Good day… And a Thunderin’ Thursday to you! It may not be Thunderin’ where you are, but apparently it was yesterday in my little river town, as I heard we had some shingles blow off… And… It certainly is Thunderin’ over in the Eurozone this morning, I’ll tell you why in a minute. So, let’s get going don’t want to get caught in any of that Thunder!

I finished the last of my 3 presentations yesterday, and called it quits, as far as walking back and forth to the Conference Center. They’ll just have to do without me at the booth! But the presentation was good, I think, and I made some very important points. None of which, were brand new to Pfennig readers!

Once again yesterday, the currencies traded in a very tight range, with a bias to buy dollars… Something quite opposite to what we’ve seen in recent trading sessions. Earlier this morning, the Weekly Initial Jobless Claims printed at 637,000 (forecast at 610,000), so once again the euphoria that was in the markets last week with the thought that the U.S. was coming out of the recession is turning into hogwash… Oh, and the continuing claims, which to me is just as important as the new claims, rose much more than expected too at 6,560,000…

And, we’ve already seen the color of the PPI data this morning. (Not that it accounts for a hill of beans! In my opinion, that is!) PPI rose a bit in April, but nothing, according to the Gov’t., to be worried about, with regards to pipeline inflation… Yeah, right… The Gov’t also probably believes we are all dumb enough that we would have to be told what the answer to 2+2 is!

So… Regarding the Thunder in the Eurozone this morning… Reuters is reporting this morning that the: “ECB HAS REJECTED C.EUROPEAN CBANKS’ REQUEST TO ACCEPT LOCAL CURRENCY BONDS AS COLLATERAL – HUNGARIAN CBANKER KIRALY”

Recall that the European Central Bank (ECB) adopted Quantitative Easing two weeks ago, but there were some very important and powerful dissenting votes. For instance, the Bundesbank, Germany’s Central Bank, and the most influential Central Bank in the ECB, was totally against Quantitative Easing…

So… Now today, apparently, the ECB’s Quantitative Easing has a line drawn in the sand… And it’s for “members only”… ECB President, who just a week ago engineered a truce among Eurozone Central Bankers, will need to polish up his negotiating tools once again… While this is happening, the euro, gets hung out on a line.

Recall that I told you that the Swiss National Bank (SNB) was watching for currency appreciation, as they did not want the Swiss franc to gain. Because… The Swiss are fighting deflation, and a strong currency would fight inflation.. The SNB has said they would intervene if the franc got too strong… Well, this morning, an SNB official told the markets once again that he’s concerned with the franc’s recent strength… HEY! SNB! GET OVER IT! You should never, ever, not in a million years, want a weak currency… You should be careful what you wish for!

A reader sent me a story that is very interesting… Here’s the skinny, from the BBC… Japan’s opposition party said that it would refuse to buy U.S. Treasuries denominated in dollars, if elected… Whoa there partner! What’s this again?

The chief finance spokesman of the Democratic Party of Japan, Masaharu Nakagawa, told the BBC he was worried about the future value of the dollar.

“Japan has been a major buyer of US government bonds, helping the US finance its Federal budget deficits. But, he added, it would continue to buy bonds only if they were denominated in yen – the so-called samurai bonds. If it’s [in] yen, it’s going to be all right. We propose that we would buy [the US bonds], but it’s yen, not dollar.”

OK, before everyone begins to panic… Observers say that it is unlikely that Mr. Nakagawa’s party will win the forthcoming election in Japan. But… What happens if they get enough attention to this position? Could it be adapted by the winning party too? I don’t know… I tend to think no, as this would be a large reversal of current policy, and the Japanese aren’t known for major shifts of policy!

So… The main point of this exercise was to point out that it’s not just the Chinese who are running scared of the U.S. deficit spending…

Meanwhile, back at the ranch… This week’s data, so far, has really put the risk takers off balance, and risk aversion seems to be sneaking back into the markets… If that’s so, and we need a couple more days of this type of trading to tell for sure, then stocks will take a hit, and so will the currencies… Again… This is why I want this link to break… I’ve never seen it before and would hope to never see it again! Fundamentals! That’s what I want to see!

I’ve talked so much about Gold here in Las Vegas, and haven’t really touched on it much in the Pfennig lately, so… I’m here to change all that! With the stocks wobbling again, Gold gets some McLovin… The shiny metal pushed higher yesterday and overnight to settle in this morning at $924… While the stocks were getting bought, Gold had to take a back seat to the proceedings… But now that we’ve seen a few days of stock weakness… Gold gets to move to the front of the car! (Hey don’t forget to buckle up!)

