Chapter 9
Down Under and Beyond: Australia and New Zealand
When the great explorer James Cook bumped into Australia in 1770, he sailed right by Sydney Harbor. Botany Bay, some miles south, impressed him more. Sydney Harbor has a narrow entrance, only three miles across. Unless you sail past its great rocky headlands, it won't strike you as a great harbor.
So, in 1788, when the British Empire charged Capt. Phillip with the task of setting up a penal colony in Australia, he sailed for Botany Bay. Phillip, though, soon did sail past those headlands and established what is today Sydney.
Another irony about Sydney, and Australia generally, is that many of the people sent here initially were petty criminals. Australia was a penal colony, a place to dump convicts. By 1840, when penal transportation ceased, there were 87,000 convicts in the province of New South Wales, where Sydney is, and 70,000 free Britons. Yet from this cauldron of outcasts and societal riffraff came some great entrepreneurs. There would be no Australia without the efforts of these remarkable people.
You see the legacy of these entrepreneurs in Sydney today. I saw Juniper Hall, built by a former convict who made his fortune in gin. Another convict turned millionaire dubbed his own hall Frying Pan Hall, because he made his fortune selling iron cookery. Australia's history has many such manacles-to-millionaire stories.
One of my favorites is the tale of Mary Reibey (pronounced Ree-bee), whose face graces the Aussie $20 note. She got seven years when he she was only 14 years old for stealing a horse. She claimed she was only borrowing it—a timeless excuse. But Reibey must've been a force of nature. It was hard enough for a convict, but a female convict especially. Yet by 17, she ran her own general store. By 35, she was well-off. And by the age of 50, she owned two ships and eight farms and was quite rich.
Australia's third great irony is that the world's naval powers largely overlooked it. On the far side of the world, Sydney, one of its great cities, was not a link in any great trade route. It was no crossroads of any sort.
Jan Morris wrote in her history of the city, Sydney: “Born a concentration camp thousands of miles from the next town, maturing so improbably on the underside of the world, more than most cities it seems artificial of purpose. It really need not exist at all.”
But today all that's changed.
What began as a penal colony, an afterthought of the great British Empire, has since exceeded the riches of Great Britain. Australia is, depending on how you measure it, the fourteenth or sixteenth largest economy in the world. On a per capita basis, Australia is richer than the United Kingdom, France, or Germany. It ranks sixth in quality of life, according The Economist's much-followed index.
Today, Australia has a great seat overlooking the unfolding Asian boom. Australia holds many of the resources so needed by Asia's growth economies: Iron ore. Coal. Wheat. There is gold there. And uranium, nickel, and lots more. Massive natural gas deposits lie offshore. Its close proximity to these resource-hungry Asian markets is its biggest advantage.
All in all, Australia is in a good position, and plenty of opportunity exists.
In Sydney one sunny morning, a group of readers and I met with Kris Sayce, editor of the Australian Small-Cap Investigator. Sayce talked about what could become Australia's biggest resource boom yet. Australia is on its way to becoming to natural gas what the Middle East is to oil.
In my own research before the trip, I wrote to my readers about the liquefied natural gas (LNG) boom, and we picked up a great way to play the growth in LNG spending over the next several years. (More on that in a bit.)
The LNG boom is really an Asia story, and that makes it an Australian story, too, as we'll see. As Sayce pointed out, Asia is the fastest-growing market for LNG. Sayce presented Figure 9.1, which shows the dramatic increase. (“Non-OECD Asia” excludes Japan and South Korea.)
Currently, Japan is the largest buyer of LNG. Japan and South Korea together make up 53 percent of current global re-gasification capacity, which is the ability to import LNG and turn it back into a gas for consumer and industrial use. Pressed against this new demand is an aging supply base in places. For instance, there are old LNG fields in Malaysia and Indonesia that are coming to the end of their useful lives.
So how will the market meet this surge in Asian demand? That's where LNG from nearby Australia comes in. It's hard to miss this story when you take a look at the Australian resource markets. It's in the papers nearly every day, and the amount of money going here is just staggering.
The Gorgon project alone, a joint venture between Exxon Mobil, Chevron, and Shell in Australia, will cost some $50 billion. It has supply contracts from India and China worth $60 billion and will surely get more before it opens in 2014. There are other firms pushing ahead with aggressive LNG ambitions. Woodside Petroleum, an Aussie oil and gas company, wants to be the leader in LNG by 2020.
