Chris has gone all Zen in this piece. But it’s a good reminder that successful stock-market investing isn’t all about instant gratification.

The 30-Year Timber Investment Race

By Christopher Hancock

Recently, my father-in-law hired a timber consultant to appraise the value of a large tract of timber he’s planning to harvest along the Mattaponi River in central Virginia. Before we went to meet this fellow, my father-in-law told me, “This guy’s been in the business for years — he knows his stuff.” But I wondered…

On a damp Saturday morning, as we walked through a stretch of towering beech trees, I asked the timber man which species he’d recommend we plant following the projected harvest. He didn’t hesitate for a second. “Loblolly pines.”

Now, I have no particular prejudice against pine trees. They just happen to be soft and cheap. They lack any real material quality other than providing an inexpensive source for framing brick-faced Dutch Colonials or serving as the Christmas centerpiece for millions come December.

So I asked: “Would you consider planting black walnuts?” I didn’t know the exact price difference, but I know black walnuts are worth considerably more than any species of soft Virginia pine.

“Black walnuts? You wouldn’t want to do that,” he said. I pressed him for a good reason. He rubbed his beard for a second. “Black walnuts take twice as long to grow. You’ll have to wait more than 30 years before you ever see any cash from that type of tree. You can harvest loblollies in half that time.”

I felt like the third-grader who truly believes his teacher when she assures her class that there’s never a “dumb question.” Nine out of ten quickly comprehend the meaning. There’s never a “dumb question” – as long as that question does not challenge the teacher’s all-knowing authority on any and all matters. One student, bless his heart, always takes the bait. At that moment, I was that student.

Since timber contracts usually entail a great deal of money, I kept digging – much to my father-in-law’s chagrin.

“How much would a mature loblolly pine sell for?” I asked.

“About $100.”

“And what about a mature black walnut?”

“Well, you could probably sell a good walnut for $1,000,” he presumed. “But you’ll never see that money,” he chuckled. “Maybe your children will.”

Is that fact so easy to dismiss? First, let’s be clear that timber investments are no different from stock, bond or even housing investments. In each case, you expect the asset in question to produce an adequate return over some designated period of time.

In this particular case, the question whether to plant pine or black walnut pivots around the individual’s particular investment time horizon. Loblolly pines mature roughly twice as fast as black walnuts. So someone who plants a pine receives twice as many cash flows as the man who plants walnut. But let’s consider the quality of those cash flows…

If a single walnut were worth exactly twice as much as a loblolly pine, the decision to opt for pine would be quite easy. But a single walnut generates approximately 10 times the cash flow of a single pine. Meaning over a 30-year period, a walnut harvest will generate five times the return as an investment in pine.

The 30-Year Timber Investment Race:

Pine: $100 per tree x 6 harvests = $600
Walnut: $1,000 per tree x 3 harvests = $3,000

For many, the decision to opt for walnut seems self-explanatory. Why then do most landowners opt to plant loblolly pines?

What happens when the majority of hardwood forests are being replaced with pine? The exponential supply growth of pine forests is bound to affect the price of a single tree 15 years down the road. And it won’t be to the upside, come harvest time.

Meanwhile, the dwindling supply of 30-40-year-old black walnuts will, assuredly, drive up the market price for the precious hardwood.

These are the long-term economic conditions my father-in-law must consider.

We tend to believe that the overwhelming, seemingly unquestioned conviction to plant pine demonstrates a growing trend among all investors today.

There’s a new investing generation. A generation weaned on the bottle of instant gratification. The stock market, for its part, has become the speculator’s lottery ticket. The evolution of complex financial instruments, cheap credit and a material-obsessed society formed this trend.

One of the more unique aspects of American culture, we believe, is class mobility. Americans tend to believe in their capacity to rise above the class to which they were born. In fact, this concept has been infused into our society from the very beginning. Our political icons constantly remind us of achieving the American Dream and becoming an “ownership society,” as if to say that when you do better and achieve more, you will find happiness.

Many Americans believe in the interminable joys associated with great wealth. They think that the sooner they achieve fame and fortune, the sooner they will enter the exclusive club of perpetual nirvana.

