Situation: In Q2 of 2014, the trade-weighted index of 19 Futures Contracts for raw commodities peaked (DJCI; see Yahoo Finance), as did the SPDR Energy Select Sector ETF (XLE; see Yahoo Finance). Both hit bottom in early Q1 of 2016. That should have been the end of the Bear Market but prices have not risen much since then. On the plus side, both ETFs tested their early 2016 bottom in Q3 of 2017 and failed to reach it, suggesting that prices for both are in a new (albeit weak) uptrend.
Interestingly, the SPDR Gold Shares ETF (GLD; see Yahoo Finance) has traced a similar track, peaking in Q1 of 2014, bottoming at the beginning of Q1 2016, and failing a test of that low point late in 2016. Other metrics also suggest that the Bear Market has ended. For example, recently posted earnings for Exxon Mobil (XOM) in Q3 of 2018 were robust enough to have reached a level last reached in Q3 of 2014.
Mission: Use our Standard Spreadsheet to track key investment metrics for companies that buy and/or extract raw commodities for processing, transport those by using 18-wheel tractor-trailers or railroads, or manufacture the diesel powered and natural-gas powered heavy equipment tractors that are used to mine and harvest raw commodities. Confine attention to companies that have at least a BBB+ S&P rating on their bonds and at least a B+/M rating on their common stocks, as well as the 16+ year trading record on the NYSE that is needed for long-term quantitative analysis by the BMW Method.
Execution: see Table.
Bottom Line: Near-month futures prices for commodities have come down off a supercycle that blossomed in 1999, and are now back to approximately where they started. This represents a classic “reversion to the mean”, likely due to supply constraints growing out of the somewhat rapid buildout of China’s economy. We’re not at the end of a 4-Yr Bear Market. Instead, we’re in the long tail of a remarkably strong 2-decade commodities Bull Market. It is important to note that commodity production is changing away from fossil fuels. However, petroleum products still represent more than 30% of trade-weighted commodity production. Going forward, the composition of that production will shift toward environmentally cleaner transportation fuels. Gasoline and diesel will yield dominance to CNG (compressed natural gas) and hydrogen (sourced from natural gas). This will mirror the shift toward clean electrical energy that has replaced coal with natural gas during the build-out of wind and solar sources, along with the necessary enhancements to electricity storage and transmission.
Risk Rating: 8 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)
Full Disclosure: I dollar-average into CAT, XOM, R and UNP, and also own shares of NSC, BRK-B and CMI.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Showing posts with label mining. Show all posts
Showing posts with label mining. Show all posts
Sunday, December 9
Sunday, September 9
Week 375 - Producers Of Gold, Silver And Copper In The 2017 Barron’s 500 List
Situation: Commodity producers have a dismal record. Spot prices fall whenever mining (or drilling or harvesting) becomes more efficient. To make matters worse, supply-chain management and investment has become increasingly global and professionalized. Nonetheless, copper sales remain the best barometer of fixed-asset investment, particularly the ongoing proliferation of industrial plants and equipment in China. Silver has a growing role, thanks to the buildout of solar power. And gold remains a check on the propensity of government leaders everywhere to finance their dreams with debt, as opposed to revenue from taxes.
Mission: Use our Standard Spreadsheet to highlight the largest companies producing gold, silver, and copper.
Execution: see Table.
Administration: Gold and silver prices remain stuck where they were 35 years ago but are characterized by high volatility. Commodity prices (in the aggregate) trace supercycles that last approximately 20 years. The most recent came from a 1999 low and fell back to that level in 2016; since then it has ever so slowly risen from that low.
Bottom Line: The basic rule for commodity producers is that 3 years out of 30 will be good years, and you’ll make a lot of money. But over any 20-30 year period, you’ll lose money (measured by inflation-adjusted dollars). Our Table for this week confirms these points but does show that copper (SCCO) is worth an investor’s attention. But beware! That company’s share price is falling because of a falloff in trade with China and could fall further if a trade war takes hold.
Risk Rating: 10 (where 10-Yr US Treasury Notes = 1, S&P 500 = 5, and gold bullion = 10).
Full Disclosure: I do not have positions in any commodity producers aside from Exxon Mobil (XOM), but do dollar-average into the main provider of mining equipment: Caterpillar (CAT).
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Use our Standard Spreadsheet to highlight the largest companies producing gold, silver, and copper.
Execution: see Table.
Administration: Gold and silver prices remain stuck where they were 35 years ago but are characterized by high volatility. Commodity prices (in the aggregate) trace supercycles that last approximately 20 years. The most recent came from a 1999 low and fell back to that level in 2016; since then it has ever so slowly risen from that low.
Bottom Line: The basic rule for commodity producers is that 3 years out of 30 will be good years, and you’ll make a lot of money. But over any 20-30 year period, you’ll lose money (measured by inflation-adjusted dollars). Our Table for this week confirms these points but does show that copper (SCCO) is worth an investor’s attention. But beware! That company’s share price is falling because of a falloff in trade with China and could fall further if a trade war takes hold.
Risk Rating: 10 (where 10-Yr US Treasury Notes = 1, S&P 500 = 5, and gold bullion = 10).
Full Disclosure: I do not have positions in any commodity producers aside from Exxon Mobil (XOM), but do dollar-average into the main provider of mining equipment: Caterpillar (CAT).
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, January 7
Week 340 - Financial Services Companies in “The 2 and 8 Club”
Situation: Ten years ago, you were probably burned in the recession by owning stocks (or bonds) served up by the Financial Services industry. OK, I’ll give you that. But now the industry is back on its feet and paying good dividends, and your job is to invest. “Once bitten, twice shy” can’t be your approach. Instead, you need to know a little about when to get in and when to get out. Why? Because it’s one of the two industries where you stand to make a lot of money--the other being Information Technology. You can’t be a stockpicker and keep up with the S&P 500 Index unless you invest ~15% of your stock portfolio in each of those.
The leading company in this space is Berkshire Hathaway, which is an insurance company that makes side bets by using income from premiums (while waiting for claims to be filed). This sounds easy but it all depends on the quality of those side bets and the amount of cash set aside to pay claims. Greed will doom that project, which is why Berkshire’s CEO (Warren Buffett) says “be fearful when others are greedy and greedy when others are fearful.” These days, he must think that others are being very greedy because he has set aside over $100 Billion in cash. But, with Berkshire Hathaway being an insurance company, recent hurricanes have already shrunk that pile of cash by $3 Billion.
Mission: Run our standard spreadsheet for Financial Services companies in “The 2 and 8 Club” (see Week 329).
Execution: see Table.
Administration: Let me use an example to explain why banks can be so profitable. Banks set a price on your use of their money. That interest rate has to appear attractive or you won’t sign up for a repayment plan. If the counterparty (loan officer) thinks the project is too risky, she can still make the loan at an attractive rate, provided that the collateral (e.g. your home) becomes bank property if you default on the loan and is worth enough to cover the bank’s risk.
Let’s say you need money to dig a gold mine. Chances are, that won’t “pan out” and the bank will have to claim collateral, i.e., all or part of the tangible assets (land, equipment, and structures that you purchased with their money). But sometimes the mine “proves up” and you’ll want to expand it. The loan officer is happy to extend credit because now there is new collateral (gold). The bank will accept a royalty in lieu of repayment. If you are a stockholder in a bank that specializes in loaning money to gold (or silver) mining companies (see Week 307), your payoff is much greater than it would be from owning a mutual fund of gold mines, e.g. VanEck Vectors Gold Miners ETF (GDX). Go to Lines 19-21 in the Table and compare Royal Gold (RGLD, a company that finances gold mines through royalty agreements) with the total returns from owning a gold bullion ETF (GLD) or stock in GDX. You’ll see that RGLD is a reasonably good investment (indeed, it’s a Dividend Achiever), whereas, GLD and GDX are anything but.
Bottom Line: The reality is that the hopes and dreams of people who are “cash short” can be fulfilled by borrowing money, and their risk of a crippling loss from various enterprises can be reduced by taking out insurance. The bank (or insurance company) wins, even if the borrower defaults on the loan (or is wiped out by a natural disaster). In fact, it often prefers that outcome. Over time, the bank’s Return on Equity (ROE) can be amazing, say 15-20%. But the bank may be funding those loans with too much borrowed money (e.g. more than 20-25 times the amount of cash equivalents and stock that is backing those loans). On the other hand, when ROE grows because the bank is able to sell the assets it acquires at a nice profit (or the insurance company is able to double its premiums on new contracts because recent disasters proved that premiums had been too low), the risk-adjusted returns for stockholders are very good.
Risk Rating: 7 (where US 10-Yr Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)
Full Disclosure: I dollar-cost average into J. P. Morgan Chase (JPM), and also own shares of The Travelers Companies (TRV) and Berkshire Hathaway (BRK-B).