As a result of all this activity, Australia will challenge Qatar as the world's largest LNG exporter. One analyst quoted here said: “The numbers are phenomenal. When you look at them, it's mind-boggling. It's going to be LNG boom times.”
Asian buyers love Australia because it's closer. Even better, the gas doesn't have to pass through the war zones of the Middle East or the pirate-infested waters off Somalia. For most buyers, Australian gas doesn't even have to pass through the congested Straits of Malacca, either.
Australia has loads of offshore natural gas. Explorers continue to find sizable new discoveries, which means new projects may yet come on board. Most of these are in Western Australia's waters. But Sayce shared with us the new discoveries made in Queensland, off the east coast. Queensland has big reserves of coal seam gas. This is naturally occurring methane trapped by water deep underground. You can convert coal seam gas to LNG.
The big energy companies are moving in. Shell, BG Group, ConocoPhillips, and Malaysia's Petronas are among those developing projects in Queensland. The growth in LNG production from Queensland alone has tripled in recent years.
With all these projects, it's quite possible that in the next decade, LNG will pass coal as Australia's most valuable export. The government is certainly supporting LNG projects, for they will add a gush of tax revenues to its coffers. Look at what oil did for the Middle East; the same kind of thing could well happen to Australia.
I often hear the objection that LNG won't ever catch on in the United States, at least not in a big way and not anytime soon. I don't disagree, but we have to think beyond just the United States.
It may help here to take a short digression . . . .
I present you two numbers. The first is the price of natural gas in the United States, which is less than $4 per million British thermal units (mBtu) as I write. The second is the price of natural gas in Asia, where people will pay $10 per mBtu for natural gas that they import from overseas.
This disparity will allow someone to make a lot of money. The only reason it exists at all is because the natural gas market is still mainly a local market. It is not as easy to ship natural gas into a country as it is to ship oil. You have to super cool it, so it liquefies. Then you can put it on a tanker and ship it to a terminal where your buyer can re-gasify it. This is the LNG trade.
There are other problems. U.S. energy companies, before the shale gas boom changed everything, thought the United States would need to import natural gas, so the United States had about 10 LNG import terminals and two more in the works. With a natural gas glut in the United States, these terminals are pretty much useless.
Owners of these terminals want to turn them into export terminals, where the gas is liquefied and shipped out. As the Financial Times reported, “The United States could soon be competing with Russia and the Middle East to supply the world with natural gas, a shift that would reshape energy markets over the next decade.” Even if the United States exported just 10 percent of its natural gas, it would become the largest exporter of LNG in the world. Few countries can match the United States in natural gas resources or in its low costs.
So where will the natural gas go? This is an interesting question because it yields some surprising answers.
I attended one of the ASPO conferences in Washington, D.C. (ASPO stands for the Association for the Study of Peak Oil & Gas). Jonathan Callahan, founder of Mazama Science, gave a fascinating presentation around one key development.
He looked at natural gas through the lens of the import/export markets. This is a good thing to do for any commodity because it can tip you off to what's happening in that market. When China went from one of the biggest exporters (sellers) of soybeans to the biggest importer (buyer), the effect on agricultural markets was huge.
Anytime a big exporter becomes a big importer, you can bet that spells opportunity for that commodity. China, for instance, remains a big importer of oil and iron ore, which has been good for investors in those commodities. China will soon become a big importer of coking coal, used to make steel. So will India and Brazil. This is good to know if you are an investor, as it will drive demand for coking coal.
Callahan creates nifty charts to capture these import/export trends. For example, take a look at the United Kingdom in Figure 9.2.
You can see that the United Kingdom was an importer through the 1980s and 1990s. Then there was the North Sea boost, matched by a step-up in consumption. Finally, as the North Sea supplies dwindle, the United Kingdom has gone deep in the red as an importer. This chart exhibits a pattern we see time and time again. Consumption is sticky and stubborn. It doesn't go down much.
Callahan charts all the big producers and consumers of natural gas. We know the big buyers: Japan, South Korea, and Taiwan. All of the gas they import comes from LNG tankers.
But what about, say, China? Here is another one of Callahan's charts (Figure 9.3). Note it is just starting to turn negative, which means China is becoming a net buyer of natural gas. Per capita consumption, Callahan points out, is only a fraction of its neighbors. He predicts, and I agree, that China will soon be a huge importer of natural gas.
