Dear Reader,
Welcome to the weekend edition of Casey Daily Dispatch, a compilation of our favorite stories from the week for the time-stressed readers.
Of course, if you want to read all of the Daily Dispatches from the week, you may do so in the archives at CaseyResearch.com.
By Vedran Vuk
I'm back from a trip to New Orleans to attend a Mises Institute event. It was a great time, and I was happy to meet several readers there. This was one of my first extended trips back to the city since graduating from Loyola University, and the experience led me to reflect on many subjects – one of them being the importance of people in companies and organizations.
Often when I mention my college degree from a New Orleans university, someone will say, "Wow, attending college in New Orleans must have been a crazy time." I can't say that it wasn't, but the city isn't to blame. Sure, there are bars everywhere – and the French Quarter and Bourbon Street are a special class of temptation – but that's not what makes the college "party central." Rather, it is the people – a large part of the student body attends Loyola simply due to its location. They're attracted by the party lifestyle and the reputation of New Orleans. You could have thrown the same group into the middle of Kansas, and it would still go wild and get in trouble.
The same sort of thing keeps the entire city going. New Orleans is not a destination for career ambitions – unless those ambitions are of the culinary sort. Decent college-degree jobs were practically nonexistent even prior to the recession. The city has always attracted miscreants and outcasts, from the South as well as the whole country. The previous residents of the city attracted others like them… and the process keeps repeating itself. As a result, New Orleans remains "the Big Easy," where the music never stops and neither does the party.
Beyond cities, the same thing happens in organizations. In one of my previous jobs, I noticed right from the start that things weren't going to work out for me. To make a long story short, my superiors were basically clueless on economics. Their backgrounds were more focused toward communications and political science. Despite their lack of an economics background, they were responsible for assigning various research projects on the subject.
One assignment best illustrates the problem: I was told to use a particular model from an academic journal to prove one of our talking points. After struggling with this model all night, I finally realized that it was incorrect. It had been published in an academic journal and was authored by two economics professors; it had been peer reviewed by other academics… yet somehow, there was still a mistake in it.
I was pretty happy with myself for finding the mistake. It was definitely a notch on my belt. So, the next day, I presented the results to the boss. He thought I was wrong and in fact was angry that I didn't make the model work. He wasn't even interested in my explanation. The company culture didn't value any sort of intellectual effort; understanding a model was considered a waste of time.
As a last resort, I sent my work to one of our contractors, a Ph.D. economist. About a month later, he wrote to my boss explaining that I was in fact correct and that my findings were amazing. And what was my superior's reaction? Rather than being happy to have an employee able to correct Ph.D.-level economists, he was angry and pissed off at being proven wrong.
Needless to say, I quickly began searching for a new job. It became apparent why the company was so quirky. Actual skills or knowledge were not valued at all. The folks at the top came from lobbying backgrounds and hustled their ways to their positions. They weren't the best nor brightest on practically everything – but they knew their way around D.C. politics. Not surprisingly, with this lobbying mentality, the entire company had a culture of backstabbing, blaming others, and the most complex office politics that I've ever witnessed to date.
It was no wonder that the average employee lasted less than a year at that company. The ones who remained longer were the most cutthroat of them all. The management's culture defined the working environment throughout the firm and removed anyone who didn't fit the mold.
In Doug Casey's eight Ps of resource investing, he lists people as a key component. Often, we think of this element as some genius leading the company; however, the CEO isn't the only person responsible for a company's success. Bill Gates and Steve Jobs aren't the sole reasons for Microsoft's and Apple's many accomplishments. There are other vitally important employees as well. However, the CEO does often set the culture for the rest of the company, as well as attract other important team members.
In physics, we're told that opposites attract. In the corporate world, the opposite is true: likes attract. If the guy at the top is an extremely intelligent and competent person, the whole organization will attract others of the same type. If the head of the company is full of it, the rest of the team will be too. One of the best examples of this is Jack Welch of GE. Sure, he's known for his success, but consider that 39 former GE executives became CEOs of other Fortune 500 companies. Great talent attracts yet more great talent. It's not just the CEO who’s important; it's his ability to attract other great employees to the company.
