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Strategies & Market Trends : Ride the Tiger with CD -- Ignore unavailable to you. Want to Upgrade?

To: Stephen O who wrote (28659)	5/1/2005 8:21:19 PM
From: Taikun	Read Replies (1) \| Respond to of 314045

Stephen, While it is true that, like land, resources are finite in supply, we found out in Japan that even in a nation of very restricted land supply that there was limits to how high prices would go. With commodities, there are even fewer restrictions on location, because while your job may not let you buy that cheap land in the country for your new house, it doesn't take much labor to turn on a new mine (or restart an old one), in a remote location. With oil, while the cheap $30 oil may be gone, there is plenty at $50. (Actually the oil sands had 15% margins at $30). Investment will soon arbitrage margins in sectors like sour oil refining. Likewise, with commodities, given the big runups, there are many new mines coming onstream. I don't see how coal can go much higher from here when there are shuttered mines in Canada that aren't back to production yet and in the US Wilbur Ross is still resuscitating bankrupt mines like Horizon. We'lll soon find there is plenty of copper, zinc, moly, uranium and other commodities a the current higher prices. I se many analysts also calling for lower prices medium and long term. The 2008 Beijing Olympics will require maybe three more years of heavy infrastructure spending to ready China for the world to visit. After that will come the hangover, the audits, the investigations. "Where did the money go?" questions will be asked. <You see no real mention of commodities in the US or the UK in the general media.> Is this assumption, that a sector must reach bubble status (just like the dotcoms and real estate sectors) before it peaks, infallible? <Eventually a mania for them will develop and they will go to 25 times earnings.> Do you need a mania to make money in this sector? Manias can be quite difficult to make real lasting wealth from, because so much of one's success revolves around timing the 'top'. <All the while these companies are sitting there cheap.> These companies sit there cheap because a few things come along in a commodity cycle to make them look cheap. Namely, a long economic expansion exhausts inventories and relies on cheaper resources to be sustainable. For a growing economy to access new resources, this requires new investment and this taps cashflows, and the resource companies' performance begins to flatten. Then you get to the end of the cycle, consumption begins to drop as the cost of capital rises with interest rates negatively impacting infrastructure investment. These commodity plays have created production and acquired reserves at the start of the cycle, when demand is lower and prices are cheaper. How can you expect these higher resources prices will not feed into the broader economy and cause a drag that will impact the cashflows of these resource plays to the extent they aren't cheap anymore? At the same time, startup producers come onstream to enjoy the late-cycle high commodity prices, and all producers begin to get squeezed by a commodity they all rely on: energy. You can't laser out energy and say that the other commodities will rise in spite of its significant appreciation. Energy is unique as it is both part of the commodity index and an input all (or almost all) other commodity production. In the end, as waning consumption meets increasing supply these companies balance sheets begin to look not so healthy. Couple that with a burst in the China real estate bubble, for example, or maybe Chinese banks get a bad loan disease a la Japan and the bloom is off the rose. When the happens the only commodity investments you might want, aside from PMs, is to own the debt of the commodity producers, because the stockholders won't get paid before the bondholders do. You can probably tell I am not convinced of the commodity supercycle, just as I am not convinced the USD will fall. If the USD rises, that will have an impact on the USD denominated prices of commodities. If the RMB does not appreciate as most expect, this will make commodities even more expensive. What happens to commodity prices then? D