A lot of people here at the Las Vegas Money Show are interested in buying Gold… But… They are all convinced that the U.S. is going to confiscate it again like they did in the 30’s… If I’ve told one of these people, I’ve told 100, that 1. in the 30’s Gold was a part of our money. Dollars were backed by Gold, and with the problems of the depression, the Gov’t needed to print more dollars, and thus needed more Gold to do so. That’s certainly not the case today, the dollar is no longer backed by Gold, and Gov’t sure doesn’t have any governor to hold back their printing of dollars! And 2. So, confiscation doesn’t do the Gov’t any good, unless they want to see thousands of people storming the White House with pitchforks and rakes!

And on that note… Let’s go to the Big Finish!

Currencies today 5/14/09: A$ .7550, kiwi .5905, C$ .8515, euro 1.36, sterling 1.5150, Swiss .9020, rand 8.58, krone 6.50, SEK 7.89, forint 212.15, zloty 3.29, koruna 19.7725, yen 95.65, sing 1.4650, HKD 7.75, INR 49.85, China 6.8249, pesos 13.27, BRL 2.0980, dollar index 82.60, Oil $57.33, Silver $13.92, and Gold… $924

Source: The ECB Clash Over Policy Again

The program – known as the “Innovative Medicines Initiative” – was unveiled in Belgium, and offers financial grants to both academic institutions and small companies to research ways of beating bottlenecks in the drug-development process. The work is “pre-competitive,” meaning it involves issues that are common to drug development, and doesn’t give any individual company a competitive advantage.

At one time, Europe was the worldwide center of drug development. But it’s fallen behind in recent years. A decade ago, seven of the world’s 10 newest drugs were being developed in Europe. But today that number has plummeted to only three.

“We hope to send a very clear signal to the world that Europe is getting serious again about being the centre of biomedical research,” Arthur Higgins, the chief executive officer of Bayer HealthCare and the president of the European Federation of Pharmaceutical Industries and Associations, told Reuters. “The greatest accolade will be if we are seen again as the pharmacy of the world.”

It will be a long-term process. Right now, it takes an average of 10 years and $1 billion to develop a new drug. The first research programs in the European initiative won’t start until next year and won’t generate “practical” results for a number of years.

The European Commission is to contribute $1.55 billion over the course of seven years, with major European pharmaceutical companies providing a similar amount – but “in kind,” meaning it will involve equipment and staff, instead of just cash.

The collaboration is the largest of its type in the world. Europe’s pharmaceutical industry has been campaigning for such an initiative for some time. The initial focus will be on diabetes, brain disorders and respiratory disease, with cancer and infectious diseases following later. The main goal is to discover better ways to predict the safety and efficiency of new pharmaceuticals. In that way, Reuters reports that it’s similar to the U.S. Food and Drug Administration’s so-called “Critical Path Initiative.”

Source: With a $3.1 Billion Program, Europe Hopes to Regain Position as Top Drug-Development Market in the World

President Nixon instated price controls on the 15^th of August, 1971. Inflation was a little over 4% at the time. Price controls manifestly did not work (resulting in shortages of all sorts and a deep recession) and were rescinded a few years later. President Ford went to Congress with programs to fight inflation that was running closer to 10% in October of 1974, with a speech entitled “Whip Inflation Now” (WIN). He famously urged Americans to wear “WIN” buttons. That policy too was less than effective, and the buttons, in a history replete with silly gestures by governments, should stand on anyone’s top ten list of such silly gestures.

Cynics more thoughtfully wore the buttons upside down and said the inverted letters (which looked like NIM) stood for “No Immediate Miracles.” They were right. There was no miracle, just eventual pain and lots of it. Ultimately, Paul Volker defeated inflation, but at the cost of two serious recessions and a lot of economic misery, with unemployment levels over 10% for nine months in 1983.

This week we were given the data that inflation as measured by the Consumer Price Index (CPI) over the last year was 4.2% and unemployment is now 5.5%. Some call for the Fed to raise rates so that we do not have to experience another lost decade like the ’70s and then ultimately see some future Volker forced to raise rates and drive unemployment back to 10%. Others suggest that “core” inflation is what should be paid heed to, and urge caution.

