Frailty of monetary policy under delusional Keynesians is evident whenever we think about Agri-Food. Price increases for Agri-Foods may be causing measures of consumer prices to rise in many countries. That “inflation,” which it is not, is causing some discomfort for politicians around the world. The textbook response, per the ineffective and inbred Keynesian economists, is to tighten monetary policy, perhaps raising interest rates. We ask one simple question: How does raising interest rates cause the supply of Agri-Food to rise, forcing prices lower? Will higher interest rates keep the price of shoes from rising?

“Prices for cattle hides are on the rise as leather demand rebounds and global supplies fall, boosting the returns of meat packers and cattle producers.”

“Federal[U.S.] data show hide prices are at their highest level in nearly a decade, jumping 24% in the last year to $82 apiece. Further gains are likely this year as U.S. supplies begin to shrink and consumer demand for leather continues to recover, . .”

“Helping to fuel the jump in prices has been a growing middle class in China, Vietnam and other Asian countries where consumers are increasingly buying leather goods as incomes rise. As economies around the world recover from deep recessions, consumers are again shelling out for luxury leather goods.”

“U.S. Commerce Department put the value of cattle hide exports in 2010 at $1.373 billion, up 67.7% from a year earlier when low prices allowed the number of actual hides exported to hit a record 35.6 million pieces.(Commodity News for Tomorrow, 4 March 2011)”

If clothing retailers think cotton prices are a drag, wait till they see what happens in the shoe department. Price of hides and shoes cannot rise sufficiently to induce cattle breeders to expand herds. Such is the Joy of Agri-Food Price Inelasticity. No matter how high the price of shoes might rise, ranchers will not raise more cattle to satisfy demand for leather.

How will QE-2, QE-3,or QE-4, in a chain of futile an

d doomed policies, or raising interest rates hold down price of chickens? In the above graph is portrayed the price of broilers, table chicken, in the U.S. As is readily evident, even to a Keynesian economist, chicken prices have broke out to upside.

Prices for chicken had long been flat, held down by the brutal, price suppressing  power of a group of oligopolistic chicken purchasing companies. All that worked, till grain prices rose dramatically. Profits of chicken raisers disappeared faster than the grain fed to the chickens. Producers had no choice but to unload those chickens into the market. Prices collapsed under that selling. First round effect of higher grain prices is lower meat prices as producers sell animals to avoid feeding them.

Now, it appears, the second round effect has developed. With smaller flocks the buyers have lost some power, and prices have risen dramatically. Could $1.25 per pound chicken arrive in the near future? Quite possibly, and one better enjoy that cheap chicken sandwich at your favorite restaurant while one can.

Investors that missed the latest, but surely not the last, round of excitement in Agri-Equities may get another opportunity this Summer. Agri-Food prices, on average, have dipped to their lowest level in five weeks. That correction is likely to continue well into the North American growing season.

Traders and buyers had simply become too bearish on supply, bullish on prices, in the short-term.  Buying of wheat and corn may have been panic driven, and in excess of true needs. Latest USDA WASDE, World Agriculture Supply Demand Estimate, simply did not have enough bear food in it for the supply bears. Next important report is the U.S. planting intentions report due 31 March. It will probably also fail to nourish the supply bears. Add a little of Japan’s misery, and we have likelihood of a continuing correction in Agri-Food prices.

Tier One Agri-Equities, large multinational Agri-Food companies, have risen in conjunction with the rally in Agri-Food prices. Likely that they will correct along with Agri-Food prices, as they did after the 2008 run. Tier Two Agri-Equities, Chinese Agri-Equities, then performed the best. As they are over sold relative to Tier One Agri-Equities, investors should be preparing to add to Chinese Agri-Equities in the near future.

Uranium stocks have tripled since that time and are now taking their first major breather. During this time we have seen major investors come into the market specifically from China. This interest in uranium was highlighted back in June of 2010 when China National Nuclear signed a contract with Cameco (CCJ) to supply 23 million pounds of uranium. This showed how aggressive China has become and took a large amount of the supply off the table. Cameco is on the record looking for additional acquisitions. Already it has inked a deal with Uranium Resources (URRE) to explore a property in south Texas. Paladin (PDN.TO), an emerging producer, bought the controversial Michelin Property from Fronteer Gold (FRG) for about $250 million in November. Russia’s state-owned ARMZ purchased Mantra Resources for almost $10 a pound of uranium in the ground. Mantra controls the Nyota deposit and will be able to produce 5 million pounds of uranium a year. This is proof that the nuclear industry is heading into consolidation. This year expect to hear more news, especially as prices pull back to support, like what is occurring now.

