The elephant in the room blasted out a mighty honk last weekend in a report by Access Economics, as reported in today’s Australian. “Batten the hatches,” Access says. “This is not just a recession. This is the sharpest deceleration Australia’s economy has ever seen.” Access adds that the federal budget is “buggered.”

“Leading economic forecaster Access Economics warns in its quarterly Business Outlook, released today, that the nation’s economic boom will ‘unwind scarily fast’, halving corporate profits, costing more than 300,000 people their jobs and blowing out the current account deficit to more than $100 billion.”

Dire stuff indeed. But the question from last week remains, is this massive dose of negative news already priced into Australian stocks? Or is it a further hammer blow that will drive them to new lows?

So far, the market seems to be taking the prospect of a prolonged earnings recession fairly well. Or maybe it’s just in denial. The Access report correctly points out that the fall in commodity prices will dry up government royalties and corporate taxes. This will lead to higher budget deficits, more unemployment, and a contraction in the mining industry after four years of break-neck expansion.

Australia’s government is now in the same pickle that Gordon Brown and Barrack Obama find themselves in: how do you distribute enough borrowed loot to keep your economy from shrinking without igniting inflation and a weakening of your currency? And if you accept that the government really can step in and spend money while households and businesses are not, where does it spend it? Roads? Bridges? Booze? Pokies?

Those are mostly political questions. Economically, it’s hard to see how corporate earnings will recover this year. Demand is falling. Miners are winding up projects. All this being the case, don’t look for earnings to lead to a big bear-market rally.

In fact, as we mentioned last week, we think it’s likely that you’ll see a large exodus of institutional money out of common stocks and into corporate bonds. Corporate bond yields are now much higher than what you’ll find in U.S. government bonds. And it is the habitual thing to do, changing asset classes rather than liquidating altogether.

The big sleeper so far this year is oil. Oil prices have fallen 25% since rallying to just over $50 last week. The leverage is out of the oil market. And with a global recession, the IEA now predicts oil demand will fall for the second year in a row. It’s the first time that’s happened since 1983.

But the real story is how the falling oil price is hammering oil producers. Multinational oil companies are cutting back exploration programs. They’re not looking for oil. And you can’t produce what you can’t find.

As for the national oil companies in Mexico, Venezuela, and Russia, well they too are being hit hard by the falling oil price. During the big run up to $150, national oil companies were cash cows. But it now appears that little of the oil bounty was reinvested in new production or even maintenance of existing production.

So what do we have now? We have a situation here. A situation where the falling oil price is leading a big reduction in oil production. This will match, for a while reduced demand for oil. But we also think it’s baiting the trap for a huge blowback in oil prices. And the spark for that could be geopolitical. More on that next week.

It didn’t seem possible, but things are getting worse for Americas largest commercial banks, Citibank and the Bank of Amerika. “The U.S. government, recognizing that the banking crisis is far larger than originally thought, is laying the groundwork for a second phase of its rescue attempt, with plans to purge bad assets that are paralyzing the financial system,” reports the Wall Street Journal.

Aha! Remember that phrase from last week, “incorporating the public debt?” This was the alchemical process by which a huge slab of outstanding debt was transferred to a new entity and converted into, ahem, “capital” in 17th century Britain. It now looks like you’ll see a new large national financial institution in America this year. It may even resemble a giant vacuum, or a garbage dump.

No matter what it looks like, it will be the receptacle for the metastasizing debt that is killing the financial sector. The Journal says that the discussions for the new “Bad Bank” between the Fed, the Treasury, and the FDIC, “show how the rapid deterioration of bank assets is outpacing the government’s rescue efforts. Banks are now struggling not only with the real-estate investments that sparked the crisis, but also with the car loans, credit-card debt and other consumer debt that have taken a hit with the faltering economy.”

We may as well get on with full nationalisation of the financial system. Thus far, it’s been incremental. But the end game is increasingly obvious now. Governments will either begin guaranteeing all mortgage lending and corporate debt (as plans in the U.K. suggest) and/or assume responsibility for the toxic assets impairing financial balance sheets (in exchange for equity).

What this means for stocks, paper currencies and gold bears more discussion. More on that next week.