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com
The leading company in this space is Berkshire Hathaway, which is an insurance company that makes side bets by using income from premiums (while waiting for claims to be filed). This sounds easy but it all depends on the quality of those side bets and the amount of cash set aside to pay claims. Greed will doom that project, which is why Berkshire’s CEO (Warren Buffett) says “be fearful when others are greedy and greedy when others are fearful.” These days, he must think that others are being very greedy because he has set aside over $100 Billion in cash. But, with Berkshire Hathaway being an insurance company, recent hurricanes have already shrunk that pile of cash by $3 Billion.
Mission: Run our standard spreadsheet for Financial Services companies in “The 2 and 8 Club” (see Week 329).
Execution: see Table.
Administration: Let me use an example to explain why banks can be so profitable. Banks set a price on your use of their money. That interest rate has to appear attractive or you won’t sign up for a repayment plan. If the counterparty (loan officer) thinks the project is too risky, she can still make the loan at an attractive rate, provided that the collateral (e.g. your home) becomes bank property if you default on the loan and is worth enough to cover the bank’s risk.
Let’s say you need money to dig a gold mine. Chances are, that won’t “pan out” and the bank will have to claim collateral, i.e., all or part of the tangible assets (land, equipment, and structures that you purchased with their money). But sometimes the mine “proves up” and you’ll want to expand it. The loan officer is happy to extend credit because now there is new collateral (gold). The bank will accept a royalty in lieu of repayment. If you are a stockholder in a bank that specializes in loaning money to gold (or silver) mining companies (see Week 307), your payoff is much greater than it would be from owning a mutual fund of gold mines, e.g. VanEck Vectors Gold Miners ETF (GDX). Go to Lines 19-21 in the Table and compare Royal Gold (RGLD, a company that finances gold mines through royalty agreements) with the total returns from owning a gold bullion ETF (GLD) or stock in GDX. You’ll see that RGLD is a reasonably good investment (indeed, it’s a Dividend Achiever), whereas, GLD and GDX are anything but.
Bottom Line: The reality is that the hopes and dreams of people who are “cash short” can be fulfilled by borrowing money, and their risk of a crippling loss from various enterprises can be reduced by taking out insurance. The bank (or insurance company) wins, even if the borrower defaults on the loan (or is wiped out by a natural disaster). In fact, it often prefers that outcome. Over time, the bank’s Return on Equity (ROE) can be amazing, say 15-20%. But the bank may be funding those loans with too much borrowed money (e.g. more than 20-25 times the amount of cash equivalents and stock that is backing those loans). On the other hand, when ROE grows because the bank is able to sell the assets it acquires at a nice profit (or the insurance company is able to double its premiums on new contracts because recent disasters proved that premiums had been too low), the risk-adjusted returns for stockholders are very good.
Risk Rating: 7 (where US 10-Yr Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)
Full Disclosure: I dollar-cost average into J. P. Morgan Chase (JPM), and also own shares of The Travelers Companies (TRV) and Berkshire Hathaway (BRK-B).
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, September 25
Week 273 - The “Great Game” Will Be Won (or Lost) in Africa
Situation: The “Great Game” is a 19th Century term that refers to competition between the British Empire and Russia for dominance of Central Asia. Now, a similar diplomatic game is being played in Africa between the US and China. Much more capital (and diplomacy) is being invested by China, which is sending workers to execute ambitious infrastructure projects. Given that large sub-Saharan countries are among the fastest-growing emerging markets, investors need to stay abreast of Foreign Direct Investment. Much of that FDI is done at the corporate level, aided perhaps by loans from the US Export-Import Bank. But the China-Africa Industrial Cooperation Fund has been loaning far larger sums to Chinese companies.
Mission: The population of Africa is growing 3.3%/yr and is on track to double by 2040, reaching two billion. Investors need to know which publicly-traded companies are making a strong push in Africa, what their strategies are, and whether or not ROIC exceeds WACC. We will confine our attention to international companies on the 2015 list of the top 500 companies in Africa, which is an article that is supplemented by a discussion of recent developments.
US companies on the Top 500 list include Newmont Mining (NEM), Wal-Mart Stores (WMT) and Exxon Mobil (XOM). Major International companies include Orange (ORAN, a French telecommunications company), Total SA (TOT), AngloGold Ashanti (AU), Unilever plc (UL), Harmony Gold (HMY), Nissan Motors (NSANY), Diageo plc (DEO), ArcelorMittal (MT) and British American Tobacco (BTI).
Execution: see Table.
Administration: US companies face a number of problems that deter investment. The near-absence of shopping malls in even the largest country (Nigeria) has made it difficult for Wal-Mart Stores, and its partner in South Africa (Massmart), to expand operations beyond South Africa. McDonald’s has restaurants in only 3 African countries (Morocco, Egypt, South Africa) but will soon open one in Tunis (Tunisia) and one in Lagos (Nigeria). The problems that prevent McDonald’s from opening restaurants in the other 49 African countries include: 1) difficulty maintaining the security of its food supply chain to be certain that its meals are safe for consumption; 2) unreliable electric power grids that make it necessary to install back-up generators; 3) low average caloric intake because the country's population has insufficient disposable income. Nike has not opened any retail outlets in Africa, even though wholesale and Internet sales are strong and growing. Procter & Gamble derives 40% of its sales from emerging markets and has built a new plant in South Africa to support sales that are growing there, as well as in Kenya and Nigeria. Microsoft is also pushing into Africa. Newmont Mining has two large gold mines in Ghana, and Coca-Cola operates across an extensive distribution network.
You get the picture: Africa is full of developing countries, yet none outside of South Africa are developed. The overriding theme remains one of resource extraction, mainly gold and oil. Shopping centers are beginning to appear but power grids support only 40% of demand. So, diesel generators are widely used in even the largest country (Nigeria). Companies in the Health Care industry are only beginning to find a foothold. Nonetheless, Unilever plc (UL) has built a strong market in consumer staples and Nissan Motors’ (NSANY) Renault cars have sold well for over 50 years.
Bottom Line: Except for South Africa, infrastructure remains too limited to attract Foreign Direct Investment beyond that needed to extract, and sometimes process, natural resources (including agricultural products). Business is not booming. Direct commercial flights on US carriers to Africa have not been profitable; Delta is the only remaining carrier, and it continues to reduce available seat-miles. But major US corporations continue to expand operations in Africa, and China is making a big push.
Risk Rating: 7
Full Disclosure: I dollar-average into XOM and also own shares of WMT.
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 18 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256. Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = moving average for stock price over past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 10-Yr CAGR found at Column H in the Table. Price Growth Rate is the current 16-Yr CAGR found at Column L in the Table (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% is based on returns from a stock index of similar risk to a portfolio of individual stocks, i.e., the S&P 400 MidCap Index.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: The population of Africa is growing 3.3%/yr and is on track to double by 2040, reaching two billion. Investors need to know which publicly-traded companies are making a strong push in Africa, what their strategies are, and whether or not ROIC exceeds WACC. We will confine our attention to international companies on the 2015 list of the top 500 companies in Africa, which is an article that is supplemented by a discussion of recent developments.
US companies on the Top 500 list include Newmont Mining (NEM), Wal-Mart Stores (WMT) and Exxon Mobil (XOM). Major International companies include Orange (ORAN, a French telecommunications company), Total SA (TOT), AngloGold Ashanti (AU), Unilever plc (UL), Harmony Gold (HMY), Nissan Motors (NSANY), Diageo plc (DEO), ArcelorMittal (MT) and British American Tobacco (BTI).
Execution: see Table.
Administration: US companies face a number of problems that deter investment. The near-absence of shopping malls in even the largest country (Nigeria) has made it difficult for Wal-Mart Stores, and its partner in South Africa (Massmart), to expand operations beyond South Africa. McDonald’s has restaurants in only 3 African countries (Morocco, Egypt, South Africa) but will soon open one in Tunis (Tunisia) and one in Lagos (Nigeria). The problems that prevent McDonald’s from opening restaurants in the other 49 African countries include: 1) difficulty maintaining the security of its food supply chain to be certain that its meals are safe for consumption; 2) unreliable electric power grids that make it necessary to install back-up generators; 3) low average caloric intake because the country's population has insufficient disposable income. Nike has not opened any retail outlets in Africa, even though wholesale and Internet sales are strong and growing. Procter & Gamble derives 40% of its sales from emerging markets and has built a new plant in South Africa to support sales that are growing there, as well as in Kenya and Nigeria. Microsoft is also pushing into Africa. Newmont Mining has two large gold mines in Ghana, and Coca-Cola operates across an extensive distribution network.
You get the picture: Africa is full of developing countries, yet none outside of South Africa are developed. The overriding theme remains one of resource extraction, mainly gold and oil. Shopping centers are beginning to appear but power grids support only 40% of demand. So, diesel generators are widely used in even the largest country (Nigeria). Companies in the Health Care industry are only beginning to find a foothold. Nonetheless, Unilever plc (UL) has built a strong market in consumer staples and Nissan Motors’ (NSANY) Renault cars have sold well for over 50 years.