By the Casey Research Energy Team
High oil prices have put record earnings into the coffers of the world's big oil companies, but those splashy headlines are masking an industry-wide decline in oil production. Exxon Mobil (N.XOM), Royal Dutch Shell (N.RDS-A), BP (N.BP), ConocoPhillips (N.COP),Chevron (N.CVX), and others reported surging third-quarter profits alongside production decreases – an unsustainable situation that is setting the stage for a battle to buy producing assets.
Almost across the board, major oil companies are producing less oil now than they were a year ago. It's not due to a lack of exploration and development – these companies have all devoted billions of dollars to finding new oil deposits. The problem is that for the most part it will still take years – and many more dollars – before those investments start producing.
In the meantime, big oil's output will keep declining unless majors start using some of their record profits to buy up producing assets from smaller companies. Oil wells produce less each year; Exxon's oil fields, for example, are declining by 5 to 7% each year, which means the company needs to add 200,000 to 300,000 barrels of production a day just to break even. This year, Exxon has not come close – its production levels are down 8% compared to a year ago. Some of the production decline stems from contractual limits on Exxon's production, but even without those limits production would have still been down more than 1%. Over the first nine months of the year, Exxon's production averaged 2.33 million barrels of oil per day, the company's lowest average since 2005.
Things are even worse for other major oil companies. BP said oil production dropped 10.6% in the quarter, in terms of barrels of oil equivalent (BOE). Shell's BOE production fell almost 2% in the quarter. ConocoPhillips produced 6% fewer BOEs.
There's an important note to add about BOEs. The BOE concept combines a company's oil, natural gas, and condensate output into a single production number, based on energy equivalence. It takes roughly 6,000 cubic feet (cf) of natural gas to release the same amount of energy that is in one barrel of oil, so companies book gas reserves as "barrels of oil equivalent" using a ratio of 6,000 cf:1 barrel. A problem arises when a company then values its reserve books using oil prices. One barrel of oil may have the same energy content as 6,000 cf of natural gas, but in North America the barrel of oil is worth something like US$86, while the 6,000 cf of gas is worth only about US$22. Adding lots of natural gas to the books is an easy way to make it appear that oil reserves are growing, but at a fraction of the typical cost. And there are lots of inexpensive shale gas deposits for sale.
The Casey energy team hates being misled in this way, so we've created programs that calculate the real value of a company's reserve book; using our methods often gives some very different results when it comes to company valuations. We think this is one of the biggest frauds to hit the energy sector in decades, and we make sure to steer our subscribers away from companies that try to pass off gas reserves as equivalent to the black gold that is crude oil.
Getting back to the story, oil output may be stalling but oil prices have remained high enough to more than cover the cracks. Exxon's profits jumped 41% in the third quarter to US$10.3 billion because the company sold oil in the US for an average of $95.58 a barrel, a 35% increase compared to Q3 2010. For the same reason, Shell doubled its earnings this Q3 compared to last, bringing in $7.3 billion. BP earned $4.9 billion in the quarter, a 175% year-over-year increase. Chevron pulled in $6.2 billion in the third quarter, 74% more than last year. ConocoPhillips exited Q3 with $3.5 billion in earnings, a 59% increase over 2010.
The pattern is pretty clear: big oil companies are producing less but profiting more. With oil prices expected to remain range-bound for the medium term (assuming no major supply disruptions), these majors cannot rely on rising prices to keep their profits aloft in the future. They need to boost production instead, especially given that global oil demand is expected to increase by approximately 1.5% annually for the next five years. Since it takes years to bring new discoveries online, the short-term fix is to buy production.
With big oil's bank accounts full to the brim with cash, the stage is set for some significant acquisition activity… or, to put it another way, for a battle to buy producing assets. There are quite a number of contestants in the battle – big oil companies are not only competing against each other to sweep up good assets but also against the national oil companies of developing, energy-hungry nations like China, South Korea, and India. Oil demands are rising in these nations so quickly that just to cover expected annual demand increases those three countries would have to jointly spend $30 billion on acquisitions each year.