But wealth creation takes time, while asset price inflation takes a loose central bank. So America has chosen asset price inflation over true wealth creation. The speculator has replaced the investor. We day trade, flip condos and buy options.

Instead of picking up a copy of Benjamin Graham’s The Intelligent Investor, today’s investor shuns returns below double digits. Earning 9% won’t cut it if someone else is earning 10%. Stock markets have morphed to symbolize divine measures of prosperity in every form. And when Mr. Market doesn’t treat you well, you turn to Dr. Fed. And with the flip of a switch, he can quickly whip Mr. Market back into shape, or so we’ve come to believe.

The concept of wealth creation is Free Market Investor’s core theme. Our friend Marc Faber wisely points out, “It is important to distinguish between wealth creation arising from increased market valuation (asset inflation) and wealth creation through saving and investments.”

As my former colleague the late Dr. Kurt Richebächer opined:

“American economists have never been as strict as European economists in making this distinction in wealth creation between rising market valuations and rising capital stock through saving and investment. Yet what has happened lately in this respect puts economic reason on its head. Protracted house price inflation, deliberately engineered by the Fed, is presented to the public as a virtually wondrous new policy stance in creating wealth and economic growth. It is hard to believe that such a grotesque perception is possible.”

Focus for one moment on the premise that societies accumulate wealth slowly over generations. A true return on invested capital, like a tree growing in a forest, takes time to bring to fruition. Some investments, naturally, produce better returns than others. The key: Find the investments that have the potential to produce the greatest returns with an acceptable level of risk. When those investments trade for less than their intrinsic value, the potential for above-average returns can be fully realized.

In the case for cultivating the black walnut, the asset most timber investors lack is the patience to sit quietly and let their superior investments develop.

If market timers and the financial media followed this advice, many people would find themselves searching for other work. Instead, many investment professionals make a handsome living opining the ebbs and flow of quarterly earnings guidance, despite the fact that 59% of Wall Street’s “consensus” earnings forecasts miss the mark by a mortifyingly wide margin. In such a world, a good timber company can easily go unnoticed.

Regards,

Christopher Hancock
for The Daily Reckoning

P.S. Luckily, here at Free Market Investor we are hard at work finding you the next great timber company. And for a very limited time, you can get Free Market Investor, along with every single newsletter and options research service Agora Financial currently publishes for as long as we publish them.

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Source: The 30 Year Timber Investment Race

For more than 200 years, free trade, low taxes, open markets, stable currencies and minimal government intervention benefited all. The citizens of Stuart and Hamlin prospered.

One day, a fertile iron mine in the heart of Stuart runs out of ore. So Hancock Steel, the nation’s largest integrated steel producer, must turn to other sources. Unfortunately, the next great domestic iron deposit rests 2,000 miles away. Transcontinental rail freights aren’t cheap. Hancock’s production costs rise. To stay profitable, management pushes these costs to the end-user. Steel prices double.

The Garland Motor Co. depends on Hancock’s refined cold-rolled products to produce lightweight body panels for its automotive fleet. Steel prices dramatically affect the auto industry’s bottom line. Higher domestic prices force Garland to import less expensive steel from Hamlin producers.

Hancock’s sales plummet. Layoffs ensue. Steel workers with mouths to feed form a union. They lobby their national politician. The politician needs their vote. He asks for a few favors. Within days, the Democratic Nation of Stuart slaps a tariff on Hamlin steel. Garland Motor reverts back to Hancock. The steel union celebrates.

The SUVs rolling off Garland’s assembly lines now cost more to produce. Car prices double. Unfortunately, most consumers can’t absorb the price hike. They turn to cheaper imports from Hamlin. Garland’s sales drop. The company cuts costs. Once again, layoffs ensue.

Unemployed autoworkers quickly lobby political support. Their politician acquiesced on the steel pact. Now he demands mutual legislative support. Stuart slaps Hamlin with another tariff.

Now the good citizens of Hamlin get testy. For years, trade between the two countries prospered. But Stuart’s protectionist ways inflame national pride. The citizens of Hamlin demand retaliation.