This week we look at the cost of what could be a renewed effort to Whip Inflation Now, not just here but in countries worldwide. Will Trichet in Europe raise rates even as the European economy seems to be slowing down? If you think inflation is bad in the US and Europe, take a peek at Asia. And I ask, “What will Ben do?” It should make for an interesting letter.

Whip Inflation Now

Nixon and his advisors thought inflation at 4% was serious enough to institute price controls. Headline inflation in the US is now 4.2%. What kind of economic policy should we pursue to bring inflation back into the Fed’s comfort zone of 1-2%? Would it work and would it be worth the pain? To get a handle on the question, let’s go to the data from the Bureau of Labor Statistics and see where inflation is coming from.

And let me note, this is the same exercise we could do for a host of countries. The answer will be roughly the same: there are no easy solutions.

Core inflation, or inflation without food and energy, grew at 2.3%. Inflation without food costs was an even 4% and without energy was 2.7%. Clearly energy was the leading contributor to inflation in the past year.

But the recent trend in rising inflation is even more worrying. If you look at just the last three months of data and compute an annualized rate of inflation, you find that overall inflation has risen to 4.9%, energy inflation is running at a staggering 28%, and food costs have risen 6.2%. Meanwhile, core inflation during that period dropped to 1.8%. You can see all the data at http://www.bls.gov/news.release/cpi.nr0.htm.

Now, gentle reader, let’s think about these numbers. Food (over 14%) and energy (over 9%) combined make up roughly 24% of the CPI, yet were responsible for over 60% of the recent three-month trend in inflation. By the way, housing was up 4.9% and transportation up 8.7%, so it was not just food and energy.

What would it take to drop headline inflation back to under 2%? Well, one way would be for food and energy prices to fall. Let’s look at the possibilities.

As Donald Coxe has noted, North America has had an 18-year run of remarkably good weather in our growing season. You have to go back 800 years to get a string of years that were that good. Yet today food reserves of all types are at decades-long lows. There is very little room for any type of problem.

This growing season is not off to a good start. It looks like the yield on the corn crop will be lower than normal, and that is if we get very benign weather this fall. Given how late much of the US corn crop was planted, and how torrential rains in the corn belt have devastated crops (not to mention flooding cities, and our thoughts and prayers go out to those who have lost their homes to flooding), an early frost would be disastrous.

Because we have devoted so much of our arable land to corn (in a very misguided policy to turn food into ethanol), we have less for soybeans, which is putting upward price pressure on beans and other grains that are used to feed cattle, hogs, chickens, etc. In fact, it costs so much to feed livestock that ranchers are shrinking their herds.. This means more meat is coming into the system now, which is dampening prices. Increased supply will reduce prices in the short term, but next fall we will find that supplies of all types of meat will be short. That will potentially send meat prices soaring. Cereal and bakery products are up 10% over the last year. They could continue to rise in the fall if the corn crop does not yield more than currently projected. It will cost even more to feed your household and feed the animals we need for meat.

Food is the most basic of commodities. Demand is fairly consistent, and supplies may come under pressure. Looking for food inflation to drop back by the fall to 2% is not realistic in the current environment.

What about energy? There is some more hope there, at least on the oil front. High prices have reduced demand in the US, with gasoline usage down about 4%.

I think we have reached a tipping point. The psyche of the US consumer has been permanently scarred. Slowly, this country is going to replace its fleet of cars with smaller, more fuel-efficient cars. Over time, we will see demand continue to fall. We could see further drops in the demand for gas in the next few months.

Much of Asia used to subsidize oil prices to their consumers. That is changing, as Indonesia, Sri Lanka, and Taiwan have announced they are decreasing their subsidies, as the cost is simply too much. Malaysia now spends 25% of its budget on oil subsidies, and must raise prices or cut other services – or watch inflation get worse. India is now contemplating how to cut its subsidies. Even China is likely to start to raise costs after the Olympics. These countries are going to go through their own price shocks. All this will reduce world demand for oil.

Courtomer, France Friday, June 13, 2008

First, a quick look at what happened in the markets yesterday.

The Dow rose 57 points. Oil held steady – but at a near record price of $136 a barrel. The dollar rose…and gold dropped $10.

The big news this morning is that retail sales actually went up last month – at 1%, twice what economists expected.

What? How can consumers continue to spend? They’re supposed to be cutting back. Maybe they’re spending those rebate checks.

Meanwhile, we find import prices up 2.3% in May, mostly because of higher oil prices. And the NY Times tells us that commodity price increases show “no let up.” Floods in the Midwest are aggravating the situation – driving up corn prices to new record highs.

