Stay the course: America is cheap and the long-term emerging market story is sound

August 8, 2008

The Shadow Stock Trader
Friday, August 08, 2008
By Horacio Marquez

Email – #11

** Stay the course: America is cheap and the long-term emerging market story is sound

Don’t listen to the TV pundits-the commodity boom is not over. A day does not a trend make. While the talking heads will advise you to “follow market sentiment” and disregard market fundamentals, adding that “the market can remain irrational longer that you can remain solvent,” all I can tell you is that fundamentals always win, eventually. That’s all there is to it.

This week, we saw a rare pullback in an otherwise secular, long-term trend: global growth. It’s a fact of life that certain market segments or countries will get overplayed occasionally. But while the pullback will be overdone to the downside (as usual), it will provide savvy investors with a great buying opportunity.

Listen, unless there’s a World War III, nobody will be able to reverse the greatest economic and wealth-creating expansion that mankind has ever known. This expansion was enabled by globalization and accelerated by global economic integration. And this process is creating immense wealth in the developed countries and around the world.

So, as Mohamed El-Erian, PIMCO’s brilliant co-CEO, well put it, we need to get used to the fact that the US consumer will no longer be the only engine of global growth. Consumers in the BRICs and other emerging economies increasingly will take the burden of expanding global demand. But this process is not linear, and the market tends to see-saw in both directions.

The market recently overshot oil to the upside, and it’s now overshooting oil and commodities to the downside: That does not mean that commodities and oil, especially, are dead. Quite the contrary. They’re merely taking a respite thanks to global monetary tightening and slackening demand (i.e. the market’s response to spiking prices). High prices cured high prices…for the moment. And we have been patiently waiting for such entry opportunity.

But this temporary correction can be very easily reversed. Think about it: As prices come down, US and global consumers’ purchasing power returns. The US Dollar strengthens and with that, up go financials (albeit after the temporary bloodbath of AIG and American Express on “yesterdays’ news”). The US and global economy will also benefit, as the Fed, helped by the now-appreciating dollar and falling commodities, can now take its time in tightening. Plus emerging economies can now start reversing their recent monetary tightening. Well done, Bernanke!

Europe is slowing down fast. But this is not the end of the civilized world as we know it. Remember that the US enjoyed great prosperity during the late nineties as Asia blew up, Japan was in the doldrums and Europe was barely moving forward. Oil came down to below $10 a barrel, provided us with cheap commodities and exports from all these regions. A slowdown in Europe will provide enough inflationary slack for emerging economies and the US to push forward without indulging once more in the recent inflationary fears. While we’re at it, thanks Trichet! I can barely believe I’m thanking the economically rigid Europeans.

You see, the European Central Bank (ECB) has the unique mandate of maintaining price stability, while the Fed has a balanced mandate of ensuring employment, stable prices and moderate long-term interest rates. So Trichet’s hawkishness effectively slowed down Europe and brought down some of its inflationary pressures. As this becomes more and more apparent, he’ll have to start dropping interest rates. The all-too old trade of long Euro/short US Dollar is sharply being reversed from its own overshoot. And since Europe is slowing, so is its demand for energy and oil (quoted in US Dollars). Thus, as the Dollar rallies, oil necessarily becomes cheaper.

But the “dirty little secret” about oil company valuations is that the oil prices that these companies use internally for their feasibility projects and the long-term oil prices that Wall Street has been using for their valuation models are still well below today’s prices. In the meantime, energy stocks have sold off to levels at which we were buying them when oil was at much lower levels. Hence, the buying opportunity that we are taking advantage of by going into the Energy Select Sector SPDR (NYSE: XLE), which is sitting at strong technical support levels.

Just watch the charts of the oil sector index (OIX), or Chevron, for example, which I recommended in our MoneyMorning.com free column recently, and you’ll see the amount of buying interest for a market leader that reported earnings with few short-term hitches and will be expanding its oil production, and you will realize that the serious money is buying them in bulk here.

And the same logic that we are seeing in energy is applicable to steel, with the added advantage that the steel sector is an intense user of energy. So this temporary respite in commodity prices will balloon next quarter’s profits for all our Market Vectors Steel ETF (SLX).

Enjoy and profit,

Horacio Marquez

P.S. Don’t forget to watch the Olympic opening ceremony tonight.

All Shadow StockTrader recommendations will be posted on the Monument Street Publishing website. Simply go to http://www.monumentstreetpublishing.com and click on “Money Shadow Stock Trader.”

Stock

Current Price

Comments

Energy Select Sector SPDR (XLE)

$70.97

Buy

Market Vectors Steel ETF (SLX)

$79.23

Buy

iShares MSCI Emerging Markets Index (EEM)

$41.08

Buy

Vanguard Financials ETF (VFH)

$41.53

Buy

iShares MSCI Australia Index (EWA)

$23.92

Buy

All Money Shadow Stock Trader recommendations are posted on The Monument Street Publishing website – www.MonumentStreetpublishing.com Just click on ‘The Money Shadow Stock Trader’

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