The Long Side Of Poor U.S. Policies

By Dr. Stephen Leeb :

For a while now my mood has been distinctly bifurcated, depending on whether I think primarily in investment advisor mode or in world-trends-analyst mode.

As an investment adviser, for now I remain bullish and think the market will remain in an uptrend, meaning any corrections should be brief and treated as buying opportunities. Many stocks look attractively priced and poised to go higher.

But regarding underlying longer-term trends and the U.S. outlook in particular, I'm much more gloomy and undoubtedly a far less congenial dinner companion.

Given these two perspectives, one group with exceptional long- and shot-term potential is oil service companies. I'd also urge all investors to start accumulating gold positions, as well as other precious metals and inflation-leveraged holdings. Gold is unlikely to be one of the strongest performers for now, but its longer-term prospects to surge seem to me so self-evident that I think you should not risk waiting too long to buy.

The case for oil service companies reflects the simple, if dispiriting fact that the U.S. continues to place most of its energy bets on hydrocarbons, as fracking of nonconventional oil from shale diverts our attention from renewable energies and a smart grid. This will hurt us long-term, putting us at a major disadvantage vis-à-vis China, among others, as the Middle Kingdom makes an all-out effort to develop alternative energies and a smart grid to transmit power from wind, solar and other sources rapidly throughout the country. However, it is deplorable that the U.S. stands pat with a grid in some places predating the presidency of Theodore Roosevelt. That fact for now cements the central role of the oil service companies, which have grown ever more critical to energy producers.

Recent data relating to oil reserves and demand make the case for these companies all the more compelling since they suggest oil prices could be headed higher.

I've previously noted the jaw-dropping fact that the U.S. Energy Information Administration recently was forced to downgrade its estimates of U.S. recoverable non-conventional hydrocarbons by a whopping 60%.

This gargantuan mistake occurred since the EIA, for its earlier rosier estimates, relied upon a consulting firm that obtained data from the oil industry. Oil companies, of course, benefit from high reserves, which make it easier for them to raise money. I'd lay 5-to-1 odds that the author of any article promoting non-conventional oil as a path to energy independence has a stake in hydrocarbons. But I digress.

Now, in addition, the International Energy Agency (IEA) reports that oil inventories in the developed world have retreated to 2008 lows. Despite the political woes in Libya, Iraq and Nigeria that contribute to this glum news, it remains striking given the world's current very slow growth environment, with Europe dead in the water, the U.S. still muddling along, and China headed for a new normal 25% below its old normal. In the fourth quarter, according to most analysts, the Saudis must pump more than their previous record to balance supply and demand, even before accounting for potential growth if India's new Prime Minister Narendra Modi successfully revs up that economy.

To relieve the tightness of the world's supply-demand equation, some recommend that the U.S. begin to export some oil. This rings hollow. Even the most optimistic assessments of potential shale oil reserves would leave America far short of energy independence. Further, America lacks the ability to refine the light oil from shale formations. Our return from exports would be heavier oil, harder to refine and higher oil prices.

Sadly, few Americans seem to understand the stakes. Warren Buffett definitely gets it, but unfortunately, he lacks the political clout to effectively undo the harm from 100 years of neglect.

At some point, high enough oil prices will short-circuit the financial markets. That remains a ways off, however, and investors meanwhile can benefit from stocks, with oil service companies especially favored. We'll need every trick in the book to continue producing enough hydrocarbons, which means strong growth for the oil service sector leaders. My top three picks: Schlumberger ( SLB ), Core Labs ( CLB ), and Oceaneering International ( OII ), together covering the best in land and offshore services. And of course I also like Berkshire Hathaway (BRK.A) (BRK.B), the one company nearly betting the house on the aspects of America that need growth, especially energy and infrastructure.