Market corrections are valuable. Uranium stocks are all pulling back to support and reversing higher. Over the past few months I have highlighted the role nuclear is playing in emerging markets, especially China, Russia, India and South Korea. Even the Middle East, which has vast resources of oil, is looking to expand its nuclear capability. I believe investors will look back at this correction as a great buying opportunity. Acquiring companies may use the next few weeks to make deals as share prices take a breather. Similarly, Fronteer Gold was acquired by Newmont (NEM) specifically during the gold (GLD) consolidation in January. Large companies use profit taking and sell-offs to make offers.

All over the world nuclear is being recognized as an integral part of clean energy generation in a developing and expanding world. President Barack Obama has announced more than $8 billion in federal loan guarantees for the first nuclear power plant in the United States in close to 30 years. Obama says investing in nuclear is critical for the United States as it will reduce US dependence on foreign oil, and help the US economy by creating high-wage jobs. The Middle Eastern turmoil is a wake-up call to our elected leaders in Washington who have not been proactive with developing efficient and clean energy sources. One pound of uranium is equal to 20,000 pounds of coal. Despite the “Deepwater Horizon” and “Upper Big Branch,” there has not been a push for safer and cleaner nuclear energy.

Unfortunately, the US has been asleep at the switch like Homer Simpson and the earliest a new reactor will be built is late 2011. Southern Company has a pending application for a reactor in Georgia, which it says will create 3,000 jobs and generate power for 1.4 million people. However, I believe leaders around the world are realizing nuclear is the only viable choice for clean energy. Obama, who has a large constituency of environmentalist, has given the green light on nuclear. It doesn’t take a high IQ to realize the demand from emerging economies for nuclear power. There are supply concerns as Russia is not renewing its agreement to supply the US with converted uranium from nuclear weapons. The US must move fast and domestic uranium miners are just beginning their secular bull market trends. I believe we will begin seeing a major consolidation in this sector as many of the larger producers — such as Cameco, Uranium One (UUU.TO) and Paladin — as well as sovereign countries continue to acquire reserves. Look for deals to occur on pullbacks.

Get daily intelligence reports for 30 days FREE by clicking here.

The Energy Report: What is your uranium forecast for the intermediate term and for the long term?

Rob Chang: For 2011, currently we have the spot price at $75/lb. Then the following two years we expect it to go up to $80/lb. and then take a slight step down in 2014 to $75/lb. For 2015 we have it at $72.50/lb. And then long term, we’re currently expecting $70/lb.

TER: Why does the price forecast go down?

RC: Just to be conservative. Over the long term, as any economist would tell you, prices should revert to a point where the marginal costs equal marginal revenue. Basically the company that incrementally produces enough to satisfy market demand should be pretty much breaking even. Despite the fact we have a short-term increase, over the long term we do expect that market forces will work.

TER: I don’t know if round numbers have any technical significance, but between the end of October and now, uranium has broken through the $50/lb., $60/lb. and $70/lb. levels. Does the fact that it didn’t test those levels for long imply demand?

RC: Absolutely. I was personally of the belief that the prices were way too low for where they should be. The only reason why it stayed at such depressed levels was that investors were just afraid to get into the market during the economic weakness. Then when things started to turn around people paid attention, realized and then committed their capital into uranium, and once it started moving up it quickly adjusted to more reasonable levels. So, technical analysis doesn’t always work and I think this is a situation where you can clearly see that these round numbers didn’t really mean anything as the price advanced to where it should be.

TER: Where is the demand going to come from?

RC: Like everything else in the world, the strongest demand is coming from China. Currently there are around 443 nuclear reactors in the world, and China has only 13, which accounts for 3%. China is now the second largest economy in the world, recently surpassing Japan, and given how strong the Chinese economy is and is expected to be, just 3% of the global nuclear power production is a little ridiculous considering its energy needs and the fact that nuclear provides the best base load power supply. And you can see this easily in the number of planned and proposed nuclear reactors for construction.

According to the World Nuclear Association (WNA), of the 540 nuclear plants that are currently in the construction, planned or proposed phase around the world, China accounts for 35% of them. About 187 of the 540 are in China in some stage of development. China’s doing three times the number of Russia, and I think that’s pretty significant.

TER: Can demand fluctuate?

RC: Of all commodities, uranium is one of the best in terms of forecasting demand because you can’t miraculously create another nuclear power plant. There are a lot of years, planning, permitting and capital required. It’s fairly certain that once one is being built, it’s going to go to completion and that demand will be there.

TER: Tell me about your initial screen, the enterprise value per pound (EV/lb.) of uranium in the ground. Describe that for me briefly.