Combine China with Japan, Taiwan, and South Korea, and Callahan concludes: “Clearly, East Asian demand for LNG will not be letting up anytime soon.”
What about the Middle East? Callahan's data suggest that the Gulf region is consuming ever more gas and that its exports may peak soon. The data do not lie. The Arabian Peninsula is alive with new petrochemical plants and desalination plants and growing consumer power demands. “We should not be surprised to find that these nations consume an ever increasing amount of their indigenous oil and natural gas supplies,” Callahan says. Despite expectations that Qatar will boost LNG exports in the next five years, “the region as a whole may see declining LNG exports by the end of the decade.”
The UAE is typical. The UAE became a new importer of gas in 2008. What about South America? A turning point lies ahead there, too. To date, SA has been largely self-sufficient in gas. However, it's becoming a source of LNG import demand. Argentina has peaked, causing shortages in the Southern Cone. Bolivia and Venezuela are rich in gas but are sealed off from markets because of political issues.
And if you look at the construction of LNG import terminals in Argentina, Brazil, and Chile, you will see a market that will soon import a lot of gas. “The region is on track to become a significant importer of natural gas over the next decade,” Callahan concludes.
The same style of analysis applies to Europe, where Callahan predicts Norway is peaking, and many European countries will only import more gas.
The impact on the global market seems clear. “If shale gas doesn't turn out to be as prolific as hoped,” Callahan wraps up, “we can expect to see increasingly expensive natural gas in the next decade. Forewarned is forearmed.”
So put together Callahan's data on exports and imports with the glut in the United States and the lack of export terminals. I think it's pretty clear we'll see more export terminals in the United States. It's too big of an opportunity to ignore. The United States could well become the leading exporter of natural gas in the next decade.
Worldwide, we'll see the LNG trade grow significantly to make up the shortfalls that are emerging in South America, Asia, Europe, and the Middle East.
How to play this trend?
You want to own the companies that put together the Erector Set that LNG needs to operate. There are cold boxes that turn the gas into liquid. There is special insulated pipe. There are storage systems. There is a whole complex of materials that has to be put together.
By owning one of the companies that make all of that stuff, you don't take on the enormous risk that goes along with these huge capital projects. Fifty billion dollars, the latest estimate, for Gorgon is a gargantuan bet, too big for any single oil company to go it alone, hence the joint venture. Then there is price risk. No one can say what the LNG will sell for or what kind of returns it might generate.
It's simpler to own the companies that put it all together. They will enjoy fat cash flows and swollen order books for years to come. Lately, the financial crisis has put some projects on hold, but that's what gives you the opportunity today. Longer term, the case looks solid to me.
My favorite here is an American company called Chart Industries. Chart makes the mission-critical LNG equipment that all these projects need. The company is number one or number two in all of its markets, important in a business in which failure of equipment is not an option. Chart is still a small company in a fragmented market.
Management highlights two key pieces of the big picture in their presentations. The first is that global gas demand is likely to rise by 25 percent by 2020, while the use of LNG is set to surge by 40 percent. The second is that we need $220 billion in annual investment in the entire gas-supply infrastructure through 2030. Chart stands to profit from these trends.
Chart has three business segments.
Energy & Chemicals, or E&C, which makes up about 40–45 percent of sales. This segment is the one that deals with liquefied natural gas. (Remember, liquefying natural gas makes it easier to ship and store.) Chart makes cold boxes and heat exchangers that cool liquids and turn them into gases. Chart makes the insulated piping for LNG terminals. This is where the headline-grabbing LNG awards would go.
In China, Chart has opportunities. The Chinese have made a commitment to develop as much of their own natural gas resources as possible as well as use their LNG import terminal facilities. Noteworthy activity is in the Middle East, Kazakhstan, and Russia.
Then there is the Distribution and Storage segment, or D&S, which pitches in about 40 percent of sales. This segment sells tanks to store gases and has a wide range of applications: chemical companies, restaurants, food processors, oil and gas producers, and more. About 43 percent of sales go to energy companies. D&S sells all over the world, too.
It's a business that has enjoyed record orders from China. According to CEO Sam Thomas, “The activity in China . . . is continuing to increase across all of our products, with a particular bright spot being LNG-related vehicle fueling.”
The wider adoption of natural gas as a fuel for fleets (like city buses) is an opportunity few analysts on Chart talk about. At a recent conference, Chart management estimated that there could be up to 10,000 fueling stations built worldwide at a cost of $1–8 million per location, a potential $10–80 billion market. About a quarter of those costs would come from hardware that Chart supplies. That could be a huge revenue generator for Chart for many years. (Chart did less than a billion dollars in sales in 2011.)
