The Careful Gambler

February 19, 2009

Aluminum – an interesting and important industrial metal that like many commodities has seen its price shaved well in half from its 2008 highs. Low in density and therefore light, malleable, conductive, corrosion resistant and even fairly strong when lightly alloyed…in short it has many properties that make it useful to many industries, especially applications where it’s light weight can provide kinetic energy efficiency applications (transportation).

The continuous contract chart below shows that aluminum is still in the doldrums, reaching yet another new low.

The next chart below of Aluminum Company of America (AA) shows a similar pattern as ALUM , only instead of being down 50% from it’s 2008 high, AA is down over 80%. This is typical for resource stocks – they always move in multiples of the underlying metals they produce.

Though AA is cheap now, CG is not advocating to buy it. But it is worth one’s while to see what is happening in China, where the Chinese government has thrown everything except the kitchen sink at their economic downturn in an effort to halt the drop in GDP, now approaching 6% from a high of nearly 13% just a year ago. China’s large population and relocation of millions of rural residents into urban industrial centers where there is work and where many have tasted an increase in standard of living represents a huge challenge. Keep the masses happily working and increasing their standard of living or face potentially embarrassing worldwide publicity (in the wake of the Olympics), riots and social upheaval.

China’s solution to their crisis was pointed out in a wonderfully detailed article recently by Eric deCarbonnel, where his thesis states that hyperinflation will prevail in China and this hyperinflation virus will be exported, with the eventual casualty being the US dollar. CG could not agree more with Mr. deCarbonnel. And American consumers , drunk on decades of cheap manufactured goods from China could soon get a rude awakening as store shelves mysteriously find themselves thinning with less product selection and at higher prices. But this is still a ways off in USA because no one is doing much retail spending yet to remove the current inventory overhead and the stimulus package looks like a monumental flop in turns of putting much money in hands in 2009. So, while all the fear from Wall Street talking heads, (who have been astonishingly inaccurate in their market forecasts) is focused on deflation, it does not take a genius to know that trillions in new money and spending are both directly inflationary actions. Yeah, yeah,… CG understands that money has been, is and will continue to be disintegrated to some degree as collateral damage continues in the housing and financial sectors. But a picture is worth a thousand words. To get a clue what Mr. deCarbonnel is on to, check out the chart for Aluminum Corp. of China (ACH). You could check any number of commodities, but aluminum is the metal of the day so let’s look at it. Now it’s a little early to state a trend here, but clearly relative to the contract price for Al and for AA, ACH has good strength. If it can hold 11 and trend higher during this current round of selling this would be a bullish indicator that China’s stimulus is working.

Basically the point here is that the industrial metals markets have stabilized, despite what American metals companies stock prices are doing. Increasingly America and it’s brotherhood of blow hard Washington politicians are losing real influence in the real world because we are what we are - bankrupt, both financially and morally. So when CG wants to know of opportunities in basic materials, he’s not looking at most US or European companies for clues. On the contrary, CG is watching China to know the direction of industrial commodities, including oil. And CG would be amiss not to mention that increasing inflation in China makes the dollar more vulnerable to a major sell off as Chinese officials may be very tempted to institute a controlled float policy on the yuan which would rise in value on international exchanges due to China’s superior financial condition and massive reserves. The net effect would be to increase their citizen’s standard of living through better domestic buying power. This is a bit of the dog chasing it’s tail, but it might buy enough time for them and work good enough to prevent civil unrest.

Even as Chinese resources stocks are good values now, dollar weakness appears to be a real power play in a few months…after US equity markets get a climactic sell off, which seems imminent, given the flurry of anti-growth rhetoric exuding daily from the new administraion. And seasonally, the April-July period is a weak one for weak trending stock markets as well as the presidential cycle which is always soft the first couple of years of a new president. In addition, April’s 1st Q GDP number ought to look comparatively horrible since the 4th Q 2008 result of –3.8% GDP was actually erroneously more positive than reality due to inventory technicalities. It all adds up to one last big push for dollar strength and from that point it is difficult to envision where any future strength can possibly be found. There are deficits on the landscape as far as the eye can see! H

How to play dollar weakness without going through FOREX? Here is just one such fund that could be used. Again, this is not yet a pretty chart, but a test and hold at the current level (24-24.5) would be bullish for dollar shorts. A time is approaching where shorting the dollar appears to be a safe and profitable bet.

02-19-09