Regards,
Dan Denning

Source: The Coming Oil Backdraft

– Other world markets India dropped 9.6% as Mumbai opened for business. South Korea fell as much as 9%, Hong Kong by 9.7%, Australia by 8.4% and in Singapore lost as much as 8.4%.

– European equities “collapsed,” according to the Financial Times, “left vulnerable after a dramatic late sell-off in New York extended the sustained losing streak on world stock markets.” London’s FTSE 100 sank as  much as 429 points to 3,884.6, a loss of 10%.

– US stock futures are pointing to another day of pain as sentiment hits new lows. “Dow industrial futures dropped 288 points. S&P 500 futures fell 35.4 points to 877.10 and Nasdaq 100 futures fell 28.2 points to 1243.80,” reports the WSJ.

– The WSJ calls it “a slow-motion crash” that has pulled the market down more than 20% over that brief period.

– Oil prices plummeted to a one-year low below $83 a barrel following the rout. “Light, sweet crude for November delivery was down $4.00 to $82.59 a barrel in electronic trading on the New York Mercantile Exchange by mid-afternoon in Singapore.”

– According to MarketWatch, “US authorities are considering radical new measures to shore up ailing financial markets, including guaranteeing billions in bank debt and insuring all US bank deposits for a temporary period.”

Backing all US bank deposits, a measure which is currently only at the discussion stage, would be aimed at preventing a further exodus of cash from financial institutions, including small and regional banks, The Journal reported. The move is being floated as banking customers have pulled money out of healthy community banks under the assumption that only deposits held at larger financial institutions would be backed by government guarantees in the event of a failure.

 

Removing the ceiling on deposit insurance would require multiple government agencies to agree that a “systemic risk” exists, thereby invoking a rarely used legal power. Some banking regulators say the move is justified following repeated efforts by the federal government to prop up ailing institutions.

– Gold futures climbed $36 to $922.50 an ounce.

– Bloomberg reports that “the yen headed for its biggest weekly gain in a decade against the dollar as the global stock-market rout caused investors to sell higher-yielding assets funded with the Japanese currency.”

– The euro traded at $1.3579, down from US$1.3661 late Thursday in New York.

It’s the “teach a man to fish” theory of steelmaking: Buy iron ore from someone else, and you have it for a day (actually, 365 days, since iron ore is sold in year-long contracts); buy your own mine, and you have iron ore for life.

China’s steelmakers are worried about the price of their biggest ingredient.

China’s growth is tied to the construction of new offices, apartment buildings and Olympic-commemorative sports complexes. And all of those new high-rises and architecturally avant-garde fitness centers pushing their way into the Beijing and Shanghai skylines need a lot of steel (so much that the government limits the amount that can be exported, flooding the domestic market to keep steel prices artificially low). And steel needs a lot of iron ore.

China has three major iron ore suppliers: Australia’s BHP Billiton (NYSE:BHP) and Rio Tinto (NYSE:RTP) both raised their contract prices on China this year by as much as 97%. And right now the country’s steelmakers are engaged in a staring contest with the third, Brazil’s Vale (NYSE:RIO), waiting to see who’ll blink first

Vale, which only got a 71% increase in this year’s contract price, wants more money and canceled its shipments to the country until China coughs up the dough. But the Chinese steelmakers, many of which are still on the government’s short leash, aren’t budging on their contract prices, even if they are 11% lower than Vale charges its European customers.

In the meantime, China is shopping around for its own iron ore mines to solve the supply problem altogether. Jiangsu Shagang Group, one of China’s largest state-controlled steel companies, just bought a 45% stake in Australia’s Grange Resources (Australia:GRR). (Anybody else notice that China is slowly buying all of Australia? Shouldn’t this alarm someone? Like the prime minister or whoever runs the country’s military?)

Shagang already controls Australian Bulk Minerals, which operates a Tasmania iron ore mine. And it plans to combine the two companies to create a billion-dollar (I’m not being hyperbolic; the new company will be worth about 1 billion Australian dollars) iron ore miner.

If China’s steelmakers continue on their current plans, Vale may find itself not as vital as it once thought. Perhaps 71% is a good enough raise for 2008. After all, with only three months left in this year’s contract, negotiations for next year could make up for all of the lost profits in this year’s contract.