“Inflation expectations rise sharply,” says the Financial Times.

The Fed’s ‘Beige Book’ tells us that the economy is “generally weak.”

We spent the week with a group of Internet marketers. The financial publishing business has gone electronic in a big way. In this business, you either learn how to publish on the Internet…or you fail.

Your editor, who grew up without air-conditioning, let alone without the Internet, finds it hard to keep up.

“You’ve got to understand the semantic dynamic of the bot-driven crawlers,” said one of the speakers. We had no idea of what he was talking about, but the others present nodded their heads in approval.

That is just one of the problems with growing older; you grow wiser…but wiser about things that no longer exist. When the car is slow to start, for example, we naturally think we need to clean the carburetor or check the points. Then we realize that there isn’t a carburetor and there aren’t any points. The cars have gone electronic too.

The other thing that has gone electronic is money.

In our decaying wisdom, we’re suspicious of the new electronic money. The old paper money was bad enough. Given the opportunity, central banks would print it up…far more of it than they should. Soon, there would be a lot more pieces of paper than there were things that it would buy. Now, the authorities who control money don’t even have to get ink on their hands. They can create money electronically. In fact, there is no limit on how much they can create – theoretically. Just add zeros. Add them electronically. The sky’s the limit.

But real wealth is not created so easily…

Real wealth is not electronic. It’s not just 1s and 0s – not just digital…not just phantoms that disappear when the power goes out. Real wealth is physical…things you can touch, eat, drive around in, and live in.

Real wealth and “money” are connected. But this new electronic money has plenty of stretch in it. Houses, for example, are real wealth. But in money terms, their value varies. In the ten years – 1996-2006 – for example, the price of America’s houses almost doubled. Of course, they were essentially the same houses…a little bigger perhaps…with a few more marble countertops, but otherwise not much different. What had happened that made them more valuable? Well, they weren’t really more valuable…just more expensive. America’s elastic money had stretched out to make them more expensive.

But now the elastic is snapping back. Houses are down 13% – according to Case/Shiller – from a year ago. And now an analyst at JP Morgan says they’ll probably go down about 30% before the snapback is finished in 2010.

This, he says, will cost Wall Street about $1 trillion in losses on mortgage-backed securities. It will cost the nation $4 trillion in “lost access to capital.”

Whoa! That’s the trouble with stretchable money – when the elastic snaps, it can hurt.

*** The other trouble with these new electronic systems is that they are hard to fix. When your car wouldn’t start in the ’60s, you lifted the hood…took off the distributor cap and checked for sparks. Or, you removed the carburetor and made sure it was working properly. Even when you didn’t know what you were doing, skinning your knuckles once or twice seemed to cure most minor mechanical problems.

But when an electronic system breaks down, it’s hard to figure out what is wrong…and almost impossible to fix. When money is in paper form, it is pretty easy to understand how it works. Simply count up the bills in circulation. If the supply is going up…prices are likely to follow. But this new electronic money has most people stumped. The Fed sends an electronic credit to the Bank of America, which in turn gives an electronic credit to its credit card holders. Now, they can go out and buy things. Do they have “money?” How much “money” is in circulation?

Then, the American shopper buys something made in China – where else? – so that the Chinese producer ends up with a credit in his account in dollars…which he trades with the Bank of China for yuan. The BoC doesn’t want the yuan to go up…so it creates more yuan, electronically, to trade for the electronic dollars it has received.

This was the ‘great money machine’ – an electronic machine – that was responsible for creating so much of the world’s liquidity…and the world’s bubbles.

But as we said yesterday, this machine seems to be slowing down…maybe even breaking down. America’s trade deficit is shrinking. In fact, it seems to us that the elastic currency is snapping back in America’s face. Its import prices go up…while its major asset – housing – goes down.

The import that people care most about is oil. It’s causing the highest gasoline prices Americans have ever had to pay. And it’s calling into question the whole ‘car culture’ society. In America, much more than in Europe, people live in individual, standalone houses – which are much more expensive to heat and maintain than row houses or apartments. They also live far from their work…their schools…their restaurants…and their shops.

Here in Europe, big shopping malls have become common. The small shops couldn’t compete with them on price or choice. Still, now that the price of oil has gone up so dramatically, the latest reports tell us that shoppers are turning their backs on the big malls; they prefer to walk out to neighborhood stores.

