Don Coxe Basic Points May 2012

Basic Points
Is It NowFinally Time for Stocks for the Long Run?
May 11, 2012
Published by Coxe Advisors LLP

Distributed by BMO Capital Markets
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Don Coxe THE COXE STRATEGY JOURNAL
Is It NowFinally Time for Stocks for the Long Run?
May 11, 2012

published by
Coxe Advisors LLP Chicago, IL
THE COXE STRATEGY JOURNAL Is It NowFinallyTime for Stocks for the Long Run?
May 11, 2012
Coxe Advisors LLP. Author: Editor: 115 South LaSalle Street, 11th Floor Chicago, IL USA 60603
Donald Coxe dc@coxeadvisors.com Angela Trudeau at@coxeadvisors.com
312-461-5365 604-929-8791
Basic Points is published exclusively for BMO Financial Group and distributed by BMO Capital Markets Equity Research for clients of BMO Capital Markets, BMO Nesbitt Burns, BMO Harris Private Banking and Harris Private Bank. BMO Capital Markets Equity Research Manager, Publishing: Desktop Publishing and Distribution Coordinator Monica Shin monica.shin@bmo.com Anna Goduco anna.goduco@bmo.com
Is It NowFinallyTime for Stocks for the Long Run? OVERVIEW
We have, since 1999, been critical of Jeremy Siegel's excessive optimism about inevitably high equity returns in his best-seller Stocks for the Long Run. Why nowof all timesto make this case? It's "Sell in May and Go Away" time again, as tacticians advise raising cash for reinvestment later in the year. That strategy has worked more often than not, and this year looks like a particularly propitious time to employ it: recessions across most of Europe, Greece again in the scare headlines, a flaccid US economy in which GDP growth is less than deficit growth, and slower Asian growth, even in China and India. With exquisite timing, Sotheby's auctioned Munch's "The Scream" last week for $120 million, a record for an auctioned painting. It could be retitled, "Equity Investor Reviewing 401(k) Statement". Of late, disillusioned retail and pension fund investors have had to contend with torrents of bad news mostly politicaland they are slashing equity exposures in favor of bonds offering yields whose financiallynutritious generosity recalls Oliver Twist's experience with workhouse porridge allotments. A well-researched report published this week by Citi's Global Equity Strategy team, "Equity Cult Still Dying" asserts that "The equity cult is now dead in continental Europe and Japan. It is looking decidedly unhealthy elsewhere. A bond cult has risen in its place." Although we agree that North American equity markets should soften near term, their valuations generally no longer reek of 1990s greed and delusion. Stocksin particular the beaten-down commodity stocksare now far better bets than bonds. Assuming the US escapes a double-dip recession, equity prices should soon be considerably higherwhile interest rates will stay stuck near zero.
May 2012
May 2012
THE COXE STRATEGY JOURNAL
Is It NowFinallyTime for Stocks for the Long Run?

S&P 500 May 1, 1999 to May 9, 2012
1,800 1,600 1,400 1,200 1,000 800 600 May-99 May-01 May-03 May-05 May-07 May-09 May-11 1,357.99
The S&P is almost exactly where it was 13 years ago...
The sardonic line going around these days is, "Thirteen years ago we had Steve Jobs, Bob Hope and Johnny Cash; now we've got no jobs, no hope, and no cash." We have chosen to endorse Dr. Siegel's title as the basis for long-term strategy now partly because it is not just out of favorbut the stock market keeps assigning it the decision-making relevance of a "Gore for President" button. Retail investors were just beginning to recover from the blow to their retirement savings from the end of the tech idiocies through their heavilylevered home-buying bets when that bubble burst, taking the stock market down with it and sending bond prices to new highs. The S&P is almost exactly where it was 13 years ago, (an adjusted index that cores out Apple is actually down), and bonds have hugely outperformed stocks. Equities have apparently been near-comatose in a Long Nightmare, interrupted by occasional Erotic Intervals. Could it now be time to argue that, although his timing has proved abysmal as an enrichment strategy for everyone but the author, the book's title is accurate, and investors should assume that equities will arise from their deep sleep soon? Were equities not a better (very) long-term asset class than bonds or gold, capitalism could not endure. (Gold has outperformed the S&P with dividends reinvested for four decades, but not for the really long run.)
May 2012

US - S&P 500 (%) May 1, 1999 to May 9, 2012
120 100 80 60 40 20 0 -20 -40 -60 May-99 May-01 May-03 May-05 May-07 May-09 May-11 0.1% 450 350 250 150 50 -50 May-99 May-01 May-03 May-05 May-07 May-09 May-11 111.5%
China - Shanghai Composite Index (%) May 1, 1999 to May 9, 2012