BHP Billiton's (N.BHP) move last quarter to buy Petrohawk Resources for $15 billion is exactly the kind of purchase we are talking about. So is Statoil ASA's (N.STO) recent $4.4-billion acquisition of Brigham Exploration. And the stars are aligning just perfectly for big oil: They are making record profits; oil prices are expected to remain strong; and the world's market turmoil has only pushed their share prices down by some 20% over the last six months. Small to mid-sized oil companies, on the other hand, have fared much worse, losing an average of 35% to the economic uncertainty. The Statoil-Brigham deal is a perfect example: Statoil offered a 34% premium over Brigham's 30-day average trading price, yet the offer was still almost 4% below Brigham's 52-week high. With that kind of discount available, the time for majors to start bidding on small and mid-sized producers is ripe.
The Casey Research energy team is analyzing all of these small and mid-sized producers to determine the most likely takeover candidates. We will publish our results in a special edition of our flagship publication, Casey Energy Report.
[Make no mistake, the end of easy oil is looming ever closer. But savvy investors can profit handsomely from this turn of the tide… learn how you can be among them.]
By Jeff Clark, BIG GOLD
Most gold followers know the metal has a seasonal tendency to perform better in the fall and winter than in the spring and summer. Indeed, since 2001, the annual high for the gold price has occurred after Labor Day every year except two (2006 and 2008). Further, that peak was hit in November or December in seven of the last ten years.
So, are we destined for new highs in the gold price between now and New Year's Eve? And what about gold stocks?
Perhaps one way to answer the first question is to determine if gold has been following its seasonal price trends so far this year. If it has, we might have a reasonable expectation of higher prices ahead. Let's take a look…
The following chart shows the average monthly performance of the gold price from 2000 to present, along with its returns so far this year.
(Click on image to enlarge)
As you can see, this year's gold price has followed the typical seasonal pattern in every month but three. This is actually a strong correlation, because seasonal patterns are adhered to only about two-thirds of the time. (The performance appears more volatile than normal, but it's not; the averages are a composite of eleven years' worth of data.) You'll also notice that gold has had only three losing months this year.
If this trend were to continue, it suggests that gold's 2011 high may yet be ahead, meaning the September 5 price of $1,895 (London PM Fix) would be eclipsed.
Here's the picture for gold stocks (as measured by the AMEX Gold Bugs Index).
(Click on image to enlarge)
As a group, gold stocks have performed in the opposite direction of the seasonal pattern in six of ten months so far this year. This might speak to some of the frustration we gold stock investors have had, particularly after they bucked the trend in May and August with big sell-offs.
This doesn't mean, of course, that gold stocks won't rise over the next two months. In fact, the average cumulative gain of gold stocks during this 60-day period is 11.8%. You'll also see that November is typically the second strongest month of the year.
Perhaps another way to determine if a new high for gold is just ahead is to look at its average return from the summer low to the fall high. (We detailed this measurement previously.) To summarize, since the bull market began in 2001, the average gain in the gold price from the summer low (June, July, or August) to the autumn high (September through December) is 20.7%. Our summer low this year was $1,483 on July 1, so $1,790 would match the average… a price we've already exceeded.
Of course, this ignores the effect of another country in Europe blowing, up or the Fed instituting another QE program, or Israel attacking Iran, or…
The largest autumn gain has been 33.5% (2009); if this year's climb mimicked it, the price would hit $1,979 before year-end. That's a 10.7% jump from $1,787, a relatively big climb in a short period of time, but I wouldn't dismiss it given the precarious state of the world's economies and finances.
In the big picture, though, all this talk about where gold might go in the short term is just for fun. It's clear that sooner or later we'll be looking in the rear-view mirror at a $2,000 gold price. And even that level is well short of any inflation-adjusted price.
The ocean barge of inflation hasn't hit our beach yet – but it's been spotted offshore. Buy gold and silver – along with their stocks – because higher prices are ahead, regardless of what they do in any given month.
And because if you don't own enough gold, it is definitely your season.
[Check out the newest issue of BIG GOLD, where we list Shopping Season Specials for our stock recommendations and reveal a discount on a gold coin that you won't find anywhere in the industry. Hurry because coin supplies are limited. Start your risk-free trial subscription today.]
By Alena Mikhan and Andrey Dashkov
Despite the pullback this fall, gold has been performing well this year. The price of the yellow metal is up 28% YTD, driven in large measure by strong demand in Asia and the dim economic outlook in the west. Gold miners are reporting good third-quarter bottom lines. In this ointment, however, there is a fly: gold stock performance, which has massively lagged the underlying commodity price surge over the year. This has been ongoing for months, now bringing us to the point where gold mining stocks look notably undervalued.
