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How to play the rise and rise of emerging markets with a bet on energy, A closer look at the Brazilian model...and a few words about their economy, Plus, Bill Bonner on all the unbelievable things we're asked to have faith in and plenty more... The Daily Reckoning | Tuesday, March 30, 2010 The Inconvenient Realities Facing Every Stock Seller No comfort in the “something else” investment options Eric Fry Reporting from Laguna Beach, California... The Dow Jones Industrial Average bounced 45 points yesterday - lifting the index to a new 18-month high of 10,895. This achievement punctuates a dazzling one-year rally that has lifted the Dow more than 70% from its lows. During the early days of this epic rally, bullish investors had both low valuations and an improving economic trend on their side. The price-to-earnings ratio of the S&P 500 index was about 40% below its five-year average. While at the same time, the worst of the credit crisis had seemed to have passed. Today, however, the US stock market finds itself in a very different circumstance. Valuations are high and rising, despite the fact that the underlying economy merely muddles along...even on its best days. In a New York Times article entitled, "Stocks Soar, But Many Analysts Ask Why," reporter Javier C. Hernandez probes into this curious disconnect between an effervescent stock market and an economy "sin gas." "The unemployment rate remains locked in a range that recalls the economic doldrums of the early 1980s," Hernandez observes. "Housing is stuck in a ditch, with foreclosures rising. And consumers are still reluctant to part with the little cash they do have. Yet the stock markets are partying like it's 2003, when hiring was brisk, real estate was booming, wallets were fat - and the major stock indexes started a four-year rally that would double their value and push them to new heights... "Autos, consumer electronics, regional banks and home builders - all losers in 2009 - have led the way," Hernandez points out. "Banking stocks, which drove much of last year's rally, continue to surge, with many regional banks up more than 40 percent." The relatively strong performances of these economically sensitive sectors tells us loud and clear that the stock market is relying more on hope than substance. In the midst of such baffling conditions, almost no investor, least of all your California editor, can say whether it is best to increase exposure to the stock market or to decrease it. Nevertheless, your editor can say very confidently that he would rather be a seller than a buyer - not because it is the best thing to do, but because it is the least terrifying thing to do. On the other hand, sellers of stocks face two inconvenient realities. First, they must pay taxes on their gains. Second, they must reinvest their proceeds in something else. And a brief analysis of the "something elses" that are available provides no comfort whatsoever. Real estate is still in the tank; commodities are as volatile as ever; and fixed income yields nothing. Take your pick. The good news is that these vast investment categories are not homogenous. Inside the asset class known as "commodities," for example, we find everything from sugar to platinum to natural gas to burlap. Some of these commodities may soar in price over coming years and some may slump. Obviously, this same dynamic operates inside every asset class: some real estate goes up, while the real estate goes down; some stocks go up, while other stocks go down. Therefore, the most pertinent question for long-term investors may not be whether to "sell stocks" or "buy stocks," but rather, which specific commodities, assets or sectors to buy and which to sell. Here at The Daily Reckoning, we like to conduct this analysis within an entertaining framework we call the "Trade of the Decade." In other words, if you could bet on just one asset and or stock market sector for the next 10 years, while also betting against just one asset or stock market sector, what would these bets be? And why? As faithful Daily Reckoning readers are well aware, both Bill Bonner and your California editor have already ventured their guesses about the best and worst investments for the next 10 years. Now it's your turn... Welcome to the first-ever "Daily Reckoning Group Research Project" in which you, The Daily Reckoning faithful, may submit your selections for the Trade of the Decade. Here are the ground rules: 1) Identify just one specific asset, commodity, stock market sector, currency, mutual fund, ETF etc. to buy and hold for the next 10 years. Please provide a symbol, if possible. But please do not provide the name or symbol of an individual company. (We are seeking to identify attractive asset classes, not specific companies.) 2) Identify just one specific asset, commodity, stock market sector, currency, mutual fund, ETF etc. to sell short for the next 10 years. During his stint at The Rude Awakening, your California editor and his co-editor, Joel Bowman, conducted several "Group Research Projects." In the very first Project, for example, we solicited the names of gold mining companies that might be acquired. In another project, we asked for the names of attractive oil and gas companies. In another, we solicited a "housing bust pair trade." Admittedly, some of these research projects produced better ideas than others. But the exercise always seemed worthwhile. So if you feel so inclined, please dive in and have a little fun. Email us your Trade of the Decade. Who knows, maybe we'll all learn something! The Daily Reckoning Presents Trade of the Decade: Sell Everything, Part II Eric Fry America's economic hegemony is fraying at the edges. The "Land of the Free" is shackling her citizens to multi-trillion dollar debts that neither they, nor their children, nor their children's children, can repay. This inconvenient reality may not cause a big problem anytime soon, but it will burden the American growth engine for decades to come. The global financial news is not all bad, however. In the Developing World, we have some shining stars. And as an investor, I would be putting my capital there. Emerging Market economies now represent about half of world GDP and their share of world GDP is growing rapidly. Brazil is one of those rapidly growing emerging market