Source: Vale (RIO) cuts off iron ore… and China goes shopping

It shouldn’t be that surprising. And perhaps it wasn’t terror. Maybe it was just plain old common sense. You can’t short stocks anymore in some places. But you can buy commodities! With the global supply of dollars on the verge of a huge increase, investors declared for gold and oil yesterday.

The Dow lost 372 points in New York to close just above 11,000. The S&P 500 shed an impressive 3.8% nearly half its gains from the last two giddy days. So it turns out the ban on short selling in the financials doesn’t keep stocks from falling. It just reminds investors there are some very good reasons for selling.

Meanwhile, the Reuters/Jeffries CRB commodity index posted its biggest one-day gain since 1956, when iron ore exports were still capped in Australia because no one really knew how much ore there was in the Pilbara. This confirms our basic thesis that “stuff” is currently a much better bet than “paper.” Liquid stuff was the real star yesterday.

The October crude oil futures contract was up 16% (on the day) to close at US$120.92. It was up as high as $130-oil’s biggest done day move since crude futures began trading in the early 1980s. Can a ban on speculation be far away now?

If you’re a trader, this is the blessing of the times we live in. With immense volatility comes incredible opportunity. You just have to know what you’re doing to spot these things.

We’re glad to have our technical analyst Gabriel Andre in the office for just this purpose-although we should take a moment to let you know Gabriel and his wife have just welcomed their first child (a little girl) into the world over the weekend. Congratulations!

Gabriel will be back next week, presumably to tell us how to play all of this volatility in the commodity patch via the Aussie share market. He’s calling it a technical swarm. He says he has 14 swarm trading tactics. We have no idea what it means, but will keep you posted.

Dan Denning
The Daily Reckoning Australia

Source: Nervous Investors ‘Short’ the Market By Buying Commodities

According to Dan Denning in The Daily Reckoning Australia, the ban could actually make the crisis worse. That’s because investors could be reluctant to take up long positions in stocks when they cannot hedge their risks with short plays.

If confidence is not restored quickly, the next logical step for regulators would be to close the markets altogether…

This from Dan:

The US$700 billion Paulson plan is barely three days hold. Yet you already get the sense that it is failing in one essential objective: restoring investor confidence in the global financial system. This week, as shocking as it is to say it, could be even more momentous (and destructive) than last week.

Keep this one point in mind, we have moved beyond debates about asset valuations and whether this is a liquidity crisis or solvency crisis. This is now a test of whether ordinary investors and savers believe the financial system is on the verge of a collapse.

That’s it, plain and simple. It’s tempting to think we’ve averted the crisis and are now beyond it. Most of the time, investors ride the ups and downs in the market and go about their normal business.

But this is not most of the time. The action in the money markets last week made it clear that investors have lost nearly all confidence in the share market and in the regulators of the financial system. They are moving to cash.

If the Paulson plan fails to restore confidence, the next logical move by governments is to close markets altogether. Think about it. First, the regulators ban short selling. This squeezes the bears to cover and sends markets soaring, at least for a bit. But if it doesn’t work, the only real intervention left is to close the market altogether and take a bit of a holiday.

But for now, we’ll have to see how markets reaction. The first indications are: with indecisions. The ASX delayed its opening this morning so that ASIC could clarify its new policy on short selling to market participants. That policy changed twice over the weekend. First, ASIC joined the U.K. and the U.S. in banning naked short selling.

It didn’t stop there. Whereas the U.S. has banned short selling of any kind on financial stocks to halt the collapse in share prices, ASIC put a blanket ban on shorting of all Aussie shares, full stop. The regulator was apparently concerned that leaving open the resource shares to shorting by global hedge funds was not prudent.

The policy goal is obvious: halt falling share prices by shooting the bears in the head. The intended consequence was achieved in London on Friday, where shares were up 9%. But look out for the unintended consequences.

It’s not just bears who short sell. Hedge funds, by definition, hedge long positions by going short to cover their exposure. Remove their ability to hedge and you invalidate the logic of the trade. In other words, if hedge funds can’t go short, they might not go long either.

The result? After a huge short-covering rally, we suspect some stocks will go no bid. After all, who’s going to want to go long in this environment (especially if you can’t hedge your risk)? Markets are only markets when traders and investors are willing take up opposite views of what’s going on. This is what makes markets, the willingness to take the other side of the trade.