The three oil service companies each play dominant roles in critical oil and gas service arenas. By a wide margin, Schlumberger is the largest and most diversified. Any major hydrocarbon project almost surely has SLB's name penciled in as a primary participant. Its technology is second to none and despite excellent overall growth prospects thanks to the need for ever greater oil services, its current P/E and forward P/E sit well below 10-year averages. Core Labs' proprietary software and data on such critical factors as rock characteristics and water sediment prove vital to hydrocarbon exploration and production globally. Recently, the stock tumbled over 25% after first an 11% advance in first quarter earnings, below expectations due to transitory factors that should have no effect on long-term growth. The setback marks a great buying opportunity. The stock trades at a PEG ratio (PE to estimated growth) of about 1.2, its lowest in more than a decade. Moreover, the software-based company generates lots of cash used to repurchase shares. Oceaneering is the leading player in subsea oil market services, a boon since offshore oil represents the last untapped venue for potential major finds. Since 2008, profits have grown at a nearly 18 percent compounded annualized rate, a rate Oceaneering should easily maintain over the next 3 to 5 years, giving the stock a PEG of roughly 1, far under the market.

Berkshire, similarly, has grown earnings 15-fold and revenues 6-fold since 2000, while making an extraordinary transition from a company largely focused on consumer stocks and insurance to one focused on infrastructure and energy. Its utility subsidiary is now the nation's largest single user of renewable energies, while its rails transport massive amounts of energy and energy products and maintain operating ratios second to none. Berkshire's capital base positions the company to increase its energy business exponentially and also in the catbird seat to bid on major underwritings. Notwithstanding its immense size, we expect to see growth accelerate in insurance too.

Gold, too, reflects the decades-long tendency of U.S. policymakers to avoid making hard decisions to maintain U.S. global economic preeminence. In this case, it involves another topic I have recently addressed: U.S. ignorance about the critical need for rare earth elements. Rare earths, especially heavy rare earths, are essential to permanent magnets, a critical piece in products ranging from electric cars to windmills to sophisticated military gear. Unless it can make or buy the best of them, America risks losing its global leadership in key areas, including, most notably, defense.

The Pentagon's attempt to cope by partnering with U.S.-based rare earths producer Molycorp ( MCP ) is mere sleight of hand. For starters, Molycorp's ore is almost completely devoid of the most useful, heavy rare earths. Secondly, Molycorp sends all its rare earth ore to China for difficult multi-stage processing, as the U.S. lacks processing capabilities.

Indeed, China is not only one of the best endowed rare earth countries, but the only country with sufficient soup-to-nuts know-how to make rare earth ore into permanent magnets and finished products containing them. Testimony to the Pentagon's perspicacity: Molycorp now trades near an all-time low below $3, down from its 2011 high of $79.

This supports higher gold: a global perception that the U.S. military no longer commands, so to speak, eventually will reduce the dollar from its privileged long-time status as the world's reserve currency - and gold will, at least partly, replace it. The dollar's reserve currency role reflected our military and economic might alike. To retain international faith in the dollar, we'd also need global faith in the U.S. Already, I see that faith badly eroding, and think it will erode further. Eventually the world's reserve currency will shift to a basket that includes the Chinese yuan, a reconstituted German mark, and possibly the Russian ruble, with a tie to gold. The dollar might retain some role, but will no longer serve as a leading man.

When gold assumes the mantle of a currency, its price will soar as demand for the metal rises to help facilitate global transactions, especially in the area of ever-more scarce commodities. Silver and other correlated assets will be big winners too. One way to safely play this long-term trend would be to buy gold and silver ETFs like SPDR Gold Trust ( GLD ), iShares Silver Trust (SLV) and iShares Gold Trust (IAU). For those with speculative juices for buying small gold companies, I especially like Novagold Resources (NG), with a massive asset base that could easily secure your future against many slings and arrows.

Nova's star asset, Donlin Gold, boasts high grade measured and indicated resources approaching 40 million ounces - roughly $50 billion worth of gold at current prices. Donlin is a shared venture with Barrick (ABX). Gold's resumed uptrend will nearly assure Donlin's development, as it is one of the world's largest deposits. The upside potential is many times its current price, while downside protection is provided by a balance sheet that will keep the company solvent for many years.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.

See also Why Job Numbers Will Be Weak The Next 3 Months on seekingalpha.com

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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