Thursday, August 21, 2008

You Can Learn Where To Invest From Hollywood, Hedge Funds and Billionaires

Ever since Adam Smith wrote Wealth of Nations, we’ve known the first rule of unfettered economics -- supply and demand balance each other.
The second rule is that money moves on.
There are numerous interesting examples of this at work right now. Knowing where money is flowing might help you make some slightly different investment decisions. It also makes some mysteries clear.
Last Thursday, in IDE, for instance, I’d found an interesting study of dollar strength and stock market returns to share with you. That London Business School/ABN Amro study found that the stock markets of strong currency countries tended to do worse than the markets of countries with weak currencies.
It seems counterintuitive. Why would anyone want to invest in a hot market if every drachma, real, rupee, dinar, or whatever that you made would become less valuable the longer you owned them? The second rule explains why.
Money moves where it multiplies best. Judgment does not always go along. While certain investors are super-smart about where to go and what the full, long-term implications are, most money is simply hot money. It’s greedy, spontaneous and slightly irrational.
Need an example? I’ll bet you’ve got one right on the street where you live. Look at all the people around you who said “housing prices here are crazy, nobody could afford this on a normal salary” with one breath and “I bought a house with nothing down and I plan to resell it for a big profit,” with the next breath. Even as they knew the market had gone too far, they saw everyone else’s profits and couldn’t help themselves.
One of the effects of hot money has hit Hollywood. The Brazilian real is very strong right now. According to Bloomberg, the currency has gone up 83% against the dollar in four years. Given the study I showed you last week, you might think twice about investing in Brazil unless the prospect is very solid. But if you are a movie star…
Brazilian marketers are suddenly able to afford stars like Sarah Jessica Parker and Sylvester Stallone because they now come cheaper than their homegrown celebrities. The real is so strong against the dollar that the marketers can buy U.S. stars at lower prices than they have to pay their own.
Some think this is a sure sign that the real is not only overvalued, but ripe for a big fall.
But when you want to talk big hot, hot, hot money, look to the sovereign wealth funds. The International Monetary Fund (that’s the bank, not another wealth fund) believes that these country-owned investment funds control about $3 trillion at present and will rule over $12 trillion by 2012.
If they don’t do anything too stupid, is what I say. Professor Olivia Mitchell of Wharton says that many of these funds are developing big appetites for risk and have “virtually no clarity of objectives” or transparency. And ditto for many hedge funds.
A good example of how this hot money takes big risks is Abu Dhabi’s $7.5 billion investment in Citigroup this year, which has netted a 40% loss so far.
Most of these funds are secretive, so we have no idea how many put big bets down on mortgage-backed securities. In fact, I wouldn’t be surprised if much of the future ugliness that many expect to see among irresponsible banks will actually be elsewhere—in sovereign wealth funds.
But there’s no denying these big spenders know what’s hot. How do we non-billionaire’s get a clue?
For that, I turn to John Murphy… see the market commentary for an example.

Tuesday, August 12, 2008

The looming water crisis in Beijing

One morning last spring, millions of people in eastern China woke up to find stinking, green sludge oozing from their taps. It looked like blended seaweed and gave off a rotten odor that choked them if they got too close...
Lake Tai is China's third-largest lake. It's in the Jiangsu province, near the East Coast of China, 70 miles upstream from Shanghai. About 30 million Chinese rely on Lake Tai for drinking water. But in May 2007, pollution caused an algae bloom to cover the lake.
For 10 days, 2 million people who live on the shores of Lake Tai had no drinking water. It caused a panic. The price of a two-gallon jug of bottled water in the nearby city of Wuxi jumped from $1 to $6.50 overnight.
For hundreds of years, the locals considered Lake Tai the most beautiful place in China. It held so many fish, they tickled your ankles when you dipped your feet in the water. The richest people in China moved here and built stunning gardens on its banks.
But over the last half century, the shores of Lake Tai have turned into an industrial zone. Thousands of paper mills poured toxic chemicals into the water... so did cement factories, chemical plants, and textile companies. These chemicals killed the fish and removed all the oxygen from the water.
Now the rivers and tributaries that flow from the lake run red or black... and local workers won't tend to their rice paddies without heavy gloves because the water peels away their skin.
Lake Tai is not an exception in China. The Chinese grade water quality by five categories. Grade one is safe for drinking. Grade three is suitable for everyday human use. Grade five is polluted water and not even suitable for agriculture.
A recent survey of seven of China's major river systems by the nation's State Environmental Protection Administration showed 58% of China's water is grade three or below. And 28% of the water fell into grade five... totally useless.
Of China's 662 major cities, 278 have no sewage treatment plants. Only 23% of China's sewage is treated... The rest is discharged into rivers and lakes.
China is moving aggressively to reverse its widespread environmental damage. The government is starting to clamp down hard on offenders... dishing out jail time, handing out fines, and closing thousands of factories.
Take Lake Tai, for example. The rich industrial city on its shores – Wuxi – has kicked out 2,800 companies and levied huge fines on the remaining factories. The government told them to either clean up or leave. Now the city is calling itself a "green" city and says the lake will be clean again in 10 years.
The Chinese government has upgraded the State Environmental Protection Administration to the status of full ministry and given it power to seize salaries of executives at polluter firms. The government changed the law to allow class action lawsuits by victims of water pollution to seek compensation directly from water polluters... And it scrapped the maximum $140,000 fine for water pollution.
But here's the real kicker: The State Environmental Protection Administration estimates China needs to build 10,000 wastewater treatment plants to achieve 50% sewage treatment rates in China.
But the government's five-year plan – ending 2010 – requires Chinese cities to treat 70% of their wastewater... which implies China must build more than 10,000 new wastewater treatment facilities over the next few years. Chinese authorities may spend as much as $125 billion building these facilities...
The Singapore water industry is my favorite way to profit from China's drive to clean up its water. Singapore is a world leader in the water business... and its water companies do most of their business in China.
In my next column, I'll tell you about Singapore's water industry and give you a list of Singapore companies working to clean up China's water...
Good investing,