RC: Sure. The EV/lb. metric that I use essentially common-sizes the universe of uranium companies by applying the EV/lb. metric for every company. I prefer enterprise value over market cap because it includes the debt and the cash numbers, which I believe are fairly significant in the decision of investing in any company. It also allows for easier comparison. You’re going to have different companies with different resource sizes, and you can see whether one may be overvalued or undervalued on a per-pound basis.

TER: I understand that valuations can vary from exploration company all the way up the value chain to producer, but under what EV/lb. level would you consider looking at a company as a long position?

RC: I wouldn’t say there’s an exact hard rule in terms of what number I would look at, given that EV/lb. is basically a screening tool or even just a sorting tool in terms of showing where companies fit in the grand scheme of things. The key thing to note is that some companies do deserve to be where they sit. A good example is Hathor Exploration Ltd. (TSX.V:HAT), which has one of the highest EV/lb. valuations. It should not be trading below the average given the location and grade of the project. So, it would be rather unfair to cut it off at an arbitrary number just because it seems to be above that number.

TER: Where do you go next?

RC: I then get in contact with management and try and meet with them. I want to understand management and find out where they came from and ask them what they’re doing with their project now as well as understand what their plans are.

How they see their project is important to me, because I want to weed out the promoters versus the actual developers or exploration people. It’s key to find companies that have good projects and the personnel to advance the project. I’ve run into some situations where companies may have a decent project, but they don’t seem to have the management team to actually push them forward. That’s the key thing, because any good project can be ruined by bad management.

So, that would be the first cut. After that it would be to understand the political environment and effectively performing good fundamental analysis such as understanding the grade of the deposits. Metallurgy is also extremely important.

TER: Tell me about that process of evaluating management.

RC: Pedigrees do matter. It is not essential, but knowing that someone came from a well-run firm helps. For example, someone who has come from a Cameco Corp. (TSX:CCO; NYSE:CCJ) or an AREVA (PAR:CEI), where they know the process and how to do things in a high quality way rather than a “let’s just cover this pot with this lid” approach.

TER: Does having excellent leadership at the C-level translate to great engineers and people on the ground?

RC: I find it generally does. You attract better talent when you have a leader that has a history of success and strong management skills.

TER: Do you have a stock that you have initiated coverage on or had coverage transferred that you like?

RC: Sure, I just had the coverage of Energy Fuels, Inc. (TSX:EFR) transferred over to me. I really like the story. It’s a near-term producer that’s currently in development mode as it has recently received a permit from the Colorado Department of Public Health and Environment. It’s probably the most difficult to acquire permit, and it will allow them to process 500 tons per day (tpd) of uranium ore.

The great and interesting point about the story is that the company currently has two turnkey mines already in its portfolio, those being the Energy Queen and the Whirlwind mines, which can both be brought up to speed and producing within a year, if not less, of the decision to do so—probably less actually. So, EFR can be producing soon and can capitalize on the high uranium spot prices right off the bat and join the producer category in very short order. That’s something that a lot of other uranium companies cannot do given the extensive permitting, development and funding process required. So, it is well up the curve and extremely close to production relative to almost any other non-producer. It looks great.

TER: So much of the news about its near-term production has been discounted into the price over the past six months during which time the price has nearly quadrupled. You still have a target price of $2 for an implied 40%-plus total return from here. Could you give me a little background on that valuation?

RC: I think the quadrupling was more a matter of the stock price being previously depressed for Energy Fuels. Speaking as a former portfolio manager, I would have adopted a “prove you can get a permit” perspective because there was some doubt that EFR was going to be able to get that permit.

Once that permit was granted, that overhang was removed and the stock quickly moved up to more reasonable levels. So, I believe that’s the primary reason of the meteoric rise that you were noting. I still believe there’s upside from here. Given expected production, I fully expect the mill to be expanded from 500 tpd to 1,000 tpd in short order. It is already designed with that in mind. So, once that gets put into place with additional consolidation, I think that the target price of $2 and possibly even higher is quite achievable.

TER: Rob, your target price on Energy Fuels is equivalent to the net asset value of the company. That sounds very conservative to me.

RC: This stock valuation is more from my buy side perspective, and I tend to be a lot more conservative. I don’t like to be one of those guys who starts applying multiples without having the company prove that it is capable. Although the company looks strong and I have no reason to doubt management’s abilities, they still have to prove that they can develop on time and on budget. So, even though it does have its permits in place, I’d rather be more conservative on our target price, which is still a substantial increase from its current trading value.

TER: One more question on Energy Fuels, I wanted to ask about the significance of the mill. The company calls it the first conventional uranium mill to be built in the U.S. in three decades. How does it add value to this play?