But in the United States, there are few neighborhood stores left…in fact, there are few neighborhoods. Instead, in many areas, houses were flung out like confetti from a parade float. They may have fallen a mile from a major shopping mall…or the wind might have carried them 50 miles away.

“Oklahoma’s painful car culture,” is changing the way people live, says an article on CNN Money. Out on panhandle, it is not unusual to drive 70 miles to get to work. In their big SUV and pickups, commuters might have to spend $50 a day – just to get to work. It’s not surprising that they are looking for alternatives – bikes, carpools, and buses.

Trichet’s comments were seen as the driving factor.

“Profit taking and/or selling in the crude market over the past week came to sudden halt and buyers stepped back to the plate based on these inflationary comments out of Europe,” wrote Thomas Hartmann, an analyst at Altavest Worldwide Trading.

But there was a technical aspect, too. “The price advance in crude futures accelerated after breaking yesterday’s highs, likely setting off a round of frenzied buying in the last hour of trading,” Hartmann added.

And James Williams, of WTRG Economics, sees “a market divorced from fundamental supply and demand … The decline in the dollar on the possibility of higher European interest rates only explains about 1/4th of [yesterday’s] move,” Williams wrote.

Source: Crude Takes Back Lost Ground – Buying Frenzy Develops Late in Day

But there are others who believe in the “Peak Oil” argument, the ultimate end-game, like a Suburban crushing a Subaru at the end of a long hill. Peak Oil enthusiasts will point to long lists of numbers, detailed maps of known reserves, past prognosticators of genius, and declare with tinfoil-hat fervor that “we are running out of oil.”

I’ve read these books and listened to the speeches. The idea that there is a finite amount of oil on the planet, and we are near the point where we will extract less in the next hundred years than we did in the past. Makes sense to me, as does the business cycle. I don’t know if the hundred-year history of the oil cycle is over. There is always a “this time it’s different” ideology at the peak. But then again, sometimes, it is different.

What we do know — what isn’t in dispute — is that oil is expensive, and that by all accounts the easy oil has already been found and is being extracted at a furious pace.

And this has led the industrial countries on a desperate search for this ever-scarcer commodity.

Russia, China, India, Brazil, Canada, Europe and the U.S. are fighting an anxious and diminishing struggle for the last of the world’s hydrocarbons. Russia is sending submarines to plant national flags at the bottom of the Arctic Ocean. China has moved aggressively to acquire oil holdings from Kazakhstan to Somalia. India has gotten in bed with the genocidal regime of the Sudan to the tune a $45 billion natural gas pipeline. The U.S. is spending trillions in treasury and thousands in lives to make sure the oil flows from the Middle East.

The Guardian of UK fame recently reported that “money is no object as the big players grab what is left of a diminishing resource.” (This was after China’s Sinopec paid $1 billion for the right to explore for oil in deep water off Angola.) Just a few years ago, such a deal would have sold for a mere $35 million. But competition is fierce over the last remaining frontiers where vast quantities of oil might be found.

If you add Latin American governments and Russia’s success at renationalized oil and gas assets, and the fact that many reserves in the Middle East are off-limits… you have a situation where the oil majors are going to the politically difficult and geographically inhospitable locations to find oil.

The oil game isn’t over by a long shot. One successful investment strategy is to find oil assets selling on the cheap and buy them before the big players show up.

I’ve discovered one such place off the cost of South America. For seven years a border dispute has stopped the drilling in what the United State Geological Survey (USGS) calls “the second-largest unexplored oil reserve in world.”

It’s a place we like to call the Gunboat Basin. It’s about 100 miles off South America’s coast. The USGS estimates that this oil basin contains 15 billion barrels of oil as well as 42 trillion cubic feet of natural gas. This location is one of the most sought-after oil regions on the planet. Not only is it a strategic replacement to Venezuela, but it is also brimming with precious crude. Only one problem: For the last seven years, the oil has been locked down and under armed guard!

But over the summer, the United Nations was able to hand down a ruling that averted a war and will benefit all parties. As I write this, seismic explorer vessels are on their way. Exxon Mobil and other large oil companies have formed partnerships.

There is a perfect way to play this which involves one small $3 company that owns the offshore rights. To protect my paying subscribers of Crisis Trader, I cannot reveal the name of this micro-cap explorer that trades on the Toronto Venture Exchange. However, it does show you how persistent research can turn up the kind of companies long overlooked by Wall Street — that can make investors a handsome return.