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You see, for years, Hamlin has reaped the benefits of Stuart’s abundant forests, forsaking local producers. But no more… The Independent Republic of Hamlin retaliates with a massive tariff on imported timber. Hamlin’s high-cost producers rejoice.

Unfortunately, construction costs rise nationwide. New home sales fall. Layoffs now engulf mortgage brokers and construction workers. The entire Hamlin economy slows.

Meanwhile, Stuart’s logging industry contracts. The cycle continues. Prices on all economic goods and services (steel cans, cars, houses, etc.) continue rising the world over. Both economies contract. Unemployment rates rise. A global recession results.

Once again, the world turns to politicians for a solution. Elected officials in both countries reach for the quick fix. They appease the unemployed via subsidies (taxpayer money).

Unfortunately, there’s no such thing as a free lunch. For the sake of maintaining a balanced budget, subsidies require more government revenue. More revenue means more taxes. Higher taxes inhibit domestic growth. Less growth means fewer jobs.

Unemployment rates keep rising. The citizens of Stuart and Hamlin find themselves back at square one.

However, a Stuart-educated economist – let’s call him Cain – steps up to save Round Hill from total economic meltdown. He suggests that massive deficit spending (on public works) will increase aggregate demand. Laidoff workers from the mills, factories and forests will build roads, bridges, schools and dams. The unemployed will effectively be hired in service to the state. They’ll use their wages to buy houses and cars. In turn, these industries will demand more iron, steel and lumber. The whole economy prospers. The recession ends. The government effectively solves the paradox of full employment.

It’s simple, Cain explains. Think of deficit financing as using a credit card to get you through a rough month.

Stuart’s legislative body takes the bait. Stuart’s treasury revs up the printing press. Within weeks, the government awards contracts to engineering firms nationwide. With the push of a button, corporate bank accounts are overflowing. The construction industry takes off. Everyone in Stuart receives a paycheck. Cash seemingly falls from the sky.

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The first two years are bliss. But eventually, the 1-1 gold parity of Stuart’s currency (the bandit) feels the heat. The printing press has injected too much paper money. M3, Stuart’s fullest measure of the base money supply, keeps growing at a 12% per year clip. The market now requires two bandits for a single ounce of gold – effectively lowering the bandit’s value by 50%. Prices for milk, bread and eggs start rising. In fact, they begin rising faster than domestic wages. Inflation fears start to percolate.

But currency devaluation brought some unanticipated benefits. Stuart’s export industry re-emerges. The cheap bandit means cheap exports sail from Stuart ports. More exports create more jobs. More jobs mean more votes. Political pressure to keep the money flowing keeps rising like the waters that carried Noah.

Stuart’s president, Robert Chatham, faces a dilemma. On one hand, unemployment rates have reached historic lows. The economy keeps humming. On the other, inflation fears keep mounting. Saving the bandit will ensure the emergence of inflation’s ugly cousin: deflation (the opposite of inflation, promising a decrease in the general price level). Recession will surely follow.

Chatham’s dream of a second term falls like a dead leaf in a dry wind.

Meanwhile, across the sea, cheap imports from Stuart cripple Hamlin’s industrial base. As Stuart’s economy takes off, Hamlin’s unemployment rate soars to record highs.

Hamlin’s politicians have no choice. They quickly follow Stuart’s lead. Seemingly overnight, Hamlin precipitates currency devaluation. Depreciation ensures currency parity once again. Imports from Stuart subside.

In a perfect world, the two countries would save their respective currencies. But they live in an imperfect world. As do we.

Regards,

Christopher Hancock

P.S. Just like Christopher’ s story, the US economy is going through volatile times with inflation, energy and politic issues all while embarking into a recession. It’s highly inevitable that we will see waves of layoffs… leaving pensions and 401k’s in jeopardy…

Source: A Tale of Two Countries

And if you thought things couldn’t get any worse, the Financial Times reported on Monday that U.S. mortgage rates soared last week amid a sharp rise in Treasury market yields. Make no mistake, inflation’s back. A Volker-like response may seem alarmist, even far-fetched, to many. However, investors are bracing for the Federal Reserve to raise rates going forward.

