IRAN AND OTHER SUPPLIERS MAY DECLINE AS POLITICAL RISKS INCREASE AND MORE ENERGY IS BEING CONSUMED AT HOME
Recent developments in the Mid-East lead us to see the potential for a crisis in that part of the world brought on by al-Queda attacks in Saudi Arabia, Kuwait, UAE and other non- radical oil producing states in the region. These developments, however, have not been in the news in the west. They are developments in the world banking community.
Sources that we respect have been telling us for months about the huge flow of Mid-East cash out of the region into Europe, Britain, Canada and India. It surprises me that money would flow into India, as the money cannot be easily removed by non-Indians. The money is flowing into residential real estate and some into Indian stocks. Is it possible that some Mid-Easterners with money are looking for a new home in case things get uncomfortable in their homeland?
Iran is consuming more and more of their energy production at home as their economy grows. (Deutsche Bank recently wrote a very good report about this for their institutional clients.)
Many have argued that China’s growth would slow down and that a slower U.S. economic growth and high oil prices would create a substitution effect. The effect of these combined events would be to force the price of oil below $40 per barrel. Let us be direct. Those who have argued in this manner have been wrong.
Currently, both China and India have industrial production growth rates in excess of 11%, for the last few months. This is an increase, and will lead to higher than expected GDP growth for both India and China. In summary, China and India are growing faster, not slower. Oil prices reflect this growth — currently trading just below $59 per barrel.
India and China are growing and moving from emerging to industrialized status. This takes a lot of raw materials and it takes a lot of energy. The U.S. economy is more about consumer products and services. Growth in these areas does not consume as much energy.
THE U.S. ECONOMY IS NO LONGER DOMINANT
This is so well known that even Business Week has an article in the November 20th issue entitled, “Can Anyone Steer this Economy?” It states, “Global forces have taken control of the [U.S.] economy. And government regardless of party will have less influence than ever.” This is a point that we have made frequently, for the last several years. The global economy runs the show, and not the U.S. economy.
CURRENCIES–THE DOLLAR WILL FALL AND FOREIGN CURRENCIES WILL RISE
The dollar is looking weak, and it is not hard to see a number of reasons why it might fall substantially more.
1. The new Congress is of a differing party than the U.S. president. Many observers predict gridlock, political bickering and infighting between the parties. Both parties will be trying to caste blame on the other leading up to the major presidential election in 2008. This type of blaming and bickering will not do much to improve the psychology among current and potential dollar holders. As we all know, the U.S. must sell hundreds of billions of dollars in bonds each year to finance the U.S. budget deficit.
2. The Democrats have not been big on balancing the budget, with the exception of the later part of the Clinton administration. Most democrats want to spend on social programs, and the Democratic leadership has just stated that they do not want to withdraw from Iraq precipitously. This is a prescription for continued and growing budget deficits. For many years, we have been pointing out the cost of the Iraq war and the continuing costs of maintaining the health of those Americans injured in the conflict. These costs are astounding, and they continue to grow.
3. The U.S. balance of trade would be easier to balance in the long run with the dollar about 20 % lower than current levels. If I were the Treasury Secretary, I would like to see the dollar fall in a steady and orderly manner.
4. President Bush has been under attack, and in our opinion, his troubles are just beginning. In a recent memo I referred to the possibility of a cry for impeachment from the Democrats. This is not idle speculation. You will be hearing much more about this as it develops in the coming months and years. Should the Presidents’ political fortunes become bleak, this will create added pressure on the dollar.
BASE METALS WILL RISE
They will rise for the most obvious of reasons, simple supply and demand. Many countries are increasing their purchase for base metals as they grow their capital spending. What about all of the news reports about how China is predicting a slow down in their demand for raw materials of many types? That is talk, so let us look at the reality.
Last year, China issued many press releases indicating they would not be buying much at all of iron ore, nickel, zinc and many other commodities. In the end, it was just posturing to try and talk down prices. China ended up buying more than the previous year. China can issue as many press releases as they want jawboning the price of iron ore down. However, if you talk to the companies that mine iron ore as we do, you hear the exact opposite.
There is a simple reason for this. The Chinese infrastructure demand created solely from announced projects, will keep demand for iron ore, nickel, zinc and steel strong for at least a few years and quite possibly much longer. India, Brazil, Russia, and other countries that make money selling commodities will want to increase their capital stock in factories, refineries, chemical plants, buildings and other industrial projects.
PRECIOUS METALS WILL ALSO RISE
The world is growing, people are getting richer, and many people keep at least part of their wealth in gold. As global wealth grows (especially in newly industrialized countries and those with a history of hoarding gold) demand for gold will increase.
We own Indian and Chinese stocks in growing sectors of those economies. We own oil and gas stocks, in North America, Europe, Asia, and we own base metals and precious metals from several parts of the world. In our opinion, things look good for the fast growing economies of the world. They look excellent for foreign currencies and they look good for energy and metals. We have positioned our portfolios accordingly.
Early in the year these groups were very strong. After a decline in these sectors in the May through September period, these areas have begun to rise as they have begun to be re-accumulated by investors. As those in the theatre might say “they are ready for their encore.”