By eliminating short seling, the regulators insure a short-covering rally in the short term. But in the long term? They’ve actually made the market even riskier. You have one remaining choice: long only, or out of the market altogether.

We reckon a lot of people will chose to liquidate their longs and get into cash, rather than being long only at a time like this. The irony then, is that the ban on short selling may actually instigate the market meltdown it’s designed to prevent. Perverse, but perhaps true.

Institutional investors do have the alternative of hedging their longs in the options markets. Look for increased volume on put options. But this trade is rather obvious too, and the premiums on put options would be steep at this point. Again, the sensible (as well as panicked) position is the same: it is better to be out of the markets than in them.

Frankly we’re not sure what would reverse this sentiment. But it’s not our job to engineer sentiment, only to read it. Right now, confidence is on a knife’s edge. And by banning short selling, quite unintentionally, Aussie regulators may have done precisely the thing to kick off a week of full-scale liquidation in global share markets.

Source: Short Selling Ban May Kick Off Market Liquidation

Chuck Butler says only one more rate cut is likely this year. Charles Delvalle, meanwhile, expects dividends on Austrialian companies BHP Billiton (NYSE:BHP) and Rio Tinto (ASX:RIO) to fall as the Aussie dollar weakens against the greenback.

Al Robinson at The Daily Reckoning Australia says the RBA is caught between fighting higher prices and a stagnating economy. But he says local mining stocks still a good bet…

If you witnessed complete strangers linking arms and breaking into song in the street this morning, it was either a long-lost chorus line or a collection of relieved homeowners. Yesterday the Reserve Bank cut base interest rates for the first time in seven years. If you’re an average Australian, you’re now $44 better off each month. Or $528 each year.

What of all that hoo-ha about Big Banks keeping the cut to themselves? It turned out to be just that. A monumental load of hoo-ha. Within nine minutes of the RBA’s announcement, all four had passed on the savings. Pretty eager. Who said there wasn’t enough competition in the banking sector?

Don’t think the credit ‘crunch’ is over though. This is the downleg of a cycle, not a blip in a glorious, perpetual uptrend as some people seem to think. Kris Sayce at Money Morning spies a dissenter in the market. Wizard Home Loans didn’t lower interest rates. It raised them. Check out today’s MM for the full story, and all your other important market news.

Meanwhile, the economy is blowing a cloud of fog into investor’s windshields.

The first thick layer of mist becomes apparent in Glenn Stevens’ official statement. Here are the two paragraphs to take note of:

The rise in Australia’s terms of trade that has occurred is working in the opposite direction [to slowing growth], adding substantially to national income and ability to spend. Fixed investment spending by businesses continues to be very strong. At the same time, high prices of oil and a range of other commodities have added to global inflationary risks. They are also dampening growth in a number of countries.

Given the opposing forces at work, considerable uncertainty has surrounded the outlook for demand and inflation. On balance, however, it is looking more likely that household demand will remain subdued and overall economic growth slow over the period ahead. Inflation is likely to remain relatively high in the short term, with the CPI affected by the high global oil prices in mid year and other increases in raw materials prices.

In plain English, there are opposing forces. The rising Australian terms of trade is bringing money into the economy, fueling it. A higher oil price is adding helium to the price balloon too.

Meanwhile, the credit crunch has smashed investments and caused money markets to flare up. The upshot: higher market interest rates, lower asset values and less spending by John Citizen. Poor Johnny C.

That’s pulling the economy down.

We have consumer price inflation plus a stagnant economy. Stagflation. The two-headed ogre of despair. With its dual maws, it attacks wealth from two directions at once. Rising prices mean Johnny C pays more. A slower economy means he has less wealth to spend in the first place.

Central banks are only equipped with one sword: manipulating cash rates. ‘Sword’ might be a generous term. Maybe butter-knife is better. Anyway, it can’t take out both the ogre’s heads at the same time whether it’s slashing or buttering. So what’s the economic solution?

There isn’t one. Not based on Keynesian, business cycle-smoothing economic policy. Or any other economics for that matter. An economy is a self-correcting system. It’s correcting the low prices and high growth we’ve had for years…with high prices and low growth.

So there’s that first layer of mist. Economists are faced with a scenario they’re not used to. Economic ‘uncertainty’, as Glenn Stevens put it. Hence the fog. How do you invest when the future is invisible?

