Agora Financial’s Rude Awakening

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Baltimore, Maryland

• Coal vs. Natural Gas – what the EPA’s warning means for investors,
• Asian and European markets retreat along with gold and crude,
• And more from “the gang that couldn’t shoot straight…”

Joel Bowman, with a couple of words from Taipei, Taiwan…

Some will enjoy today’s column because the topic is controversial. Others will enjoy the investing angle. Still others will, we’re sure, appreciate Chris Mayer’s straightforward, no-nonsense writing style. And finally, one individual will entirely miss the point of the essay, write in to call us “anti-something-or-others” and threaten to cancel their subscription.

So, here’s what you do:

If you fit into category 1, send us a fiery email detailing either your support or opposition to the Environmental Protection Agency’s recent ruling that “too much carbon dioxide is threatening the planet.”

If you fit into category 2 or 3, please feel free to use Mr. Mayer’s essay either to further your own research or as motivation to take advantage of a risk-free trial to his investment service, Capital & Crisis (details below).

If you fit into category 4, take a deep breath, re-read the column and, if you still find reason to write in with a personal attack, please do. We get one every so often and they are among the funniest reader emails we get.

And now, today’s column…

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The Visible Hand
By Chris Mayer

I wish I didn’t have to consider what the government might or might not do. But it is the big gorilla in the locker room. We just can’t ignore it.

“Adam Smith described the ‘invisible hand’ of the marketplace that will direct the allocation of resources to their most effective use without government interference,” Martin Whitman writes in his new book Distress Investing. “That type of invisible hand does not exist in the United States.”

Instead, the U.S. government is having a very big say about what happens in the market these days. Markets lurch, hobble and reel in reaction to everything from stimulus spending to ham-fisted bailouts of lame duck firms.

The U.S. government reminds me of the gang that couldn’t shoot straight. As Jimmy Breslin wrote of his fictional gang leader “[he] couldn’t run a gasoline station at a profit if he stole the customers’ cars.” It seems everything Breslin’s gang does backfires. And I am sure the latest government salvo – from the EPA – will also backfire in a number of ways.

The EPA ruled that too much carbon dioxide is threatening the planet. (Tell that to plants.) What this does is make it a lot easier to regulate and tax emitters of this gas. So here we are in a shaky economy tottering on a ledge and along comes the EPA ready to shove it right off. As The Wall Street Journal reported: “The landmark decision lays the groundwork for federal efforts to cap carbon emissions – at a potential cost of billions of dollars to businesses and government.”

In other words, the war on the so-called greenhouse gases is officially under way – and it is going to be expensive. Each passing month brings us closer to capping, taxing or cutting the gases thought to cause global warming.

I don’t think investors appreciate how far-reaching such efforts could be. And there will be definite winners and losers as a result. Some of these are far from obvious and some are in plain sight.

The first obvious big loser is American coal, from which we get half about of our electricity needs. Already, you see companies reacting to this news. Consol Energy, a big coal company, said it halted two big mines in Appalachia because of uncertainty over the costs of pending new regulations. If you own a U.S. coal miner, I’d fold the hand, so to speak.

Coal-fired power plants look like big losers, too. And the utility AEP, the biggest user of coal in North America, is looking to shutter some of its coal plants. It is also looking at how high rates would have to go to comply with possible rule changes. In some places, rates could rise as high as 50%. It is no sure thing that AEP could get such rate increases.

Natural gas-fired plants, though, may be one winner relative to coal, because natural gas burns cleaner than coal. Already, in just the last few months, as the market ponders talk of new emissions caps, you could see gaps opening up between coal utilities and natural gas utilities.

Though the new rules could be a year or more away, those gaps may well widen over time as investors anticipate the likely bad ending for coal. So I would not own a U.S. coal utility right now, either. It is no fun wearing a target on your back – especially since the guy throwing the darts makes all the rules.

Instead, I’d rather be the guy who gets to make and sell the new equipment that helps utilities “clean up.” The demand for cleaner-burning fuels will boost the need for its high-quality pumps, valves and seals. These products work to improve efficiency and emissions. I’m keeping an eye on a couple of companies for my Capital & Crisis readers right now.

There are many other ways the EPA’s ruling could affect the lay of the land. The EPA could raise fuel-efficiency requirements on cars. It could require more hybrids and electric cars. This would be good for makers of car batteries. It would also be good for the things that go into making more efficient car batteries – such as lithium or cobalt, which are ideas I prefer over the battery makers themselves.

The war on greenhouse gases could also dramatically affect our homes and offices. Worldwide, the energy we use to build, heat, cool and light buildings makes up about 40% of energy demand. This is even more energy than the world’s transportation networks guzzle.

Better insulation, new windows and even more efficient water heaters can make a big difference on the carbon footprint of a building. Just heating water alone can make up 15% of the energy used in a home.

However, this is not all driven by government’s iron hand. In fact, in some cases, it is just good business sense. The Empire State Building, for instance, is undergoing a major makeover. But it is one you can’t see from the outside. Instead, it’s all about the insulation, smart meters, new boilers and more. According to the Financial Times: “The retrofit of the Empire State Building will cost about $20 million, but its annual energy savings will be $4.4 million when it is complete.” That’s not a bad payback.

In any event, the efforts to save energy and reduce greenhouse gases – whatever their source – is an important story and sets up a lot of things for us to look deeper into in future letters. We are still early in this game.

P.S. I’m keeping my eye on a few ideas developing off the back of this trend and, in particular, a couple of companies I see with enormous “green” profit potential. My Capital & Crisis readers get the first crack at them, of course, and you can join them right here.

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[Rude Endnote: Asian and European markets skidded off course a little while the lads on Wall Street celebrated the long weekend.

Here in Asia, Japan’s Nikkei 225 fell 0.4% by today’s close while Hong Kong’s Hang Seng and China’s CSI 300 fell 0.8 and 1.2% respectively. The Aussies, meanwhile, managed to add 1.3% to their All Ordinaries index.

Over in Europe, most major index were down last we checked. London’s FTSE looked to be heading towards the negative 1% mark while markets in Germany and France had just passed it.

Commodity traders were also hitting the sell button over night. Crude fell about $1, but was still trading over $60 a few moments ago. Gold, meanwhile, slipped almost eight bucks overnight as the dollar enjoyed a bit of a bounce off its lowest point for a couple of months.

Where to from here, Rude reader? We’ll be back tomorrow with more guesses.

Until then…

Cheers,

Joel Bowman

The Rude Awakening
aussiejoel@the-rude-awakening.com