Bottom Line: Except for South Africa, infrastructure remains too limited to attract Foreign Direct Investment beyond that needed to extract, and sometimes process, natural resources (including agricultural products). Business is not booming. Direct commercial flights on US carriers to Africa have not been profitable; Delta is the only remaining carrier, and it continues to reduce available seat-miles. But major US corporations continue to expand operations in Africa, and China is making a big push.
Risk Rating: 7
Full Disclosure: I dollar-average into XOM and also own shares of WMT.
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 18 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256. Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = moving average for stock price over past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 10-Yr CAGR found at Column H in the Table. Price Growth Rate is the current 16-Yr CAGR found at Column L in the Table (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% is based on returns from a stock index of similar risk to a portfolio of individual stocks, i.e., the S&P 400 MidCap Index.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, July 24
Week 264 - High-quality Food and Agriculture Companies in the 2016 Barron's 500 List
Situation: The performance of food-related stocks is linked to the commodity supercycle, which has just completed a successful test of its 1998 low. Now would be a good time for you to prepare for the next commodity supercycle. You can buy mining and energy stocks while prices are low, but we’d rather have you think about buying food & agriculture stocks. Why? Because mining and energy stocks carry higher risk, whereas, food is both a daily requirement and in a growth market. This is because the number of people in East Asia alone who can afford to be adequately nourished has been increasing by almost 20 million persons a year for the past 20 yrs. The price of food also faces upward pressure, and is more likely to outstrip general inflation than to continue tracking it. Why? Because agriculture is the greatest consumer of water, and the steady expansion of drought-stricken areas is reducing the inventory of arable land that is able to support agriculture without irrigation.
Mission: Provide an update of food and agriculture companies listed on the New York and Toronto stock exchanges, by referencing the 2016 Barron’s 500 List of the largest companies by revenue. That list ranks companies by fundamental metrics (cash flow from operations, revenue) for the past 3 yrs. We highlight (using green) the companies that have improved their rank (see Table). We also exclude any that do not have an S&P bond rating of at least BBB+ and an S&P stock rating of at least B+/M. Companies with a BBB bond rating are also included if they carry an S&P stock rating of at least A-/M.
Execution: see Table.
Bottom Line: In the aggregate, these 12 companies are good investments. And, they’re safe enough to be long-term holdings in a retirement portfolio. The problem is that you’ll only choose to invest in two or three. To help you pick those, we’ve calculated Net Present Value (NPV) in Column AA of the Table. Ranked by NPV, and also considering safety metrics like Dividend Achiever status, General Mills (GIS), Hormel Foods (HRL) and Deere (DE) look like good bets.
Risk Rating: 6 (where US Treasuries = 1 and gold = 10).
Full Disclosure: I own shares of GIS, HRL, KO, PEP, ADM, and DE.
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 18 in the Table. NPV inputs are described and justified in the Appendix to Week 256. A shorthand way to estimate that a stock will have an investable NPV is highlighted in yellow at Column Q in the Table, i.e., 16-Yr CAGR (Column N) + Dividend Yield (Column G) needs to be 11.4% or higher.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Provide an update of food and agriculture companies listed on the New York and Toronto stock exchanges, by referencing the 2016 Barron’s 500 List of the largest companies by revenue. That list ranks companies by fundamental metrics (cash flow from operations, revenue) for the past 3 yrs. We highlight (using green) the companies that have improved their rank (see Table). We also exclude any that do not have an S&P bond rating of at least BBB+ and an S&P stock rating of at least B+/M. Companies with a BBB bond rating are also included if they carry an S&P stock rating of at least A-/M.
Execution: see Table.
Bottom Line: In the aggregate, these 12 companies are good investments. And, they’re safe enough to be long-term holdings in a retirement portfolio. The problem is that you’ll only choose to invest in two or three. To help you pick those, we’ve calculated Net Present Value (NPV) in Column AA of the Table. Ranked by NPV, and also considering safety metrics like Dividend Achiever status, General Mills (GIS), Hormel Foods (HRL) and Deere (DE) look like good bets.
Risk Rating: 6 (where US Treasuries = 1 and gold = 10).
Full Disclosure: I own shares of GIS, HRL, KO, PEP, ADM, and DE.
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 18 in the Table. NPV inputs are described and justified in the Appendix to Week 256. A shorthand way to estimate that a stock will have an investable NPV is highlighted in yellow at Column Q in the Table, i.e., 16-Yr CAGR (Column N) + Dividend Yield (Column G) needs to be 11.4% or higher.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, May 8
Week 253 - Gold
Situation: For many of us, our concept of personal financial security meshes with our concept of personal safety. Recent TV commercials highlighting the benefits of owning gold are a case in point. The idea is that an investor may not need to worry so much about government debt, and its effect on inflation, if his or her retirement plan includes a “Gold IRA.” Given that the IRS classifies gold as a “collectible” (because it doesn’t pay interest and can’t be rented), its dollar value is defined by the eagerness of prospective owners, i.e., gold’s value increases only if there are more buyers than sellers. The main reason to buy into a “crowded trade” is to hedge against the likelihood of a future event that would negatively affect the buyer’s personal financial security.
One possible event is that the US government’s debt per capita would increase to the point of “currency debasement.” The more people become concerned about that possibility, the more valuable gold becomes. The fact that the US government’s debt per capita has been falling since the Great Recession doesn't remove this concern. Why? Because the US government is increasingly seen as the “payer of last resort.” For example, Puerto Rico is no longer solvent and needs an $80B bailout. Another example: thousands of municipal water systems have lead pipes that urgently need replacing. Finally, such a large number of senior citizens (“baby boomers”) are retiring that Medicare expenditures will increase dramatically.
To sum up, there is too much government, corporate, and household debt worldwide. The tendency of Central Banks to drive interest rates ever lower (to “jump-start” their economies) only makes borrowing more attractive, and the likely result of that will be greater indebtedness.
Mission: Look at 12-yr returns for GLD, an exchange-traded fund (ETF) for gold bullion, as well as the Market Vectors Gold Miners ETF (GDX) and Newmont Mining (NEM), the largest US gold miner. Two other large mining companies are also important to consider: Agnico Eagle Mines Ltd (AEM) and Barrick Gold (ABX). Gold mining is accomplished by getting rock out of the ground and using massive electric-drive Caterpillar (CAT) trucks to carry it out of the mine. That stock’s price is a good barometer of mining activity. It is also important to consider the only Dividend Achiever among gold stocks, Royal Gold (RGLD), which is a company that obtains royalties on gold production in exchange for financing gold mines. Compare those returns (see Table) to more typical US stocks in the commodity space, such as NextEra Energy (NEE), Union Pacific (UNP) and Exxon Mobil (XOM).
Bottom Line: By owning gold you’re giving up the opportunity to make another investment that provides you with a steady income from interest, dividends or rent. You also miss out on paying the low capital gains tax for income-producing investments. Gold is a “collectible” and the proceeds are taxed as income. This may not matter, if you think hyperinflation is a looming threat. Just remember, gold is the most speculative of investments because of its price volatility and lack of income.
Risk Rating: 10
Full Disclosure: I dollar-average into NEE, UNP, and XOM.
NOTE: Metrics in the Table are current for the Sunday of publication; metrics highlighted in red denote underperformance vs. the Vanguard Balanced Index Fund (VBINX).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
One possible event is that the US government’s debt per capita would increase to the point of “currency debasement.” The more people become concerned about that possibility, the more valuable gold becomes. The fact that the US government’s debt per capita has been falling since the Great Recession doesn't remove this concern. Why? Because the US government is increasingly seen as the “payer of last resort.” For example, Puerto Rico is no longer solvent and needs an $80B bailout. Another example: thousands of municipal water systems have lead pipes that urgently need replacing. Finally, such a large number of senior citizens (“baby boomers”) are retiring that Medicare expenditures will increase dramatically.
To sum up, there is too much government, corporate, and household debt worldwide. The tendency of Central Banks to drive interest rates ever lower (to “jump-start” their economies) only makes borrowing more attractive, and the likely result of that will be greater indebtedness.
Mission: Look at 12-yr returns for GLD, an exchange-traded fund (ETF) for gold bullion, as well as the Market Vectors Gold Miners ETF (GDX) and Newmont Mining (NEM), the largest US gold miner. Two other large mining companies are also important to consider: Agnico Eagle Mines Ltd (AEM) and Barrick Gold (ABX). Gold mining is accomplished by getting rock out of the ground and using massive electric-drive Caterpillar (CAT) trucks to carry it out of the mine. That stock’s price is a good barometer of mining activity. It is also important to consider the only Dividend Achiever among gold stocks, Royal Gold (RGLD), which is a company that obtains royalties on gold production in exchange for financing gold mines. Compare those returns (see Table) to more typical US stocks in the commodity space, such as NextEra Energy (NEE), Union Pacific (UNP) and Exxon Mobil (XOM).