(If you answered the housing market, go sit in the corner. If you can even afford the rent of sitting in the corner. Investing in unaffordable assets is not advisable. And we see Money Morning has a nice graph of what unaffordable housing looks like today too.)

We’ll get to a real investing solution shortly.

First, we spy a second layer of wisping, foggy uncertainty. A cheaper Aussie dollar. The interest rate cut has slashed over US13c of value from our little gold kangaroos. They’re trading at US83.5 cents today.

Other currencies are giving our dollar the hop too. That’ll only serve to import higher prices from overseas. Australians paying more for things, in other words. The left head of the ogre just grew a little. Which problem should the RBA deal with? Slower growth or higher prices?

Again, this isn’t the kind of thing a central bank is equipped to deal with. An article in The Age down here in Melbourne hinted we might see the RBA switch back to raising rates. Just to keep the dollar up. That’s getting fancy. A cut here, a snip there. A deft dodge, a subtle weave. Now we have a ballet dancer taking on a two-headed ogre with a butter-knife. Eeep.

It’s an absurd suggestion. But it’s evidence that this is a serious dilemma. Absurd suggestions start appearing when there are few good ones. We have rising prices from higher incomes…higher prices from a lower currency…and slower economic growth from high market interest rates. It doesn’t bode well for individuals or businesses.

About that solution. Quickly.

It’s no barnstorming, revolutionary idea. It’s just picking an industry that has the best of this world.

Raw materials companies are Australia’s breadwinner. Undeniably. The RBA’s still worried about ballooning prices. Mainly because mining exporters are still pulling in cash from Asia. Those rising terms of trade are concentrated in a few industries; coal, iron ore, energy, wheat. If the Australian economy is a water balloon that expands and contracts, there’s only one thin straw drawing real, liquid wealth inside. That straw is Western Australia, Queensland, and their natural resource advantage.

It’s the precursor to the inflation that keeps the RBA up at night. Mining earnings. Inflation’s first stop-over in Australia is BHP’s income statement. Unlike John C Citizen, and most other businesses, miners are still making money. Most coal companies locked in double digit earnings growth last month with contracts.

The lower Aussie dollar doesn’t hurt every industry either. China’s basically pegged to the US dollar. As far as Beijing is concerned, Australian coal is US13 cents cheaper than it used to be. So are the coal companies themselves.

And those falling asset values? That’s the key. That’s what makes investing in resource firms timely. Without a broken stock market, miners might still be trading at P/Es double those of today. Buy low.

So Diggers and Drillers will be stocking up on miners this month and next. More than usual.

Source: Reserve Bank’s First Interest Rate Cut in Seven Years

What a big country Australia is!

Your Melbourne-based editor is back from a great visit to Geraldton in Western Australia. When you spend too much time behind a desk, you can forget how big Australia is. Getting ready to board the flight from Perth to Geraldton, we noticed right away all the red dust on the boots and shoes of the folks who were coming down from what everyone is tipping to be the next big iron ore province.

More on what we found in Geraldton next week. One point worth considering today is political risk. You don’t normally associate Australia with political risk. Usually, it means the chance that the government of a small country will change the rules on you (Guinea) or some neo-Marxist windbag like Hugo Chavez will nationalize your investment (Venezuela).

But bureaucratic red tape can also be a kind of political risk. Capital is impatient. It has choices. It goes where it’s treated best. If it takes too long to get mines into production in Australia, you sense foreign partners and investors will look for other world-class mineral deposits and projects to develop.

For example, there is the particular case of uranium. Now that the Western Australian government has introduced legislation to ban uranium mining in WA, foreign investors are indicating they’ve had enough. Canada’s Mega uranium said it will walk away from its $2 billion investment in its WA uranium project because it “cannot continue to invest in projects/jurisdictions in which it has little or no chance of a return.”

Pretty simple. Of course, if the people of WA decide they don’t want a uranium mining industry, that’s fine too. That’s what self-government is all about. But we also think, in our humble, loud-mouthed, American opinion; this reflects a lack of seriousness in the energy debate in Australia.

Power has to come from somewhere. If you want to limit emissions from coal-fired power without leading directly to lower rates of growth (or downright contraction) then you need other alternatives for base-load electricity. Renewable targets are all pie-in-the-sky. They’re completely unrealistic.