Technically, we might say, they look dirt cheap. Even Doug Casey, who's a serious bottom feeder, is admitting that compared to the metal itself, gold stocks are looking cheap again.
Consider these charts:
(Click on image to enlarge)
(Click on image to enlarge)
The average price/earnings ratio in the industry – a valuation ratio of a company's current share price compared to its per-share earnings (quarterly figures are used here) – is going down while the price of gold is increasing. This situation has persisted for several quarters; and now gold stocks look cheap on a P/E basis.
This big divergence between companies' earnings and the underlying commodity price won't last: Either gold will retreat or P/Es will catch up, or both. Since the fundamental trends driving gold upward are still very strong, the second scenario looks more probable, raising the prospect of a huge rally of mining stocks somewhere in the short- to mid-term. Comparing changes in the AMEX Gold Bugs Index against gold leads to a similar conclusion: in the second half of 2011, gold stocks have been lagging. See the chart below.
(Click on image to enlarge)
If they are on sale, why aren't we seeing a rush into these equities?
One opinion on why gold stocks are not recognized by the general investing public as being cheap is concealed in the way stocks are estimated. Most analysts prefer to use an unrealistically conservative gold price, which is far below what we have been observing for quite a while now. From Pierre Lassonde, in a Mineweb article:
"Most analysts are using their economist's projections for gold and for the last 10 years it's always been way under the reality. For example today the average is probably looking out five to 10 years as they're using $1,100 gold vis-à-vis a real gold price of $1,600 so what do you expect... they put out recommendations using $1,100 gold, so therefore the price that most of the stocks are trading at on a net asset value is around $1,100 to $1,200 gold and that is not going to change until, either the street uses todays' [sic] gold price, or even the contango."
This is a fancy way of saying that a price-moving plurality of gold analysts and investors don't expect gold prices to stay this high, let alone go higher. In our view, these people are driving forward looking in the rear-view mirror, rather than understanding what's going on in the global economy and therefore what's likely to happen in the future.
We see global economic uncertainty and currency crises sweeping the whole planet, providing investors – and even some central banks – with incentives to build positions in bullion. In their turn, gold stocks have a leverage effect on the underlying asset prices, courtesy of our friend volatility.
This confluence of trends, to use a tired but apt phrase, is shaping up into a perfect storm. Mining stocks look undervalued, and gold is headed higher. Something's got to give, and we think it could produce a spectacular move in gold stocks before too long – one that could spark the real Mania Phase Doug's been predicting to cap this bull cycle. It's time to take a contrarian stance and buy gold miners while others are selling.
[Jeff Clark, editor of BIG GOLD, increased the value of his mother's IRA by employing this "booster shot" effect to gold investing. Learn how to take advantage of it yourself.]
By David Galland
Back in time, when tribes coalescing into small villages were the primary organizing structures for the human apes, I suspect the number of realities were rather more limited than they are today.
For instance, in addition to the certain knowledge that winter was coming, the villagers understood certain basics required to live off the land. For example, the best methods for bringing down game, the optimal times to plant and harvest, when the floods would come and so forth.
But, side by side with those hard realities, there were other commonly accepted realities – for instance, that angry deities periodically took aim at earth with lightning bolts. Or that by jiggling around the communal fire whilst bedecked in furs, one could ensure a more successful hunt.
Over time, of course, humanity reproduced and went forth, morphing into an almost endless number of cultures as they did. During this period, the hard realities remained mostly unchanged – other than the tools and practices developed and found to be more effective at harvesting beasts and crops, starting fires and so on than those used previously. But the number of alternative realities exploded exponentially.
While many of these alternative realities included benign beliefs and rituals – a bit of face paint or placating prayers – others not so much. Thus the Aztec’s gory temples or, in more modern times, the Salem witch burnings, a practice that still goes on in Africa.
But all of that is to state the obvious.
Today the alternative realities extend well beyond the obvious. For example, to…
Art and literature, where people habitually attribute deep meanings to a particular brush stroke or the interplay of characters. Illustrating the latter, Ernest Hemingway himself negated the profundities of legions of academics who, pipe in hand and nestled comfortably in old tweed jackets, have pontificated endlessly about the real meaning of his classic The Old Man and the Sea. And I quote:
There isn’t any symbolism. The sea is the sea. The old man is an old man. The boy is a boy and the fish is a fish. The shark are all sharks, no better and no worse. All the symbolism that people say is shit.
