Liquid Gold

Some Thoughts on Lufkin

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LUFK is a stock to watch with a bright future. It has traded this year between 51 and 85 and is currently in the high 70's. The p/e is 16.

Lufkin manufactures oil field pumping units and power transmission products. It also was involved in production of highway trailers, but is exiting this business this year. The mainstay is the oil field supply and the growth portion is the power transmission.

I have been watching the company for months and waiting for a pullback. I think we'll see one shortly when oil pulls back after the Saudi's increase oil production by 500,000 barrels next month. The market tends to punish good companies when sector rotation occurs so I'm looking to pick up this good growth stock closer to 70 and enjoy its eventual rise to 95.

Defense is spelled with three R's

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Read, research, and be ready are the three defenses I use in an upside down market. Sure, you think, but what do you read and who do you believe? Good questions, but stay with me because I have answers.

Most folks go for the standard staples when a market declines to preserve capital, but a few plan for the day a market recovers. I suspect that we've been in a secular bear market since 2000 or 2001. Secualr markets are different from others in that they are longer term and generally last between eight and twenty years. Now cyclical markets, on the other hand,are usually correlated with shorter-term fluctuations of the economic cycle.

The last secular bear market we experienced occurred between 1966 and 1982, a period in which the Dow Jones Industrial Average declined at a per year rate of -1.5%. Have you noticed that the Dow has gone nowhere in nominal terms and the S & P has yet to sustain its former height since 2000?

One of the defining trends of a secular market is its inflation background. During the secular bear market of 1966 to 1982 inflation increased over 6.5% per year. Since 2000 inflation has risen over 3% per year and with oil prices rising, that number is surely headed higher. With continued oil inflation and food inflation it will be much harder for the market to make much upside progress. That means that our returns in most sectors will probably stink.

During the 1970's stagflation helped keep stocks (I wasn't paying much attention to bonds) in a secular bear market and it kept gold and commodities in a secular bull market. Those trends ended in 1980 with a huge thud and by 1982 a huge secular bull market had risen from the ashes and continued through the 1980's and 1990's. This ended with the Asian financial crisis, the tech bubble and later bust, the deflation worry, and the rise of the emerging economies, particularly the BRIC nations which seems to be bringing us back to another uptrend in commodities.

Now here's where research comes in. The piece of the puzzle I have long ignored and don't pay any attention to is the bond yield curve. I learned from several bond, financial, and gold company web sites that in an environment of rising inflation, short term interest rates usually rise more than long-term rates, which makes the yield curve flatter than usual.

During the secular bear market of 1966-1982, the mean spread between the 10-year and three month Treasury yield was just under one per cent. During the bull market that followed the spread was double or two per cent. Since 2000 the spread has averaged 1.5% and we could see that average drop closer to the 1970's average if inflation rises. That, in turn, would support a secular bull in gold and commodities. Gold performs better when the yield curve is flat than when it is steep.

How long it is going to take to send this secular bear back to the woods is open for debate. I don't know the answer to that, but my research tells me that when the bull returns the sectors with the brightest outlook include tech, consumer discretionary, materials, and industrials.

For now I'm sticking with the commodity plays in both the US and emerging makets. It's possible to still buy natural gas producers and gold miners without breaking the bank. But I'm keeping my eye on the prize of an eventual bottom and am positioning myself to take advantage of the upcoming secular bull. It may be in two years or four, but I'm adding dollars to the trendy four sectors I listed above.

Fannie Who?

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Fannie Mae has been a bastion in the finance world for many new and moving up homeowners. Until the subprime crisis, I'd have called the stock a bedrock in any portfolio.

Fast forward from high praise to current conditions. My message is to run, run, run from this and most of the financial stocks. Sure value players are probably casting gleeful eyes at Fannie now that the price has dropped precipitiously. But waiting for the rise in value stocks in the financial markets today will be like watching grass grow in September; it will be a slow, ardious process.

Currently several analysts have a sell rating on the stock. There is a big reason for all of this and they have even more insight into the numbers than many of us.

My suggestion is to wait. Watch the economy post this phoney stimulus mess and then evaluate Fannie very closely. She may show some life in 2009 or 2010, but I'd let the stock rise closer to 30-32 range to see if it can hold. I'd be afraid to tie up good money in hopes that it might go up, because it could sit for ages with all the headwinds the economy is facing.

There Is No Commodity Bubble Yet

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What's going on in the stock market these days? Are we in a commodity bubble or not? Discussion on commodity trading these days is rampant. I think folks want us to be in a bubble, so we can move on and rally some more in other sectors. I don't blame them a bit for wishing, but the fundamentals don't support their desires--at least for now.

At issue is supply and demand. We're using more than we're producing in most of the commodities so that makes the price rise. It's simple economics. Yes, there'll be dips and rallies within those individual resources; gold, oil, grains, natural gas, and coal can all rise and fall with the news of the day, but the underlying trend remains upward and will probably continue for a few years.