As far as we can tell, the only realistic alternatives to coal and natural gas for base-load electricity are geothermal and solar thermal (and perhaps, large stacks of solid oxide fuel cells). We met one citizen of Geraldton who said that the issue of climate change was more urgent than both world wars combined. If public policy debate in Australia is informed by this kind of earnest hyperbole, you can kiss a lot of foreign investment goodbye.

Of course, it helps that Australia has resource wealth. That ensures there will always be interest in new projects. You can’t mine the stuff if you don’t have it. And from our conversations with a few of the miners, they say the problem is not so much the cumbersome nature of the permitting process (which has always been that way), but the number of new projects seeking approval. There’s a big backlog.

There’s also a major labor shortage forecast. But hey, Geraldton is a nice place. If you have a son or a daughter or niece of nephew looking to make a new start and try something exciting in life, there are worse courses of action than packing up and heading west. There’s a whole lot of beach, a whole lot of sun, and a whole lot of work to be done.

What about the markets? Well, nothing major seems to have happened while we were away. Our thesis, then, is basically the same. Expect more write downs and losses in the financial asset markets. The whole model of the last fifty years, Credit, Consumption, and Collateralisation, is dying if not dead.

Meanwhile, the other more tradition model of economic prosperity (you know, the one that made Britain and American industrial and geopolitical powers) is based on savings, investment, capital formation, and production. You make more money making stuff than you do buying stuff.

The good news for Aussie investor is that Aussie firms are key to the whole “industrial production” model. And the even better news is that the recent correction in resource stocks leaves many good projects selling at attractive valuations. What more can you ask for?

Oh, many of the projects are flying under the radar of institutional analysts because they’re either too small…or the institutions are using discounted cash flow models to evaluate mining companies…instead of learning how to value a resource. “Focus on good people, good projects, and good partners,” is what we told the crowd at the end of the day Wednesday.

Source: Energy Debate in Australia Needs to Get Serious

Macmahon Holdings Limited (ASX:MAH) operates as an engineering contractor focused on delivering specialised services to clients in Australia, New Zealand and Malaysia. The company’s core businesses comprise open mining and crushing, underground mining and civil engineering.

The stock climbed from less than $0.10 in June 2001 to $0.97 in February 2007 at a regular pace. However it really took off in early May 2007 as it was trading around $0.80, to reach twice the level of $2 a few months later, in November 2007. It’s a 150% rise (between point A and point b on the chart).

Click for a larger image

The stock has corrected this large increase and has been trading since within a consolidation phase. The first retracement move drove the price until the 50% Fibonacci ratio (point C) and towards the 61.8% ratio one month later (point D). The fact that the price action eventually bounced back on this level means that the outlook is still positive on the long-term, and that new attempts to test the historical highs may be possible.

Recently, on August 13 and 19, two lows have been posted on the long-term support line (through points A, D and E). As a result, the price rebounded and should test now the long-term resistance line (through points B, F and G). The trading envelope is narrowing.

The MACD has triggered a bullish signal as it curved upward and crossed above its signal line. Other oscillators confirm this therefore a further move on the upside is likely.

An interesting complement to the MACD is the TRIX indicator. TRIX displays the percent rate-of-change of a triple exponentially smoothed moving average of the security’s closing price. This triple exponential smoothing is designed to filter out “insignificant” cycles.

Here the TRIX changes direction and crosses above its signal line. It confirms the MACD indication. The stochastic oscillator is also positive but shows that extreme levels could soon be reached. The theory behind is that in an upward-trending market, prices tend to close near their high.

Therefore the level of $2, the historical high price, will be probably a strong resistance to the current bullish price action. Today the stock is trading at $1.825. A jump to $2 is a 9.6% further rise. At this level the stock would be probably overbought on the short-term so a pull-back would be expected.

The stock would need to clear this resistance and cross above $2 to get new fresh bullish momentum. On the downside, the main support line is set around $1.55.

Source: Macmahon Holdings Limited (ASX:MAH) Near a 52 Week High

Al says that once the dust has settled on the financial crisis, the industrialization of Asia will return as a key driver of the global economy. This, of course, will be led by China, which could experience a post-Olympic jump as it switches the factories back on after the Games. Al says Australia’s resource sector is a great place to profit from China’s rapid development…

The ASX chases the Dow wherever it goes. Last night Captain America’s stock market lost 242 points. Leading the charge toward oblivion were US financials. Banker Lehmann Brothers (NYSE:LEH) and insurer AIG (NYSE:AIG) took a whacking.