650 550
Japan - Nikkei 225 Index (%) May 1, 1999 to May 9, 2012

120 100 80 60 40 20 0 -20 -40 -60 May-99 May-01 May-03 May-05 May-07 May-09 May-11 -46.7%
India - Bombay Sensex 30 Index (%) May 1, 1999 to May 9, 2012

650 550 450 399.7% 350 250 150 50 -50 May-99 May-01 May-03 May-05 May-07 May-09 May-11
United Kingdom - FTSE 100 Index (%) May 1, 1999 to May 9, 2012
120 100 80 60 40 20 0 -20 -40 -60 May-99 May-01 May-03 May-05 May-07 May-09 May-11 -13.8%
Brazil - Bovespa Index (%) May 1, 1999 to May 9, 2012

650 550 450 350 250 150 50 -50 May-99 May-01 May-03 May-05 May-07 May-09 May-11 440.6%
Canada - S&P/TSX Composite (%) May 1, 1999 to May 9, 2012

120 100 80 60 40 20 0 -20 -40 -60 May-99 May-01 May-03 May-05 May-07 May-09 May-11 66.7%
Indonesia - Jakarta Composite Index (%) May 1, 1999 to May 9, 2012

850 750 650 550 450 350 250 150 50 -50 May-99 May-01 May-03 May-05 May-07 May-09 May-11 772.8%
May 2012
Spanning the end of the old millennium and the onset of the new, these charts tell us of the momentous change in global economic power. The dominance of the global economy by North America, Europe and Japan is now history. As this millennium dawned, their populations were already aging from three decades of declining birth rates and dramatic improvements in mortality statistics. Since GDP is output per worker multiplied by the number of workers, their share of global activity was entering permanent decline in favor of the major emerging markets with their positive demographies, fastgrowing workforces, and relatively low costs for eldercare. Low labor costs and even lower technology costs combined to give these fastemerging economies rapidly-increasing shares of consumer and business expenditures in the developed world, and to create astonishingly fast growth in consumer and capital expenditures demands in the new economies. These new challengers to the established order have proved able to adopt Western technology swiftly, and adapt equally swiftly to the opportunities presented by the freest global trading conditions since the onset of World War I. Furthermore, not only was the industrial world outsourcing more and more of its jobs, it was outsourcing more and more of its personal and corporate income tax bases. Global gains from technology, and global gains from free trade combined to put relentless pressure on the wages, job security, and benefits of private-sector employees. For the first time since the Depression, government-sector jobs had not only greater securitybut more generous and more reliable benefits. None of this transformation of power from rich nations to poor nations or from private sector job security to public sector job security was foreseen when, days before the onset of the millennium, the last-ditch attempt of the global Left to prevent global free trade was unleashed. It was December 1999 when anarchists and the Old Left took over Seattle in what came to be known as "The Battle for Seattle."
The dominance of the global economy by North America, Europe and Japan is now history.
May 2012

Seattle itself would eventually be the biggest victim of the brutal riots, because Boeing, the USA's biggest exporter, later moved its head office to Chicago, reportedly because of the continued polarization of the city on the issue of free trade. We have been recalling that time when the radical Left bared its fangs as we hear how business in Chicago is to be shut down next week as the rent-a-riot crowd comes to our town, fresh from forcing governments in Canada to spend more than $1 billion defending Torontonians from thugs protesting the G8 and G20 meetings. (It's some reassurance that civilization is actually progressing, however modestly: today's Jacobins lack guillotines.) The Seattle protestors were against the WTO as a vehicle of capitalist oppression of the Third World. That emerging economies' representatives were coming to Seattle to be "enslaved" by the WTO was proof to the Left of the power of capitalism. "Save your handicrafts from the monopolists!" was one of the battle cries to African and Asian representatives. That Free Trade could actually unleash sustained gains in incomes, food consumption and economic growth in the Third World terrified the far Left, many of whom were still in shock from the collapse of Communism across the USSR and Eastern Europe. Their plan: if they could prevent the opening of free markets in Asia and Africa, then eventually those nations could unite in the final global campaign against capitalism. Thirteen years later, the S&P is where it was then, and another great American city is to be besieged. When will we ever learn?
That Free Trade could actually unleash sustained gains in incomes, food consumption and economic growth in the Third World terrified the far Left...
May 2012
Today's Political Challenges