Bottom Line: By owning gold you’re giving up the opportunity to make another investment that provides you with a steady income from interest, dividends or rent. You also miss out on paying the low capital gains tax for income-producing investments. Gold is a “collectible” and the proceeds are taxed as income. This may not matter, if you think hyperinflation is a looming threat. Just remember, gold is the most speculative of investments because of its price volatility and lack of income.
Risk Rating: 10
Full Disclosure: I dollar-average into NEE, UNP, and XOM.
NOTE: Metrics in the Table are current for the Sunday of publication; metrics highlighted in red denote underperformance vs. the Vanguard Balanced Index Fund (VBINX).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, January 3
Week 235 - How Are Our 4 Key AgriBusiness Stocks Doing?
Situation: Ten weeks ago, we took a close look at the 20 largest AgriBusiness companies (see Week 225). We didn’t find much to love. When a commodity “supercycle” ends, it takes down all sectors, including oil & gas, mining, and agriculture. Nonetheless, we concluded that 4 AgriBusiness companies have strong enough balance sheets and wide enough marketing to “muddle through” this downturn. Each of the four firms we selected is a widely known and respected brand: Monsanto (MON), Hormel Foods (HRL), Archer Daniels Midland (ADM) and Deere (DE). Now that the commodity bear market has deepened, let’s look in on these companies to see how they’re holding up.
Mission: Perform our standard spreadsheet analysis and make comparisons to relevant benchmarks (see Table).
Bottom Line: Hormel Foods (HRL) continues to outperform because of the “great meat rally.” Monsanto (MON) stock fell in price last year after a failed merger attempt with Syngenta (SYT) but is now recovering amid speculation that major agribusinesses will have to merge (given the imbalance between supply and demand for commodities). Indeed, duPont (DD) and Dow Chemical (DOW) have already agreed to do so. Archer Daniels Midland (ADM) and Deere (DE) are both in deepening bear markets due to a sharp fall in revenues. ADM coordinates agribusiness infrastructure worldwide but also gets ~10% of its revenues from ethanol production. That market is under pressure due to several factors, the most important being that a “blend wall” has been reached for blending gasoline that is 10% ethanol. No more ethanol is needed, and gasoline with 15% ethanol can’t be used in cars built before 2002. The blend wall became an issue because cars are increasingly fuel-efficient, and many car owners prefer not to use 10% ethanol. Deere (DE) manufactures heavy equipment for construction and mining in addition to the iconic green tractors and harvesters used in farming. All of those markets have collapsed now that China has largely completed its infrastructure buildout and is going through its own mini-recession. Another important market pressure is that consumers are getting fussier about how foodstuffs are produced and processed. These preferences are undermining the “factory farming” innovations that brought us cheap and abundant food, known as the “green revolution.” In summary, it looks like the AgriBusiness sector will remain under downward pressure for several more years.
Risk Rating: 8
Full Disclosure: I own stock in DE, ADM, MON, and HRL.
Note: Metrics highlighted in red denote underperformance vs. our key benchmark (VBINX). Metrics are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Perform our standard spreadsheet analysis and make comparisons to relevant benchmarks (see Table).
Bottom Line: Hormel Foods (HRL) continues to outperform because of the “great meat rally.” Monsanto (MON) stock fell in price last year after a failed merger attempt with Syngenta (SYT) but is now recovering amid speculation that major agribusinesses will have to merge (given the imbalance between supply and demand for commodities). Indeed, duPont (DD) and Dow Chemical (DOW) have already agreed to do so. Archer Daniels Midland (ADM) and Deere (DE) are both in deepening bear markets due to a sharp fall in revenues. ADM coordinates agribusiness infrastructure worldwide but also gets ~10% of its revenues from ethanol production. That market is under pressure due to several factors, the most important being that a “blend wall” has been reached for blending gasoline that is 10% ethanol. No more ethanol is needed, and gasoline with 15% ethanol can’t be used in cars built before 2002. The blend wall became an issue because cars are increasingly fuel-efficient, and many car owners prefer not to use 10% ethanol. Deere (DE) manufactures heavy equipment for construction and mining in addition to the iconic green tractors and harvesters used in farming. All of those markets have collapsed now that China has largely completed its infrastructure buildout and is going through its own mini-recession. Another important market pressure is that consumers are getting fussier about how foodstuffs are produced and processed. These preferences are undermining the “factory farming” innovations that brought us cheap and abundant food, known as the “green revolution.” In summary, it looks like the AgriBusiness sector will remain under downward pressure for several more years.
Risk Rating: 8
Full Disclosure: I own stock in DE, ADM, MON, and HRL.
Note: Metrics highlighted in red denote underperformance vs. our key benchmark (VBINX). Metrics are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, October 25
Week 225 - How are the 20 Largest AgriBusiness Companies Doing?
Situation: Commodities have fallen steadily in value since the Lehman Panic. A recent further decline is related to a slowing in the pace of modernization in China, where 40% of commodity production had gone for the past 20 yrs. This has greatly compounded the problem because the rapid pace of modernization there had required remarkable growth in the production of all commodities. Now that China’s infrastructure buildout is largely complete, those upgraded mining and exploration assets in Australia, Brazil, Chile, and South Africa have been idled, and over a dozen billion dollar projects have been aborted. But those aren’t the only commodities out there. What about agricultural products? Demand for soybeans and cereal grains (e.g. barley, corn, oats, rice, rye, wheat, sorghum) is different because close to 20 million people emerge from poverty each year and are able to afford better food, which translates into a protein intake of at least 60 gm/d. The volumes of food involved in meeting that increased demand make it necessary to combine the “green revolution” with “factory farms.” That combination has come to be called “AgriBusiness.” AgriBusiness is focused on efficiently getting water to soil that has been prepared to support the germination of designer seeds through “agronomy.” Agronomy is shorthand for the scientific use of fertilizers, insecticides, and fungicides to optimize plant growth around weather patterns and irrigation systems that meet water needs.
Mission: Assemble data on stocks representing the 20 largest AgriBusiness companies, and compare their aggregate performance with broad commodity indices--as well as narrower indices that reflect the performance of farming, mining, and energy companies.
Execution: AgriBusiness companies are high risk investments, and each has only a small piece of the pie. In order to compete against one another, each has to maintain a market for its goods and services in dozens of countries. Only 4 of the 20 identified AgriBusinesses are stable enough to warrant inclusion in a retirement portfolio by even the most basic criteria (see Table). These criteria are 1) Dividend Achiever status, 2) an S&P bond rating of at least BBB+, and 3) an S&P stock rating of at least B+/M. The 4 companies that make the cut are: Monsanto (MON), Deere (DE), Hormel Foods (HRL), and Archer Daniels Midland (ADM).
Bottom Line: If you think your portfolio requires exposure to commodities, then you’re in for a rough ride. But “long cycle” investments such as commodities can be quite rewarding if held for two or more market cycles. The safest approach is to own stock in a few of the larger AgriBusiness companies, as opposed to owning stock in mining or energy companies (see Week 221). This week’s blog takes a closer look at those agricultural producers. Be aware, however, that overproduction to meet China’s needs over the past decade has expanded agricultural production capacity along with that for oil, natural gas, coal, iron ore, bauxite, and copper. This is being reversed now that China’s “buildout” has begun to plateau.
Risk Rating: 8
Full Disclosure: I own stock in CF, HRL, MON, DD, DE, and ADM.
Note: Metrics in the Table that are highlighted in red denote underperformance relative to our key benchmark (VBINX); metrics are current as of the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Assemble data on stocks representing the 20 largest AgriBusiness companies, and compare their aggregate performance with broad commodity indices--as well as narrower indices that reflect the performance of farming, mining, and energy companies.
Execution: AgriBusiness companies are high risk investments, and each has only a small piece of the pie. In order to compete against one another, each has to maintain a market for its goods and services in dozens of countries. Only 4 of the 20 identified AgriBusinesses are stable enough to warrant inclusion in a retirement portfolio by even the most basic criteria (see Table). These criteria are 1) Dividend Achiever status, 2) an S&P bond rating of at least BBB+, and 3) an S&P stock rating of at least B+/M. The 4 companies that make the cut are: Monsanto (MON), Deere (DE), Hormel Foods (HRL), and Archer Daniels Midland (ADM).
Bottom Line: If you think your portfolio requires exposure to commodities, then you’re in for a rough ride. But “long cycle” investments such as commodities can be quite rewarding if held for two or more market cycles. The safest approach is to own stock in a few of the larger AgriBusiness companies, as opposed to owning stock in mining or energy companies (see Week 221). This week’s blog takes a closer look at those agricultural producers. Be aware, however, that overproduction to meet China’s needs over the past decade has expanded agricultural production capacity along with that for oil, natural gas, coal, iron ore, bauxite, and copper. This is being reversed now that China’s “buildout” has begun to plateau.
Risk Rating: 8
Full Disclosure: I own stock in CF, HRL, MON, DD, DE, and ADM.