And what ho…this morning BHP (ASX:BHP) and Rio Tinto (ASX:RIO) are down 1.5% apiece.

Australia is a two-sector market: financials and resources. But in a bear market, they cease to be two different sectors. They become the same thing. ‘Stocks’.

The same was true for the US market in the early 1920s. More so. There was no index for the overall market. One each for the two different sectors: railroads and industrials. You could have chocolate or vanilla. No strawberry.

Industrials pulled the whole market up during WWI. Analysts were worried pre-war that Europe would sell US dollars for gold to help finance their war efforts. The opposite happened. Liquidity flowed in. To murder each other more efficiently, European nations needed to tap into the new, American industrial machine. They bought everything America could make.

At the turn of the century, US industrial stocks were worth about 25% of the market. By the end of the war that was closer to 80%. During that time, the railroad-dominated transport index had been up and down. Then the bear of 1919-1921 struck.

Prior to the bear, industrials were industrials. Railroads were railroads. They went up and down for their own reasons. In 1919, they all became ’stocks’.

There was no more discrepancy. The chocolate tasted awful. Vanilla tasted just as bad. Investors spat them both out. Each lost over 40% before the market settled in 1921.

The last year has eclipsed that performance. Pretty much anything with a price tag has tumbled in value at some point, on a global scale. It all went up, bar a couple of dogs like the US dollar. Now it’s all coming down.

The common denominators? Stupidity, ignorance and speculation. Credit booms breed these things. Credit busts help eradicate them.

What we want to know is how the financial mountain-range will look after the snow of speculation has fully melted. Our guess is that the real Everest of the boom (Asian industrialisation) will stand a lot taller than the other, false peaks (banking, real estate, derivatives, stupidity).

On that point, Rio has raised an interesting possibility this week. It reports annual results later today. Expect double-digit profit growth and shameless spruiking of its businesses.

But the big miner gave us an appetiser this morning.

Your Most Honourable Chief Reckoner Dan Denning mentioned the possibility of a post-Olympics slump in China’s economy recently. Something similar to Sydney. A slow-down in the economy as all the tourists and competitors head home, taking their spending money with them.

Best of luck to any athletes travelling Qantas. The swimmers should be fine.

Beijing isn’t Sydney, though. It’s the centre of the world’s third grand industrialisation. And while the country was on show, everything had to look ship-shape. That meant a bit of spit here. A bit of polish there. Shutting down factories that otherwise would’ve spewed pollution into the path of Kenyan marathon runners.

“The Olympics have accentuated the usual summer slowdown in commodities demand,” Rio’s Chief Economist Vivek Tulpule told reporters yesterday. “When activity is allowed to start around – Beijing, there will be a post-Olympics jump.”

There’s the possibility China might have brought the slump forward. That’s food for thought. Sydney didn’t have smokestacks it could turn off prior to the 2000 Olympics. All it had was tourism spending.

But China has more internal demand that it can now bring into play. And it continues to prove that point. The greatest source of its wealth is its own people. Their spending and labour is self- contained. They have little to do with America’s shambles.

China has 1.2 billion people living on incomes of around US$5,000 per year. The average person in a developed country makes over six times that. Catch up, China.

There will be bumps, of course. You can’t grow a country at double- digits smoothly. And there’s always the risk the whole thing could come crashing down in a heap. There’s only so much oil in the ground, after all.

Until that happens we like a couple of metals plays. You’ll find them in the recent pages of Diggers and Drillers.

The first is nickel. We’ll hold off on dropping the full story here. Suffice to say, a lot of the world’s biggest nickel mines are getting a mite expensive. That’s putting a new floor under the nickel price. Want a closer look at the nickel market right now for free? Pop on over to Money Morning. Gabriel Andre has a few words for you.

But we don’t mind telling you about the other play in full. We’re out of time today. You can read the full report sometime in the next 48 hours. Keep an eye on your email inbox. And tomorrow we’ll find out exactly what Rio has been up to in the past six months.

