What China Needs More Than Ever, Loonie Parity, The Goldman Selloff and More!

• One commodity the Chinese crave… now more than ever

• A startling trend among S&P 500 companies… how you can invest in fund’s new leaders

• Chuck Butler on the Canadian dollar’s quick rise to USD parity (again)

• Dan Amoss examines the sudden (perhaps inappropriate) recovery in business inventories

• Plus, Cabinet member warns of coming “catastrophe” for one sector… details below

  One legendary investor led off yesterday’s 5 warning of a U.S. correction. Today, another cagey vet calling for a market bust… in China.

“There are some symptoms of a bubble building in China,” the imitable Marc Faber told Bloomberg today, “with the increase in foreign exchange reserves, rapidly rising property prices. From here on, the China economy will slow down regardless. Whether it will crash this year or later, I don’t know.”

Whenever it happens, don’t just fret for China: “If you have a crash in China property prices, the high-end sector in Hong Kong property will get hit very hard.”

  As would commodities, including the dirty one, coal.

“China, for the first time, is an importer of coal,” writes Chris Mayer. “And it looks like it might be an importer for some time yet, providing a boost for coal prices. There has been drought in southern China and the Mekong Delta for months now. Now there is also drought in the northern part of the country. Since there is quite a bit of hydropower in these places, it looks like output could drop 70-90%. That would mean electricity shortages of 10-15% nationally.

“Unless China gets some big-time rain soon, that will mean it will have to rely more on coal to make up the difference. In fact, there is a possibility that China’s reservoirs go completely dry, in which case its hydropower plants will have to shut down…

“The longer this drought goes on, the more the Chinese will have to buy coal to offset the decline from hydropower. We could see quite a spike in coal prices over the next few months as Chinese buyers wade into the market.”

  Commodities have firmed up nicely since Friday’s sell-off. At $1,140 an ounce, gold is just about halfway between its pre-Goldman levels and post-Goldman bottom. Ditto with oil. Just shy of $84 a barrel, it’s off its lows, but still well below the $87 range from early last week.

  Stocks have gone nowhere but up since the Goldman “scare” on Friday. A wave of good earnings announcements bumped up the S&P 500 another 0.8% yesterday, which has almost entirely recouped Friday’s losses.

“The short-term market has already digested the Goldman news and isn’t phased,” our resource trader Alan Knuckman confirms. “For proof, I’ve been watching the relationship between 30-year Treasury Bond futures and the S&P 500.

“During times of market instability and uncertainty, Treasuries are bought as protection and safe haven investments — if stocks go down bonds go up and vice versa. During the financial crisis stock sell-offs from 2008-2009, the Dubai debt issue and, most recently, the Greece default concerns, bonds rallied as a knee-jerk reaction. The flow of money from stocks into bonds illustrates a lack of confidence in the equity markets.

“After the midday sell-off Friday, bonds failed to make new relative highs, signaling less fear as the session moved to the close. Stock price action Monday was positive and Treasuries have remained below the recent highs for now — all clues that the worst may be over for now.”

  Nearly one out of every five S&P 500 companies now generates a majority of its sales overseas, we noted earlier this week in the second “beta” issue of Apogee Advisory. Coca-Cola is perhaps the iconic example: 74% of its revenue comes from outside the States.

This could be one reason that 54% of U.S. executives surveyed by the search firm Korn/Ferry say they’d be willing to accept a post overseas. That compares with just 37% four years ago.

Companies with a very large overseas presence, especially in emerging Asia, stand to be among the best performers among the blue chips in the years ahead. They’re exposed to healthier business environments overseas. And they’ll be insulated from the shock of a weakening dollar.

For ways to play this trend, there’s still time to exchange your feedback for three free beta issues of Apogee, Addison’s latest project. Please enroll here.

  The dollar has held up despite the stock rebound this week. The dollar index popped up to around 81 by the end of business Friday, and it’s been there or higher ever since. As we write, the DX is at 81.1

  Nevertheless, the Canadian dollar has once again hit parity with the greenback.