At his inaugural in 1961, John Kennedy uttered the inspiring words, "Ask not what your country can do for you: ask what you can do for your country." From such idealism, enthusiasm, and national pride came the Peace Corps, the Civil Rights Act, and the trip to the moon. Compare that American efflorescence with the poisonous politics of today. Today's politicians compete with each other to promise more and more of what the country can do for more and more Americans, without any honest attempt to show how these promises will be financed. The Social Security and Medicare trust funds are being depleted rapidly, as another American reaches age 65 every few seconds. Mortality rates "improve" steadily, due to lower rates of cigarette consumption and steadily-increasing usage of medical care. The "Payroll Tax" cuts to which both parties have been agreeing are the desperatelyneeded cash flows for the trust funds, which are also being hurt by low interest rates on their portfolios. According to the latest Report of the Trustees, as analyzed in IBD, "At the current payroll tax rate Social Security would only bring in enough revenue to pay for 72% of all benefits through 2036. Filling that gap would require an immediate and permanent 28% benefit cutincluding for current retirees and disabled beneficiariesor a 4.4% payroll tax hike, equal to $250 billion this year." Response from the Administration and Congress to those facts: cancel the payroll contributions to the Trust Fund for another year. This projection is yet another sign that the US has systematically and consistently understated the real costs at all levels of government for the pension and health care programs on which not just the poor but the middle class increasingly depend. Result I: under Obama, the national debt rises more in a month than it used to rise in a year. Result II: more and more states and municipalities face bankruptcy for their deeply-underfunded pension and welfare funds negotiated over decades in which politicians of both parties competed with each other to gain votes from employeeswho were almost never told the real costs of the deals that would only show up years later. Meanwhile, more and more corporate pension funds are also being impaled on their funding swords due to those inadequate investment returns; the responses have been to wind down plans, and/or deny access to new employees except for Defined Contribution Plans. The financial position of the Pension Benefit Guaranty Corporation which must backstop the private plans is deteriorating rapidly and will surely become the next big bailout in the next recession. May 2012 7
...more and more corporate pension funds are also being impaled on their funding swords...

Speaking in Chicago, the ft's Martin Wolf lamented the failures of two groupsbankers and "the political class" in Europe and the USAto address the crucial problems that threaten their economies. With the collapse of the Dutch ruling coalition, the defeat of President Sarkozy, the Greek crisis, and the swelling demands across the eurozone to ease up on the austerity demands from the euroelites, he rates the survival chances for the euro as fifty/fifty, while admitting he doesn't see where the wisdom will materialize to save the situation. But he pointed out that America's debt situation is potentially worse than those of some of the peripheral nations in the eurozone. The growing talk of a "debt cliff" after the elections in which a wide range of taxes expire simultaneously is "frightening." The lame-duck Congress will have to resolve each of these tax challenges within days, or so-called "automatic sequestration" occurs, as funds are chopped across the budget, including crippling cuts for Defense. The eurozone's parlous political situation is about to get worse, with the results of the elections in France, Greece, and Schleswig-Holstein. The newest mantra, which has spread across the eurozone like the ash from a mega-volcano, is to include Growth with Austerity. That growth could only come from abolition of rules that have been in place for decades protecting unionized employees, professionals and retailers from competition. As one desperate Spanish manufacturer told the Financial Times, "I sometimes feel it's easier to divorce my wife than to lay off one employee." It is unlikely that any eurozone nations other than Germany and Luxembourg will meet their deficit targets. Spain, which has a 25% unemployment rate (with a 50% unemployment rate among twenty-somethings), reels as its banking system hovers on implosion. As hard as it may be for Americans to believe, Spaniards apparently had a bigger and more speculative housing boom than the USA'salmost of Irish proportions. Much of the housing was financed by cajas, the Spanish form of local savings banks. Spanish banks borrowed big when Mario Draghi was opening the spigots with his Long-Term Refinancing Operation, but it appears that most of their funds went into buying Spanish government bonds just before the nation's debt was downgradedbad banks buying bad sovereign creditsand in deposits with the ECB to rebuild shrinking liquidity. (LTROs lent out more than a trillion euros in three-year money secured by "acceptable" assets, at 1%, the ECB's overnight rate.) The Spanish government has just announced that it is bailing out and taking over Bankia, a major bank created from mergers of cajas. The challenge of enforcing austerity in a nation where half the youth
The newest mantra, which has spread across the eurozone like the ash from a mega-volcano, is to include Growth with Austerity.
May 2012
are unemployed would seem a reprise of Bolivar's lament about the chances of achieving political progress in South America"plowing the sea." Spain's ability to comply with eurozone workplace reform and spending mandates is complicatedperhaps fatallyby the Bane of Spain, its federal structure with 17 relatively autonomous regional governments. The situations in Portugal and Italy are also dire, and Germany hovers on the edge of recession. France's growth (apart from luxury goods exports) is fragile, and the election of Socialist Franois Hollande is likely, according to The Economist, to make things worse. His own recordpublic and privatehas shown minimal evidence of exceptional qualities. He wasn't even the first member of his immediate family to run for the Presidency: his dynamic partner, Sgolne Royale, managed that feat in the last elections despite the strains of mothering their four children. He was liberated from semi-obscurity in a rural area into his job because of the anti-social antics in a New York hotel of France's pre-eminent socialist who had the leadership locked up. When Hollande announced his candidacy, Ms. Royale contemptuously declined to back him, (although much later she managed a restrained endorsementwith clenched teeth). He rejects austerity as the model for France, but promises growth. He has his own (Obama-style) plan for stimulating economic growth by hiring more public sector employees (including 60,000 teachers), to be financed by a 75% tax on households reporting more than 1 million per year income. In Italy, where, 'tis rumored, tax-dodging is practiced by the rich with greater frequency and punctiliousness than church attendance, Mario Monti is shaking up the system. He has policemen ticketing Lamborghinis and other such ostentatious displays of motorwealth, until their owners reveal themselves and the authorities thereafter peruse their tax returns to ascertain how they could afford such conspicuous consumption. There have been howls when carabinieri checked out a ski resort, ticketing all the luxury vehicles. As a result, Italian sales of Ferraris and Maseratis this year have slumped 51% and 70% respectively. If Europe's problems could be solved by taxing playboys (of all ages), then investors wouldn't need to worry that this spring and summer will be as painful as 2011. However, responding to the elections, the Germans are, for the first time, giving signs that they will tolerate some modest increase in inflationif it leads to economic growth. This is a signal that the ECB and IMF can think in more expansive terms about what support they will give to nations which are seen to be making the effort to rein in spending while attacking the internal rigidities that hamper growth. May 2012 9
...she managed a restrained endorsement with clenched teeth...