Source: China’s Economy Could Experience a Post-Olympics Slump

Faced with this reality, Dan says the government needs to decide whether Australia is for sale or not.

One thing for certain, as emerging giants like China and India increase their per capita income, the chase for global resources will become more intense. And Australia will be in the thick of the action…

Now that the Olympics are over, let the real games begin. All the medals have been handed out. No more swimming, diving, juking and jiving. We can finally get back to the real international competition that matters: the race for ownership of the world’s tangible assets.

This is a multiplayer game, being played at the highest and humblest levels. It’s played in Melbourne boardrooms, Beijing backrooms, and even in your living room! Big fish chase big fish. Sharks circle in the water. And the little fish watch it all hoping to catch a wave, and not get eaten.

Australian Treasurer Wayne Swan announced this weekend that Chinalco is more than welcome to 11% of Rio Tinto (ASX:RIO). He made it sound like there were some caveats, provisos, and addendums. But at the end of the day the Treasurer said, “I have decided to raise no objections under Australia’s foreign investment policy.”

Okay. There are just two conditions that apply, though. Chinaclo has to reapply for Federal permission if it wants more than 15% of Rio and Chinalco said it won’t ask for a seat on Rio Tinto’s board. Does it even need one?

It depends on what Chinalco (and China Inc.) wants from the whole deal. Does Chinalco simply want to own a big enough stake in Rio Tinto that it can block the merger with BHP Billiton and prevent the formation of an Asia-Pacific iron ore titan? Or does it reckon that in order for the merger to go through with the regulators, Rio will have to carve itself up into various base metal pieces, aluminium being the juiciest?

Besides, there’s always the chance that a Rio Tinto – BHP Billiton merger will be thwarted right here at home by the Australian Competition and Consumer Commission (ACCC). On Friday the ACCC raised some doubts about the whole OPEC-of-Iron-Ore vision.

The ACCC said that, “To the extent the proposed acquisition lessens the competition in the global seaborne supply of iron ore, it would be likely to have the effect of increasing global iron ore prices, which would in turn increase prices paid by steelmakers in Australia.”

Hmm. Well, isn’t that the whole point? BHP Billiton wants to shift pricing power in the resource sector away from the consumers (China) and towards the producers (Aussies). Global ore prices are going up because steel production and consumption are going up. Does the ACCC want to favour Australian steelmakers over ore sellers? And if so, on what grounds?

And another thing. Has the Treasurer really sorted out what’s in Australia’s best interests? For example, he delayed by 90 days a ruling on Sinosteel’s bid to takeover Murchison Metals (ASX:MMX) in the Midwest. While delaying a takeover, the inaction also pummeled Murchison’s share price, not exactly a desirable result for Murchison shareholders.

And what was the point of the delay anyway? Was it to hope that Sinosteel would somehow change its strategic objectives by sending it to the corner for 90 days? Or does the Federal government have any idea how to confront the reality that many foreign interests are keen to take ownership of Aussie mineral deposits and are willing to pay for it?

Is Australia for sale or not? And if not, who’s going to develop all those mineral deposits and turn them into wages, income, capital, and rising standards of living? If not now, when? We’re headed out to Geraldton tomorrow to give a speech on the state of play in the Midwest. We’re also sticking around for a day to hear from miners who have projects in the region. We’ll let you know what we find.

As you can see, we have more questions than answers this morning. But now that China has emerged onto the global stage with a splash, the simple question is “what next?” One way of looking at it is that you’re seeing what happens when demography and geology collide.

China’s extraordinary growth rates have thus far been driven by a huge advantage in cheap labour. But that growth is resource intensive. If China (and India, and Brazil and other emerging economies) keep increasing per capita incomes, they’re going use more energy and resources than ever.

For example, today’s Wall Street Journal reports that the average American consumes the equivalent of 7.82 tonnes of oil per year to meet his energy requirements. By comparison, a single Chinese man uses just 1.4 tonnes of oil per year to meet his total energy requirements.

Rising standards of living are resource intensive. One good thing is that more developed economies tend to use energy and resources more efficiently. But is there enough oil in the world for six billion people to live at the same energy intensity as homo Americanus? We doubt it, which will make watching geopolitics and the great contest for energy very interesting over the next ten years.

Source: Wayne Swan Approves Chinalco Investment in Rio Tinto (ASX: RIO)