economies. Brazil was a basket case. Everyone knows that. And it still is in some ways. But it is a basket case that is improving. And the trend is your friend...at least that's what I've heard. This country is self-sufficient in many, many important natural resources, like energy, like water, etc. And it is a prolific exporter of all things agricultural and increasingly, technological, like civilian aircraft. Brazil is the world's leading exporter of sugar, coffee, beef and orange juice. This country is so bountiful it exports just about everything...including supermodels. So let's take a look at some important economic comparisons between Brazil and the US. In 1959, Brazilian GDP was equivalent to 3% of US GDP. Fast-forward 50 years and Brazil's GDP soars to 11% of US GDP. The fiscal picture of Brazil relative to the US has improved even more dramatically. The trends depicted in this next chart are absolutely shocking. The yellow line is the US government's annual budget surplus or deficit since 1999. The blue line traces the same data for Brazil. And what you see is a complete flip-flop of their respective fiscal conditions. Back in 1999, Brazil was running a budget deficit equivalent to 9% of GDP, while the US was running a budget surplus. Today the US is running a budget deficit greater than 9% of GDP, while Brazil is running a very slight deficit. (Although Brazil is running what's called a "primary budget surplus" - i.e., a surplus before interest payments). And not surprisingly, when you get to debt-to-GDP levels, you see the same story. US debt-to-GDP is soaring. Brazilian debt-to-GDP is falling. The picture here is very clear. And yet, reputations die hard. If the Brazilian government wants to borrow money in Brazilian reals, it pays roughly 12% interest per year. If it wants to borrow money in US dollars, it pays at least 1% per year more than the US government does. I think ten years from now this chart will look dramatically different...in favor of the Brazilians. Which brings us to the long side of my trade of the decade: Buy uranium. This unique energy source is a "backdoor play" on the growth of Emerging Markets. There are 436 nuclear reactors in 30 countries around the world. But here's the important thing; there are over 200 new plants in some stage of planning, engineering or construction. And most of these new plants will open in a Developing World nation. But there's not even enough uranium coming from the world's mines right now to supply the current power plants across the world, let alone a couple hundred more. Thus, the uranium story is really quite simple. It is a supply and demand story. There is a lot of demand and not much supply. Any questions so far? Mined supply of uranium satisfies only about 55% of total demand. The rest of the supply comes from somewhere else. These secondary sources of uranium come primarily from old nuclear warheads. But no one really knows how this enormous supply gap will resolve itself in the future. This is what we do know: when you get a supply deficit, prices rise. And I think that will be the case with uranium. Uranium demand is on its way to hitting 226 million pounds per year. Yet last year, the top dogs of the uranium mining industry - which make up 90% of the market - produced only about 110 million pounds of uranium. A sidelight to this statistic is the fact that 63% of all mined uranium comes from just 10 mines. This means that the global supply of uranium is susceptible to supply shocks. If one big mine floods or goes down for whatever reason, it'll make a big wave in the uranium market. The current spot price is around $45 a pound. In the summer of 2007, the spot price hit $136 a pound. But the uranium price collapsed, along with many other commodities, during the credit rises. The uranium price has not yet recovered, but I believe very much that it will, as supply/demand trends start to operate on the pricing of this commodity. One way to participate in a long-term rise in the uranium price would be to take a position in the Market Vectors Nuclear Energy ETF (NYSE:NLR). Most of the holdings of NLR are on foreign exchanges. So it's a great way to play nuclear energy on the New York Stock Exchange, yet obtain exposure to the international nuclear market without the hassle of foreign trading. This ETF is one of Byron King's recommendations. So if this trade works, I'll be back in 10 years to accept my high-fives; if it doesn't work, talk to Byron King about it. Thank you very much. It's been a pleasure. Eric Fry for The Daily Reckoning Joel's Note: As we mentioned yesterday, Eric will be joining an all- star cast of presenters at this year's Agora Financial Investment Symposium in Vancouver. The list of speakers includes - in addition to Bill, Eric, Addison and the rest of our "in house" gang - a Moscow- based fund manager, a beltway "insider" and the guy who will bring Brazil's massive offshore oil discovery to fruition. So go on and tell your boss you'll be taking July 20-23 off to join us in Vancouver. We'd love to have you. Details Here. Bill Bonner Tax Refunds: The Gifts that Keep On Spending Bill Bonner And now for the rest of today's reckoning from Baltimore, Maryland... Strange creatures...strange events...strange thoughts... Zombieland is getting weird. We are expected to believe six impossible things before breakfast, and another half dozen before lunch. "...the current rebound in the economy is a statistical mirage," writes David Rosenberg. It is "orchestrated by record amounts of monetary and fiscal stimulus that are simply unsustainable and actually risk precipitating a very unstable financial and economic backdrop in coming years." But investors and voters seem willing to believe anything. Why else would anyone lend the feds money...or back their 2,400-page health care 'reform' bill? We're expected to believe that the same feds who couldn't see the subprime fastball coming... ..and who struck out completely when they started to get overleveraged curve balls coming their way (they thought derivatives made the system more stable!)