Thursday, December 17, 2009

Is the Next Wall Street Bubble Already Growing?

Taipan Insider: The privately circulated letter written exclusively for paid subscribers.

Thursday, December 17, 2009


Could Cap and Trade Be the Next Asset Bubble on Wall Street?
Why Now Is the Time to Avoid Gold
Three Events That Shape Markets
Exxon Mobil Avoids Iraq, Buys Locally

Dear Taipan Insider,

As I write this issue, world leaders are in Copenhagen debating ways to curb global warming.

Here in the U.S., lawmakers are proposing what is known as a "cap and trade" bill on emissions. Supposedly, it will control pollution by providing economic incentives to businesses and industries that are able to reduce emissions of pollutants from factories. Limits would be set on carbon emissions companies could put out each year. Companies would be issued permits.

The total amount of carbon emissions that could be put out each year would be controlled by the total number of permits issued by the government.

These permits can be bought and re-sold in the secondary market. This gives an incentive for large emitters to reduce their emissions, since they can then profit from selling their permits to others.

The issue of carbon emissions is being pushed to the forefront because the EPA declared carbon dioxide a threat to public health and the environment.

The EPA defines cap and trade as "an environmental policy tool that delivers results with a mandatory cap on emissions while providing sources flexibility in how they comply. Successful cap and trade programs reward innovation, efficiency, and early action and provide strict environmental accountability without inhibiting economic growth."

**Cap and trade could move to Wall Street. If the bill passes the Senate, Wall Street will be celebrating. Political analysts suspect amendments to the bill could create investment vehicles similar to credit default swaps.

In fact, in a recent Rolling Stone article, staff writer Matt Taibbi argues that one of the main beneficiaries would be none other than Goldman Sachs. Matt writes, "The new game in town, the next bubble, is in carbon credits – a booming trillion dollar market that barely even exists yet, but will if the Democratic Party that Goldman gave $4,452,585 to in the last election manages to push into existence a groundbreaking new commodities bubble, disguised as an ‘environmental plan,’ called cap-and-trade."

An article in Newsweek suggests the U.S. cap-and-trade market "could balloon to anywhere from $300 billion to $1 trillion."

Basically, if a company or an industry emits more than the allowed amount of carbon set by the government, it must "trade" and or buy permission from someone else that produces less carbon.

**Another bubble in the making? Exchanges have been set up to handle these transactions, such as the Chicago Climate Exchange (CCX). The CCX bills itself as "North America's only cap -and trade system for all six greenhouse gases, with global affiliates and projects worldwide."

The exchanges would make money on the transactions, but so would major Wall Street institutions, such as Goldman Sachs. What would happen is that companies like Goldman Sachs will create derivatives and options markets from the cap-and-trade permits.

There’s no doubt they know how to make money out of thin air. Look what happened with the mortgage-backed securities. All of a sudden they became one of the biggest moneymakers on Wall Street. And just as suddenly, yet more violently, they became Wall Street’s downfall.

**Al Gore and Goldman Sachs. Of course, this is all conjecture. The bill has to pass the Senate for cap-and-trade emissions to become the next asset bubble on Wall Street. But then again, consider one of the bill’s biggest backers: Al Gore.

Al Gore is an investor in the venture capital group Kleiner Perkins Caufield & Byers. The firm has invested about $1 billion in 40 companies that would benefit from the proposed cap-and-trade legislation.

Gore is also co-founder of Generation Investment Management, which sells carbon offsets. The other founder is former Goldman Sachs partner David Blood. See the connection here?

What the Media Is Talking About: In the News

**GoldAlert Says Gold Prices Under Pressure: "The gold price hit a low of $1,111.50 before bouncing back to finish near unchanged as the price of gold continues to be under pressure on the back of a stronger U.S. dollar. The greenback was up by 0.72% as measured by the U.S. Dollar Index, which closed at its highest level in eleven weeks… Nouriel Roubini, the NYU economist… thinks the gold price has gotten ahead of itself and recently made his negative view known on the gold sector in an article titled ‘The New Bubble in the Barbarous Relic That Is Gold.’"

**Justice Litle of Macro Trader Tells Readers Now Is Not the Time for Gold. "The main reason to invest in gold does not tie back to inflation. It ties back to out-of-control printing presses around the world," says Justice. Justice tells readers to stand aside "from gold and gold stocks at the moment because investors got ahead of themselves and the dollar is surging." To learn more, read "Dollar Surges Ahead of Gold."