Finally, there is the Biomedical segment. This segment mostly sells cold storage systems to animal breeders and biotech researchers. It sells things like oxygenators to nursing homes and hospitals. Thomas said, “Particular bright spots come from cord blood banking and large cell bank opportunities globally that are driving demand for the large freezers.”
Those are the three main legs of the stool that is Chart. There is a fourth leg if you consider its steady acquisition business. Chart has been a good acquirer, a rare quality. It looks for engineering firms that are number one (or have the potential to be number one) in their niche. Management has said that it won't invest unless it can see at least a 35 percent annual return on its investment.
Sometimes it does much better than that. One cherry pick was its purchase of Covidien's oxygen therapy business. It bought a business generating $60 million in sales for $11 million. Covidien neglected it, and Chart thinks it can get this business to generate 20 percent profit margins.
If so, then, essentially, Chart paid less than one times profits—a steal! This means that if you value the business at just 10 times profits, Chart bought a $120 million business for $11 million. Not only that, but Chart picked up a business that gave it an 80 percent market share in the portable liquid oxygen market with little competition and big barriers to entry (like regulatory hurdles).
But back to Australia, where there is more to see . . . .
As I usually do, I read some of the older books and travelogues on Australia, just to get a sense of the history and how it all fits in. There are a couple of things all travelers in Australia seem to comment on.
First, there is the Aussie accent, supposedly derived from eighteenth-century cockney thieves' slang. Mark Twain wrote about hearing “tyble” for “table” and “piper” for “paper” in his book Following the Equator. “In the hotel in Sydney,” Twain reports, “the chambermaid said, one morning—'The tyble is set, and here is the piper; and if the lydy is ready I'll tell the wyter to bring up the breakfast.'”
The other thing travelers often commented on was how cheap it was to travel in Australia. In 1913, American writer E.W. Howe wrote about how he paid $2.62 per day to stay in a good hotel. That price included three regular meals, early morning tea, and supper at 10 p.m. “The meals and rooms at the Hotel Royal are so good,” Howe wrote, “that we are almost ashamed to accept them at $2.62 per day each.”
Well, the accent remains, but the low prices do not, at least for those of us carrying U.S. dollars. Everything is quite expensive. Currencies go in cycles, but the current cycle certainly has favored the Aussie over the U.S dollar.
The United States wallows in heaping piles of debt against a relatively weak asset base, blowing money on insolvent financial institutions and propping up an overbuilt housing market.
By contrast, the Australian dollar is strong and the Australian economy rich in natural resources. Although there were rumblings of potential trouble while I was there in 2010. Personal debt levels were on the rise, and Australia's housing market in the big cities was starting to get a bubbly feel to it.
Later, it did begin to unravel. By mid-2011, prices were beginning to fall in the major cities. Delinquency rates on mortgages hit all-time highs. We've seen this movie before, and it doesn't end well.
Australia's ties to Asia are both a boon and a curse in some ways. Australia may be on the far side of the world as viewed from Europe or the United States, but it is on the doorstep of growing Asian markets hungry for the natural resources Australia has in such abundance. Lines of ships as far as the eye can see ferry coal to China, and the iron ore mines run around the clock. But it means that as China goes, so goes Australia. As we saw in our look at China, its boom faces serious short-term obstacles. In any case, the boom and bust action could be severe in Australia. Investors be warned.
Front Line on Ag Investing: Melbourne
Driving around the countryside of Melbourne, I saw pieces of the agriculture economy at work. Australia is an important agricultural player. It is, for instance, a large exporter of wheat. Take a look at Figure 9.4, which shows you how all the major wheat exporters face declines in wheat exports save three—Canada, barely, Australia, and Kazakhstan.
Australia will be an agricultural hot spot as the world's growing population presses against a dwindling supply of arable land and low inventories of grains. We'll need to produce more food. We can do it; but it's going to absorb more resources and eat up more inputs, like fertilizer.
One of the farms I saw outside Melbourne is bigger than Denmark. I saw dairy operations that typically range from 700–1,400 cows in this part of the world. Their rotary machines milk 50 cows at a time. My guide was a former dairy farmer named Bruce. He told me more than you would ever want to know about dairy ops.