RC: It legitimizes the play. Any conventional uranium explorer with designs on becoming a uranium producer needs to have a mill to process its ore. Denison Mines Corp. (TSX:DML; NYSE.A:DNN) has one in the area, and now Energy Fuels will have one. So, in terms of being a strategic asset it’s a very important piece—being able to consolidate the area, to become a producer and to eventually become a major player. Without the mill you need to have someone else’s mill to process your ore. It’s a major piece that’s required to become a producer.

TER: What other companies can you talk about?

RC: I can make a few comments regarding Continental Precious Minerals Inc. (TSX:CZQ) and Hathor. CZQ has uranium plus moly (molybdenum ) and other metals in Alum Shale in Sweden at the Viken Project. The company has a billion pounds of uranium there. It’s very low grade, and it’s in a very tricky environment. Alum Shale hasn’t really had much history of being processed. It was processed before by the Swedish Government but at very low recoveries and at pretty high costs. It’s possibly one of the largest uranium deposits in the world—from what I could tell it’s probably one of the top two or three. But the key question mark is whether it can be extracted economically. I know CEO Ed Godin is currently working the metallurgy, and I think that’s really the key point—whether it can be economically produced at a commercial scale from the low-grade Alum Shale at a low enough cost in order for it to work. But overall it looks interesting.

TER: You mentioned Hathor.

RC: Hathor is a very strong story. From an EV/lb. perspective, it’s trading at around $13/lb., which has it at the top valuation among exploration companies. This is one of the situations where it definitely deserves to be on the higher side of the EV/lb. average. Hathor is in the prolific Athabasca Basin, and it has some of the highest grades of any uranium property in the world. It already has around 25 million pounds (Mlb.) of attributable NI 43-101-compliant resources, and it has the potential for it to be even higher. So, Hathor does look very interesting.

TER: It deserves to be that high relative to everyone else?

RC: That’s the key question. I do believe that at least a portion of the $13/lb. valuation is attributed to an expected resource increase. So, it really just depends on what number you want to hang on the increase to see if it trades closer to what its peers are. As a comparison, the average exploration company trades at a $3.17 EV/lb. So, Hathor definitely is a premium company, and it could be potentially much higher. It’s very high grade. On a blended basis it has a U3O8 grade of 5.4%, which is extremely high given that the global median for uranium grades is 0.076% from my database. So, it’s a fantastic grade.

TER: Not nearly as speculative as CZQ?

RC: Comparing the two, it’s not even remotely close because Hathor is in a prolific area. The metallurgy is somewhat known given that there are many uranium mines in the area.

TER: Any others you might mention?

RC: There are some that are actually quite interesting. Hathor’s neighbor Fission Energy Corp. (TSX.V:FIS) is interesting in that it also has encountered very high grades from its drill intercepts. It doesn’t have a resource as of yet, but it is a stone’s throw away from the Roughrider deposit. There are some pictures of their property where you can see Hathor’s drills and Fission’s drills right beside each other. You really could throw a stone from one and hit the other, and there seems like there is a reasonable chance that the mineralization could cross the boundary line.

TER: Ok, I’d love to hear another one.

RC: Kivalliq Energy Corp. (TSX.V:KIV) looks quite good. I tend to gravitate towards higher grade stories, and this one is interesting in that its NI 43-101 resource is at 0.79% U3O8, which is a pretty high grade deposit, one of the highest ones around actually. It’s Angilak Project is located in Nunavut, Canada. The company appears to have strong relationships with the Nunavut people there. It currently has a resource of 14.2 Mlb. at one of the highest grades in the world, and it looks like it could be easily expandable. So, that’s another one I’m keeping my eye on as well.

Tournigan Energy Ltd. (TSX.V:TVC, FSE:TGP) is a Slovakia uranium play. It’s in the prefeasibility category right now, and it currently has 58 Mlb. in total resources. It’s primary project is Kuriskova, and the key thing I like about it is that it’s a high grade deposit at 0.413% U3O8. On a blended grade basis for all of its nearby properties, the company has a portfolio grade of 0.297% U3O8, which is quite good.

TER: Did you have another you wanted to mention?

RC: We can also talk about U3O8 Corp. (TSX.V:UWE). It has a few properties that it received from a transaction with Mega Uranium Ltd. (TSX:MGA), which effectively placed the latter’s South American assets into U308 Corp. U308 is interesting in that it has three properties, one in Colombia, one in Guyana, which I have visited, and a third in Argentina. The Colombian property is interesting. It has pretty good grades, the potential for valuable byproducts such as phosphate and vanadium and has a lot of blue sky potential, and the Argentinean one looks like it could be a simple low-cost project that would require little capex to develop.

TER: Thank you and best wishes, Rob.

RC: Thank you.