Ernest Hemmingway in a letter to Bernard Berenson, 1952
The sciences. Dr. Matt Ridley, author of the excellent book The Rational Optimist (a must-read, in my opinion), recently gave a fantastic lecture that was reproduced in its entirety on the WattsUpWithThat.com website. You should read the entire thing, but I will share his opening comments and bullet points, as they do a good job summarizing the line between hard realities and the intangible alternatives:
It is a great honour to be asked to deliver the Angus Millar lecture.
I have no idea whether Angus Millar ever saw himself as a heretic, but I have a soft spot for heresy. One of my ancestral relations, Nicholas Ridley the Oxford martyr, was burned at the stake for heresy.
My topic today is scientific heresy. When are scientific heretics right and when are they mad? How do you tell the difference between science and pseudoscience?
Let us run through some issues, starting with the easy ones.
David again.
In the case of the sciences, the effects of alternative realities can often be quite serious. As just one of a billion possible examples, a friend of mine, having been diagnosed with prostate cancer, traveled the world far and wide in the pursuit of alternative remedies, just like Steven Jobs did following his diagnosis of liver cancer, wasting precious time and, in the end, needlessly costing him his life.
In addition to the human cost of these alternative realities, there is a serious societal cost as massive resources are wasted on too many unproven leap-of-faith forms of snake oil to even begin to recount here.
Human interactions. It never fails to amaze me how two people can receive the exact same input and come to diametrically different interpretations. While much of this sort of thing can be harmless, the shores of planet Earth are stacked high with the dried bones of broken relationships, ruined mega-bands, shattered marriages, collapsed business partnerships and more – all due to alternative realities derived from viewing the same events through different lenses.
Government. Today’s intensely activist governments will hastily assemble a congressional committee and four or five subcommittees, to thoroughly investigate and then legislate in order to mitigate every new sensationalized story (I can’t imagine how much money was spent investigating the baseball player steroid scandal). As a consequence, each new widely publicized alternative reality is now given its due – along with its own bureaucratic hierarchy and generous budget. And so it comes to pass that the dystopian alternative reality of the end of humanity due to anthropogenic global warming engenders a slew of new government meddling. Repeat this scenario dozens, even hundreds, of times and the real economy becomes bound up like a fly in a spider’s web.
Of course, few greater fictions prevail than that the government has a panacea for all that ails, even though they would like you to think they do.
Law. While this section could be combined with the one immediately above, it’s worth separate attention. In its purest form, the law provides a consistent set of rules for polite society to operate under. As has been so well documented by Peruvian economist Hernando de Soto, rock-solid laws protecting private property rights are essential to capital accumulation, and capital is essential to economic growth. Likewise, hard-coded laws on the limits of the government to interfere with life, liberty and the pursuit of happiness – not to mention taxation and the operations of business – are essential to a smoothly functioning society and the economy that supports it.
In the current world, however, anything resembling principles has been thrown out the window and along with it, virtually all certainty of how the next precedent-setting legal case will be decided or what new law or regulation will be passed in an attempt to “solve” some wrongly perceived or greatly exaggerated threat. That makes it immensely challenging to plan for the future.
The police and military, which are almost indistinguishable at this point. From the beginnings of society, power-seeking individuals have overstated threats in order to create an alternative reality in the minds of many that the proverbial Huns are mustering at the gates. They have done so in order to scare the sheepizens into flocking together under the power-seeker’s protective cloak. This has always been a problem, but never more so than today, where the world’s policeman – the USA – has marshaled a truly stunning amount of military power that is now regularly projected both externally and internally.
Doug Casey just wrote a small book on the topic, which will be published as a special report and sent out next week to readers of The Casey Report, but I wanted to share just a couple quick observations of my own to underscore just how large and sophisticated the war machine has grown in response to the alternative realities spun out of 9/11.
The first is a video sent by my friend and fellow Hawaiian, Ron. It shows a two-person, Nevada-based team of drone operators carrying out an execution on the other side of the planet. Forget law, forget national boundaries – all that counts is that someone in the military hierarchy has decided that the folks in the white truck need to die in order to head off an attack envisioned as part of the government’s alternative reality. Here’s the video.