Note: Metrics in the Table that are highlighted in red denote underperformance relative to our key benchmark (VBINX); metrics are current as of the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, August 30
Week 217 - Metals and Mining Companies with Improving Fundamentals
Situation: We’re always on the lookout for improved business conditions in companies that depend on “long-cycle” commodities. “Green shoots” are now popping up for those that use rocks and minerals as their main feedstock. Why should you care, since all classes of commodities have been falling in price for some time now? Our reasoning is that you need to follow commodities, if only from a distance, because their prices often respond to factors unrelated to the business cycle. What this means is that commodities can help balance risk associated with stocks and/or bonds. Commodity-related companies represent what’s known as “non-correlated assets.” Their stocks have particular value as moderators of portfolio performance. The reason for this is that commodity production carries large initial fixed costs and usually requires extensive logistical networks, but those large “costs of entry” also discourage competitors, so companies have an opportunity to build a strong brand if not a wide moat. There are risks. Once a commodity is found to be in short supply, it takes years to expand production (because of those large fixed costs), by which time shortages may have been corrected through innovative technologies or product substitution. The commodity’s price may fall because of innovations, substitution and newly expanded production. This will make it difficult to justify further investment but also makes it easy for strong companies to “buy out” weak competitors. Possibly one or two of these strong companies will become responsible for further innovation and substitution, then earn profits that exceed those of its competitors. Any excess of the commodity will likely be placed in storage because dialing back production (to meet demand) will not happen fast enough to prevent a precipitous drop in prices.
Mission: Identify large metals and mining companies that are showing steady improvement in Return on Invested Capital (ROIC) and revenues.
Execution: We’ll start with the Barron’s 500 Lists for 2014 and 2015, which rank the 500 largest companies traded on the Toronto and New York stock exchanges by revenue. Those rankings “compare companies on the basis of three equally weighted measures: (1) median three-year cash-flow-based return on investment; (2) the one-year change in that measure, relative to the three-year median; (3) sales growth in the latest fiscal year.” Eight metals and mining companies had a higher rank in 2015 than 2014 (see Table). Only one, Nucor (NUE), is an S&P Dividend Achiever, meaning its dividend has been increased annually for at least the past 10 yrs. Interestingly, all but Southern Copper (SCCO) carry a “buy” recommendation from S&P and/or Morningstar (see Columns T and U in the Table). With respect to our favorite performance metrics, these 8 companies as a group (see Line 10 in the Table) have greatly out-performed the S&P index fund for metals and mining companies (XME) at Line 19 in the Table.
Bottom Line: These 8 leading metals and mining companies are in recovery mode after a bad decade. While their stocks represent speculative investments by any standard, they also carry modest valuations, selling at 1.8 times book value vs. 2.7 for the S&P 500 Index (see Column K in the Table). However, most of the companies in the metals and mining sector ETF (XME) have yet to show signs of recovering from a deflationary decade and sell at only 1.4 times book value. It still remains to be seen whether the world economy will be successful at emerging from the deflation that followed the Lehman Panic. But if it is, most of these companies will double in value over the next two years. Caveat Emptor: these are speculative stocks; none are suitable for inclusion in a retirement portfolio.
Risk Rating: 9
Full Disclosure: I recently purchased stock in Alcoa (AA).
Note: Metrics in the Table are current as of the Sunday of Publication; those highlighted in red denote underperformance relative to our key benchmark (VBINX at Line 16 in the Table).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Identify large metals and mining companies that are showing steady improvement in Return on Invested Capital (ROIC) and revenues.
Execution: We’ll start with the Barron’s 500 Lists for 2014 and 2015, which rank the 500 largest companies traded on the Toronto and New York stock exchanges by revenue. Those rankings “compare companies on the basis of three equally weighted measures: (1) median three-year cash-flow-based return on investment; (2) the one-year change in that measure, relative to the three-year median; (3) sales growth in the latest fiscal year.” Eight metals and mining companies had a higher rank in 2015 than 2014 (see Table). Only one, Nucor (NUE), is an S&P Dividend Achiever, meaning its dividend has been increased annually for at least the past 10 yrs. Interestingly, all but Southern Copper (SCCO) carry a “buy” recommendation from S&P and/or Morningstar (see Columns T and U in the Table). With respect to our favorite performance metrics, these 8 companies as a group (see Line 10 in the Table) have greatly out-performed the S&P index fund for metals and mining companies (XME) at Line 19 in the Table.
Bottom Line: These 8 leading metals and mining companies are in recovery mode after a bad decade. While their stocks represent speculative investments by any standard, they also carry modest valuations, selling at 1.8 times book value vs. 2.7 for the S&P 500 Index (see Column K in the Table). However, most of the companies in the metals and mining sector ETF (XME) have yet to show signs of recovering from a deflationary decade and sell at only 1.4 times book value. It still remains to be seen whether the world economy will be successful at emerging from the deflation that followed the Lehman Panic. But if it is, most of these companies will double in value over the next two years. Caveat Emptor: these are speculative stocks; none are suitable for inclusion in a retirement portfolio.
Risk Rating: 9
Full Disclosure: I recently purchased stock in Alcoa (AA).
Note: Metrics in the Table are current as of the Sunday of Publication; those highlighted in red denote underperformance relative to our key benchmark (VBINX at Line 16 in the Table).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, May 26
Week 99 - Gold and Copper Miners
Situation: Commodities are having a bad year. People who regard gold as a currency, or a safe haven in times of market turmoil and recession, are finding that the US economy is recovering. The great fear that “inflation is just around the corner because the Fed keeps printing money” hasn’t materialized. The Federal Reserve’s preferred inflation indicator (personal consumption expenditures) continues to moderate and is now 1% (year-over-year). People who regard copper production as being so essential to infrastructure investment that they refer to it as “Dr. Copper” are again correct.
Taken as a whole, the economies of the world are slowly emerging from a slack period. (Dr. Copper reflects that fact.) Yes, the US economy is growing at 2%/yr but European economies are shrinking 2%/yr and Asian economies are struggling to grow 4%/yr--somewhat slower than their former pace.
The great mining companies of Australia (BHP Billiton and Rio Tinto), which mainly export iron ore to China, are shelving their expansion plans (read this link). Whereas the production of most commodities couldn't keep up with demand just a few years ago, supplies now exceed demand. Spot prices continue to fall and production cutbacks are reported almost monthly. Copper production mainly gets warehoused. What to make of all this? Input costs are facilitating the production of finished goods instead of constraining production.
But investors know that infrastructure spending has to increase soon, given that the world’s population increases by 220,000 a day. They also know that governments will engage in deficit spending, and central bankers will engage in “easy money” policies, as long as sub-par growth crimps tax revenues. So gold and copper producers aren’t about to close up shop. Spot prices for gold and copper are simply in the downward phase of what economists like call “reversion to the mean.” The upward phase will resume when economic growth returns to Europe because that's where the bottleneck is located. The BRIC countries (Brazil, Russia, India, and China) are the engine of globalization; those countries cannot grow unless they export a growing volume of goods to Europe.
For this week’s Table, we’re using the recently released Barron’s 500 list as our guide. That list weights 3 items equally:
a) sales growth for 2012,
b) median "cash-flow based" return on investment (ROIC) for the past 3 years, and
c) cash-flow based ROIC for 2012.
Here at ITR, we view those factors above all others in assessing current Finance Value.
All of the mining-related companies on that list are in the Table. We have also included two railroad companies that play key roles in North American commodity production--Canadian National (CNI) and Union Pacific (UNP)--as well as Caterpillar (CAT), which is the dominant manufacturer of mining equipment. Three gold producers also make the list: Goldcorp (GG), Barrick Gold (ABX), and Newmont Mining (NEM). In addition, the two largest copper producers are included: Freeport-McMoRan Copper & Gold (FCX) and Southern Copper (SCCO). Remember, where copper is found there will also be some gold (and vice-versa). Pure gold emerges as a by-product when copper is purified by electrolysis.
Bottom Line: Commodity producers have large fixed costs, and that kind of investment only happens when a commodity becomes expensive because it is in short supply. This raises input costs, putting a brake on production and driving up the cost of finished products. Once production expands, however, the opposite happens. This “commodity cycle” typically last for ~15 yrs. For gold and copper, we’re at the end of one cycle and looking to start another when Europe emerges from recession.
You, as someone who is saving for retirement, probably have a shorter horizon and shouldn’t be investing in commodity producers. The price swings are simply too great. But if you can’t resist the temptation, stick to a low-cost commodity mutual fund such as T. Rowe Price New Era fund (PRNEX in the Table). Better yet, invest in the lowest-volatility railroad stock (CNI) or the lowest-volatility oil stock (XOM).