Versant Partners Analyst Rob Chang has extensive financial markets experience dating back to 1995. He was a member of a five-person team running a multi-strategy hedge fund, a base metals research associate at BMO Capital Markets, a manager of resource funds at a boutique investment management company and an equity analyst covering the global mining sector at an independent investment bank. Rob has a Master of Business Administration degree from the Rotman School of Management at the University of Toronto and holds a Canadian Investment Manager designation.

Learn more about companies in the uranium sector now. . .

Want to read more exclusive Energy Report interviews like this? Sign up for our free e-newsletter, and you’ll learn when new articles have been published. To see a list of recent interviews with industry analysts and commentators, visit our Expert Insights page.

DISCLOSURE:
1) George Mack of The Energy Report conducted this interview on Feb. 14th, 2011. He personally and/or his family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Energy Report: Mega Uranium, Fission Energy, Energy Fuels.
3) Rob Chang: I personally and/or my family own shares of the following companies mentioned in this interview: None. I personally and/or my family am paid by the following companies mentioned in this interview: None.

At least, that is, if this news is accurate… is it?

At the Critical Metals Investment Summit in Vancouver last month, a presentation was made on behalf of Dr. Zhanheng Chen, Director of the Academic Department of the Chinese Society of Rare Earths (CSRE), titled “China’s Role in a Changing Global Rare Earths Market“. Dr. Chen was unfortunately not able to be there, and it is my understanding that Mr. Jay Roberge of Tehama Ventures gave the talk instead.

In the presentation, Dr. Chen forecast a total supply in 2013 of 87,000 t from China, out of a total 134,000 t of global supply. He then forecast a total global supply target after 2015, of 278,000 t of rare earths, with the target for China’s production set at 100,000 t of rare earths. For China, this is not far off the current production levels, but is less than most analysts had been projecting for that time period. More important, this leaves a 178,000 t production target for the rest of the world (ROW), based on CSRE estimates, which is significantly higher than the total output of projects due to come on-stream in the next four years.

Later in the presentation, Dr. Chen indicates that there are “early signs that China is moving from [the] sell side to [the] buy side”, noting that 10,381 to of rare-earth concentrates were imported by China, presumably last year. Nowhere in the presentation does Dr. Chen use the term “net importer” to describe China’s situation in 2015, as has been widely reported on the rare-earth-industry grapevine and beyond.

To find out exactly what Dr. Chen meant, I dropped him a line to ask if he could clarify this notion that China will become a net importer by 2015. In his reply, he said that, “[it] is still too early to make an assertion than China will become a net importer by 2015“. He acknowledged that “[t]here is evidence that several China[-based] companies imported rare earth concentrate from CIS [Commonwealth of Independent States i.e. the former Soviet Union] last year”, as referenced in his Vancouver presentation. Dr. Chen went on to refer to heavy rare-earth elements, and indicated that “China might become a net importer soon” of these materials.

So, is the buzz with which I opened this article, accurate? I would say that it was not. At the very least, Dr. Chen made it clear that it is not he who is making the assertion that has been ascribed to him (while acknowledging the possibility of this happening for a small subset of the total REEs sold). For me the real takeaway from Dr. Chen’s presentation are the CSRE projections for ROW supply requirements beyond 2015.

Finally, for the record, I’m not accusing Mr. Roberge of mis-stating Dr. Chen’s position, or of putting words in his mouth Clearly though, at least some folks in the audience got the wrong end of the stick last month, perhaps reading into the presentation, a sub-text that wasn’t there.

Food for thought.

Source

Opinion is currently divided on the world’s second largest economy.

On one hand of the spectrum, the bears believe that China is a train-wreck and that its economic growth is unsustainable. These sceptics love to highlight the property bubble in China and they never miss the opportunity to mention the fact that fixed asset investment accounts for a disproportionately large chunk of the Chinese economy.  According to the bearish camp, China’s economy is not real; rather, its breakneck economic growth is centrally planned by Beijing. Furthermore, the bears argue that China’s vast foreign exchange reserves are meaningless and that they will be used up in dealing with the aftermath of the Chinese real estate bust.

On the other side of the equation, the optimists believe that China is the next great nation in the world and its super power status is all but assured. These bulls point to China’s foreign exchange reserves, low debt levels, high savings rate, strong work ethic and growing domestic consumption.  According to these folk, China’s economy is amongst the strongest in the world and Beijing is in total control.

So, given such conflicting views, it is hardly surprising that investors are confused about China.  Furthermore, it goes without saying that over the past few months, we have spent a lot of time thinking about China’s prospects.  Therefore, we will now outline our views about the Chinese economy and its financial markets.

First and foremost, we want to make it clear that we are not bearish about the long-term prospects of the Chinese economy.  After all, the country has amassed the largest foreign exchange reserves in the world (US$2.85 trillion), it boasts a very high savings rate (37%), its household debt to GDP ratio is very low and its per-capita income is rising rapidly.  Therefore, at first glance, the Chinese economy appears to be in good health.