... ..have now hit a home run, with the bases loaded. Yes, we're expected to believe that the bad news bears - Bernanke, Summers, Geithner et al - have now won the World Series...by not only preventing a depression...but putting the economy back on track for growth and prosperity. And now the feds are going to improve the whole system of health care, too. And we're expected to believe that the $1 trillion program will not cost us a cent...and that the deficit will actually go down...that insurance companies will charge less...that doctors and nurses will work harder...that cripples will walk...that the blind will see...and that even teenagers with acne will suddenly have peachy-perfect skin. We're also expected to believe the Greek's debt problems have gone away (thanks to a deal cut with the Germans)...and that America's debt problems never even existed. Why else would so many people lend the US so much money at such low interest rates? Yes, dear reader, the crisis of '07-'09 gave us a fright. But it's all behind us now. How do we know? We just read the paper! "Record volume of junk bonds sold," says a news headline. That's pretty curious in itself. It means that investors think nothing can go wrong. If they thought something might go wrong, they wouldn't want to buy junk bonds. 'Cause they're the first to go south when trouble comes. What are they thinking? What can go wrong? Everything... Everyone should be battening down the hatches and locking up the firearms. Instead, they're opening up the liquor cabinet and putting on the music. Consumer spending is up for the 5th month in a row. Hey wait a minute. Why are consumers spending? Unemployment is still up around 10% officially. Unofficially, it's much higher. So how is it possible for people without jobs to increase spending? Strange, don't you think? And what's this? "Personal income drops across the country," reports The Wall Street Journal. This is becoming curiouser and curiouser.... Unemployed people whose incomes are falling are nevertheless spending more money. What are they spending? Tax refunds! Yes, it's refund season. And a lot of people are asking for refunds. People who lost their jobs, for example. Yes, it's the feds to the rescue again. They're sending back money to the taxpayers who earned it. We have no quarrel with that. And it certainly gives some air to the folks who are trapped underwater in their sinking ships. But that oxygen was earmarked for other spending. And so now the feds have to borrow more. We're expected to believe that they can borrow as much as they want for as long as they want without ever getting into trouble? And we're expected to believe that an economy that sank under the weight of private sector borrowing can now be refloated with more debt in the public sector... ..but that's not all. And more strange goings-on: Probably the strangest things of all are the conclusions and advice given by some of the smartest economists in the business. We mentioned it on Friday. But our mouth is still open and our eyes are still glazed. In the run-up to the crisis of '07-'09, almost everybody made mistakes. The spenders spent too much. The savers over-did it too. They built too much capacity. Both need to make corrections. That's what a Great Correction is for. But the advice given Martin Wolf, Paul Krugman and others is the kind of thing that is hard not to laugh at. When the bubble blew up, everyone lost. But some lost a lot more than others. The spenders were in debt and broke, while the producers had money and factories (they didn't know what to do with). So what do Wolf and Krugman suggest? They advise the winners to act more like the losers. Germany and China (the countries with savings...) should spend more money and stop working so hard. Readers will note that Krugman is an American economist. Martin Wolf, the lead economist at The Financial Times, is English. They represent the losers, of course. Wouldn't it make sense to follow the winning strategies, not the losing ones? Wouldn't it make sense to listen to the winning economists - those in Germany and China, not those in the spendthrift economies? Nah, those economists may not understand the secret to a healthy economy - spend, spend, spend. That's the secret...stimulate spending. Consumers spend. Government spends. Business spends. Everyone spends until they run out of savings...then, they spend till they run out of credit. And then they're busted. Hey, what kind of secret is this? Well...that's what's so strange about it. Now, there's a new federal program. "Expanded mortgage aid should cut foreclosures," says another headline. The new aid program requires lenders to reduce mortgage payments when a borrower loses his job. Now the feds are using their brains. Let's see, if you lose your job your mortgage payments go down... But what happens to the money you were supposed to pay? Wasn't it owed to someone? What are they going to do? Well, one thing they're going to do is to be a little more careful before making any more mortgage loans. But the number of foreclosures is still going up anyway. There are now 4.5 million houses in the process of foreclosure or 90 days delinquent. A Great Correction takes time. Stocks go down. Revenues go down. A business gets in trouble. It sends out dismissal notices. Then, the ex- employees get unemployment comp. They run down their savings. And then they fall behind on their mortgage payments. And then, with their house worth less than the mortgage, they give up and move out. And then the house price falls. Patience...dear reader...patience. Maybe Porter is right. Maybe we're wrong. Maybe there's no voluntary de-leveraging going on, after all. The most recent numbers show the savings rate in a decline. Maybe that's the way it works. Maybe nobody ever really tightens his belt unless he absolutely has to. Maybe it takes a crisis...a catastrophe...a disaster. Maybe that's the way of the world. Maybe thinking doesn't matter at all. Maybe markets make opinions after all. In the businesses where we're directly involved, in 2009 we paid down debt, stopped making capital investments, reduced the payroll and saved every penny. Now, we're starting to lighten up again. We're considering new investments. And the payroll has climbed back almost to where it was before the crisis. Regards, Bill Bonner for The Daily Reckoning ----------------------------------------------------------- Here at The Daily Reckoning, we value your questions and comments. If you would like to send us a few thoughts of your own, please address them to your managing editor at joel@dailyreckoning.com