Tuesday, August 5, 2008

Beware of this fraudulent company that pays 14% dividend

Yesterday, I finished the new book by David Einhorn. Einhorn manages a hedge fund named Greenlight Capital. The book is about the fraud committed by a company called Allied Capital. The title of the book is Fooling Some of the People All of the Time.
Allied Capital's is a "Business Development Company" or BDC. Twenty-six BDCs trade in the stock market. Allied Capital is the oldest and one of the largest.
All BDCs do is provide money to very small businesses and receive high interest rates in return.
BDCs are not subject to many of the rules that govern traditional lending institutions, so they can be more flexible than banks and close deals quickly.While terms on the loans vary, they all have one thing in common: The companies BDCs lend to are always small, private, growing fast, and desperate for cash.
The size of the borrowers is the most important factor. First, tiny companies grow fastest... Not only are small businesses the most desperate for cash, but they have the most to gain from a loan. So they'll pay any price to get it... sometimes as much as 20% in annual interest payments, plus an ownership stake in their business.
Secondly, by financing only small companies, BDCs spread their portfolio over a large number of companies, sectors, industries, and locations. Collecting loans and bundling them all together is one of the secrets to finance. Diversification eliminates the risk without hurting the return.
Finally, taxes are the best reason for investing in small companies. The U.S. government thinks small businesses are vital to the economy and gives huge tax breaks to companies that lend money to them. BDCs never have to pay tax on their profits... as long as they distribute their gains to shareholders every quarter in dividends.
BDCs don't use a lot of leverage, so they're low-risk investments. (The government doesn't let them take on more debt than equity. Compare that to most banks and financial institutions in America, which frequently take on debt that totals more than 20 times equity.)
I think the BDC industry is a fantastic investment right now. On average, BDC stock prices have fallen 38% this year. They pay an average 14% dividend yield. Allied Capital is down 61%, and is yielding nearly 19%.
But don't buy Allied Capital. As David Einhorn proves in his book, Allied's senior managers are dishonest. They covered up several frauds, they lied on conference calls, and they even stole Einhorn's telephone records.
Even though the SEC has officially recognized Allied's fraudulent behavior, they haven't punished the crooks. And Allied's bent management is still running the business.
Fortunately, Allied Capital is the exception. Properly run, BDCs make excellent returns on their investments and pay the most stable, high dividend streams you'll find anywhere in the stock market.
If you like income stocks, you should consider investing in a basket of BDCs. They're cheap right now, and they'll pay you an average 14% dividend yield.
Good investing,