Remember, the whole point of commodity investing is to participate in the long and strong up-periods of the commodity cycle. The problem is that the down-periods get recognized belatedly and suddenly. That means you probably won’t be able to sell in time to realize a good profit. You'll want to find a company that lives off commodities but also makes money during recessions. For example, railroads haul everyday essentials; integrated oil companies operate gas stations and produce petrochemicals that are used to make plastics.
Risk Rating: 9.
Full Disclosure: I have stock in CNI, XOM, and CAT.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Taken as a whole, the economies of the world are slowly emerging from a slack period. (Dr. Copper reflects that fact.) Yes, the US economy is growing at 2%/yr but European economies are shrinking 2%/yr and Asian economies are struggling to grow 4%/yr--somewhat slower than their former pace.
The great mining companies of Australia (BHP Billiton and Rio Tinto), which mainly export iron ore to China, are shelving their expansion plans (read this link). Whereas the production of most commodities couldn't keep up with demand just a few years ago, supplies now exceed demand. Spot prices continue to fall and production cutbacks are reported almost monthly. Copper production mainly gets warehoused. What to make of all this? Input costs are facilitating the production of finished goods instead of constraining production.
But investors know that infrastructure spending has to increase soon, given that the world’s population increases by 220,000 a day. They also know that governments will engage in deficit spending, and central bankers will engage in “easy money” policies, as long as sub-par growth crimps tax revenues. So gold and copper producers aren’t about to close up shop. Spot prices for gold and copper are simply in the downward phase of what economists like call “reversion to the mean.” The upward phase will resume when economic growth returns to Europe because that's where the bottleneck is located. The BRIC countries (Brazil, Russia, India, and China) are the engine of globalization; those countries cannot grow unless they export a growing volume of goods to Europe.
For this week’s Table, we’re using the recently released Barron’s 500 list as our guide. That list weights 3 items equally:
a) sales growth for 2012,
b) median "cash-flow based" return on investment (ROIC) for the past 3 years, and
c) cash-flow based ROIC for 2012.
Here at ITR, we view those factors above all others in assessing current Finance Value.
All of the mining-related companies on that list are in the Table. We have also included two railroad companies that play key roles in North American commodity production--Canadian National (CNI) and Union Pacific (UNP)--as well as Caterpillar (CAT), which is the dominant manufacturer of mining equipment. Three gold producers also make the list: Goldcorp (GG), Barrick Gold (ABX), and Newmont Mining (NEM). In addition, the two largest copper producers are included: Freeport-McMoRan Copper & Gold (FCX) and Southern Copper (SCCO). Remember, where copper is found there will also be some gold (and vice-versa). Pure gold emerges as a by-product when copper is purified by electrolysis.
Bottom Line: Commodity producers have large fixed costs, and that kind of investment only happens when a commodity becomes expensive because it is in short supply. This raises input costs, putting a brake on production and driving up the cost of finished products. Once production expands, however, the opposite happens. This “commodity cycle” typically last for ~15 yrs. For gold and copper, we’re at the end of one cycle and looking to start another when Europe emerges from recession.
You, as someone who is saving for retirement, probably have a shorter horizon and shouldn’t be investing in commodity producers. The price swings are simply too great. But if you can’t resist the temptation, stick to a low-cost commodity mutual fund such as T. Rowe Price New Era fund (PRNEX in the Table). Better yet, invest in the lowest-volatility railroad stock (CNI) or the lowest-volatility oil stock (XOM).
Remember, the whole point of commodity investing is to participate in the long and strong up-periods of the commodity cycle. The problem is that the down-periods get recognized belatedly and suddenly. That means you probably won’t be able to sell in time to realize a good profit. You'll want to find a company that lives off commodities but also makes money during recessions. For example, railroads haul everyday essentials; integrated oil companies operate gas stations and produce petrochemicals that are used to make plastics.
Risk Rating: 9.
Full Disclosure: I have stock in CNI, XOM, and CAT.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, March 10
Week 88 - Biofuels
Situation: Grain reserves around the world have been falling at an average rate of 4%/yr for more than 10 yrs. This is not a good thing. Prices have doubled over that period and demand still remains strong for 3 reasons: a) there are ~220,000 more mouths to feed each day, b) more than 10,000,000 workers emerge from poverty each year, and c) grain is increasingly diverted from the food chain to make biofuels. (This also appears to have reduced per capita oil consumption by almost 2%/yr.)
It took just a few years for biofuel production to become a major industry in a number of countries. Brazil is the leader with 90% of the cars sold there equipped to run on 100% ethanol made from sugar cane. When the price of sugar on the world market is high, Brazil sells its sugar overseas instead of using it to make ethanol; car tanks are then filled up with gasoline. Brazil currently has enough sugar production to fuel its cars and sell ethanol abroad, e.g. to US refiners for $0.20 less than the US wholesale price for corn ethanol. How is that possible? Because it is so much cheaper to make ethanol from sugar cane than from corn kernels.
Okay so where is this discussion headed? The current goal is to find a commercially successful way to make ethanol from grass and wood chips, so-called cellulosic ethanol. We're not there yet but we can make diesel fuel on a competitive scale from algae and vegetable oil. This week's blog looks at companies that invest in biofuel production and have stock that has been publicly traded for at least 6 yrs (Table).
BP is the biofuels leader, and it currently is in court because of a horrific deepwater oil rig explosion that killed 11 workers. But neither bad publicity nor big fines will cripple this company because it has many strengths, not least of which is its long-standing commitment to renewable energy. If you want to make only one investment in biofuels, BP remains your best bet. The only other investment-grade companies subspecializing in biofuels are duPont (DD) and Valero (VLO). Valero owns 10 ethanol plants and duPont is developing biobutanol as a substitute for ethanol--one that doesn’t need to be made from grain. Biobutanol research is almost at the point where it can be made in a cost-effective manner from ethanol, glycerol (a byproduct of biodiesel production), cellulose, solar energy or algae. 100% butanol is a suitable fuel for motor vehicles and can be transported in gasoline pipelines, whereas, ethanol is too water-soluble to pull off either feat. REX American Resources is also worth a look, since it does manage to beat the S&P 500 Index (VFINX) in terms of Finance Value (Column E in the Table). REX owns ethanol plants and specializes in selling animal feed made from the distiller's grains, which are the major by-product of ethanol production. For small-capitalization companies that didn’t make it into our Table, we refer you to the Exchange-Traded Fund specializing in those (PBW, see line 10 in the Table).
BP is expanding production of bioethanol from sugar cane in Brazil. Recently, it announced that one plant will be doubled in size to process 5 million tons of sugar cane annually, enough to make 120 million gallons of ethanol. BP has taken the lead in research on cellulosic ethanol production by setting up a Biofuels Global Technology Center in San Diego after buying cellulosic ethanol assets from Verenium. As part of that effort, BP operates a 1.4 million gallon/yr cellulosic demonstration facility in Jennings, LA. Together with duPont (DD), BP has made a major push toward establishing biobutanol as a fuel of the future (because of the important advantages butanol has over ethanol). That joint venture is called Butamax Advanced Biofuels. For this work, MIT’s Technology Review magazine (December 2010) named duPont as one of the 50 most innovative companies in the world.
Bottom Line: Biofuel production isn't a mature industry. BP, duPont (DD), and Valero (VLO) are the only companies with investment-grade stock offerings. But more will come.
Risk Rating: 9.
Full Disclosure: I have stock in duPont (DD).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
It took just a few years for biofuel production to become a major industry in a number of countries. Brazil is the leader with 90% of the cars sold there equipped to run on 100% ethanol made from sugar cane. When the price of sugar on the world market is high, Brazil sells its sugar overseas instead of using it to make ethanol; car tanks are then filled up with gasoline. Brazil currently has enough sugar production to fuel its cars and sell ethanol abroad, e.g. to US refiners for $0.20 less than the US wholesale price for corn ethanol. How is that possible? Because it is so much cheaper to make ethanol from sugar cane than from corn kernels.
Okay so where is this discussion headed? The current goal is to find a commercially successful way to make ethanol from grass and wood chips, so-called cellulosic ethanol. We're not there yet but we can make diesel fuel on a competitive scale from algae and vegetable oil. This week's blog looks at companies that invest in biofuel production and have stock that has been publicly traded for at least 6 yrs (Table).
BP is the biofuels leader, and it currently is in court because of a horrific deepwater oil rig explosion that killed 11 workers. But neither bad publicity nor big fines will cripple this company because it has many strengths, not least of which is its long-standing commitment to renewable energy. If you want to make only one investment in biofuels, BP remains your best bet. The only other investment-grade companies subspecializing in biofuels are duPont (DD) and Valero (VLO). Valero owns 10 ethanol plants and duPont is developing biobutanol as a substitute for ethanol--one that doesn’t need to be made from grain. Biobutanol research is almost at the point where it can be made in a cost-effective manner from ethanol, glycerol (a byproduct of biodiesel production), cellulose, solar energy or algae. 100% butanol is a suitable fuel for motor vehicles and can be transported in gasoline pipelines, whereas, ethanol is too water-soluble to pull off either feat. REX American Resources is also worth a look, since it does manage to beat the S&P 500 Index (VFINX) in terms of Finance Value (Column E in the Table). REX owns ethanol plants and specializes in selling animal feed made from the distiller's grains, which are the major by-product of ethanol production. For small-capitalization companies that didn’t make it into our Table, we refer you to the Exchange-Traded Fund specializing in those (PBW, see line 10 in the Table).