Unfortunately, China’s economy also has a soft underbelly; it’s out of control property market.  After reviewing heaps of data, it is clear to us that real-estate prices along the coastal cities in China are grossly over inflated and due for an abrupt adjustment.  When measured in terms of affordability (median home price to median household income), it is blatantly obvious that Chinese property is in a gigantic asset bubble.  Moreover, various other data points also confirm overvaluation and excesses in China’s property market.

According to some reports, billions of square feet of commercial real-estate is unoccupied in China.  Furthermore, we have also heard accounts from reliable sources that there is rampant speculation in China’s residential real-estate.  For example, the Chinese have been snapping up bare-shell apartments (no internal walls or fittings), for the sole purpose of flipping these properties for a quick profit.  It is interesting to note that these buyers are not the least bit interested in a rental yield, their only intention is to sell these properties to a ‘greater fool’.

Needless to say, China’s banks have been doing their part to fuel this speculative orgy. For instance, the South China Morning Post recently reported that in 2010, China’s banks originated CNY8 trillion in new ‘official’ loans and this amount exceeded Beijing’s loan target. However, the buck did not stop here and allegedly the Chinese banks loaned out an additional CNY3 trillion via ‘off the balance-sheet’ arrangements orchestrated through various Trust entities.

Figure 1 captures the sharp increase in China’s Yuan-denominated loans.  According to China Daily, outstanding Yuan-denominated loans stood at CNY47 trillion at the end of October, which is an astronomical sum when you consider that China’s economy is worth only CNY37 trillion.  Unfortunately, this rampant credit growth is not slowing down and apparently, Chinese banks have already created new loans worth CNY1.5 trillion in 2011!

Figure 1: China’s new Yuan-denominated loans (October 2009-October 2010)

Source: China Daily

So, there you have it. All the conditions are now in place for a property bust – extreme overvaluation, abundant credit and massive oversupply.  The trillion dollar question though is whether the unavoidable bust in housing will impact China’s broader economy or will the damage be confined amongst the property speculators and developers?

Unfortunately, this is a very difficult question to answer but given the relatively low household debt in China, we are inclined to believe that the pain will be limited to the property developers, leveraged speculators and banks.  We have no doubt in our mind that China’s non-performing loans will escalate in the future, therefore we believe that an investment in Chinese banks is risky.

Furthermore, when the Chinese property boom turns sour, various asset markets and economies will be impacted. First and foremost, the prices of base metals may fall from their lofty levels and this will affect the earnings of the major mining companies.  Remember, China is the major importer of base metals and any slowdown in its real-estate construction will diminish demand for industrial raw materials. Accordingly, we have recently liquidated our investment positions in the base metals mining companies.

Moreover, any fallout from the Chinese real-estate bust will surely impact the economies of the commodity-producing nations such as Australia and Brazil.  Thus, investors should remain vigilant and perhaps reassess the risk/reward of their cyclical investments in these resource-rich nations.

Now, this may sound strange but despite our near-term concern about China’s housing bubble and our bearish stance towards certain sectors, we remain optimistic about the nation’s long-term economic prospects.

In terms of the broader Chinese economy, we believe that a housing bust in China will cause some hiccups in its breakneck growth.  However, we suspect that this slowdown will be temporary because most Chinese households are not leveraged to their eyeballs (China’s household debt to GDP ratio is below 20%).

Furthermore, it is notable that currently, China’s private domestic consumption accounts for only 34% of GDP (Figure 2) and in our view, this percentage will increase in the future. Remember, in its latest five year plan, Beijing has made it clear that it wants to increase private consumption and reduce China’s dependence on low-margin manufacturing and exports.

Figure 2: China’s domestic consumption set to increase?

Source: Trading Economics

It is our contention that China’s policymakers are serious about this issue and they have the necessary tools to encourage domestic consumption.  For instance, if Beijing allowed its currency to appreciate, such a move will undoubtedly increase the purchasing power of the Chinese, thereby increasing private consumption.

Despite the looming property bust, it is our contention that China’s stock market has already discounted the housing problem and this is why the Shanghai Composite Index is trading approximately 55% below its all-time high.  As far as valuations are concerned, it is notable that the index is trading at 17 times reported earnings, which is remarkably cheap when you consider the 12-year average price earnings ratio of 34.  Last but not least, if you factor in this year’s corporate earnings growth, the index is valued at just 13.1 times projected after-tax earnings.