Bruce delighted in telling stories of people meeting bad ends in Australia: bushfires and people burning in cars and homes, unable to escape, suicides on bridges that he drove us over, and a kangaroo horror story in which the marsupial kicked the stuffing out of a man and landed him in the hospital. His relish in recounting such tales had me calling him “Bruce the Morbid Tour Guide.”
Beyond the investment scouting, I enjoyed the sights and sounds of Australia, great restaurants, a colorful history, and some amazing natural wonders. In Melbourne, I took a drive down the Great Ocean Road, which hugs a spectacular coastline.
And the Australians seem to love Americans. One day, I met with a 75-year-old guide who told us the story of how the Americans came to Australia's aid in World War II and the great Battle of the Coral Sea. “People my age will never forget that,” he said. “That makes us mates, and that's the way it is.”
While on this end of the Earth, I ventured to New Zealand. In Queenstown, my hotel overlooked the dark blue waters of Lake Wakatipu. Jagged green mountains, called the Remarkables, surround the lake.
Just driving around, you get a sense this is an agrarian economy, which in this day and age is a good thing. Sheep dot the foothills, grazing in wide-open pastures. In fact, there are more sheep than people. New Zealand is a country of only 4 million people but some 45 million sheep.
The Kiwis' most valuable exports are dairy products and meat. The third-largest export is oil, surprisingly. New Zealand's oil industry produced 21 million barrels of oil last year. Not enough to topple Saudi Arabia or make a dent in global oil supplies but enough to bring home $2.8 billion.
Oil from the offshore Tui field in Taranaki makes up 64 percent of total oil exports. But the country has a strong resource sector. Gold and silver production hit a record high last year. Moreover there is an estimated $140 billion of mineral wealth still in the ground, plus another $100 billion of lignite, which is a kind of low-grade coal.
Another way to look at the prosperity of the resource sector is to look at how much it's paid in taxes, up 470 percent from the year before, or about $519 million.
All is not rosy, however. I've been reading in the papers about how some New Zealand farmers took on too much debt in the last dairy boom. The farmers wanted to increase the size of their farms or buy additional farms. They have to look elsewhere for fresh capital to help clean up balance sheets and reduce debt.
It's a story told a thousand times in a thousand places, isn't it? Something in the human heart makes us overdo it, like a kid who can't say no to another scoop of ice cream and gets sick as a result.
Now many farms trade for prices a third of what they sold for at the height of the boom only two years ago. Cash yields for dairy farms are in the 6–7 percent range, which are not all that exciting, but a lot better than what you can get at a bank. And the risk is lower than the stock market.
The reorganization of the farming sector in New Zealand is creating some opportunities for investors because the main source for new capital comes from non-farming investors. As the Star-Times notes:
Suits are replacing gumboots on many dairy farms as non-farming investors take an increasing stake in this country's dairy industry . . . . One of the most popular ways for farmers to access capital from non-farming investors is through the use of equity partnerships . . . where a farm is sold to a group of private investors who employ a manager to run it.
New Zealand has seen booms and busts in dairy farming before. The celebrated Victorian traveler George Augustus Sala visited New Zealand in 1885. He commented then on the “fearful depression” brought on by too much debt and low prices for mutton and wool:
Every child that comes into the world in this beautiful land is handicapped from his first entrance into life with indebtedness to the extent of 55 pounds sterling. Imagine such a load of pecuniary embarrassment on a baby's head before even the sutures in its tender young cranium are knit together.
Imagine what Sala would think about the last U.S. housing bubble. He wouldn't believe a people could go so overboard.
Investing Advice under a Pohutukawa Tree
My merry band of readers and I gathered around on a white sand beach under the shade of a giant pohutukawa tree, sometimes called the New Zealand Christmas tree for its brilliant red blossoms. We looked out to the cool blue waters of the Firth of Thames. It was a sunny, cloudless afternoon. There, Rick Rule, resource investor extraordinaire and founder of Global Resource Investments (now part of Sprott Inc.), held court.
We had just ridden about an hour north of Auckland to see Rick Rule at his farm. The roads there wind around in a pattern akin to that left by a bug dipped in an inkwell and allowed to run wild. When we arrived, he and his wife served us a wonderful lunch. We ate sweet plums and apricots, picked that morning from local trees. After pleasantries, some walking along the beach, and more than a few glasses of wine, we started to talk about markets.