BP is expanding production of bioethanol from sugar cane in Brazil. Recently, it announced that one plant will be doubled in size to process 5 million tons of sugar cane annually, enough to make 120 million gallons of ethanol. BP has taken the lead in research on cellulosic ethanol production by setting up a Biofuels Global Technology Center in San Diego after buying cellulosic ethanol assets from Verenium. As part of that effort, BP operates a 1.4 million gallon/yr cellulosic demonstration facility in Jennings, LA. Together with duPont (DD), BP has made a major push toward establishing biobutanol as a fuel of the future (because of the important advantages butanol has over ethanol). That joint venture is called Butamax Advanced Biofuels. For this work, MIT’s Technology Review magazine (December 2010) named duPont as one of the 50 most innovative companies in the world.
Bottom Line: Biofuel production isn't a mature industry. BP, duPont (DD), and Valero (VLO) are the only companies with investment-grade stock offerings. But more will come.
Risk Rating: 9.
Full Disclosure: I have stock in duPont (DD).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, September 2
Week 61 - Gold Miners
Situation: Owning gold appears to satisfy an emotional need for some investors. Until recently, most of the gold mined on a yearly basis was used to produce jewelry. Then in 2004 an exchange-traded fund (ETF) became available that allowed investors to own fractional shares of gold bars and pay low maintenance costs (GLD). An unexpected byproduct of this was to increase the level of speculation in gold, thus adding to supply constraints because production of gold rarely keeps up with demand.
So just what kind of investment is gold? Many terms are applied to answer that question. For example, “store of value, hard currency, safe harbor, hedge against inflation, easily transported wealth, hard asset, piggy bank, real money” are a few. The abundance of descriptors for the role that gold plays only goes to show how important gold is. For dispassionate readers of this blog, however, it’s just another counter-cyclical “hedge,” much like a US Treasury bond. The purpose of a hedge isn’t to increase your wealth. The purpose is to prevent a loss of principal, i.e., to protect your initial dollar outlay. The buyers are more interested in return of their investment than return on their investment. For this reason, they want a hedge that has a low or negative beta. The 5-yr beta for 12 gold mining stocks in the accompanying Table is -0.05 to 0.71 (with an average of 0.43--meaning those stocks go down only 4.3% when the S&P 500 Index goes down 10%).
You may have asked: "How do I go about investing in gold?" The simplest way is to purchase shares of GLD or IAU (a second gold ETF). These are valued at one tenth (GLD) or one hundredth (IAU) the purchase price of an ounce of gold. Owning gold in one of these ETFs has an advantage over owning gold bars because transaction, storage and insurance costs are much lower. But keep in mind that you still get no dividend income and any capital gains will be taxed as income (because the IRS classifies gold as a collectible, like art). Another way to own gold is to take advantage of its scarcity in the earth’s crust, meaning that supply is likely to keep falling behind demand: You can buy stock in a gold mine. Then you’ll earn a dividend of ~1.7% (average yield for the 12 stocks in our Table) and get taxed half as much on your capital gains.
Our Table was constructed by screening a database of world stocks for
a) market capitalization greater than $2 Billion;
b) Return on Investment (ROI) greater than 1%/yr;
c) average 5-year ROI greater than 1%/yr.
Almost 2,000 names popped up and among those were 12 gold mining companies that we selected for closer examination (Table). For comparison, we show Annualized Total Returns spanning the ~8 yr period since the first exchange traded gold fund (GLD) became available, and compare those returns with those for the lowest cost S&P 500 Index fund (VFIAX). Four companies (AEM, BVN, IAG, GG) had Annualized Total Returns greater than 7% while losing less than 15% in the 2007-09 bear market, but only one of those has large gold reserves: Goldcorp (GG).
Bottom Line: Gold differs from other countercyclical hedges. Like US Treasury issues, it performs well during recessions. Unlike Treasuries, it performs badly during a depression but better during inflation. If you value these particular features, you can “double down” on your gold investment by owning stock in gold miners. Why? Because those companies own recoverable gold in the ground. Gold production has increased less than 1% a year for the past 13 yrs yet demand for gold (and therefore its price) has more than doubled. What’s the downside? The price of gold is volatile. Even though having it in your portfolio can mitigate stock market losses, you risk losing some of what you have invested in gold when the economy recovers. US Treasuries, on the other hand, will return every dollar you have invested. But what about the effect of inflation on gold vs. Treasuries? Gold wins while inflation is rising but usually doesn’t do as well over a complete economic cycle. US Treasury notes and bonds historically beat inflation by ~2%/yr whereas gold loses ~1%/yr.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
So just what kind of investment is gold? Many terms are applied to answer that question. For example, “store of value, hard currency, safe harbor, hedge against inflation, easily transported wealth, hard asset, piggy bank, real money” are a few. The abundance of descriptors for the role that gold plays only goes to show how important gold is. For dispassionate readers of this blog, however, it’s just another counter-cyclical “hedge,” much like a US Treasury bond. The purpose of a hedge isn’t to increase your wealth. The purpose is to prevent a loss of principal, i.e., to protect your initial dollar outlay. The buyers are more interested in return of their investment than return on their investment. For this reason, they want a hedge that has a low or negative beta. The 5-yr beta for 12 gold mining stocks in the accompanying Table is -0.05 to 0.71 (with an average of 0.43--meaning those stocks go down only 4.3% when the S&P 500 Index goes down 10%).
You may have asked: "How do I go about investing in gold?" The simplest way is to purchase shares of GLD or IAU (a second gold ETF). These are valued at one tenth (GLD) or one hundredth (IAU) the purchase price of an ounce of gold. Owning gold in one of these ETFs has an advantage over owning gold bars because transaction, storage and insurance costs are much lower. But keep in mind that you still get no dividend income and any capital gains will be taxed as income (because the IRS classifies gold as a collectible, like art). Another way to own gold is to take advantage of its scarcity in the earth’s crust, meaning that supply is likely to keep falling behind demand: You can buy stock in a gold mine. Then you’ll earn a dividend of ~1.7% (average yield for the 12 stocks in our Table) and get taxed half as much on your capital gains.
Our Table was constructed by screening a database of world stocks for
a) market capitalization greater than $2 Billion;
b) Return on Investment (ROI) greater than 1%/yr;
c) average 5-year ROI greater than 1%/yr.
Almost 2,000 names popped up and among those were 12 gold mining companies that we selected for closer examination (Table). For comparison, we show Annualized Total Returns spanning the ~8 yr period since the first exchange traded gold fund (GLD) became available, and compare those returns with those for the lowest cost S&P 500 Index fund (VFIAX). Four companies (AEM, BVN, IAG, GG) had Annualized Total Returns greater than 7% while losing less than 15% in the 2007-09 bear market, but only one of those has large gold reserves: Goldcorp (GG).
Bottom Line: Gold differs from other countercyclical hedges. Like US Treasury issues, it performs well during recessions. Unlike Treasuries, it performs badly during a depression but better during inflation. If you value these particular features, you can “double down” on your gold investment by owning stock in gold miners. Why? Because those companies own recoverable gold in the ground. Gold production has increased less than 1% a year for the past 13 yrs yet demand for gold (and therefore its price) has more than doubled. What’s the downside? The price of gold is volatile. Even though having it in your portfolio can mitigate stock market losses, you risk losing some of what you have invested in gold when the economy recovers. US Treasuries, on the other hand, will return every dollar you have invested. But what about the effect of inflation on gold vs. Treasuries? Gold wins while inflation is rising but usually doesn’t do as well over a complete economic cycle. US Treasury notes and bonds historically beat inflation by ~2%/yr whereas gold loses ~1%/yr.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, June 10
Week 49 - Commodity Index
Situation: Before investing in commodity producers, it is useful to look at an index of economic activity in countries with the highest demand for commodities (US, China), and an index of commodity prices (e.g. Dow Jones UBS Commodity Index). Commodity prices are extra-vulnerable to economic winds because the costs for up-grading production are large and lead-times are long. Commodity prices therefore depend not only on the strength of the economy in end-user countries but also on a ~35-yr “supercycle” that reflects expansion of production when commodity prices are high, and “slack” when the supply of the commodity finally becomes plentiful. This slackening usually coincides with a fall-off in demand that is frequently related to constraints on credit. You, however, are a long-term dividend re-investor who is interested in owning stock in commodity-related companies, not futures contracts. As such, you need an index of stock prices that includes dividend payouts.
