Current Comments
June 6, 2008
We have noted several trends over the past few years, that have generally persisted, perhaps with some ebbs and flows: 1) the ingredients for the weakening of the exchange value of the dollar, and the likely increase in the price of gold, 2) the increasing relative scarcity of petroleum supplies. During the first quarter, the salient development was the dramatic rise in petroleum prices. And, correspondingly, the average energy firm share price gained about 27% over the previous twelve months, . Petroleum prices have increased markedly, up over 6 fold over the past ten years, and have come crashing through the attention span of the average American. Petroleum consumption behavior is being affected, and the Southern California freeways are less crowded. And, some of the petroleum company charts are beginning to look like the uptrends in shares prices are thinking about topping out.
We view the relative value of natural gas as an investible trend. On a BTU basis, about 5.5 – 6.0 mcg of natural gas is equivalent to one barrel of oil, yet currently it sells for only about 1/10th of the price of a barrel of oil. Natural gas is relatively undervalued.
So petroleum price rises have led to a decrease in quantity demanded, but more than that, we are in a two year window of transition, and as we emerge, the parameters will not be the same. Currently, the sharp price increases are leading to perceptible and noticeable decreases in quantity demanded, and in two years, the technology and economic function parameters will be different.
People will increasingly conserve, find substitutes, and develop alternative technologies, as yet not fully known. People will use less energy per dollar of GDP. China and India will still be growing, even if they temporarily cut back energy demanded. But their economic growth will eventually have the same inexorable push against supply.
The “sub-prime crisis” moves on, as certain asset prices are adjusted downward. We underestimated the domino effect of this, although our clients have generally not been materially affected. Perhaps more downward adjustments lie ahead.
A large risk remains the likelihood that Bush and Israel wish to attack Iran, Israel's Prime Minister recently saying that they have “No alternatives.” I noted in last letter that Matthew Simmons, author of Twilight in the Desert, recently spoke at Cal Tech. Matthew Simmons said that, given their petroleum reserves, it was quite rational for Iran to want to develop their ability to produce nuclear energy. This is contrary to many statements from our current leaders and media.
The West has changed the government in Iran three times in the past 100 years, so they know that if we’re serious, we know how to do it. We thought developing nuclear weapons was a good idea to help protect our freedom and independence; they may think so too. We appear to already have troops within Iran. Somewhere along the line, a great many people have forgotten that an act of war requires Congressional consent, according to the Constitution, and they don’t t seem to care.
The deterioration of the exchange value of the dollar may have taken a brief pause, but the elements remain for its continuation. But we are beginning to become cheap for some foreigners. They have to put those dollars someplace.
Thank you for your continued confidence.
Gary N. Clark, CFA