“Canada and its loonie are the belle of the ball,” declares Chuck Butler, making a triumphant return to his Daily Pfennig. “Yesterday, the Bank of Canada (BOC) met, and while they left rates unchanged as suspected, they did drop some language that had been in their previous statements about keeping rates steady until July.

“The economic outlook in Canada is glaringly strong right now, and so is the newest forecast for inflation: The BOC noted that inflation was moving higher than their target of 2% over the next year. That mention, along with the dropping of the language about the bogey date of July, has me thinking that the BOC will most likely be the first G-7 nation to raise interest rates… if not May, by June.”

Honestly, all things considered, we couldn’t care much less about the loonie today. We’re far happier just to have our pal Chuck back in good health and at the helm of the Daily Pfennig. Bravo.

  A strong loonie will be yet another thorn in the side of American manufacturing. If we exported to Canada more than we brought in, that wouldn’t be so… heh… but how un-American is that? Over the last year, Canada’s resources have gotten 20% more expensive on the loonie’s rise alone.

 “This soft depression has forced every business involved with physical trade,” notes Dan Amoss, “to carefully consider how much inventory is appropriate to hold.

“The inventory-to-sales ratio provides a rule of thumb. This ratio has historically trended downward as more businesses adopt just-in-time inventory management. But during the 2008 crisis, this ratio spiked as sales dropped much faster than inventories.

“This ratio is now back to the 2004-2007 average of 1.3, so unless final demand picks up dramatically, the widely anticipated inventory rebuilding cycle will be tame.

“With many brick-and-mortar businesses still shellshocked from the crisis, it’s unlikely that we’ll see a rush to preemptively build speculative inventories. Yet the stock market clearly doesn’t share this view. All types of industrial stocks have soared, pricing in an extended inventory building cycle and a sustained rebound in final demand for their products.”

Naturally, Dan selected a chemical manufacturer he feels is extremely overpriced — and instructed his readers to sell it short. You can have the ticker, and Dan’s entire Strategic Short Report portfolio, right here for just $1.

  America is on the verge of an “education catastrophe,” Secretary of Education Arne Duncan warned Congress yesterday. By his estimates, state budget shortfalls will attribute to as many as 100,000-300,000 teacher layoffs. At the high end, that’s roughly 5% of the national teacher work force.

Even though about a quarter of typical state spending goes towards public education, nationwide, state budgets are expected to fall short around $144 billion this year.

“We absolutely see this as an emergency,” Duncan told Congress. Maybe not. The correction is trying to do its job.

  “There’s a lot of yammering between Republicans and Democrats,” writes a reader, “over how to prevent the next meltdown.

“Likewise, from their cohorts is the need to cut ‘entitlements.’ Before we cut any meager pensions to maimed war veterans or lifelong Social Security ‘contributors,’ we must demand restitution from the Wall Street/Fed/Treasury conspirators. AIG alone took $170-plus billion, which was quietly passed through to Wall Street, where it was apparently divvied up among GS and other insiders.”

The 5: Even Broadway is taking its shot at Goldman Sachs.

  “I’m a taxi driver in Las Vegas,” a reader writes, responding to comments about the volcano in Iceland. “I just took a couple business travelers from the U.K. to the airport for their daily update from Virgin Atlantic Airlines. They have been trying to leave for nearly a week and desperately want to go home. Las Vegas is slow this week. Roughly a quarter of my rides are for people from Europe. That business has dried up.”

  “My son is currently in Houston, trying to get back to U.K.,” a father writes. “British Airways wanted US$6,000 (yes… six thousand) for a one-way ticket to London. They didn’t get it from him!”

The 5: We’ve been slightly volcano-stricken, too. We just had to postpone our bi-monthly editorial meeting because one of our key strategists was stuck in Paris.

  “The volcano is what the British get,” another adds, “for trying to get the citizens of Iceland to pay for their big banks’ bad loans to Iceland’s banks. Lesson: Don’t mess with Iceland — eventually, it’ll blow its top.”

The 5: This cartoonist beat you to the punch line:

  Last, a photo sent by a reader from the Icelandic plains:

Heh… don’t think we’d fly through that either.

Best,

Ian Mathias

The 5 Min. Forecast

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