**ETF guide Says Stocks Could Rally in New Year: "Seasonally speaking, December is one of the strongest months of the year. Among other seasonal factors, December often hosts the Santa Claus Rally, a set of generally positive trading days stretching from Christmas to New Year’s Day. Recent market history shows that major indexes managed to eke out small gains in December 2006 and 2007. Even last year, amidst the 2008 meltdown, the Dow Jones managed to record a 7.7% gain before the wheels came off in January… The events leading up to December may be the key in determining how the year ends."

**Kent Lucas of Safe Haven Investor Explains Events That Impact Markets. Kent says, "This time of year investor activity slows down, trading volumes dry up, and Wall Street is more focused on spreading some holiday cheer and spending their bonuses, which were non-existent last year. There are a couple of other noteworthy patterns that develop around this time of year. Some have more credibility and are better supported than others." To learn more, read "Three Events That Impact Markets."

**Exxon’s Deal: Gas Yes, Iraq No, Reports Forbes: "Exxon Mobil’s (XOM:NYSE) $41 billion buyout of XTO Energy caught the oil patch off guard. Over the weekend all eyes were on Iraq, where numerous international oil companies secured contracts to develop the world’s biggest untapped oil fields. Exxon Mobil already has a tentative $25 billion deal to develop the first phase of the giant West Qurna field. But don’t expect the company to show interest in additional Iraqi acreage. In this most recent round, ‘We just decided not to bid,’ Richard C. Vierbuchen, president of Exxon Mobil Upstream Ventures (West) Ltd., told The Associated Press over the weekend."

**Will Exxon’s Move Change the Oil Industry? Exxon Mobil, which already has a major contract for the development of one of Iraq’s "super giant" oilfields, decided to "buy local" instead of bidding on the other fields up for auction this past weekend. On Tuesday, global traveler Sara Nunnally talked about some of the auctions contracts. Today, in part two of her article, "Oil Deals", she’ll explain Exxon’s move to stay out of this auction. Read more below.

Opportunities Behind the Headlines:
Inside Taipan Publishing Group

**Dollar Surges Ahead of Gold. Macro Trader editor Justice Litle suggests readers avoid gold as dollar climbs. "The main reason to invest in gold does not tie back to inflation. It ties back to out-of-control printing presses around the world. When all paper currencies are being devalued at the same time, gold is the only alternative not subject to the whims of a printing press," explains Justice.

Nonetheless, in his recent Macro Trader Alert, Justice tells readers to stand aside "from gold and gold stocks at the moment because investors got ahead of themselves and the dollar is surging."

Justice advises readers "there will come a time when it makes sense to reestablish trading positions in gold and gold stocks. For now, though, risk levels still feel too high."

But he also reminds readers that "stocks overall still look very, very risky here."

As you know, he writes, "there’s an ongoing debate over whether the market is in a rational and soundly valued place... properly discounting a global economic recovery... or whether Mr. Market has gone back to his old euphoria-driven, bubble-chasing ways."

Justice says that a recent piece from the Financial Times, titled "Distressed debt on the wane in U.S. markets," appears to answer this question:

Distressed debt – defined as a bond trading at less than 50 cents on the dollar – is rapidly disappearing from US financial markets as yield-hungry investors push up the prices for even the most beaten-down securities.

Bonds trading at less than 50 cents on the dollar now account for only 1.1 per cent of the high-yield market, or $8.9bn in securities, down from 27.5 per cent, or $202bn in bonds, a year ago, according to JP Morgan data.

The intense demand for once-distressed bonds is stirring the debate about whether investors are acting wisely or piling into junk bonds because of a lack of opportunities elsewhere in the fixed-income markets.

Justice continues:

In the buildup to the sub-prime crisis and global financial meltdown, there was a phenomenon known as "reaching for yield."

When investors "reach for yield," they crawl out on riskier and riskier limbs in pursuit of an acceptable rate of return. Reaching for yield is a stupid thing to do because it means risk is being ignored.

The fact that distressed debt securities are "rapidly disappearing," even in an economic environment as dangerous and volatile as this one, shows that investors are as collectively blind and bubble-prone as they have ever been.