At least those rate increases could help U.S. Treasury Secretary Paulson fulfill his recent promise to “defend the dollar.” Secretary Paulson is on the final day of a four-day trip to Saudi Arabia, Qatar and the United Arab Emirates to negotiate currency and economic issues (i.e., a supply increase) from members of the OPEC cartel.

Shall we say America’s relationship with OPEC is a bit strained? Perhaps we’ve stayed a bit too long and expected a bit too much. The greenback keeps sliding down a cliff. Oil-producing states holding their dollar currency pegs are importing more and more inflation. At some point, both parties must reconcile that M3 – the fullest measure of U.S. money supply – can’t outpace a nation’s GDP forever.

Regardless, the Fed seemed content to exchange $16 billion worth of Treasury notes for mortgage- and asset-backed securities last Thursday. In its 10th Term Securities Lending Facility (TSLF), the Fed gave desperate investment houses another chance to dump their worthless derivatives for good ol’ American IOUs. To date, brokerage firms have dumped $175 billion on the Fed’s balance sheet.

Even holders of the mighty euro are feeling the pinch. We read in The Economist last week that customs seizures of counterfeit goods rose by 17% in the EU last year. Cigarettes and clothing accounted for more than half the sham gear seized.

It seems like desperate times call for desperate measures. And the masses, desperate for answers, call on politicians for help.

And any political production worth its salt has three main characters: the hero, the martyr and the villain. Heroes (politicians) need a martyr (America’s middle class) and a villain (oil companies) – and, if they’re lucky, a super villain (foreign oil companies).

Our colleague Eric Fry sums it up best: “When share prices soar, we call it a ‘bull market.’ When home values soar, we call it ‘healthy price appreciation.’ But when oil prices soar, we call it ‘speculation’ and ‘manipulation’…and then we gaze around for someone to blame.”

The members of Congress recently convened a special hearing to berate, rebuke and ridicule executives from five major oil companies. Each congressional inquisitor took a turn excoriating the oil companies for daring to earn a profit, especially when so many Americans have so little money. It just isn’t fair.

A few months earlier, you may recall, Congress invited the heads of America’s leading financial institutions to a little tête-à-tête. During that encounter, the congressional inquisitors took turns admonishing the finance CEOs for feathering their nests a bit too lavishly. But none of the execs in attendance drew much criticism for frittering away billions of dollars of shareholder wealth.

Therefore, the essential message from the nation’s top lawmakers is clear: Losing billions of dollars of shareholder wealth is a bad thing, but not nearly as bad as adding billions of dollars to shareholder wealth. In fact, earning billions for shareholders is such a bad thing that it must be legislated away or taxed into extinction.

Where were the nation’s top legislator-inquisitors when the NASDAQ bull market of 1999 and 2000 was powering higher? Where was the outrage over the “speculation” that produced obscene “windfall profits” for the Wall Street firms?”

We’re not so sure. But we continue to see that many in the West want to go through life pretending they’re still the greatest story never told.

It comes as no surprise. From Dutch tulips to dotcoms, people fool themselves into believing it’s “different” this time.

It’s never different this time.

Christopher Hancock
for The Daily Reckoning Australia

P.S. to get The Daily Reckoning direct to your inbox sign up to our free e-mail newsletter or if you prefer to use RSS, subscribe to the Daily Reckoning RSS feed.

Source: Congress Berates, Rebukes and Ridicules Executives from Five Major Oil Companies

Gas prices hit another record high. Soaring food prices ignite riots the world over. It should come as no surprise that a 71% increase in food prices since 2006 has the good citizens of South Africa, Morocco, Egypt, Ethiopia, Bangladesh and Mozambique up in arms.

And if you thought things couldn’t get any worse, the Financial Times reported on Monday that U.S. mortgage rates soared last week amid a sharp rise in Treasury market yields. Make no mistake, inflation’s back. A Volker-like response may seem alarmist, even far-fetched, to many. However, investors are bracing for the Federal Reserve to raise rates going forward.

