Playing an acknowledged theme - is outperformance possible?

"It's tough to make predictions, especially about the future." - Yogi Berra

Just like a trying to see a lighthouse on a foggy day, trying to clearly envision the future can be tough. However, making out the likely shape and dimensions of those things you are trying to avoid, or aim towards, will likely speed you safely on your journey.

It's like that in investing too. Picking out the broad trends to aim for, or avoid, can help elevate your portfolio returns.

Agricultural commodities are one big, broad, theme going forward. The popular press has recently jumped all over this, pointing to food unrest around the world. While the 'contra the herd" crowd would suggest that any trend reaching the front cover of your favorite pop magazine or newspaper is, most likely, nearly played out, they would probably be not so certain that this trend has.

Examination of the underlying factors suggest that this trend is likely to continue for awhile. Here are the factors, as I see them:

• Continued global population growth - check, this is still ongoing and unlikely to stop for several decades.
• Continued use of food stocks for bio-fuels - check, this is still ongoing. In the US, about 30% of the corn crop is going towards bio-fuel, compared to around 10% in the early 1990's. Given the presidential candidates positions to date, and the strength of the lobbying industry in the US, this appears unlikely to diminish any time soon.
• Diet - a meat-centric diet is a huge consumer of grains for animal feed (it takes anywhere from 5lbs to 18lbs of grain to produce one lbs of meat [depends primarily on meat type]). With a rising middle class in China and India turning away from a formerly mostly vegetarian diet, this will continue to pressure grains. Check, this factor remains in play.
• Arable land is decreasing - decades of industrialization, and of water course management, have reduced the amount of quality arable land available. Growing desertification is also a factor too. Check, this factor remains in play.
• Climate change - long known by scientists to be likely to reduce yield in several ways. Humanity continues to pump out voluminous greenhouse gases, suggesting this factor will only intensify in the future. Check, this remains a factor.

Of course, against those trends, you have to consider the possibility of opposing trends occurring. I see those potentially as:

• Potential reduction in bio-fuel use - a possibility, but with the opposition of vested interests, unlikely within a 10 year window.
• Change in diet - again a possibility, the increasing cost of a meat-centric diet may reduce the volume of meat consumed in some areas,. Yet with this burgeoning middle class in so much of the world, it feels unlikely to occur without some support from government, and people's own conscience. Overall, it feels unlikely to occur much within a five year window.
• Finally, the potential for increased production of foods, due to farmer's using more fertilizers and bringing all available land into production. This, I consider very likely. However, this may very well be offset by the declining yields associated with climate change.

On balance, I'd say that the current trend isn't anywhere near played out, and that agriculture remains a major investment theme going forward. If you agree, then you may very well want to stuff your portfolio with agricultural-related investment products, something I believe will fuel investment returns for a very long period of time.

Full disclosure: Long JJG, MOO, & COW (TSX exchange).

JW

The Confused Capitalist

Food Inflation will continue and accelerate

I have written several times about my belief in a movement towards higher food prices in the future, perhaps much higher than in the past. Some commodity experts like the renowned Jim Rogers have stated this belief too.

While I normally enjoy helping investors think about long-term trends that'll help fatten their portfolios, because of the implication this trend has for people everywhere, especially poor people, this posting gives me absolutely no joy.

Nevertheless, here's several ways to invest in what I believe is a long-term trend towards higher food prices:

Van Eck Global's fifth ETF, Market Vectors Agribusiness (AMEX:MOO), which recently debuted and is already up nearly 20% since then. The ETF includes subsectors of the agriculture, such as agricultural chemicals at 34.3% of the index, agriproduct operations, 33.5%, agricultural equipment, 24.3%, livestock operations, 5.6%, and ethanol/biodiesel, 2.3%.

The 40 companies from 13 countries in the index must have a market cap of at least $150 million and a monthly trading volume of 250,000 shares. These companies are primarily engaged in the business of agriculture, and must derive at least 50% of their total revenues from agribusiness. According to information on the fund sponors site (Van Eck), as of Sept 2007, the fund had a PE of ~27, a PB of ~3.5, and a dividend yield of 1.06%.