The second is an excerpt from the book Top Secret America by Dana Priest and William M. Arkin, perhaps the single best piece of reportage done in a decade. In the book, they roll up their sleeves and – using by-the-book, old-fashioned journalism – manage to penetrate the mind-bogglingly complex network of national security agencies and subcontractors that were spawned after 9/11. Only by reading their book can you even begin to appreciate how far things have gone since 9/11 and how far out of control they are. This excerpt, from their description of the security coverage provided for Obama’s inauguration, will give you just a scintilla of what’s going on underneath the cloak of secrecy.
As Obama stood at the podium at the base of the U.S. Capitol, he faced a sea of hopeful citizens stretching well beyond the towering figure of President Abraham Lincoln, watching from his giant marble memorial at the end of the National Mall. But between the new young leader and his supporters were five tons of bulletproof glass, and beyond that 20,000 uniformed guards and 25,000 law enforcement officers enveloping him in a security blanket that spanned from New York to West Virginia. Beyond that, an invisible classified universe of top secret agencies and programs and weapons systems and surveillance capabilities and legal authorities and strike forces and pursuit teams assembled to keep him safe… […]
[John Perren, FBI security coordinator for the inauguration] went back to his task of keeping the new president and his supporters safe. His job that day was to track everything trackable within the FBI’s authority: incoming foreign intelligence reports transmitted through CIA headquarters in Langley, Virginia, intercepts and wiretaps, undercover intelligence squads mingling in the crowds, chemical weapons teams collecting air samples, sharpshooters with high-powered telescopes stationed miles away along I-95 North and I-95 South to spot anything unusual heading into the nation’s capital.
He, and the FBI, were not, of course, alone: within the U.S. Secret Service in the lead for the inauguration, fifty-six federal, state, and local agencies drew on their most sophisticated technology and skilled personnel. Bomb squads and HAZMAT units from a dozen organizations were ready to deploy, as were SWAT teams, crisis negotiators, and even behavioral analysts to scour intelligence and news reports for hints of trouble. Automatic license plate readers recorded and checked the license plate numbers of virtually every vehicle nearing Washington, DC, from incoming routes through Virginia and Maryland. Even particles of dust floating through the city were captured and analyzed at split-second intervals by navy plume assessment teams and the Department of Homeland Security’s pathogen detectors, mounted onto standard air-quality monitors to sniff out anthrax, tularemia, and other deadly substances. The local Washington government had squirreled away nearly a million respirators and over 2.5 million surgical masks for medical personnel in case of an outbreak. […]
As all this was going on, dive teams and Coast Guard boats patrolled the Potomac and Anacostia rivers while, overhead, layers of aircraft capped the largest protective bubble in the world: Air Force F-22 Raptor fighters and Air National Guard RC-26 surveillance aircraft flew above Customs and Border Patrol Blackhawk helicopters, while even higher, surveillance drones relayed real-time, full-motion video back to the dozens of stationary and mobile command centers that were lashed up with the military’s many geospatial Google-Earth-like data feeds.
Top Secret America, Dana Priest and William M. Arkin, Little Brown, 2011.
It goes on and on… but that’s enough to make the point of how one particular alternative reality – a construct of overinflated threats that have painted the shadows of swarthy assassins lurking around every corner in the minds of many Americans – has changed the nation, and the world.
Is that to say there isn’t a real threat from radical Islamists? No, 9/11 clearly showed there is. But the scope of the threat, and the scale and nature of the response – a response that has now transferred trillions of dollars into the military-industrial complex – borders on mass insanity.
While it may be a forlorn hope, we better hope that these new capabilities won’t be used against the citizenry following the next 9/11-type event.
(Ed. Note: The November edition of The Casey Report, the table of contents which is shown here, focuses on the impending smash-up of China’s economy and its investment implications. It was released just yesterday and you can read it, as well as Doug’s report Learn to Make Terror Your Friend, with a full money-back guarantee if you aren’t impressed. Details here.)
And that, dear reader, is that for this week. Until next week, thank you for reading and for subscribing to a Casey Research service!
Vedran Vuk
Casey Daily Dispatch Editor