At least those rate increases could help U.S. Treasury Secretary Paulson fulfill his recent promise to “defend the dollar.” Secretary Paulson is on the final day of a four-day trip to Saudi Arabia, Qatar and the United Arab Emirates to negotiate currency and economic issues (i.e., a supply increase) from members of the OPEC cartel.

Shall we say America’s relationship with OPEC is a bit strained? Perhaps we’ve stayed a bit too long and expected a bit too much. The greenback keeps sliding down a cliff. Oil-producing states holding their dollar currency pegs are importing more and more inflation. At some point, both parties must reconcile that M3 – the fullest measure of U.S. money supply – can’t outpace a nation’s GDP forever.

Regardless, the Fed seemed content to exchange $16 billion worth of Treasury notes for mortgage- and asset-backed securities last Thursday. In its 10th Term Securities Lending Facility (TSLF), the Fed gave desperate investment houses another chance to dump their worthless derivatives for good ol’ American IOUs. To date, brokerage firms have dumped $175 billion on the Fed’s balance sheet.

Even holders of the mighty euro are feeling the pinch. We read in The Economist last week that customs seizures of counterfeit goods rose by 17% in the EU last year. Cigarettes and clothing accounted for more than half the sham gear seized.

It seems like desperate times call for desperate measures. And the masses, desperate for answers, call on politicans for help.

And any political production worth its salt has three main characters: the hero, the martyr and the villain. Heroes (politicians) need a martyr (America’s middle class) and a villain (oil companies) – and, if they’re lucky, a super villain (foreign oil companies).

Our colleague Eric Fry sums it up best: “When share prices soar, we call it a ‘bull market.’ When home values soar, we call it ‘healthy price appreciation.’ But when oil prices soar, we call it ’speculation’ and ‘manipulation’…and then we gaze around for someone to blame.”

The members of Congress recently convened a special hearing to berate, rebuke and ridicule executives from five major oil companies. Each congressional inquisitor took a turn excoriating the oil companies for daring to earn a profit, especially when so many Americans have so little money. It just isn’t fair.

A few months earlier, you may recall, Congress invited the heads of America’s leading financial institutions to a little tête-à-tête. During that encounter, the congressional inquisitors took turns admonishing the finance CEOs for feathering their nests a bit too lavishly. But none of the execs in attendance drew much criticism for frittering away billions of dollars of shareholder wealth.

Therefore, the essential message from the nation’s top lawmakers is clear: Losing billions of dollars of shareholder wealth is a bad thing, but not nearly as bad as adding billions of dollars to shareholder wealth. In fact, earning billions for shareholders is such a bad thing that it must be legislated away or taxed into extinction.

Where were the nation’s top legislator-inquisitors when the NASDAQ bull market of 1999 and 2000 was powering higher? Where was the outrage over the “speculation” that produced obscene “windfall profits” for the Wall Street firms?”

We’re not so sure. But we continue to see that many in the West want to go through life pretending they’re still the greatest story never told.

It comes as no surprise. From Dutch tulips to dotcoms, people fool themselves into believing it’s “different” this time.

It’s never different this time.

Regards,

Christopher Hancock
for The Daily Reckoning

P.S. Our advice: Embrace the madness. We here at Free Market Investor are hard at work finding our next great way to profit in the face of this U.S. foolery. And for a very limited time, you can get Free Market Investor, along with every single newsletter and options research service Agora Financial currently publishes for as long as we publish them.

Source: Inflation´s Back: Embrace the Madness

A dozen or so gun-laden soldiers from China’s People’s Liberation Army (PLA) stood quietly among the customs agents at Lo Wu Station. The KCR East Rail, the commuter train that left Hong Kong at Tsim Sha Tsui 45 minutes prior, pulled in for its last stop. Shenzhen, once a remote Chinese fishing village nestled peacefully at the mouth of the infamous Pearl River Delta, towered in the distance.

My friends and I exited the train onto the long, cracked concrete platform. A drainage stream littered with rusty steel barrels trickled by. On the northern bank, a retaining wall backed by an even more daunting barbed wire fence served to support the numerous lookout posts dotting China’s most traversed southwestern border. This wasn’t the Rio Grande.