There are also several ways to invest more directly in the foodstuffs, either through ETFs or ETNs. Two recent products from Barclays (ipathetn) are as follows:

"JJA" tracks the Dow Jones–AIG Agriculture Total Return Sub-Index. The Index is currently composed of seven futures contracts on agricultural commodities traded on U.S. exchanges. The weightings are currently as follows: Coffee 8.0%; Sugar 7.0%; Soybeans 28.0%; Wheat 23.6%; Soybean Oil 9.9%; Cotton 9.3%; Corn 14.3%. According to the information provided by the sponsor, the annual return from the index looks like this: 1yr = 44%; 3yr = 12%; 5 yrs = 6.2%; 10 yrs = -(minus)1.7%.

As you can see, owning the index constituents would have been very good during the past year, and very lousy over the past 10 years.

"JJG" tracks the Dow Jones–AIG Grains Total Return Sub-Index, which has an underlying composition of three futures contracts on grains traded on U.S. exchanges. They are weighted as follows: Soybeans 42.6%; Corn 21.6%; Wheat 35.8%. According to the information provided by the sponsor, the annual return from the index looks like this: 1yr = 64%; 3yr = 14.9%; 5 yr = 6.4%; 10yr = -(minus)1.4%.

Judging by the return differences between the two products over the past year, it appears that the Grains component of the "JJA" ETN (which is 66% of that ETN) has provided almost all of the 44% annual return; in fact, my calculation shows that it's responsible for 41 points of the 44% return.

PowerShares also offers a foodstuff type ETN, DB Agriculture; "DBA".

It tracks the Deutsche Bank Liquid Commodity Index - Optimum Yield Agriculture Excess Return. The index is a rules-based index composed of futures contracts on some of the most liquid and widely traded agricultural commodities – corn, wheat, soy beans and sugar, in equal weightings (i.e. 25% each). However, the weightings in the fund are only periodically rebalanced, and as of October 25 2007, the weightings had changed to as low as 17% for sugar and as much as 31% for soybeans. Index return history as of September 28 2007; 1Yr = 36%; 3yrs = 15%; 5yrs = 11% and 10yrs = 1.6%.

This ETF started trading in January 2007 at $25 and closed at $29.28 on October 26 2007, providing a 17% return since that date.

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Finally, according to recent press releases and web-articles, ProShares is going to be offering a leveraged ETF tracking the Dow Jones-AIG Agricultural Index. When they start trading, this will offer the opporunity to track the index, but on a double-leveraged basis. The release date of the ETF isn't known at this time. Expect a one to four month delay as typically seen.

I have written previously about the food inflation issue, and it's worth re-visiting two of my postings, here and here for more background.


JW

The Confused Capitalist

Thinking Ahead: Ten Years Out

One of the themes I've tried to engage readers in here, is that by playing some fairly obvious trends, and coupling those with reasonable valuations, is a relatively easy way to outperform the market.

One theme I've pounded on over the past one-and-a-half years is the emerging market theme. It doesn't take too much heavy lifting in the thinking department to realize that with soaring GDP growth rates of 8-12% annually in some of these countries, expecting their stock valuations to follow isn't much too much of a mental stretch, even for weak thinkers like me.

So, thinking ahead, and about 10 years out is a good target, it becomes much easier to think that an overweighted emerging markets position is likely to be both prudent, and very profitable. Now, the graphic above showing firestroms in California (currently displacing one million people) obviously suggests that this posting isn't about emerging markets.

That's correct - this is about alternative energy production. While climate change and global warming have been warned about and was easily readable in the popular media 20 years ago(Time Magazine, for instance, awarded Planet Earth as "Man of the Year" in 1989, due primarily to concerns about global warming), it's only recently that most people are finally waking up to the severity of the problem.

As the problem continues to grow in the public mind, so too will the demand for solutions. These will be invoked on a political and individual basis. As the negative consequences of inaction become more and more and more visible and the predictions more dire, many will begin making personal change AND demanding societal change. This is inevitable.