The best place to invest right now is India

Yesterday, I was having high tea near Buckingham Palace with an English colleague. We were talking about the great world empires in history - how they rose up, peaked, and then fell.
All of them - the Hittites, the Greeks, the Romans, the Ottomans, the English and Spanish, and then, in the 20th century, the United States - enjoyed 100 or more years of rapid economic growth. This created huge, wealth-building opportunities for many.
When an economy is growing fast, opportunities are abundant. You don't have to be a genius to make lots of money. You simply have to be at the right place at the right time.
That was true 2,000 years before Christ, and it's equally true right now. Get on an economic tidal wave when it's just a ripple, and before you know it you're 100 feet above your peers, making millions and enjoying the ride.
One hundred years ago, the best place to be - by far - was the U.S. But today that may not be so. The U.S. economy is in big trouble. After surviving the collapse of the Internet bubble, we jumped right into a real estate bubble. That one collapsed too, and its ramifications are just now being felt. The falling dollar is making it much more expensive for Americans to pay for anything made abroad. And the rise in oil and gas prices (and other commodities) is putting the U.S. into a recession that will probably last a long time.
But that's not the worst of it. The U.S. economy is old, and outdated in some respects - just as England's economy was 100 years ago. The 20th century was America's century. Thousands of people became enormously wealthy by getting into oil and gas and railroads and other industries back then.
But the world has totally changed. New technology and major advances in communications have permanently altered the way wealth is and will be created.
So the question my friend and I asked ourselves over tea and scones yesterday is this: If we were in our early twenties and our goal was to become billionaires (forget the measly millions!), where would we go to start our fortune?
For me, there was only one answer: I'd move to India.
Why India?
Because India is, in many ways, like the United States was in 1900... but bigger and better. It has a huge population - about a billion people, of which approximately 200 million are considered middle class. This is more than 10 times the size of the U.S. middle class at the start of the Industrial Revolution. The sheer size of the market is staggering.
A study I read in the International Herald Tribune recently said that there are a million families in India whose income is more than $100,000 a year. That's a very substantial class of wealthy people. Many of these wealthy people are entrepreneurs and investors. And because of India's laws (and lack of laws), they will have few artificial obstacles to keep them from increasing their wealth.
India's positive investment climate and vast consumer markets has resulted in a decade of phenomenal growth. Since I've been tracking it, India has been growing at least twice as fast as the United States. And even today, with oil prices going up and productivity going down on a global scale, India is still growing at almost 7 percent a year. Again, more than twice the rate in the U.S.
China, too, has a huge, fast-growing economy. But I'd choose to move to India over China because of its more democratic government, more homogeneous population, and the prevalence of the English language.
And if I were going to set up shop in India, I'd start something in the communications or technology area. More specifically, I'd start an Internet publishing company there.
Why Internet publishing?
First and foremost, because it's a business I know. And it's always better to start a new business in a field you know.
I also like publishing because it's a growing industry in India. According to that report in the International Herald Tribune, the country's magazine business will increase 20 percent in 2008, up to $302 million.
In the past 12 months, all of the following magazines have been launched in India: Vogue, Rolling Stone, OK!, Maxim, FHM, Golf Digest, People, and Marie Claire. Most of them have been launched through licensing agreements with Indian companies. That's what I'd try to do - get an equity position and put down my stakes in India. That's how you make the big money, not just by passively investing from abroad.
If the publishing industry is doing well, the Internet is doing even better. The growth of the Internet-based side of the information industry in India is impossible to know with certainty because of how many new companies are involved and how fast they are moving. But most insiders I've spoken to estimate the growth at more than 100 percent a year.
To me, India is a long-term play - an opportunity that will continue to get better over the long haul. There will be ups and downs and specific sectors that fail while others succeed. But, overall, the long-term trend is upward - toward the billions!
One of my biggest clients recently acquired a half-interest in an investment publishing business in Mumbai. That was a very smart move on their part. If things work out like I think they might, they will see a 100-to-1 return on their investment over the next five to 10 years... and a 1000s-to-one return over a longer period of time.
If setting up a business in India doesn't appeal to you, Andrew Gordon has another recommendation.
"You could invest in India's high-tech industry," says Andrew. "In its generic drug sector... or its business support center companies. But the company I like best isn't in any of those sectors. It's an auto and truck maker called Tata Motors from Mumbai. Its ticker symbol is TTM, and it's listed on the New York Stock Exchange.
"Tata had the nerve to challenge and then break long-held notions of auto manufacturing. Conventional wisdom argued you couldn't make a quality car for less than $6,000 to $7,000. Perhaps with cheap labor and raw material and everything else going perfectly, you could get that down to $5,000."
But Tata's highly respected CEO - Ratan Tata - did not swallow a word of that, says Andrew. He took advantage of India's top-notch but cheap design capabilities and low-cost labor pool to make a car that costs not $5,000... not $4,000... not $3,000... but $2,500.
Such audacity has its rewards. Tata is proceeding with plans to sell 1 million of these cars every year. Who will buy them? Not people who can already afford a car. But the millions of people in India, China, Vietnam, Indonesia, and other countries who cannot.
"This car will never be confused with a Peugeot," says Andrew. "But let me be clear. It's no Yugo either. It doesn't have power steering, a radio, or air conditioning. It has only one windshield wiper. The car has been stripped to its absolute essentials. But what hasn't been stripped out is the quality. This car is getting good reviews, and should sell like hotcakes when commercial production begins this fall."
Plus, Andrew adds, Tata bought Land Rover and Jaguar from Ford a few months ago. It's attacking the Asian market at its highest and lowest end - where the market is growing the fastest.
"You haven't heard of Tata Motors up until now? It'll be a household name in a couple of years," he says. "The trick is to get on board right now while Tata is still flying under the radar. Its shares are priced to buy, so this is the perfect time to invest."
Investing in India - with Andrew's Tata recommendation or by starting your own information publishing business - is one of the best ways to make a lot of money. This is the right time to profit. You just need to get into position to allow the money to come pouring in.