U.S. POLITICS AND BANK REFORM LEGISLATION
It was widely reported this past weekend; Goldman Sachs, the most profitable investment bank is being sued for fraud by the U.S. Securities and Exchange Commission. The U.K. and other countries are joining the fray to try and re-coup some of their losses on derivatives.
We do not know if the facts, which will be presented in court months or years from now will exonerate Goldman Sachs or find them guilty, but we do know that the SEC’s suit will have two immediate effects.
The first effect will be to insure the passage of the proposed financial reform bill being pushed through by the U.S. Congress and the Obama administration. It will be very difficult politically for anyone to stand up and fight against this legislation with media headlines convicting Goldman before they get their day in court. The big question here is will the bill really provide financial reform, or will it, like the healthcare bill, benefit the industry that it is supposedly trying to regulate?
The second effect will be to put a cloud over the U.S. banking industry and their stocks in this election year. The next time a politician wants to get some leverage with the voting public, he will vilify banks and press for more investigations and more fines, restrictions, etc.
Politicians have realized that although the U.S. public does not know the intricacies of the instruments that were sold, nor does the public understand the mechanics of the sales, the public is angry about the bank bailouts and what they see as the excessive pay that some bankers receive. In any case, the public wants to extract something from the bankers, who they see as rich and manipulative.
THE CENTER OF GLOBAL INNOVATION IS SHIFTING TO THE DEVELOPING WORLD
The emerging world has been and will be our favorite to grow and produce goods cheaper and sometimes of higher quality than the developed world. However, as the following article from The Economist points out, the emerging markets are defeating the developed markets in another area that is more important than using lower labor costs to produce products more cheaply. The developing world is producing newer and better products due to better innovation.
Innovation brings about major breakthroughs that create industries and change the way the world works. The emerging worlds’ advancements in innovation will only speed up the process that we have been describing to readers for years. The growth of the emerging world will increasingly come at the expense of the developed countries’ leadership.
Please see link below for the April 15th, article from The Economist titled “The New Masters of Management.” “Developing countries are competing on creativity as well as cost. That will change business everywhere.”
AUSTRALIA – LAND OF RESOURCES
As many of you may be aware, there has been a land rush to acquire coal seam methane gas, coal, and other mining assets in Australia. China and India have been on the prowl to acquire assets in resource rich regions around the globe for over a decade. They have made many acquisitions of base metals in Africa and South America, as well as coal, oil, and natural gas assets world wide.
In the last few years, they have been joined by large mining companies located in the developed world in a competition to acquire assets. These major corporate acquirers are made up of two types.
The first type is those who are buying to procure raw materials to assure themselves available supply of raw materials used in the production of their major products.
The second type is the large mining and resource company which has realized that the more assets that they can acquire, the more they will have to sell to the developing world at higher prices in future years.
We have been investing in Australian companies and will continue to do so, especially in the minerals and energy areas. Australia has been well managed. The currency has risen, and the outlook for demand for their major exports, commodities of several types, will continue to be strong as Asian countries build out their infrastructure and develop more consumer led economies.
Australia, with a small population is well placed geographically to deliver products to India and China at lower shipping costs. It has a strong resource base, strong legal and accounting systems, and good availability of capital. The country is well situated to enjoy a decade of growth in our opinion.
Within Australia, there have recently been three acquisitions of coal seam methane [a type of natural gas] producers by larger companies. Within the last two months, Arrow Energy, a coal seam gas producer was purchased by a joint venture of Royal Dutch Shell and PetroChina.
Coal resources are also greatly in demand. In the last few days Peabody Energy of the U.S. has made a bid for Macarthur coal of Australia. A bidding war developed with New Hope Mining, and bids are going back and forth. To further complicate the process, Macarthur already has two of the world’s largest steel makers as shareholders (South Korea’s Posco and India’s ArcelorMittal). Obviously, these parties want the coal to guarantee supplies for their giant steel making operations.
This brings us to our second theme of the day.
Recently, New Hope, Peabody, ArcelorMittal, Anglo American, Essar Group, and Coal India Limited have all announced that they would make coal acquisitions and or increase coal imports. Clearly, world coal users and miners are in a battle to lock up supplies in an increasingly supply constrained world.
Why are all of these companies and others running around trying to buy coal?
Well first there is demand from India. Everyone knows that India is well behind China on its infrastructure build out, but that it wishes to replicate China’s miracle growth as well as it can within the boundaries of the bureaucratic Indian political system.
The Indian leadership realizes that their country must address power shortages and brown outs that have become a major impediment to the growth of the nation. If India is to deliver the type of exciting industrialization that China is developing, India must increase electricity production. Coal will be instrumental in achieving this goal. Infrastructure refurbishment and expansion in India will also require massive steel production and thus coal.
China’s coal demand for new electric facilities and steel production are the world’s major demand factors. For example, China’s demand for coal will be 25 percent higher in 2010 than in 2009.
In a Peabody coal press release dated April 12, 2020 we saw the following. “So we have the dual challenge of providing electricity of 3.6 billion people who aren’t properly connected and expanding infrastructure to another 2 billon people who will be added to the grid.” The company was explaining that world population growth will increase the number of electricity consumers 25 percent by 2030, and that many in the world today have insufficient or no electricity available to them. It is widely agreed that the only resource available to handle that kind of demand is coal.
Many others countries are in the same situation. They envy the growth that China has achieved and they are trying to ramp up their spending on public infrastructure. Brazil and many other nations have been held back by poor public infrastructure, and are putting forth plans to improve roads, dams, railroads, and airports, all of which use steel… steel requires coal. Additionally, all want to increase electricity production, which is highly dependent upon coal.
We are not arguing that coal has lost is cyclical nature and that prices will rise forever. We realize that after 2010 coal prices may fall in a cyclical trend, yet we believe that the secular drivers of coal demand will guarantee higher prices during future phases of the coal cycle than has been the case in past cycles.
MARKET VOLATILITY REFLECTS A TUG OF WAR
We have volatile markets. Adding to volatility is the fact that 2010 is an election year in Brazil, U.S., and the U.K. among major countries. Political unrest in Thailand may lead to an election there.
Of course election years make for wild political actions as politicians defend their poor records by blaming other forces such as, but not limited to: nasty corporations, greedy unions, recalcitrant opposition parties, and anything else that comes to mind. They quickly acquire amnesia when confronted with the facts that they have created many of the problems that their nations currently face.
Investors are frightened of wild statements and actions by politicians, volatile currencies, fluctuating commodity prices, bond market declines, and stock volatility. On the other hand, the fuel of stock prices is corporate profits. Corporate profits are rising rapidly in much of the world.
Certainly, profits are growing fast in China, India, Brazil, and East Asia. Profits are fine in Europe, the U.S. and Latin America. This is the season where markets sometimes correct for a few months (‘sell in May and go away’ is an old saying, but in recent years, sell in early September and buy back in late October is more accurate), however this is also a period of strong economic and corporate earnings, which is providing a positive backdrop for stocks.
If the political rhetoric against banks is not too strong, the rally could continue. If the rhetoric gets out of hand, we will see a market correction for a few weeks with a resumption of stock price increases later in the year.
We continue to invest in Asian growth countries, oil, gold, and export driven companies who can grow earnings while shipping products worldwide.
Thanks for listening.
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