Lo Wu is called a “control point.” I imagine the Chinese authorities used the Korean DMZ as a suitable inspiration.

Consequently, I saw no need to draw the army’s attention. My friends, Western journalists from Hong Kong, certainly weren’t the red-carpet type. So we hung back, letting the hundreds of Chinese scurry by.

The rush for customs ensued. The soldiers, dressed in their long pea-green military topcoats, suspiciously surveyed the masses. And the masses nudged to and fro, like cattle in a stockyard, hoping to find the most expedient line to re-enter the mainland.

My fire engine red North Face duffel bag drew some stares, but Western garb doesn’t fascinate as much in Shenzhen as it would in the more remote, rural regions of northern China. After all, I should thank some among the Chinese hustling all around me for stitching it together. That’s probably also true for just about every item of pure Americana attached to my privileged self. And if the Chinese didn’t construct the authentic item, they could easily point me to an alley where I could haggle the repro.

Shenzhen, Deng Xiaoping’s first attempt at capitalism, Chinese-style, received the elevated status of China’s first Special Economic Zone (SEZ) in 1980. Seemingly overnight, factories popped up along the hot, humid delta like a nasty, uncontrollable case of Southern kudzu. Naturally, more factories required more transportation. Shenzhen became the world’s fourth busiest port by 2005.

Within 20 years, market reforms turned a relatively remote city the size of Green Bay, Wis., into an industrial and financial powerhouse on par with Chicago.

Wal-Mart shelves and Christmas mornings in the West have been built on a 90-hour, six-day workweek in the East. The last 20 years of growth have produced more than 90,000 export-oriented processing firms on the mainland, with nearly 70,000 based in Shenzhen’s Guangdong province alone.

It’s no wonder Chinese officials fear what a slowdown in the export economy may bring. Domestic growth and stability have risen with Chinese workshops. And make no mistake, the first three long-term domestic priorities on Beijing’s list are and will remain stability, stability and more stability.

The yuan-dollar peg has gone a long way in ensuring constancy. Chinese economic growth – we would argue, all economic growth – ensues under the auspice of a stable currency.

But ties to the greenback have recently come with a price. American policymakers have facilitated a weak dollar. The Fed, for its part, announced another $200 billion injection on March 11. Its most recent funding equals the $200 billion Bernanke set free on March 7. For its part, the dollar didn’t know what to think ($400 billion in four days). Or else, it’s in a rather cruel denial.

For the first time since Word War II, owning U.S. Treasuries is a riskier bet than owning German bonds.

On the basis of credit default swaps, which are used to speculate on a government’s ability to repay debt, the 10-year note reached a record high of 16 basis points on March 12. German bonds traded at 15 basis points, also a record. A decline in these spreads shows improving confidence in the government’s ability to pay…an increase shows the opposite.

“That’s certainly eye-opening,” writes our esteemed colleague Chris Mayer. “The market consensus is that you stand a greater chance of default investing in U.S. Treasuries than in German bonds.”

Officials in Beijing must keep shaking their heads. China holds more than $387 billion in Treasury securities.

For China, a weak dollar makes critical imports (wheat, corn, iron and soy) more expensive. Expensive imports mean higher prices. Higher prices mean more inflation. More inflation means less stability.

Chinese Premier Wen Jiabao addressed the equal and opposite reaction on the other side of the planet.

“The primary task for macroeconomic regulation this year,” he decreed, “is to prevent fast economic growth from becoming overheated growth and keep structural price increases from turning into significant inflation.”

In his annual policy speech to China’s legislators, Wen clearly labeled rising commodity prices and the subsequent food shortages as China’s No. 1 policy issue for 2008.

So Beijing finds itself in a bind.

Going forward, yuan appreciation would certainly help alleviate rising prices (commodity imports would be cheaper). Export dependence, however, has thwarted this policy. On the other hand, protecting the export industry by enforcing a close yuan-dollar peg only intensifies further inflation as the dollar continues to slide.