He began with cautionary warnings, like a lighthouse marking dangerous shoals and treacherous reefs. “All the causes of the 2008 crash are still with us,” he pointed out. It's a function of a society living beyond its means. There is too much debt and leverage in the system. Balance sheets were and remain strained. A balance sheet recession, Rick continued, can't be cured without fixing those balance sheets.
The government's response of dousing markets with lots of liquidity and bailout money is not helping. “It's like we had a tequila hangover, and we decided to substitute rum,” he said.
With those warnings out of the way, Rule warmed up to the opportunities in today's market. He expects markets will be extremely volatile, which he considers a gift. It's what allows you to pick up assets on the cheap.
“When a stock falls by half,” Rule advises, “you have to be able to have the courage to buy more and not let the market sway you.” You have to be careful, but many of the great investors I've met and studied over the years have made their best scores in ideas in which they bought a lot of it over time and often in the face of declining prices.
Rule's favorite stocks occupy the natural resource sector. His simple reason is that for a long time there was little investment in the sector, and we will catch up. From 1982 to 2000, there was no net investment in the resource sector, Rule maintains. This is a sector that is slowly self-liquidating. If you run a mine, for example, every day you run it, it gets smaller.
At the same time, we had a massive global boom in demand. Here Rule essentially laid out ideas similar to those we've talked about it in past chapters. In a nutshell, the emerging markets are large and growing and closing the gap with the West.
This is particularly bullish for commodities. Rule said: “When Indonesians make a little extra money, they buy stuff. They upgrade from bicycles to cars. They buy air conditioners for the first time. They buy refrigerators.” All of these things use basic materials—steel, aluminum, and other metals. They use energy.
Rick sums it up this way: “When we spend money, we buy services. When poor people spend money, they buy stuff.” He points out that China's use of oil is 3 percent of the United States' on a per capita basis. If China were to get to the demand of South Korea on a per capita basis, which is 16 percent of the United States', then China's incremental oil demand would account for all of current world production.
Not surprisingly, Rule's favorite resource is energy. “Energy is cheap, and it's not going to stay cheap. Gas is the same price as it was in 1980 on inflation-adjusted terms.”
Demand is going up, and supply is problematic. Rick points out that most of the oil in the world is produced not by the Exxon Mobils and Chevrons of the world, but by national oil companies, like those of the Venezuela, Peru, Iran, Mexico, Indonesia, and others. The NOCs are starving their companies of much-needed reinvestment, so they can spend the proceeds on social programs and for political ends. Many of these countries are in immediate danger of no longer exporting oil.
Another factor is “carbon hysteria.” Skirting the issue of whether global warming is real or not, there are consequences to the current drive to reduce carbon emissions. For instance, “coal is bad” from a government point of view. If you found a bunch of coal in Australia or New Zealand, Rule says, and wanted to develop it, you probably couldn't. Governments hate coal, despite the fact that most of the world still relies on it.
There is something that does meet government approval, and that's what Rule calls a “lonely trade.” He likes lonely trades best.
“I really like geothermal,” he says. U.S. political consensus says geothermal is good. Power companies want it and are willing to pay up for it. They pay for it because it's green.
Political subsidies make the economics of geothermal really compelling. Rule maintains you can earn a 22 percent internal rate of return with a cost of capital less than 5 percent. One of the companies we met while in Australia was a geothermal company called Hot Rocks. It showed us how geothermal stacks up to alternative energy and renewable sources in terms of cost (Figure 9.5).
This chart equalizes all sources of power to 23.6 MWh generated over a 30-year period. So it's a full-cycle cost analysis. Geothermal wins this comparison handily. (Capacity factor is how much actual power is produced as percentage of capacity; O&M is basically operating costs).
“I can't say when geothermal will take off,” Rule said. “But the businesses work stupidly well. They really work. It almost doesn't matter what stock you buy, just own the sector.” A few names to investigate here are: Ram Power, Nevada Geothermal, and U.S Geothermal.
They are speculative little ventures, but owning a basket is probably a good move. As for the speculative nature of the stocks, Rule said the best stock he ever owned was an Australian penny stock. “I bought it for 1.5 cents per share and sold it for $10 per share,” he said. “It was the best stock of my life.”
He likes uranium, the feedstock for nuclear reactors. Uranium had a mania, then the price collapsed and the stocks with it, but the businesses kept getting better and better. “The uranium story that fed the mania is still in place.”