The grim reality is that most of Europe is uncompetitive and it cannot become competitive by maintaining the same level of government services, the same level of protectionism for favored groups and industries, and the same deficits to be financed by the dwindling band of competitive northern nations. In other words, the next euro-crisis is on its way. Not to worry: there'll be a bailout. And after that, another bailout. As Europeans note enviously, the US is running even worse deficits than theirs, yet Obama doesn't have to go to the edge of a crisis before the spigots open; he can keep ignoring the problem and talking about irrelevancies because the Fed will ultimately have to print the money to keep the economy movingthereby keeping him in power. Theyve concluded that the ECB (and Germany) will do the same for the Eurobudgetbusters. We concur in that assessment. And, very soon, so will the gold market. The reality is that the political class almost everywhere (except the Harper government in Ottawa) has failed in its obligations to level with voters about the real challenges and real costs of running aging, high-unemployment economies that are struggling to compete globally. Even if they choose to abandon capitalism in favor of socialism, they cannot compete and if they cannot control their deficits, they will eventually implode. Margaret Thatcher, in refusing to take the UK into the European Monetary Union (the predecessor to the euro) called it Socialism by the Back Delors, referring to its architect, French Socialist Jacques Delors. The problem of socialism, she alleged, is that you eventually run out of other people's money. This was too much for the Europhiles within her own party and she was purged. (Her successor, John Major, stunned Europe by declining to enter EMU, and Tony Blair also responded to the strong opposition among the British public and declined to join.)
Not to worry: there'll be a bailout.
10
May 2012
So Why Are North American Stocks Good Investments With The Economy Soft and The Political Class In Disarray?
If proof were needed that capitalism lives, it could be found in the earnings statements of much of the corporate sector in North America and Europe. At a time when the US leads the industrial world with GDP growth of merely 2%, and nearly all of Europe is in recession, corporate profits and corporate balance sheets are surprising the gloomsters: big business is lean and profitable; it is producing more with fewer workers and it is finding ways to limit the wages and slash the benefits of much of the workforce. Remarkably, some of the biggest corporate bond issues these days aren't to finance growth, but to pay dividends, or to make contributions to benefit plans. Companies are skeptical of the returns on capex at a time when economies are softening and the political climate is worsening. Dividend payout is climbing for three reasons: investors demand money now because (1) they have become skeptical about relying on capital gains, which have proved so elusive and that may soon be taxed as ordinary income; (2) their own incomes are under pressure; and (3) zero returns on T-Bills make the shares of companies with 2.5% dividend yields quite attractive, particularly for companies with records of steady dividend growth. (As long as T-Bill rates were 4% or more, companies could justify paying exiguous dividends, because income-oriented investors wouldn't buy their stock anywaythey'd put the money into money market funds.) So, investors now have two good reasons to prefer selected stocks to cash: companies are managing conservatively and are looking after stockholders' preference for income now rather than pie-in-the-sky promises of doubledigit earnings growth. If proof were needed that capitalism lives, it could be found in the earnings statements of much of the corporate sector in North America and Europe.
May 2012
11