In summary, given our long-term optimism towards the Chinese economy and the historically low valuations, we are maintaining our investment exposure to our preferred companies in China.  While we continue to avoid the property developers and banks, we have allocated capital to terrific Chinese companies which should benefit from an increase in China’s domestic demand.

If our assessment is correct, the ongoing weakness in Chinese stock prices is a good buying opportunity for the patient investor.

Puru Saxena publishes Money Matters, a monthly economic report, which highlights extraordinary investment opportunities in all major markets.  In addition to the monthly report, subscribers also receive “Weekly Updates” covering the recent market action. Money Matters is available by subscription from www.purusaxena.com.

Puru Saxena

Website – www.purusaxena.com

Puru Saxena is the founder of Puru Saxena Wealth Management, his Hong Kong based firm which manages investment portfolios for individuals and corporate clients.  He is a highly showcased investment manager and a regular guest on CNN, BBC World, CNBC, Bloomberg, NDTV and various radio programs.

Copyright © 2005-2011 Puru Saxena Limited.  All rights reserved.

By Rocky Vega

02/16/11 Stockholm, Sweden – If you’re not familiar with them, microblogs in China are essentially the equivalent of Twitter tweets or Facebook status updates, about 140-character statements on what’s important in the world to the person writing. The difference being that unlike the Twitter or Facebook websites — which are blocked by China’s government — microblogs are readily accessible even as searching content is somewhat restricted.

According to Reuters, about “125 million Chinese people who have embraced online microblogs to gossip, rant and mobilize,” rely on them to communicate what is “often strongly worded opinion.” Among various government disapproved-of topics, users are willing to discuss the uprising in Egypt — often using code words and tangential references –  in microblog content. This is true even though searches for Egypt result in the rather sternly-worded warning that due to “relevant laws, regulations and policies, the search results have not been shown.” It’s a powerful tool, and much like how social unrest in Egypt may have been spurred on by rapidly rising food prices, the Chinese citizenry is turning to microblogs to make similar complaints.

According to CNN/Money:

“Inflation in China has been on a tear lately, and Chinese consumers are feeling the pinch of rising food, energy and housing prices. ‘Fuel prices are rising, toll prices are higher, food prices are rising; but even if it’s expensive, we still have to eat!’ wrote Little Fu 01 on Sina Weibo, China’s version of Twitter.

“Another user called Silent Insects writes: ‘I am so frustrated…prices rising prices rising prices rising.’ China’s consumer price index rose 4.9% in January, up slightly from 4.6% growth in December, according to data released by the Chinese government Tuesday morning. China’s rate far outpaces inflation in developed nations. Consumer prices rose a mere 1.5% in the United States in December.

“Chinese food prices alone rose a staggering 10.3%, up from a 9.6% pace in December. A Sina Weibo user called Fat Lady Bei posted, ‘One renminbi can buy a very small tomato or one cucumber. When I eat at the cafeteria, it’s more expensive, and the portion sizes are smaller. Are we going to have to be like Japan in the future and ration our portions?’”

The microblogging website and social network mentioned above, Weibo, is part of the growing Sina Corporation online media empire and the main stomping grounds of China’s rising food price critics. With a market cap of over $5 billion, Sina has been publicly-traded in the US since 2000 (NASDAQ:SINA). According to Fortune:

“Sina Weibo (pronounced Way-Boh, and meaning microblog in Chinese), only 18 months old, was the Internet phenomenon of China in 2010, reaching 50 million users by the end of October — and is likely fast approaching 100 million users now. By comparison, Twitter now stands at more than 200 million registered users globally.”

Weibo will be a company to watch in times of surging inflation, rising civil unrest, and growing importance for social media. Given the way microblogging content is formatted, it’s difficult censor, though probably not impossible. However, despite a persistent threat of being shutdown by the government for participating in the growth of festering public agitation, Weibo has at least one ace up its government-leniency sleeve… Sina’s former CEO, Mao Daolin, is now son-in-law to China’s President Hu Jintao.

Best,

Rocky Vega,
The Daily Reckoning

Read more: Rising Food Price Discontent Takes China’s Microblogs by Storm http://dailyreckoning.com/rising-food-price-discontent-takes-chinas-microblogs-by-storm/#ixzz1EB10GyHw

As is readily apparent in the chart above, Agri-Food prices continue to march into all time high territory.  Weather has certainly played a role in such a development. Drought in China being the latest development to follow the worst bout of bad weather in Australia’s history. Today’s weather story is not about rain, or lack thereof, but rather the frigid cold covering North America.

From Kansas City to St. Louis temperatures are running -40 to -10 F(-180 to0 -20 C).  From that line north seems that snow is covering all. That is serving to restrict the flow of Agri-Foods, and just about the movement of everything else. While the longer term forecasts for Agri-Food supplies are indeed bullish for prices, today’s North American weather may be a factor.