Rule said we consume more uranium than we produce. “The uranium price has to go up. More importantly, it can go up.” In other words, the price of uranium is small. It could double and still not have any meaningful impact on the economics of a nuclear plant. “People don't care much about uranium today, but in three years, they are going to care a lot.”
I was on board with uranium idea for a time. Then we had the quake and tsunami in Japan in March 2011 that led to the near meltdown of nuclear reactors in Fukushima. I got out of the sector right then. By late 2011, it looked like I did the right thing.
However, the long-term story of uranium is still interesting and compelling in a contrarian sort of way. As usual with commodities, I think it comes down to two basic reasons, supply and demand.
In looking at supply and demand, it seems clear that we'll need more uranium than we mine. At least if we expect to run all the power plants that are on the board. The World Nuclear Association (WNA) reports there are 50 nuclear reactors under construction around the world that'll need some 23 million pounds of U308. (U308 is the oxide you get when you mine uranium ore.) There are 432 more on the planning board. Based on these projects, the world's nuclear power production will more than triple from 2008 to 2030. The incident in Japan will slow the growth of reactors. How much is hard to say.
Not surprisingly, China has a big role to play here. Its power needs are growing dramatically. Some think that the boom in Chinese nuclear power is a lot like what happened in the U.S. nuclear boom between 1970 and 1980. America's reliance on nuclear power doubled as a percentage of total power generation in the 1970s and then doubled again. From 1972 to 1990, total reactors in operation in the United States went from 40 to 110.
Something like that may happen in China. Today, China has only about a dozen reactors, which supply about 3 percent of its power needs. But the growth curve is steep. The WNA say there are 15 more under construction, which will more than double China's nuclear capacity. It has another 114 either planned or proposed. If everything gets built, that will be nearly a fourfold increase.
So where is the uranium that will power all those plants going to come from? Not China. In fact, China represents only about 1.7 percent of the world's uranium production. Take a look at Figure 9.6, which shows you the top five producers, which make up nearly 80 percent of the world's production:
Note that Australia clocks in at number three, right behind Kazakhstan. While it may surprise you, Kazakhstan is home to one-sixth of the world's uranium reserves. It's one of the fastest-growing producers. By 2012, Kazakhstan may well double its production of uranium. But most of the new uranium mines are in Africa.
Namibia, the former German colony, gained independence from South Africa in 1990. It's mostly a coastal desert of 2.1 million people. It's politically stable and has good infrastructure with a long history of mining. Namibia is generally thought to be a less risky place to do business than China, Russia, or Kazakhstan.
Another point: All the best mines are in production. The new mines are all of lower grades and will be higher-cost sources of uranium: 14 of the 20 largest deposits in the world are in production. New mines will be smaller, raising production costs. All of this bodes well for higher uranium prices in the future. The higher price is the lure that will bring the fish.
So on the supply side, the market should tighten. It's living off stockpiles that are dwindling, and, as is the case in much of the resource world, the low-hanging fruit is gone.
I want to say a few words about the uranium mania of 2007, which cracked in 2008, along with most things. In 2007, there was certainly a uranium rush. Besides the small circle of established players that were actually producing uranium, there were over 750 exploration companies created to look for more. Almost all of these flamed out in 2008 as the uranium price sank and the credit crisis finished off the wounded.
Thinking in contrary fashion, it looks to me that uranium is due for an upturn. Investing well often requires you to buy what is out of fashion or what has done poorly. Uranium is a good candidate.
The four big uranium producers worth thinking about are Cameco, Uranium One, Paladin, and Denison Mines. These are the ones I watch. If the uranium story plays out over the next decade as we speculate it might, then these stocks ought to deliver market-beating returns.
New Zealand's Economic Place in the World
New Zealand today is a highly productive agricultural economy, an exporter of dairy, meat, and other agricultural products, as well as wool from its ample stock of sheep, which dot the countryside.
New Zealand's biggest customer is Australia. So you should expect its economy to somewhat mirror its bigger neighbor. Although it too has housing bubble troubles and debt worries, it is has its natural resources that it's tapping to good effect. In 2011, it recorded its biggest trade surplus ever.
What it sells, chiefly, is dairy products such as milk, butter, and cheese, which make up a quarter of its exports. One-third of world dairy exports come from New Zealand. It's like the Saudi Arabia of dairy. It was not always so. New Zealand's bounty is a product of fertilizer and the application of modern farming techniques.
