Riske Business July 2007

In last month’s column we talked about dividends and the power of compounding over time.  This column will also tell you about juicy dividends, but we’ll also get into the specific investments of a new bull market and the extra boost dividends in stronger currencies can bring.

   Add this all together and you’re in for a rocket ride.
   As an American concerned with mostly American-based investment decisions, it is important to remember that a combination of rising US long-term bond yields and a slipping US dollar value is the worst possible scenario for foreign central banks holding a mountain of currency reserves mostly in US$.
 
  Since my last column, US interest rates have risen sharply.  They’ve broken important long term resistance leading market technicians to say “The 24 year long term bond bull market is over.”  As I write this the interest rate on a 30 year US Treasury bond has risen from 4.63 percent to 5.25 percent in only 3 months.  Remember, when interest rates rise, the value of the long bond declines.  With the US Dollar declining in value while bonds decline at the same time, the Chinese, Japanese and Middle Eastern oil countries will be looking to diversify their currency holdings.

   A few years back I began to ask, “What will the Chinese do with all the US money they’re accumulating?”  That was when the Chinese held “only” $800 billion.  Now the Chinese hold more than $1 trillion and rising fast.  In May ‘07, China’s trade surplus was US$ 22.5 billion, up 73 percent over the same month last year.  The US has become one of China’s leading sources for goods, but the entire year last year saw only about $50 billion worth of U.S. exports to China, so you can see that trade is vastly out of balance.  By itself, that is not a problem, but with the deflating value of the US dollar along with rising US interest rates, the central bank of China is suffering a double whammy loss on its US bond holdings.

   We won’t spend time talking about what to do in response to this gigantic trade imbalance but instead we will ask the burning question:  What is China going to do with all those US dollars?
   China needs raw materials in order to continue to fill American orders for consumer goods, so I’ve come to think that China will seek to own as many of the finite resources as possible, namely mines and energy holdings. 

There are several advantages to the Chinese: 
1.) raw commodities are the first to experience a price rise during inflationary times so wealth value is retained;
2.) in times past, gold and silver as finite resources have been tied to paper currencies in order to limit the amount printed, and while this will undoubtedly become the case again, in the meantime other useable finite resources will become the defacto protection from money printing;
3.) witness the bull market in Canadian currency vs: the US dollar, which shows  that so-called “resource currencies” are sought after by currency holders;
4.)  the United States owes trillions of dollars, plus Congress and presidential candidates have promised trillions more than the US is capable of paying, therefore the US will continue to inflate its currency, the same solution chosen by Germany after WWI, which led to hyperinflation;
5.) the United States will continue the war in the Middle East and South America, thereby calling for even more paper currency to pay the bills;
6.) no foreign nation is allowed to make U.S. military equipment.  All 50 states have military machine production and all will accept any amount of US paper currency;
7.) war is a voracious user of metals and energy;
8.) David Walker, Comptroller of the United States, talks about the reckless borrowing from foreign countries to pay for running the US government plus the “demographic tsunami” that will arrive when the baby-boom generation is ready to retire, calling for even more inflation; and
9.) a mine is not easy to find, then there are the approvals by its neighbors, so it takes years to bring a mine into production.

   If you are convinced, as I am, that the future of America’s economy will be much higher price inflation and that raw commodities will be the first to experience inflationary price increases, then you will want to explore with me the business of metals extraction, all the while looking for mining operations that pay a hefty dividend so we can reinvest our dividends while holding the stock.

   Let’s begin with Southern Copper Corp (PCU).  The price of a share of PCU bottomed on October 29th, 2002, at $4.475 per share and that year PCU paid about 14 cents per share in dividends, or 3 percent.  On May 14, 2007, PCU closed at $85.09 per share and paid a dividend of $1.50 that day.  In all of 2006, PCU paid a total of $5.12 dividends per share.  At mid-June, PCU closed at $93.52 per share with a 6.42 percent annual dividend.  With these kinds of earnings plus share appreciation, who cares about inflation?

   Next let’s peek at Aluminum Corp. of  China (ACH).  In 2006, ACH closed the year at $23.50 per share and paid a total of $1.255 per share of dividends for an annual return of around 5 percent.  This year ACH has paid 37.6 cents per share so far and the price is currently about $42.50.   ACH has a P/E of 9 and it’s selling for about half of book value with $1 1/2 billion dollars in cash.  The Chinese market has gone parabolic though, so be careful with this one.  On a two-year weekly chart ACH is just catching up with PCU.
   My overall favorite mining stock is Billiton Ltd. (BHP) because it is like a mutual fund of mines.  BHP is a leading supplier of core steelmaking raw materials, the world’s third largest copper producer, the world’s second largest exporter of energy coal, the world’s third largest producer of nickel, the world’s fourth largest producer of uranium, the world’s sixth largest producer of primary aluminum and a significant producer of diamonds, titanium minerals, silver, oil and natural gas. 

   Expect the Chinese to make an offer for BHP, possibly $200 billion or more.  Most of BHP’s shares are held in Australia, so the U.S. could do little to stop the takeover.

   Finally, let’s learn to explore mining stocks on the Australian Securities Exchange (ASX) together.   One of my favorite pure nickel plays (nickel is an ingredient along with iron to make steel) is Jubilee Mines (JBM) of Australia.   First go to www.asx.com.au, then enter the symbol JBM and you will retrieve information about Jubilee Mines.  You may buy the stock using the international desk of your stockbroker.

   Riske Business:  Since 1970, the world’s money supply has grown at a rate 20 times that of industrial production.  Correspondingly, and not surprisingly, gold and oil have risen 20 fold over those 27 years.  After Nixon’s 1971 elimination of convertibility, there was no longer any constraint on the number of dollars that could be printed (other than a moral one).

   The U.S. economy is now so leveraged through the banking system and the use of derivatives that the ratio of debt to Gross Domestic Product is at its highest level ever, close to 350% compared to the previous record peak of 290% in 1929.  -Richard Reinhard  

Riske began his entrepreneurial career with a waterbed store in Grand Forks in 1971 called The Walrus. Walrus Waterbeds was sold to HOM Furnature in 1984. Currently Riske is owner of Take Two Video, Take 2 Express, MJ Capelli Family Hair Salons, VidCycle and Sunseekers Tanning Salon. Riske is not a licensed financial advisor and those seeking investment advice should consult with a licensed financial advisor. To contact Riske, email marty@fmbizjournal.com 

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