To construct our index, we selected 8 of the most solvent, well-established and dominant players among commodity-related companies tracked by Standard & Poors (for background info see Week 40, Week 42, Week 45 & Week 48). Two are based in Canada (SU & CNI) and the rest in the United States. Four are oil & gas producers: Suncor Energy (SU), ExxonMobil (XOM), Chevron (CVX), and Schlumberger (SLB). One company mines gold and copper (Newmont Mining - NEM), one produces heavy equipment used on farms and at mining and drilling sites (Caterpillar - CAT), one is a railroad that gets ~90% of its revenues from transporting commodities (Canadian National Railway - CNI), and one produces genetically engineered seeds and matching herbicides (Monsanto - MON).
The baseline investment for the ITR Commodity Index is a "virtual" purchase of 100 shares of each of these 8 companies at the close of business (COB) on 7/1/02 (transaction costs not included), which had a cost of $30,353. At COB on 6/6/12, that “virtual” investment had a market value of $109,256, and had generated $13,043 in dividends over 10 yrs, for a total return of $122,299 (15.0%/yr). During the bear market of 10/1/07 through 4/1/09, stock in those 8 companies fell an average of 32.0% in value. The dividend yield for the index is currently $2,448 (2.24%/yr), which means the original investment of $30,353 now pays 8.1%/yr. Presently (and since the beginning), CVX, CAT and CNI have been the most valuable components of the index and now pay 62% of the dividends. Because of stock splits, the index now holds 200 shares each of SU, CVX, CAT, MON, SLB and 300 shares of CNI, as well as the original 100 shares each of XOM and NEM.
Bottom Line: Commodity-related companies anchor most portfolios that outperform a broad-based stock index. However, the ups and downs can be disheartening so it helps if the investor has some idea of why that is happening and whether it is attributable to “the usual course of doing business”. To assist readers of our blog, we have set up a stock price index for 8 prominent commodity-related companies. The index started at a value of $37.94/share on 7/1/02 and has a current value (6/6/2012) of $72.83/share, thus it has grown almost 14%/yr. For comparison, the Dow Jones UBS Index of raw commodity prices has grown 3.8%/yr. In other words, someone who owns stock in companies that turn raw commodities into useful products is likely to accumulate wealth much faster than someone who invests in commodity futures.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
To construct our index, we selected 8 of the most solvent, well-established and dominant players among commodity-related companies tracked by Standard & Poors (for background info see Week 40, Week 42, Week 45 & Week 48). Two are based in Canada (SU & CNI) and the rest in the United States. Four are oil & gas producers: Suncor Energy (SU), ExxonMobil (XOM), Chevron (CVX), and Schlumberger (SLB). One company mines gold and copper (Newmont Mining - NEM), one produces heavy equipment used on farms and at mining and drilling sites (Caterpillar - CAT), one is a railroad that gets ~90% of its revenues from transporting commodities (Canadian National Railway - CNI), and one produces genetically engineered seeds and matching herbicides (Monsanto - MON).
The baseline investment for the ITR Commodity Index is a "virtual" purchase of 100 shares of each of these 8 companies at the close of business (COB) on 7/1/02 (transaction costs not included), which had a cost of $30,353. At COB on 6/6/12, that “virtual” investment had a market value of $109,256, and had generated $13,043 in dividends over 10 yrs, for a total return of $122,299 (15.0%/yr). During the bear market of 10/1/07 through 4/1/09, stock in those 8 companies fell an average of 32.0% in value. The dividend yield for the index is currently $2,448 (2.24%/yr), which means the original investment of $30,353 now pays 8.1%/yr. Presently (and since the beginning), CVX, CAT and CNI have been the most valuable components of the index and now pay 62% of the dividends. Because of stock splits, the index now holds 200 shares each of SU, CVX, CAT, MON, SLB and 300 shares of CNI, as well as the original 100 shares each of XOM and NEM.
Bottom Line: Commodity-related companies anchor most portfolios that outperform a broad-based stock index. However, the ups and downs can be disheartening so it helps if the investor has some idea of why that is happening and whether it is attributable to “the usual course of doing business”. To assist readers of our blog, we have set up a stock price index for 8 prominent commodity-related companies. The index started at a value of $37.94/share on 7/1/02 and has a current value (6/6/2012) of $72.83/share, thus it has grown almost 14%/yr. For comparison, the Dow Jones UBS Index of raw commodity prices has grown 3.8%/yr. In other words, someone who owns stock in companies that turn raw commodities into useful products is likely to accumulate wealth much faster than someone who invests in commodity futures.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, May 13
Week 45 - Dr. Copper
Situation: Copper’s price/ton is often referred to as “Dr. Copper” because it is a predictor of economic activity. In recent years, this has been less true because growing countries have learned to stockpile copper during slack periods. Nonetheless, the build-out of infrastructure utilizes a lot of copper, much of which is sold as wires, tubes and rods made from copper or copper alloys. These are welded, brazed, or soldered into a final product. Therefore, infrastructure build-out affects many manufacturers, especially those that make mining and welding equipment: Caterpillar (CAT) and Lincoln Electric (LECO). Interestingly, gold producers also get caught in Dr. Copper’s web, since minerals containing the two elements are commonly found together. All copper mining companies produce significant amounts of gold, whether they admit it or not. And the largest gold mining companies are happy to point out that they also produce large amounts of copper: American Barrick (ABX), Newmont Mining (NEM), and Goldcorp (GG).
Here we go again! Talking about commodities in a blog geared to conservative investors who eschew buying stock options or buying stock with borrowed money. In our blogging, we go to great lengths to distinguish investing vs. speculating. The reality is that developing countries in Asia, the Middle East, East Europe, and Latin America rely on commodities to stoke the engines of commerce. In Week 43, we found that some commodity-related companies on the ITR Master List (Week 39) make sound long-term investments with limited downside risk (XOM, CVX, OXY, CNI, HRL, CHRW). In this week’s blog, we examine commodity-related companies that are on the cusp of qualifying as a sound investment, beginning with copper. As usual, we’ve limited our search to dividend-paying companies because low-cost DRIPs are the safest way to build a position. And, since we depend on access to the metrics accumulated by Standard & Poor’s, we will only include in our examination the largest companies outside the S&P universe.
For copper, we’ve identified 8 companies that are worth a close look (see attached Table) but 5 of those (ABX, NEM, GG, CAT, LECO) are not specifically in the business of mining for copper. The other 3 have extensive copper-mining operations around the world: Rio Tinto (RIO), Freeport McMoRan Copper & Gold (FCX) and Southern Copper (SCCO). The Table makes it evident that most of these are in the speculative range as an investment. In other words, you’d have to know when to buy shares and when to (quickly) sell. Lincoln Electric (LECO), however, appears to be an exception and worth considering as a long-term holding. It passes muster with respect to Total Return, Finance Value, BBA (projected 10-yr growth), Durable Competitive Advantage, LT debt/capitalization, FCF/div, and ROIC. (You can check out blogs from Week 43, Week 42, and Week 40 for more info on those metrics.) Were it not for its low dividend payout (1.4%), LECO would be a stock on the ITR Master List.
Bottom Line: Mining companies are riskier investments than drilling companies, even the companies that mine copper and gold. Caveat emptor!
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Here we go again! Talking about commodities in a blog geared to conservative investors who eschew buying stock options or buying stock with borrowed money. In our blogging, we go to great lengths to distinguish investing vs. speculating. The reality is that developing countries in Asia, the Middle East, East Europe, and Latin America rely on commodities to stoke the engines of commerce. In Week 43, we found that some commodity-related companies on the ITR Master List (Week 39) make sound long-term investments with limited downside risk (XOM, CVX, OXY, CNI, HRL, CHRW). In this week’s blog, we examine commodity-related companies that are on the cusp of qualifying as a sound investment, beginning with copper. As usual, we’ve limited our search to dividend-paying companies because low-cost DRIPs are the safest way to build a position. And, since we depend on access to the metrics accumulated by Standard & Poor’s, we will only include in our examination the largest companies outside the S&P universe.
For copper, we’ve identified 8 companies that are worth a close look (see attached Table) but 5 of those (ABX, NEM, GG, CAT, LECO) are not specifically in the business of mining for copper. The other 3 have extensive copper-mining operations around the world: Rio Tinto (RIO), Freeport McMoRan Copper & Gold (FCX) and Southern Copper (SCCO). The Table makes it evident that most of these are in the speculative range as an investment. In other words, you’d have to know when to buy shares and when to (quickly) sell. Lincoln Electric (LECO), however, appears to be an exception and worth considering as a long-term holding. It passes muster with respect to Total Return, Finance Value, BBA (projected 10-yr growth), Durable Competitive Advantage, LT debt/capitalization, FCF/div, and ROIC. (You can check out blogs from Week 43, Week 42, and Week 40 for more info on those metrics.) Were it not for its low dividend payout (1.4%), LECO would be a stock on the ITR Master List.
Bottom Line: Mining companies are riskier investments than drilling companies, even the companies that mine copper and gold. Caveat emptor!
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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