It’s hard to believe, but Wall Street is already acting as if the global financial crisis never happened... even as we are still in the midst of it. Forget about the lessons of 10 years ago – investors can’t even remember the lessons of 12 months ago.

As for gold, Justice says, "It remains to be seen how much of gold’s move was driven by speculative 'hot money' to this point, and how far gold and gold stocks will correct in the event of further risk appetite withdrawal."

Justice says he "still believes in the gold and gold stocks anti-paper thesis over the longer term." But now is not the time.

If you’d like to learn more about Justice’s trading philosophies in Macro Trader and what he believes are the major trends headed our way, you can do so here.

**Three Events That Impact Markets. Editor Kent Lucas of Taipan's Safe Haven Investor outlines events that impact markets. "I remember years ago when I worked on Wall Street (literally, 111 Wall St., and then across the street at 110 Wall St.) how much the holiday season affected performance, moods and activity," writes Kent.

Kent says, "This time of year investor activity slows down, trading volumes dry up, and Wall Street is more focused on spreading some holiday cheer and spending their bonuses, which were non-existent last year.

"There are a couple of other noteworthy patterns that develop around this time of year. Some have more credibility and are better supported than others."

For example:

(1) Lower Investment Activity and Lower Volumes. Now you have professional investors who have to beat a broader index tied to the investment objective of their fund, and most have done so.

With the market up so strongly off of the March lows, and for the year, these money managers have beaten their benchmarks and want to lock in their gains through year-end to preserve their bonuses and to keep investors happy.

Since October, many hedge funds have locked in profits and are awaiting the start of 2010.Remember, a major part of their compensation is based on their "out performance" of the market, so why jeopardize guaranteed gains when you can replicate your benchmark from here on out and ensure a nice fat paycheck? Money is an incredible motivator.

(2) Santa Claus, December (or Year-end) Rally. While historical performance is no guarantee of future performance, there are certain months that tend to outperform others and those months are late in the year: November, December and January being the best months for the market, on average.

November through April is the strongest months of the year, and around this time of year in particular, Santa Claus brings gifts to all this season, including Mr. Market.

In addition to the cheeriness of the season, several other reasons support this behavior. Year-end bonuses and optimistic retail spending spur investment. Year-end retirement, accounting and tax decisions usually cause increased money flows into the market as well. Lastly, initial optimistic forecasts by economists for the forthcoming year have given further hope to investors.

(3) The January Effect. This tends to be a continuation of the year-end rally, but the rationale behind the historical performance is less clear and its effect has been diluted as markets have anticipated and adjusted for this behavior. But in a nutshell, January tends to be another good month for performance.

One reason is that both institutions and individuals will sell poorly performing securities before year-end to realize losses for tax purposes, i.e. tax-loss selling. Or they might just need cash for the holiday season. Investors purchase these lower priced stocks early next year.

Also, there is a similar trade going on between large-cap and small-cap stocks. Professional investors will dress up their portfolio at year-end with larger, less risky, more "recognized" names and then start off the new year looking for smaller, riskier stocks to try and beat the market all over again.

In addition, the first week of January is sometimes thought of as a predictor of the how the market will hold up for the full year. Historically since 1966, when the first five days of January are up, over 80% of the time the market is up for the year.

Kent continues, "What does this all mean? For one, enjoy this historically safer period. But it also means until January, there is less of a chance of a pullback or correction significant enough to create a buying opportunity. As long-term investors, that’s OK."

Kent adds, "But I should remind you, I’m still expecting a correction by the next few quarters, and if history is any guide, we’ll get it.

"Patience when investing is an underappreciated quality. Seth Klarman, one of the best-performing hedge fund managers of the past 20 years preaches being patient and waiting for buying opportunities."

Kent concludes, "While it’s easier said than done, especially when bond yields are next to nothing, let’s try to be patient as well."

Kent is looking for companies in cheap sectors like healthcare industrials and information technology, where increasing demand will drive earnings.

You can learn more about Safe Haven Investor and the companies Kent is uncovering right here.

Global Opportunities: In the Know

**Oil Deals, Part Two. Global traveler Sara Nunnally explores why Exxon Mobil decided to "buy local" instead of bidding for Iraq’s massive oil fields.

Over the weekend, Iraq auctioned off one-third of its 115 billion-barrel oil reserves for development. Big names in international Big Oil were present, like Russia’s Lukoil, the U.K.’s Shell, France’s Total, China’s CNPC, and Norway’s Statoil, just to name a few.