Read Saturday's "Options Report" in the Wall Street Journal by Geoffrey Rogow. The near-term options on USO show a put-call ratio of 1.82. The Materials Select Sector SPDR Fund has a put-call ratio of 2.57. If the options traders can be trusted, a bubble from the energy and materials stocks is safe from bursting soon.

Note the insider buying list where Chesapeake Energy (CHK) CEO A.McClendon purchased millions of dollars of his own stock at an average cost exceeding $54.00 per share. Because CHK has been one of my biggest gainers over this decade, I'm buying, too, Mr. McClendon. I'm also loading up on another natural gas producer, El Paso (EP).

Gold is rising today. It's often at its lowest point in the second quarter before moving higher through the first quarter of the following year. I'm a buyer of gold mining stocks. The jewelry association today announced big gold purchases because they felt the metal was downright cheap at current prices. I continue to like GG, GFI, NEM, EGO, and AUY, but I think most of the gold mining stocks will move upward on momentum alone.

All the best to you healthcare and financial supporters out there, but your time has yet to arrive. I'll join your bandwagon in 2011 or 2012.

Taking a Stroll Down Memory Lane

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This week our government announced that inflation is very tame and only up .2%. The market cheered and stocks rallied. The stimulus checks are in the mail and the consumer is spending once again. Why some analysts are even recommending consumer discretionary stocks. Joy is beginning to return to Wall Street.

But wait all you hopeful investors sitting on the sidelines waiting to buy into stocks as soon as a full recovery hits. Come take a quick stroll with me back into the seventies. Remember the Vietnam War and all the angst the country was going through during this period? How about gas lines? No sugar or other items out of stock on the grocery shelves? And then there was inflation. Up ten per cent one year and fifteen percent another. Life became unaffordable--fast.

Some of the same government officials who are in the government now were also running the government back then. Do some history research into the Nixon administration and you'll see some of the same cast of characters that are making decisions today. They laid the groundwork for the problems that exploded during the Carter administration and those are the same problems that our next president will be facing in the next year.

Gold is up over 300% in this decade. I'm wondering how much higher it will rise in the next decade. Oil is in the same situation along with most metals, agriculture and other commodities in general. There is a finite supply of resources and a huge demand for most of them. It is not a condition that will go away in a month or a year or two. It may take a decade or longer. Buy oil, buy gold, buy natural gas and companies that mine, drill, explore, or produce these commodities. It is the only way you can keep up with the raging inflation that we are on track to develop.

Liquidity is rampant. The world needs to re-flate and it will do so in the form of gold. Participate or you will be left behind. And, yes, one day gold will drop but interest rates may be at 15% or mortgages at 11% or some other gosh awfully high number. When inflation gets up there, then it's time to sell your gold, oil, and other commodities because the economy will be on the verge of breaking. I remember because I was paying attention during the seventies.

More Room to Run for Goldcorp

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Investors, stock gains are all about earnings and Goldcorp has a lock on them for a while. Let's examine some of the reasons why this stock will perform well over the long term. By long term I'm talking about the next six to forty months.

Goldcorp is a member of the basic materials sector. The 52 week stock price range is between 21.00 and 46.30. At this writing Goldcorp is about ten dollars a share below its 52 week high. This is the slow quarter for gold companies and that makes it a buying opportunity for you, the investor. Demand from Asia picks up in the third and fourth quarters as buyers place their orders for wedding season.

There are 708 million shares outstanding with 55% of them held by institutions. Management is repurchasing stock.

Book value (18.17) is bullish. Book value reflects the value at which assets are carried on the balance sheet.

Relative performance of stocks versus bonds is a favorable influence for Goldcorp. When the total return for stocks has outperformed bonds, that makes a bullish case for Goldcorp.

The long-term debt/capital ratio is 7.16%. This reflects well on the company's financial stability. The average ratio for gold companies is 9.5%.

2008 earnings were higher than expected and 2009 earnings projections are 25% higher yet. Look at the current price of gold and realize that Goldcorp's cost of removing the metal from the ground is around 200 dollars per ounce. There's a huge percentage between the production cost and the sales price. If gold goes up higher in price, then Goldcorp's profits will also rise even higher.

Finally examine your personal beliefs about inflation. Gold has always been a hedge in that area. If you have noticed higher prices in your life, methinks you might consider purchasing a little insurance to tide you over. Think about the financial debt that the USA has accumulated, the credit problems on Wall Street, and the rising price of crude oil. Know that the war in Iraq is a huge and continuing expense.

If the current crop of politicians remain in power, it will be more of the same. If we elect to change horses and try to balance the budget, think about rising interest rates and inflation until things stabilize. It won't be a wand that can be waived overnight.

It took years for the last gold runup to go from 200 dollars per ounce to over 800 dollars per ounce. When Paul Volker finally got inflation under control by raising interest rates, I was getting 15% interest on my certificates of deposit at the bank. Personally I'm putting my money where my mouth is. I feel so strongly about the upcoming inflationary environment that I've got over ten per cent of my total assets in the shiny stuff and the companies that mine it. A large portion of my funds are in Goldcorp.