I have an old book on New Zealand by W. Pember Reeves. It's a 1927 edition, well-worn by the passage of years and illustrated with beautiful watercolors. Reeves, who visited New Zealand on two extended trips about 25 years apart, was in a good position to note the changes. He writes about the productive growth of New Zealand agriculture from 1900 to 1925:
Millions of acres had been converted from fern, scrub, or forest into fine pasture: Hundreds of thousands of acres of heavy swamp had been drained and turned into dairy farms. The use of fertilizers had made large areas, once hardly profitable, very productive. The application of electric power to dairy farming, factory work, and domestic purposes, had transformed industry and life both in town and country.
The importance of fertilizer is something we touch in other chapters. I think this sector will continue to offer up worthwhile opportunities in the next decade as we figure out ways to feed a growing planet eating richer, more complex diets.
To wrap up New Zealand, our crew spent an afternoon in Arrowtown, tucked away in the mountains on the banks of the Arrow River. This was a gold rush town back in 1862, when prospectors found gold flakes shimmering in the river. You can still see some of the buildings from the Chinese mining settlement there. And you can still pan for gold as a tourist.
Back in Queenstown, another New Zealand city with a history of gold mining, I picked up a book on the New Zealand gold rushes. The book, Diggers, Hatters & Whores by Stevan Eldred-Grigg, maintains that “the gold rushes were the single biggest event in the history of colonial New Zealand.”
It's easy to see why. In 1863, the population of Otago, a southern region on the South Island where Arrowtown is, jumped 28 percent. That same year, the region produced 40,000 pounds of gold, more than the contemporary gold rush in California.
Gold rushes boomed all over New Zealand, from Auckland to Dunedin. By 1880, though, the great gold rushes of New Zealand were all over.
Gold rushes come and go. Historically speaking, the idea of gold rushes is relatively recent. There were no gold rushes in ancient India or China, as far as we know, or in Africa or the Middle East. The first great gold rush, according to Eldred-Grigg, was in Brazil at the end of the seventeenth century.
Brazil was a colony of Portugal, and the Portuguese traders mostly hugged the coasts, growing sugar. But some of them began to work their way inland through the wooded hinterlands, where they found gold. The gold fields became known as Minas Gerais, or General Mines, a name that still sticks. Minas Gerais still produces gold today. Within a few years, Eldred-Grigg tells us, Minas Gerais produced “more gold than had been dug anywhere in the world for whole centuries, with output peaking at 31,000 pounds annually.”
The second gold rush was in the great forests of the taiga, in Siberia. In the 1830s, folks found gold in the shingle riverbeds of the Yenisei. A rush set in, and gold peaked at about 47,000 pounds annually.
But the big gold rushes didn't happen until a bit later, powered by the Industrial Revolution. As Eldred-Grigg writes: “Worldwide gold fever was unthinkable before the middle of the nineteenth century. The thrilling scramble for nuggets or flakes or even dust was powered almost wholly by the Industrial Revolution and its steam technology.”
Today, the dynamics are all different. Today, what drives the gold markets is not the desire to get rich, but the wish to avoid the poorhouse. It is fear, not greed that makes the yellow metal dance. When people worry about the creditworthiness of paper currencies and fret over the worth of the paper in their pocket, they turn to gold. It's been that way for a long time.
All the forces that drove gold to record heights are still hanging around. The U.S. government has a monstrous budget and enormous obligations, which it cannot meet without printing a lot of money. All of that means the dollar is a doomed currency. Gold, on the other hand, has been a store of wealth for centuries—millennia even.
Gold is an idea that touches on many markets, so let's end our glimpse at these two in the far corner of the world. I am wary of investing directly in these countries, given their long booms and trouble spots in housing.
Wait for those storms to blow over first and for asset prices to come down. Follow the interesting trends and ideas, though. Long term, both countries should benefit from their proximity to hungry Asian markets and a world turning right side up.
Five Key Takeaways
I encourage you to check out Jonathan Callahan's website: http://mazamascience.com/. You can see his presentations and read his useful blog. You can play around with the tools on the site to make your own import/export charts on energy use.
Stock to watch: Chart Industries. Explore its website: www.chartindustries.com/.
Rick Rule's website is www.gril.net/. The site is updated regularly with useful articles on all manner of investing topics. Rule is an extraordinary investor, and you should investigate using his services.
Keep an eye on the geothermal basket: Ram Power, Nevada Geothermal, and U.S. Geothermal.
Consider these uranium producers worth following: Cameco, Paladin Energy, and Denison Mines.