In the meantime, Beijing has turned to price controls. But price controls are nothing more than a short-term stopgap. Price controls disincentivize ample production. Shortages ensue. Prices, therefore, rise even higher.

Beijing may have hope. China’s appetite for consumption keeps growing. We see signs that China’s GDP growth is no longer so export dependent.

Of course, that’s assuming there’s a paycheck to spend. The Labor Department reported on April 3 that new applications for unemployment insurance jumped 38,000, to 407,000, at the end of March, a two-year high. Some analysts estimate the unemployment rate may reach 5.5%.

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If that weren’t enough, oil has topped $110. Prices at the pump hit $3.28, another all-time high. Meanwhile, the nation’s truckers prepare to strike. According to reports, many truckers are operating at a loss when diesel prices rise above $4 per gallon. To protest rising fuel costs, a group of big rig operators engineered a massive traffic jam on the New Jersey Turnpike. They monopolized all lanes, geared down to 20 mph and crept from the Big Apple like floats in a holiday parade. Similar protests clogged Chicago and Atlanta. It feels, dear reader, like an emotionally debilitating chapter from Atlas Shrugged.

We take these protests very seriously. After all, the health of the American economy rests on the ability to move goods to and fro. Like shipping, trucking still serves as the world’s economic circulatory system. This business connects the world in ways high-tech never will. Trucking is, and will remain, irreplaceable on the world stage. We cannot live without it.

Trains and planes, by nature, have limited reach. Railroads lead to rail yards. Airplanes fly to airports. Ships, for their part, carry goods to the to the tidewater’s edge, but no further. In each case, commerce depends on the truck to finish the job.

Truckers will demand higher wages to offset higher costs. Higher wages will require the goods they haul to be sold at higher prices. You get the idea. And this scenario discounts a major disruption to world oil supplies. A militant group truly determined to thwart the American dream wouldn’t have to leave the Middle East. Ask policymakers which asset they covet more: The Green Zone or Saudi oil production?

Treasury notes and bonds yielding 3-4% may appear a safe haven in today’s market environment, but they are a long-term investment I would strongly advise you to avoid. It’s better to own a diversified portfolio of stocks — especially stocks that have the ability to pass through price increases and those levered to long-term investment cycles, like energy, natural resources and infrastructure stocks. They might be rocky in the short term, but they should far outpace bonds over the next five-10 years.

Therefore, we argue that it never hurts to hold a major refiner.

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America’s limited refining capacity ensures tight supplies. It’s no secret that the U.S. hasn’t built a new refinery since 1976. Why? Keep in mind that historically speaking, oil markets thrive on volatility. OPEC can effectively manipulate the price overnight. Consequently, many industry executives remain wary of risking the billions in capital investment needed for such expansions. Even as gas prices soar, companies wonder: What about five years from now? What about 10 years down the line? How will alternative energy affect the demand for petroleum products?

Others argue that tangible growth in offshore refining capacity can offset a lack of U.S. expansion. Maybe so. Or maybe Southeast Asian growth will absorb any and all extra supply. Maybe a decrepit old American refinery will explode or succumb to fire, restricting capacity even more. And maybe sound judgment will prevail, and the illogical, economically unfeasible solution better known as corn-based ethanol will lose its proverbial steam.

Whatever holds for 20-40 years down the road, our present situation remains inescapable: The world consumes about two barrels of oil for every new barrel it finds.

To think this can continue in perpetuity is delusional, a naiveté of convenience and nothing more. No amount of rationalization can convince a sober mind that one plus one equals three. If and when carbon-based fuels are replaced, we think the substitute will be just about anything but ethanol. But for now, the world still runs on oil.

But the real problem, dear reader, isn’t the absence of oil. It’s the absence of cheap oil.

Until next time,
Christopher Hancock

P.S.: My colleague, Byron King, is the true expert on anything that comes out of the ground, specifically oil. He just found a way for his elite Energy and Scarcity Investor to cash in on the oil rally. In fact, he has one way to actually tap an American oil reserve that’s three times the size of Saudi Arabia’s. Check it out here…