Many investors have fled stocks for bonds: high-yield and even outright junk bonds have been performing splendidly as need for income and greed for more of it drives fear to the background. But we think all bonds are becoming riskier.
US Dollar Index (DXY) January 1, 2001 to May 9, 2012
130 120 110 100 90 80 70 May-99 May-01 May-03 May-05 May-07 May-09 May-11 80.12
But we think all bonds are becoming riskier. Using the benchmark 10-year Treasury as the example, it has a near-record-low nominal yield of 1.8%, an outright negative real yield, and it is denominated in a currency which has lost one-third of its value compared to a basket of major currencies in the last 11 years:
US Ten-Year Treasury Yield January 1, 1980 to May 9, 2012
18 16 14 12 10 8 6 4 2 0 Jan-80 Jan-84 Jan-88 Jan-92 Jan-96 Jan-00 Jan-04 Jan-08 Jan-12 1.87
12
May 2012
Since Paul Volcker imposed those towering yields that drove the US economy into a deep recession that nearly destroyed the Reagan presidency, yields have been declining. That decline was one of the two jet engines of the Reagan and Clinton economiesfalling rates at a time of falling inflation stimulated stock markets and economic activity. Barack Obama has also been given forward momentum by a supportive Fed. But rates cannot continue their asymptotic plunge forever. At some point, the economy will recover and inflation will return, gliding across a sea of liquidity of Pacific proportions. No, the inflation won't be of 70s proportions because of China, India, and technology's wondrous ability to keep lowering the cost of nearly everything. Companies that have the products, financial heft, guts and discipline to survive a pickup in interest rates and inflation will continue to prosper when (if?) the Fed reverts to normalmodestgrowth of the monetary base. We believe that well-managed Main Street banks will continue to do well when normal liquidity and interest rates return, as will companies with great global brands and products that compete on innovation and excellence rather than on price. The sheer inevitability of a rise in inflation when economies in the industrial world revive should direct investor attention to assets with scarcity in their DNA....
At some point, the economy will recover and inflation will return, gliding across a sea of liquidity of Pacific proportions.
May 2012
13

Commodities and Commodity Stocks
...where is there any pricing power? If the cost of most consumer goods and communications keeps falling, where is there any pricing power? Consider the relentless competitive pressures on even the greatest merchandisers:
Wal-Mart (WMT) May 1, 1999 to May 10, 2012
Best Buy (BBY) May 1, 1999 to May 10, 2012

60 50 40 30 20 10 0 May-99 May-01 May-03 May-05 May-07 May-09 May-11
19.94
If those super sellers are struggling to grow their earnings, then which economic sectors have enough pricing power to increase their earnings?
14
May 2012
Oil May 1, 1999 to May 10, 2012

160 140 120 100 80 60 40 20 0 May-99 May-01 May-03 May-05 May-07 May-09 May-11 96.89
Copper May 1, 1999 to May 10, 2012

5.0 4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 May-99 May-01 May-03 May-05 May-07 May-09 May-11 3.69
Corn May 1, 1999 to May 10, 2012

8.5 7.5 6.5 5.5 4.5 3.5 2.5 1.5 May-99 May-01 May-03 May-05 May-07 May-09 May-11 5.87
Soybeans May 1, 1999 to May 10, 2012

17 15 13 11 9 7 5 3 May-99 May-01 May-03 May-05 May-07 May-09 May-11 14.55
Wheat May 1, 1999 to May 10, 2012

12 11 10 9 8 7 6 5 4 3 2 May-99 May-01 May-03 May-05 May-07 May-09 May-11 6.01
Feeder Cattle May 1, 1999 to May 10, 2012