This $3 company is a Canada-based oil and gas explorer with an interest in 9.8 million acres (7.7 million net) offshore Guyana, South America, an area ranked second among the world’s under-explored basins. Exploration in the basin has been deferred by each of the offshore operators — Exxon and Repsol — as well as this $3 company which had been forced off its Eagle location by Surinamese gunboats in June 2000.

This tiny oil and gas exploration company has funded $8.9 million, the majority of Guyana’s legal expense, for resolution of the maritime border with Suriname by the International Tribunal on Law of the Sea. Oral hearings were first heard in December 2006 and a binding decision on the maritime border was established by the U.N. on September 20, 2007.

It has been agreed to by both Guyana and Suriname. Furthermore, it favors the holdings of this company that I had recommended to my readers. Guyana is preparing for renewed exploration by each of the operators following resolution.

This little-known $3 company has identified many significant oil targets off the coast of Guyana. One stratigraphic trap called Eagle at 13,500 feet has an estimated resource potential of 610 million barrels. Even more interesting is a deeper region (18,000 feet), which is called Eagle Deep.

To the west of that, this tiny exploration company has identified several targets similar to the Eagle plays. This is a region in which this company has partnered with Repsol. Repsol is also the operator and has found a number of other targets.

Repsol, Occidental and Noble plan to drill two wells at an estimated cost of $100 million offshore Suriname, just to the east of and on trend with this company’s Corentyne prospecting license for offshore Guyana.

To the west, this company’s Pomeroon prospecting license showed two discoveries greater than 6 trillion cubic feet have been made offshore of Venezuela.

The CEO of the company has recently stated, “During the last year, [the company] has received a number of unsolicited expressions of interest from international oil and gas companies regarding the possibility of participating in the exploration of the Corentyne PPL, pending the resolution of the maritime border between Guyana and Suriname.”

As you can understand, in dealing with small-cap energy explorers in places such as Guyana and Venezuela, this is certainly qualifies a speculative play. So it’s not for the faint of heart. But the upside can be lucrative, with the stock more than doubling to $7 based on my conservative projections.

To me, that means it is a buyout candidate and is waiting for an offer it cannot refuse. Until that happens, it will explore its holdings and make announcements as to what it establishes. Each of these will be a catalyst for share price appreciation.

In many ways, this company is classic emerging-market energy play.

It has very little revenue as of yet. It holds a great deal of rights to a large oil field. Some of its holdings have been licensed out to major oil firms. Add it all up and this company is extremely undervalued based on its holdings. It’s exactly the kind of undiscovered gem you hope to find when making an energy play in emerging markets.

– Christian DeHaemer

Source: A Speculative Buy on the Second-Largest, Unexplored Oil Reserve in the World

May, being a hard act to follow
God created June…

Peak this…peak that…

This just in from a Dear Reader, throwing our own words back in our face:

“‘Now, it appears that the gains from mechanization, bioengineering, chemistry and land clearing may have reached their limits. We may soon reach Peak Food’

“Now, let me ask: Has the DR morphed into a Marxist newsletter or something?”

Another reader was more flattering…

“Your writing reminds me of H.L. Mencken, after he had his stroke. But seriously, the one thing that marks human history…above all else…is the constant rise in population and the constantly improving technology to support it. I don’t see any reason why that basic theme should change. Peak Food? Don’t trouble yourself about it…”

Don’t worry about us, dear readers…we have not lost a wink of sleep to the peaks…neither Peak Oil nor Peak Food bothers us. No, it is not the peaks that disturb our sleep…it’s the valleys.

As our Dear Reader points out, we’ve faced peaks before. Many of them. Somehow we’ve made it over them – and then scooted down the other side. That’s how history works – like topography. Peaks, valleys, and broad, fertile plains. What more could you ask for?

We’ll return to the Peaks in a moment…but first let us look around…and get the lay of the land.

Oil sold off last week…and ended at $127. Gold rallied on Friday, but still ended the week considerably down.

Last week, we thought we saw an important break in the terrain. Speculators were betting that the Fed would reverse course and begin raising interest rates. This boosted the dollar, whacked gold, and sent the bond market tumbling. Lower bond prices come with higher yields; soon, the economy begins to sulk as if it had been punished.

“US mortgage rates leap ahead as investors bet on move from Fed,” is the headline in the Financial Times this morning. Thirty-year fixed-rate mortgages rose above 6% for the first time in nearly three months; jumbo mortgage money cost 7.21%. Ten-year notes, meanwhile, fell to yield more than 4%.

