Let me explain …
During the past week, we got very strong indications that strong hands see value in the market:
- Robert Doll, chief investment officer at investment giant BlackRock Inc. (NYSE: BLK), wrote a well-argued bullish position for U.S. stocks in The Wall Street Journal.
- U.S. Federal Reserve Chairman Ben S. Bernanke attempted to reassure investors that there would be no double-dip recession.
- And China posted red-hot economic numbers.
These developments – and others – are bullish for stocks. If we include the fact that the market has been way oversold, the market seems to be telling us that it is time to look for bargains.
That's why it's time to play copper, which carries the "metal-of-the-economists" moniker for a very good reason – copper prices are a very good barometer of global economic activity. Since the metal is used widely in construction, automotive, electronics and a myriad of industries, copper has served as a fairly reliable barometer.
I make that statement with a bit of caution, since there has been a very pronounced sell-off in copper prices in the market since the April peak. This was coincident with the European debt crisis. But the sell-off has been dramatic.
Now, however, it appears that the expectations of a global crash are decidedly diminished. Central bankers and governments around the globe have taken dramatic measures and continue to work feverishly in order to ensure that global growth remains on track. Sure, there are differences, but the general objective is the same for everybody: maximize growth. The constraints in emerging markets are inflationary pressures, and in European countries there are fiscal and debt level issues. So let's quickly review.
The U.S. economy is strengthening further. We learned last week from Bernanke that the impact from the European debt situation will be muted and that the Fed remains vigilant to counter its effects in the U.S. economy. As a result, the U.S. economy will be consolidating its gains in growth and unemployment will be hard to cut from here, but we will not go into recession again.
China and the rest of Asia remain very strong. China's numbers reveal that it is still in risk of overheating its economy, despite the measures it has taken to avoid this. Very strong trade surpluses, despite the recent financial turmoil and European distress, strongly point to the fact that China needs to do a lot more to "flexibilize" its currency and let it appreciate. A more-flexible approach would be beneficial, since it would achieve a more balanced growth, relying less on exports and increasingly in the purchasing power of its own consumers. As an example, the trade deficit excluding oil for the U.S. economy narrowed with every country except for China.
Now, should China gradually make the currency changes that I expect – as Brazil and Mexico have done for a long time – the Asian giant would benefit from an immediate easing of its internal inflationary pressures, while at the same time increasing the purchasing power of China's consumers.
This, in turn, would help support the global economy, balancing China's growth, and stoking its demand. The global commodity and exporting sectors would benefit from that heightened demand.
India's economy is set to accelerate into the second half of the year and beyond, and is stimulating lending. And Brazil's economy has been – and will continue to be – able to post accelerated rates of growth this year. It will grow at a 7.5% pace this year, with the rate moderating to 5% next year.
We'll also have an extended period of 0% interest rates in the U.S. economy stretching into at least the first quarter of 2011, with Europe likely to remain extremely lax in monetary policy to compensate for the renewed fiscal discipline. Japan is also likely to keep an easy monetary policy.
This environment is the ideal scenario for commodities.
Yet, we saw the sell-off over exaggerated fears about a global double-dip.
Since markets exaggerate to the downside and to the upside before reaching an inflection point, they create great opportunities at the extremes. And when markets sell-off to the downside, they tend to do so much more aggressively and over a shorter period of time.
In addition, the fact that the Bush administration tax cuts expire at the end of this year is forcing many investors and speculators to take profits now, leading them to establish a new, higher cost basis. This could have been a strong factor helping the recent sell-off be more pronounced than it should have been, were it based solely on fundamentals. But this just creates new entry opportunities that we must seize.
That brings us to the publicly traded king of copper: Freeport-McMoRan Copper & Gold Inc. (NYSE: FCX).
Copper prices sold off 25%, from $3.65 on April 12 to a recent low of $2.73. And this occurred in an environment where gold, which acts as a safe haven from both inflation and financial meltdowns, was rallying. In this environment, it is no surprise that Freeport's stock sold off 33% from almost $88 to $57. It closed Friday at $64.93.
Indeed, a chart of copper and the chart for FCX reveal the expected almost identical movements for both.
The sell-off in Freeport's stock occurred independently of the fact that the company's reported earnings-per-share (EPS) of $2.00 in its April release was ahead of expectations, and the fact that the firm recently doubled its dividend from 60 cents to $1.20 per share. FCX actually has accumulated a huge amount of cash already ($2.7 billion) and is generating some $1 billion per quarter. So some market players have been speculating about the possibility of the company paying a special dividend. We are not going to count on this, however, and will just go on the company's prospects from here – as well as the current $1.20 dividend, which gives us a 2% dividend yield.
By accounting for roughly 12% of the total output of copper in the world, Freeport is the largest publicly traded copper producer on the planet. The industry has seen a tripling of copper prices in the last few years and this strong pricing is likely to keep increasing.
Cheaper copper – accessible in open-pit mines – will run out in the next decade. At the same time, however, the demand keeps increasing with the "wealth effect" that is creating hundreds of millions of new members of the global middle-class/consumer-class in China and in other emerging markets around the world. We're also seeing huge urbanization trends occurring in those countries. As we discussed, global growth should actually accelerate into 2011.
Freeport, by virtue of the high quality of its properties, its expertise and its economies of scale, shines bright. It continues to enjoy a very high profitability from its Grasberg property in Indonesia, which, given its very-high-quality ore, is one of the most competitive mines in the world.
The company does have some political risk in the Democratic Republic of Congo, which has recently raised taxes even without going through Congress. This follows a joint study between the Organization of Economic Co-operation and Development (OECD) and the African Development Bank, which concluded that many African states should do the same in order to ensure that they get an adequate return from their mineral wealth. Tax increases are not expected to be a significant dent in Freeport's profitability.
FCX's stock was strongly oversold and has rebounded decidedly on good global macro news, and an apparent abatement of near-term European-debt-default fears. I see a continuation of all the trends that I've described, which I believe grants us a very attractive entry opportunity into FCX. The stock is trading at a Price/Earnings (P/E) ratio of less than 9.0, while the Standard & Poor's 500 Index is trading at 15 times earnings.
This is a gift. I foresee in coming months a strong rebound in copper prices and a possible 50% upside for Freeport – sending it to new highs.
Recommendation: Buy Freeport McMoran Copper & Gold Inc. (NYSE: FCX) at market (**).
(**) – Special Note of Disclosure: Horacio Marquez holds no interest in Freeport McMoran.
[Editor's Note: Horacio Marquez knows how to make a market call. It was Marquez who told investors that lithium was going to be big – a year before other "experts" made the same call. Now Marquez has isolated the major profit opportunities being created by the possible broadband breakdown – a situation that the news media is only just now starting to understand. To find out all about those top profit opportunities, check out this new report.]
News and Related Story Links:
- Money Morning:
Buy, Sell or Hold: TransCanada Corp.'s (NYSE: TRP) Low Risk and High Dividend Yield Break the Waves of Uncertainty
- Money Morning News Archives:
Defensive-Investing News Stories.
- The Wall Street Journal:
The Bullish Case for U.S. Equities
Bernanke doesn't expect U.S. double-dip recession
- Money Morning News Archives:
- Money Morning News Archives:
Debt Contagion Stories
- Money Morning:
How to Play Gold – So it Doesn't Play You.
- PBS Nightly Business Report:
One on One with Robert Doll, Chief Equity Strategist, Blackrock.