May 2012
15

These commodities have scarcity factors undergirding their prices. Those sectors whose business models depend on owning the resources to take advantage of rising real prices are therefore intrinsically attractive longterm investments and are not at risk from obsolescence or cut-throat competition. The typical major mining company has mineral reserves that will last for many decades, although its stock price only values reserves that will be mined within the next seven to nine years. The long-term investor has the pleasure of hoarding those buried treasures for decadesvirtually rent-free. Why, we ask, would a pension fund choose a 30-year Treasury bond over a highly profitable, long-duration mine (such as BHP's Olympic Dam copper-golduranium deposit in Australia with a 40 year lifespan)? Our enthusiasm for high-quality commodity stocks as uniquely attractive investments is well-known to readers of Basic Points, who've been reading about such investment opportunities since we stated a basic investment thesisin 1998: "Do not invest in companies that produce what China produces; invest in what China needs to buy." More recently, we've sought to demonstrate the validity of our thesis through our portfolio of funds that invest in commodity stocks that meet our criteria. To our dismayand to the dismay of our clientscommodity stocks have actually underperformed the major stock indices since 2010having hugely outperformed them since 2001. Why? In part because their very success makes them victims of a new form of persecution from two groupsthose with contempt for capitalism, along with those who resent what mining, and oil and gas companies do for a living. Some of them even hate what the great agribusiness companies have done to expand world food supplies almost as fast as demand soars from the great capitalist success stories in China, India, Brazil and Indonesia. They are the new Luddites, who imagine that farming without fertilizers or crop-protecting chemicals or genetically-modified seeds would make us all safer and happier. Let's go back to horses, for their power and their manure! The original Luddites smashed the machines of the industrial revolution. Today's Luddites take to the courts and take to the streets, and to the annual meetings of commodity companies. And they take to the investment policy meetings of major tax-exempt investors. 16 May 2012
Why, we ask, would a pension fund choose a 30-year Treasury bond over a highly profitable, long-duration mine?
The Enviro-Left Goes After the Mining and Oil Companies

One reason mining and oil stocks are so cheap is that these industries are almost uniquely subject to political risk: once you have spent billions to open a mine or an offshore oil field, you are, potentially, a hostage to politicians who can raise your taxes at will or even seize your assets. There is no longer a limitless supply of cheap commodities in politicallysecure regions of the world. The mining and oil companies have long lived with those risks from looting governments. (See Francisco D'Anconia in Atlas Shrugged.) What's new is a bigger, global challenge from environmentalist coalitions funded by tax-exempt organizations which seek to prevent mines and oil deposits from being developed, or who harass them for operating practices that don't meet all their criteria, through alliances with local politicians and/ or radical groups. Even formerly politically-secure regions are proving problematic because of rich, powerful, litigious environmentalists. Under the globally unique American tort system, they can launch vexatious lawsuits that cost corporations millions to defend, but even when their cases are eventually dismissed, the courts will not award the defendants any of their defense costs. The Keystone saga is the biggest-ever battle between the oil industry and consumers on the one hand, and a formidable global coalition of environmental activists backed by deep-pocketed tax-exempt foundations. This pipeline has the potential to guarantee the US permanent access to the nearly limitless reserves of crude oil in Canada's oil sands, thereby helping to control gasoline costs and dramatically strengthening US energy security. Keystone is a mammoth shovel-ready project that would create tens of thousands of good American jobs and wouldn't cost US taxpayers a dime, because all the capital would be supplied by TransCanada, a Canadian pipeline giant that already has large US operations. Construction unions have endorsed it enthusiastically as a big job creator. It is also the most exhaustively researched pipeline in historythree years of hearings and investigations. The Environmental Protection Agency kept raising objections and TransCanada kept amending its plans to comply. The EPA finally conceded it had run out of objections, and advised the State Department accordingly. Hillary Clinton had already made her support for the project clear. There is no longer a limitless supply of cheap commodities in politically-secure regions of the world.
May 2012
17