Notably absent, though, were U.S. companies, like Exxon Mobil, Chevron and ConocoPhillips.

This is interesting, given that Iraq has auctioned off more oil than is present in the U.S., Mexico and the U.K. combined (per

So, what’s the deal? Why are U.S. oil companies backing off these Iraqi oilfields?

Some suggest that it’s political, saying that the U.S. doesn’t want to appear that it invaded Iraq for its oil. Some say it’s financial, as ConocoPhillips wanted $26.70 a barrel to develop the Bai Hassan oilfield in northern Iraq near Kirkuk, and the Iraqi government was offering only $4 a barrel.

But it could be a major shift in philosophy, as evidenced by Exxon Mobil’s $31 billion bid for XTO Energy on Monday.

Did you know that Forbes named Exxon Mobil the "Green Company of the Year"? How strange is that, that an oil company is named "Green Company of the Year"? Forbes said it awarded Exxon Mobile this title because of its work to develop the world’s biggest natural gas export terminals in Qatar.

This might defy logic to real renewable energy investors, including me, as to call Exxon Mobil a "green" company is, well, absurd, and more than a bit insulting to environmentalists, but there are two aspects to this turn of events that often get overlooked…

First, natural gas is, arguably, the cleanest-burning fossil fuel. And second, the U.S. has a lot of reserves of natural gas within our own borders.

So let’s take a closer look at this $31 billion deal that Exxon surprised the industry with.

Forbes’ editor Christopher Helman writes, "Exxon’s deal for XTO – more so than Iraq’s licensing rounds – will demarcate the path that energy companies are likely to follow in the decade to come."

This is the biggest acquisition for Exxon in more than a decade, and the eighth biggest deal ever in the energy and power sector. Oppenheimer analyst Fadel Gheit told CNNMoney, "Without acquiring a company like XTO Exxon could not have secured a large presence in the natural gas industry."

XTO has the equivalent of 45 trillion cubic feet of natural gas reserves, much of it found in hard-to-reach places, like in shale and coal bed methane. Most experts agree that the U.S. has 500 trillion cubic feet of natural gas locked up in shale. New technology has helped lower the cost of extraction for natural gas found in shale to $4.50, and the price keeps dropping.

XTO’s 45 trillion cubic feet will boost Exxon’s "resource base" by 10%. This new deal has sparked a lot of speculation on more consolidation in the natural gas industry.

We’ve seen natural gas companies’ share prices spike over the past couple days. The NYSE’s Natural Gas Index (XNG) jumped 5% on the news.

MarketWatch’s Steve Gelsi suggests there are other companies ripe for the picking:

Other possible targets for acquisitions could include EOG Resources (EOG:NYSE), Petrohawk Energy (HK:NYSE), Devon Energy (DVN:NYSE), Anadarko Petroleum (APC:NYSE), Canada’s EnCana (ECA:NYSE) and maybe others.

Forbes adds Range Resources (RRC:NYSE) and Chesapeake Energy (CHK:NYSE) to the list.

But will this "revolutionize" the oil industry?

Not really… Not in the short term, surely.

We have a massive glut of supply in natural gas. Just look at this chart from the Energy Information Administration.

Working Gas in Underground Storage Compared with 5-Year Range

Natural gas stores are well above their five-year range. That’s why natural gas prices have fallen from $5.90 per thousand cubic feet to $2.92 in this same time period.

If you ask me, Exxon’s move to buy XTO came now because it’s cheap, and because Exxon has the money. It stayed out of the Iraqi auction because it was already awarded a contract to develop Phase One of the West Qurna oilfield last month.

Also, the company largely missed out on the buy-up of U.S. and Canadian shale land in the past few years.

Will it spark some consolidation in the industry? That’s a possibility, and of those companies listed above, I’d keep an eye on Chesapeake Energy, which has already sold parts of its operations to international oil companies, and Range Resources, which has also sold some of its properties.

One thing’s for sure, smaller companies are getting a lot of attention in the energy industry… either as takeover targets here in the natural gas sector, or as new developers of Iraq’s major oilfields.

That’s it for this issue. Until next time, here’s to a world of opportunities.

Image: Sandy Franks Signature
Sandy Franks
Executive Publisher
Taipan Publishing Group

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