Ain’t markets wonderful, dear reader? All that hard work that the feds have been doing – all designed to keep rates low so that people would borrow more money; it can all be undone by a day’s trading!

“The surge in mortgage rates will make it more expensive to buy homes and less likely that existing homeowners will be able to refinance mortgages. That in turn, is likely to dampen hopes of an early recovery in the US housing market,” explained the FT .

What went wrong?

Ah…remember the “crude oil vigilantes?”

When the Fed began cutting rates last September, the price of oil shot up. High oil prices are now oozing into the entire economy…greasing up prices for everything from cucumbers to diapers. And the trends that held consumer prices down for so long are shoving them in the other direction. Labor costs were forced down, for example, as hundreds of millions of Asians entered the worldwide job market. But now those laborers are cooking with gas…and driving automobiles…and eating regular meals – competing with Americans for food and energy, and driving up prices even as the U.S. economy goes into a slump.

Here is the latest from the Associated Press :

“Indonesians are staging protests against shrinking gasoline subsidies in a nation where nearly half the population of 235 million lives on less than $2 a day. And there are now 887 million vehicles in the world, up from 553 million vehicles just 15 years ago, and on track to nearly double to a billion by 2012, according to London-based consultancy Global Insight.

“So as oil prices have soared, average U.S. [gasoline] prices have gone up 144 percent in the past five years – from $1.67 in May 2003 to $4.02 a gallon this month, according to the U.S. Energy Information Administration. Over the same period, gas prices in France went up 117 percent to $9.66 a gallon.

“Proposals by U.S. presidential candidates John McCain and Hillary Clinton to suspend federal gas taxes this summer would lower the price tag – but have little effect on the underlying oil price. French President Nicholas Sarkozy has urged the EU to cut value-added tax on fuel.

“French fishermen and farmers, who need fuel for their trawlers and tractors, say their livelihoods are threatened by soaring prices and have blocked oil terminals around France and shipping traffic on the English Channel to demand government help. Italian, Portuguese and Spanish fisherman joined them and went on strike Friday. British and Bulgarian truckers are staging fuel protests, too.

“Turkey faces similar problems – and even higher prices – $11.29 a gallon, which for a full tank in a midsize car can reach nearly $200, enough for a domestic plane ticket.”

This is just the tip of the iceberg…keep reading here .

In that ad hoc comment, we wrote: “The crux of the thesis of our latest book, The End is Not Nigh, is simple and goes something like this: a) Asian central banks continue to manipulate their currencies and prevent them from finding a fair value against either the US$ or the Euro b) this manipulation triggers an accumulation in central bank reserves which, in turn, leads to low real rates around the world c) the combination of low global real rates and low Asian exchange rates amounts to a subsidy for Asian production and Western consumption d) in the US, the subsidy has by and large been captured by individual consumers e) meanwhile, in Europe, the subsidy has been cashed in by governments whose debt has skyrocketed f) we see little reason why, in the near future, the subsidy should be removed but g) if it were removed, the US would most likely encounter a consumer recession (not the end of the world) while h) Europe could go through a debt crisis (far more problematic).”

We went on and wrote: “Last week, and against most observers’ expectations, the Indian central bank did not raise rates at its meeting. Instead, it seems that the authorities are allowing the currency to rise and hopefully thereby absorb some of the country’s inflationary pressures (linked to energy and higher food prices). In recent weeks, the rupee has shot higher and now stands at a post-Asian crisis high. And interestingly, the local market is loving it. While Indian stocks had been sucking wind year to date, the central bank’s apparent policy shift (from higher interest rates to higher exchange rates) has triggered a very sharp rally.

This of course is an interesting turn of events and we would not be surprised if Asian central banks were to study developments in India carefully over the coming quarters. After all, India is blazing a path that a number of Asian countries may yet decide to follow.

One could argue that a change in monetary policy in Asia could end up being a “triple whammy” for Western economies. It would mean that:

• Asian central banks would export less capital into our bond markets and this would likely lead to a drift higher in real rates around the world.
• Asian exchange rates would move sharply higher, which in turn would likely mean higher import prices in the US and Europe.
• As Asian exchange rates start to move higher, Asia’s private savers would likely start repatriating capital, further amplifying exchange rate and interest rate movements. This would also likely lead to collapses in monetary aggregates in the Europe and the US.