But Obama put Keystone on hold until after the elections. He has promised to veto any Congressionally-approved legislation that includes approval of the line, and his tax-exempt backers have promised to do everything they can to re-elect him. Why would Obama, who spoke glowingly of the job-creation from shovelready projects that would come from his gigantic spending programs, haltor even killa big, cost-free project that creates jobs now and lower gasoline prices and improved energy security later? Because of pressure from the big tax-exempt US organizations that are among his biggest backers (other than tort lawyers and public sector unions), who finance litigation against the oil sands and fund native bands opposed to sending oil in pipelines to the British Columbia coast. These US opinion leaders are frank that they want to shut down the oil sands. NASA's James Hansen published an op-ed piece in the New York Times on May 9, 2012, alleging that if the oil sands aren't shut down, all hope for the environment is gone. He should have stayed with the moon and stars. He is backed by various European environmentalist groups and governments that wish to impose such drastic penalties on oil sands operators that they will shut down. Period. If Keystone goes through, further expansions would be inevitable as production from the land-locked deposits whose total reserves approximate Saudi Arabia's would be heavily directed to American consumers. The logic of Keystone therefore implicitly challenges the core logic of a core concept of Obama's: Green Energy. His Green Energy programs that would supposedly create millions of jobs are justified partly on the basis that carbon fuels are yesterday's story. We are running out of oil and need to do something new. The future is with renewablesand the future is now. Moreover, oil is dirty and is a major factor in global warming. His Energy Secretary saidonly four years agothat what the US needed was European-style $8 or $9 gasoline to force drivers to use non-carbon fuels to save the world from global warming. He has since stated that it is not now his policy. (He might have based his climbdown by noting that the UN's commission on climate control now claims that bovine flatulence is a far greater contributor to global warming than all motor vehicles. Given Wisconsin's status as an important swing state, Obama isn't taking up the cudgels against cows. Noted climatologist Paul McCartney is the highest-
...bovine flatulence is a far greater contributor to global warming than all motor vehicles.
18
May 2012
profile preacher of that trendy new faith; he calls on secular Britain to restore meatless Fridays to help save the world by reducing the cattle population. (Perhaps he should include two 1964 Beatles hits in public appearances to add color to his oral emissions on bovine themesYou Can't Do That and You Know What To Do.) The reason for preventing development of the huge oil reserves at Alaska National Wild-Life Reserve (ANWR) is that they lie across elk trails to breeding grounds? In theory, the Administration would be doing something wonderful and permanent to fight global warming by opening ANWR's oil deposits, thereby reducing the population of dangerously flatulent elk. The Administration has been a spender of tens of billions of dollars to various green energy companies, through cash and through debt guarantees. The industry that has been the biggest winner in Washington is the Solar Power group of companies. Despite such taxpayer largesse, those publicly-traded stocks have been the worst-performing of 197 groups in the Investor's Business Daily reports on US stock market activity. They have proved themselves the industry that has the easiest access to money and the worst record for spending itunder Environmental Protection Administration (EPA) auspices. A recent example of how people in the EPA think about the oil industry as compared with green companies came in the story about its man in Texas, Al Armendariz, who'd been fighting the good fight against frackers in Texas. The fracking that has given the US the world's cheapest natural gas, and has arguably been the greatest single stimulus to economic growth and competitiveness during the Obama era is, to most of the enviro-left, a horror story. It was recently revealed he had addressed a Texas crowd about his techniques on dealing with those foul frackers. He said he followed Roman practice in Turkey for dealing with law breakers: "They'd go into a town and crucify five guys. The rest of the population would thereafter behave. That's what he had recently done to a company, Range Resources, a formidably successful fracker that has made the biggest contribution to outlining the immense reserves of the Marcellus Shale. He also told the Texans that the proudest moment of his life came when he showed a local audience a film financed by Hugo Chavez denouncing the US oil industry, to which he had contributed advice, and which included a credit for him. After Fox News (alone among the media) broke the story, including the film clip in which he bragged about his "crucifixion" accomplishments, Obama's press secretary Jay Carney laughed off a question about him, saying he had apologized and the President didn't support his views.
...fight global warming by opening ANWR's oil deposits, thereby reducing the population of dangerously flatulent elk.
May 2012
19