But Spring will come. So will the thawing and rains where they are needed. As that happens, Agri-Foods will again be flowing more freely in North America. Prices in short-term will be vulnerable then to improved supply flow. About that time too will flow the first of planting intention reports for North America. With visions of high prices dancing in their heads, farmers will have high intentions. Reports on planting intentions will likely be an exaggeration of reality, but an appearance of high intentions will dominate.  Spring weather and planting reports may serve to provide the first Agri-Food price correction in some time.

While corn is on the mind of traders because of the growing short supply situation in North America, the world might better look at developments in rice. As the above chart portrays, U.S.  rice prices have broken through the last high. U.S. rice prices are now at a 90-week high, and seem poised to move higher. Factors driving prices upward include expectations for lower U.S. rice plantings as farmers shift to more profitable corn and soybeans and reports of tight supplies in China.

Rice is perhaps more vulnerable to upward price pressure than many might expect. Reason for that is a myopic focus on the big picture. Like all macro numbers, or averages, nothing of the variance of those rice holdings is immediately evident. In the above graph, using USDA estimates, the world has about 76 days of rice consumption in reserves, shown by left bar in chart above.

That number, however, tells us nothing of the distribution of rice reserves. China consumes about  30% of world’s rice, but its rice reserves are 46% of the world’s total. As the middle bar in chart indicates, China has about 115 days of rice consumption set aside. If we exclude the Chinese rice influence, the world has only about 59 days of consumption in reserve. Some nations are obviously going to be very short of rice this coming year.

Chins is the epicenter of the world’s increasingly tenuous Agri-Food situation. India’s ascendency in the global economic hierarchy will only serve to exacerbate the situation. Investors have already benefitted from this situation as the first tier Agri-Equities have moved higher, outperforming the market. Current opportunity would seem to lie with those most close to the Chinese Agri-Food situation.

Second tier Agri-Equities with direct exposure to China have, one, performed exceptionally well over time, and, two, marked time for most of the past year. Chinese Agri-Equities seem the better alternative as they have been building a foundation for some time, have direct exposure to China, and have fairly negative perceptions problems at the present time. Investors should be now researching these Chinese Agri-Equity opportunities.

As the green line in the above chart portrays, the Agri-Food Price Index has more than doubled in the past four years. How many industries around the world have experienced the selling price of their product move higher that dramatically? Over the same period of time we also note, using the red line, that the price of $Gold has not kept up with the price of Agri-Food.

One of the big lessons of this past year has been that Agri-Foods are not produced in a factory. They are also produced, with rare exception, one time of the year. They are grown in dirt, not the nearest social network site. In 2010, Russia barred the exportation of wheat. Wheat in Russia, as is the case in most countries, is harvested only one time a year. Worlds will not know till near the middle of this year if any Russian wheat will be exported. A complacent world expected Australia to help fill the  gap, only to have that game rained out.

China has indeed been a massive miracle of industrial production over the past decade. That nation has demonstrated an uncanny ability to build a plethora of goods at wonderfully low prices. From televisions to solar panels, China can produce vast surplus of many things. That is, with the exception of Agri-Food.

With Agri-Food, it must increasingly import them. In 2010 that China was a net importer of corn became painfully apparent as the price of corn moved dramatically higher. It had actually achieved that status the year before by importing distillers dry grain. Was part of President Hu’s visit to the  U.S. in part to discover the minimum bid for Iowa?

Many have benefitted from the inadequate supplies of Agri-Food, and in particular the higher prices. In above chart, the green line portrays what Agri-Equities have been doing over the past several years. Solid brown line is for $Gold. While both have arrived at about the same spot on the graph, they took different paths.

A naive review of that graph might also conclude that Agri-Equities and $Gold have moved together.  On the contrary, they have not moved in close conjunction with each other. Coefficient of determination (R2) is only 4%. That means that combining Agri-Equities with $Gold in a portfolio would have produced the about same return as either, but would have done so with far less total investment risk. Not owning Agri-Equities is a risky investment position, especially in a world with an increasingly inadequate Agri-Food supply.

Our 4th Agri-Food Commodities: An Investment Alternative, January 2011 was recently released to considerable interest. This analysis, though statistical, dry, and boring, has rapidly become the standard for reporting and analyzing returns produced by Agri-Food commodity prices. It thoroughly documents the superiority of returns produced by Agri-Food commodity prices, which ultimately drive the returns on Agri-Investments. This report can be previewed at our web site or at www.scribd.com

By Frank Holmes

Read more: Outlook 2011: Everyone Needs Commodities http://dailyreckoning.com/outlook-2011-everyone-needs-commodities/#ixzz1C5fndpQB