Finally, we concluded the paper by saying: As we highlighted in Part 1: Why We Remain Bullish, we are not worried about valuations. And we are also not worried about “excess leverage” in the system, or the threat of a “private equity bubble”. We also do not fear an “economic meltdown” or a brutal end to the “Yen carry-trade” (which we did fear in the Spring of 2006). Instead, if we had to have one concern, it would have to be a possible change of monetary policy across Asia and the impact that this would have on real rates around the world. As we view things, the only reason Asian central banks would change their policies is if food prices continued to increase (in that respect, owning some soft commodities — a hedge against rising real rates — makes sense to us – as does owning Asian currencies). Interestingly, such a turn of events seems to be unfolding in India, yet no one seems to care. Monitoring changes in Asian inflation, monetary policies and exchange rates could prove more important than ever.

Nine months after that paper, we have indeed just gone through a period of a) rapidly rising food prices which have led to b) faster inflation rates across Asia, which have triggered c) a change in Asian monetary policy, notably a willingness to let the currencies appreciate faster than they have in the past. And if Asian central banks are now finally allowing their currencies to rise, then one thing is sure: Asian central banks will no longer need to print large amounts of their own currencies and accumulate US$ and Euros. They will thus also no longer need to buy US Treasuries and European bonds to the extent that they have.

Is it a co-incidence that, as Asia starts to allow its currencies to rise, US mortgages have been hitting the wall and spreads amongst European sovereigns have started to widen? The subsidy that Asian central banks have been giving to consumption in the US and governments in Europe (see The End is Not Nigh) is now disappearing.

Indeed, for the past five years, spreads of Italian ten-year government bonds to German bonds have hovered between 15bp and 25bp. But recently, spreads have started to break out on the upside.

And, of course, Italy is not alone. All across Europe, we have seen a widening of spreads between the “stronger” signatures (Germany, Holland, Austria, Finland, Ireland) and the “weaker” signatures (Portugal, Italy, Greece, Spain, Belgium, France) including those of Eastern Europe (Latvia, Romania, Hungary, Poland…).

Caterpillar reported net income of $992 million ($1.45 a share) for the quarter, up from $816 million ($1.23 a share) a year ago. Sales soared 18% to $11.8 billion. International sales rose 30% and accounted for 58% of total revenue.

“Developing countries maintained expansive economic policies, which allowed good economic growth to continue,” the company said in a statement. “As a result, construction increased significantly in many countries.”

Sales in the Asia Pacific region grew 37% to $1.85 billion as construction and mining projects came to dominate the landscape overseas.

“Sales volume increased substantially in China,” and sales growth in India was “sizeable,” the company said.

Caterpillar will look to build on those markets by building three new factories in China for engines, wheel loaders and parts. It has also purchased the remaining 60% stake in Shandong SEM Machinery Co., one of Caterpillar’s 16 Chinese ventures.

Revenue from Europe, Africa, and the Middle East jumped 30% to $3.81 billion and Latin American sales were up 24% to 1.23 billion.

Sales in the developing world grew seven times faster than in North America, where Caterpillar posted a mild 3% sales increase. A weak dollar and foreign exchange rates added an extra $310 million to international sales.

The world’s largest manufacturer of bulldozers and excavators expects earnings to increase by as much as 15% for the full year.

Shares of Caterpillar jumped more than 8% on the news to close at $85.04 on Friday.

Looking at a weekly chart, you can see that natural gas pushed higher out of an inverse head-and-shoulders pattern early this year. It then spent February and March consolidating its gains, and now it looks ready to head higher again. My target is its old highs.

Seasonally, this is about the time that natural gas usually dips as temperatures go up and heating demand goes down. But that may not happen this year. Here are some fundamental reasons why…

Natural gas consumption in the U.S. increased 6% last year. (Oil consumption was flat.) Going forward, natural gas consumption should rise between 2% and 6% per year.

Production of natural gas in the U.S. is flat, and imports are down because natural gas suppliers can sometimes get better prices in Europe and China.

Natural gas prices did pull back on Thursday, thanks to the most recent report from the Energy Information Administration. That showed a build in natural gas stockpiles of 27 billion cubic feet. On the other hand, it was the first build in 21 weeks. What’s more, stockpiles are still 298 billion cubic feet less than last year at this time and below the five-year average.

You can play natural gas with one of the natural gas ETFs, or with an undervalued natural gas producer. Or, you can go for the leverage of futures and futures options on natural gas. Be sure that any trade fits your risk profile, and run ideas past your investment advisor.

Good luck and good trades,

Black Bear