Note: If you're on a blog aggregator, you can visit The Confused Capitalist here (or here: http://confusedcapitalist.blogspot.com/) for additional articles and exclusive content!)

What is also inevitable is major changes to our type of energy consumption and to the pattern of use. For instance, emerging economies will begin to use far more energy than in the past. This is good for them, but not good for the planet. The energy hogs of the planet - that's us in the western world - will finally begin to reduce consumption outright - not just on GDP weighted basis. Since we were "first in" to this pattern of inefficient energy use, it also is right that we strive to be "first out" of the pattern.

This brings us to our investment opportunity. Looking ten years, does anyone see a world in which the general populace isn't pressuring the politicians to fund alternative energy, to create incentives/disincentives to change energy use, and possibly even to restrict certain types of energy use? Perhaps rationing, a popular method for "spreading the pain" and acknowledging that we're all in this together, will become popular.

In any case, I personally cannot envision a world in 10 years where alternative energy isn't a significantly larger economic sector than it is today.

Of course, my much beloved ETFs provide a way to play this trend while avoiding single company risk. The recent launch of three ETFs targeting this sector might lead some to utter the usual cliques and say that this is a clear sign that this market segment has "topped". Yet the reasonable valuations, societal trends, and my common sense, tell me "no", that is not the case at all. And that is why I am willing to significantly overweight my portfolio to this segment.

While I do not pretend this is a comprehensive list, here are three ETF names in this sector:

Market Vectors Global Alternative Energy ETF (GEX) started trading on the New York Stock exchange. The fund, tracks the Ardour Global index (Extra Liquid), which is comprised of stocks in 30 publicly traded companies engaged in alternative energy production. These stocks are selected from a stable of 250 companies in this space. At least 30% of the names are not US-domiciled companies, and may therefore be attractive to those wishing some diversification out of the US currency. It is however, a relatively concentrated ETF, with 60% of the value being held in the top ten positions. Yahoo Finance shows the current PE as ~30.

Power Shares Global Clean Energy Fund (PBD) is based on the WilderHill New Energy Global Innovation Index. The Index seeks to deliver capital appreciation and is composed of companies that focus on greener and generally renewable sources of energy and technologies facilitating cleaner energy. The modified equal weighted portfolio is rebalanced and reconstituted quarterly. It currently holds 84 positions. It also has limited exposure to US companies, with only 26% of the ETF having US domiciled companies. Yahoo Finance shows the current PE as ~26, while information from PowerShares says the PE is ~42.

Finally, an all US domiciled companies is the First Trust NASDAQ Clean Edge ETF (QCLN)which started trading in February, covers five sub-sectors of the alternative energy industry: renewable power generation, renewable fuels, energy storage and conversion, energy intelligence, and advanced energy-related materials. The investment has above average concentration, with the top ten positions holding 55% of the value. It seeks to track the NASDAQ Clean Edge U.S. Liquid Series Index. Yahoo Finance reports the PE as ~25.

One caution with all of these ETFs is that they are presently quite small, none having assets of more than $100 million. But I predict that will change dramatically by the time 2017 has rolled around. Clean energy - a future whose time is now for the investor.



JW

The Confused Capitalist

Investing in a Hothouse World

I often lament to some friends that I don't understand why a few souls don't seem to get the whole "global warming" thing. For those of us in the great white north (Canada), we are well aware of how dramatically our winters have changed over the past twenty years.

Because of this dramatic change, most folks here don't subscribe to any of the junk science school of thought claiming that global warming is either:

1. Not occurring, or
2. Due to naturally occurring phenomena

To most of us Canadians, it's pretty clear what's going on. Recently, asset manager Eric Sprott of Sprott Asset Management, a firm with $3.4 billion under management, weighed in with a 56 page missive, entitled Investment Implications of an Abrupt Climate Change. In that document, Mr. Sprott says it's "shockingly clear" we've caused a spike in greenhouse gases, and further says that ...

"We are now in uncharted territory and may well be on the cusp of a warming of the planet at a rate well beyond what can be predicted using our limited knowledge of history."

Mr. Sprott considers further trends such as the massive industrialization of much of the world's remaining rural populations, and other trends in place as not projecting a bright future for the planet. Water shortages, food shortages, droughts, too much rainfall in places, rising sea levels, ever accelerating weather change, etc. Pretty much the usual bane of stuff that we manage to ignore every day, without too much thought or effort.

In any case, a goodly portion of the paper is directed to current statistics, events, and trends relating to global warming. (But I must tell you I learned something new: the paper suggests that the melting of the permafrost and its' sequestered methane gases as being an absolute tipping point - page 25 is a must read page).

By page 28, Mr. Sprott arrives at the investment risks and opportunities. He suggests the following sectors are at risk, if there is a 20% emissions constraint regulated:

• Automobile
  
• Chemicals
• Electric utilities
• Metals and mining
• Oil and Gas
• Banks (some banks have high rates of commercial loans, whose clients may be subject to various types of business risk from global warming)

Unfortunately, Mr. Sprott doesn't offer too many investment opportunities. He points to obvious ones, such as nuclear, wind and solar power as being some. He suggests however, that the ethanol craze is just adding to the global warming load (production of ethanol fuels requires more energy inputs than they produce), and that hydrogen as a fuel isn't quite ready for prime time. He suggests that micro power projects may offer some potential as well.

Finally, he suggests a hyper-inflationary environment could ensue at some point, thereby accelerating demand and prices for commodities in general, and gold in particular.

As one sentence in the document points out, a Swiss Re (insurance) executive stated that ...

"Global warming has accelerated from a problem that might affect our grandchildren, to one that could significantly disturb the social and economic conditions of our lifetime."

In light of this, may I suggest one further solution we can provide as investors? Perhaps directly investing a very small portion of our investable assets, towards some source of lowering the warming load. Whether this is in a company that is in nuclear, solar, wind power, or any other investment that lowers or reduces the warming load, it doesn't really matter. By helping to provide more abundant equity available, we'll help spur the advance of technologies to save the life of this planet. Sometimes we have obligations beyond that just of short-term investors - we have obligations as human beings.

May I suggest 1/10 of 1% of your investable assets this year, or a minimum $100, increasing by a similar amount every year for nine more years? Consider it a donation - a donation in an area we have special knowledge and awareness in - the investment field. If we wait too long, the cost may be far, far too high.


The Confused Capitalist

Energy Demand: Nuclear Renaissance?

As investors, it pays to be ahead of the rest of the investing crowd. Nuclear energy may offer one such option. While the focus of the Wall Street crowd today is oil and gas, future gains in uranium may vastly outstrip those remaining in the oil and gas field.

Today, it's estimated that, in addition to the 440 operational nuclear plants around the world, there'll be another 60 on-line to serve the growing world-wide energy demand, by 2020. Additionally, some environmentalists, such as James Lovelock, Ph.D., now embrace nuclear power as the only way to avoid complete environmental catastrophe. Add to that the obvious demand that will continue to occur as China's and India's 2.2 billion citizens become part of industrialized societies and the demand side of the equation is obvious.

What is less obvious is that the uranium industry has been undermining for years, perhaps even decades now. This deficit, currently estimated, at about 25 million pounds annually (of a total demand of 150 million pounds), has been met by the over-stockpiling of uranium from the 1950s-1970s, and by the decommissioning of Soviet nuclear weapons in this decade and the 1990s.

However, the "well is running dry", so to speak as these sources are themselves being drained. All of which leads us to a long-term investment thesis, of uranium producers experiencing very good gains for a lengthy time period, perhaps as long as ten years. Uranium mine approvals, world-wide, are subject to obvious governmental red-tape and this is only overcome at considerable time and expense.

In the interim, sit tight and enjoy what I believe will be superior medium to long term investment gains. The largest global producer of uranium is Cameco, on the NYSE as "CCJ".


JW

The Confused Capitalist