Carney's response didn't satisfy infuriated Republican senators, and two weeks later the fracking fighter resigned, saying that he had become a distraction to the EPA. But how many people believe he got that high-profile job despite having unacceptable views about "Big Oil?" His background was minimal in education about hydrocarbons, but long on membership in environmental protest groups. Those big, rich tax-exempts carry on the carbon war by designating investment in shares of companies that promote development of "dirty" carbon deposits as verboten for pension and endowment funds. We have been told by clients that they have been instructed by major pension fund clients to sell all shares of oil sands-related companies from their portfolios. We also know of proxy voting service companies which profess to be administrative conduits for the proxy voting practices and policies of institutional investment managers, but also push their other line of services that include identifying for investment those companies scoring high on their social consciousness barometers. Tax-exempts have long set "ethical investment" rules for their investment managers about companies whose business practices offend their principles. Cigarette companies were on most banned lists; many religious institutions banned investment in weapons manufacturers; Catholic hospitals and universities routinely proscribed companies involved with birth control products. So the current campaign against the oil sands could be deemed an uncontroversial application of principles long respected in institutional investing. The difference is that the global enviro-left has targeted the privatelydeveloped oil sands with far greater fury than its routine attacks on "Big Oil"which effectively means non-government-owned oil companies. There are no demonstrations against Saudi Aramco, Venezuela's PDVSA, or Mexico's Pemex. We devote this much space to that story because it is part of the bigger story that the mining and oil industries are being routinely subjected to wellfinanced publicity and litigation campaigns from tax-exempt coalitions that often seem to have progressed from the NIMBY stage (not in my back yard) to the BANANA stage (build absolutely nothing anywhere near anyone). The Fraser Institute's annual review of political risk in the world mining industry has been shifting its emphasis from attacks by governments (nationalizations,
There are no demonstrations against Saudi Aramco, Venezuela's PDVSA, or Mexico's Pemex.
20
May 2012
such as the recent Argentinian takeover of the oil company YPF, or jailing of mining company executives, as happened to Rio Tinto representatives in China), to orchestrated propaganda and litigation campaigns funded by rich tax-exempt organizations. We have seen reports of a movie shown to Canadian schoolchildren that said that what mining companies did was ruin the environment to enrich themselves. There was no mention whatever of how important metals are to people and economic progress, or how many jobs the industry creates, or how much it pays in taxes. We believe that the oil sands stocks are extremely cheap, in part because so many big tax-exempt funds can't hold them, and so many investment management organizations don't want to hold them in their funds used in portfolio measurement to attract new business because so many pension and endowment funds would boycott them. Conclusion: an investor who isn't trying to curry favor from the enviro-left should consider the unique values offered by some of the leading oil sands companies. No other group of producing companies deliver so many barrels of oil-per-share in a politically-secure region of the world. Most companies' reserves last until late in this century. Yes, that political security against nationalization or looting by the Alberta or federal government is under siege by foreign forces, but we feel confident that "The Saudi Arabia of North America" will not be closed down by political correctness. To a lesser extent, this backroom ban on investing in companies deemed impure by purist environmentalists is unfairly depressing the prices of other oil and gas stocksand some of the leading gold mining stocks. Those who dont share in this New Age Bigotry can share in the profits of these companies at very attractive prices, and their ultimate returns could well make eco-investors green with envy. (Note: we aren't neutral about bad corporate behavior; we don't condone the actions of companies devastating tropical forests for palm oil, and we have long recommended that clients not invest in BP for its long record of bad environmental, exploratory and refining safety practices. Yet this disasterprone company was actually on many enviro-lefts Good to Buy lists because of its Green advertising, and its fashionable claim that it was moving Beyond Oil.")
We believe that the oil sands stocks are extremely cheap...
May 2012
21

Failure to Identify Agricultural Stocks as a Relatively New and Relatively Risk-Free Investment Medium
Resolved that at no time shall the number of employees of the Department of Agriculture exceed the number of full-time farmers... Until China and India became wealthy enough that most of their populations were no longer on subsistence diets, agriculture was not a recognized institutional investment strategy. Food stocks, such as bakers, restaurants, and packaged foods were always popular with investors as stableor mostly dullcomponents of portfolios. Basic food production was not seen as a growth area, because Western governments were all deeply involved in propping up farmers' incomes through price supports, subsidies, marketing boards and import restrictions. Indeed, it was fashionable for sneer at farmers as living on the taxpayer's teat." In the US, the Department of Agriculture became a huge, steadily-growing operation designed for promoting safe food production and keeping farmers on the land. As early as 1958, Iowa Republican Congressman H. R. Gross moved the sarcastic amendment to the Agricultural Appropriations Act that "Resolved that at no time shall the number of employees of the Department of Agriculture exceed the number of full-time farmers in the United States." (It was defeated, but somebody did a study in the 1980s that claimed that, depending on how one defined "full-time farmers" the numbers were approaching convergence.) Subsidies produced mountains of grain in the US and lakes of wine in the European Union. Why should an investor want to own shares in companies that helped farmers produce more food at less cost when governments wanted to restrain production? There were occasional food-crop disasters somewhere in the world and the developed world eagerly distributed grains from its overtaxed granaries. Indeed, the routine shipping of free or cheap food to countries that had the capacity to grow their own had, by the 1990s, become controversial: analysts from the World Bank began objecting that the free food prevented local farmers from earning a living, thereby preventing poor nations from becoming self-sufficient in food. By 2005, the game had changed. Rather suddenly, the global food statistics began to show that the mountains of surpluses were melting fast, and that urban expansions almost everywhere were shrinking the acreage under cultivation. More importantly, researchers found that hundreds of millions of people were moving from subsistence diets to high-protein diets.
22
May 2012
In December 2006, corn prices reached $3.80 a bushel, a price only seen previously after major weather-induced setbacksand wheat traded near $5. But the real boom came in 2007 and 2008, as a global food crisis sent grain prices to unheard-of peaks. Despite the stock market crash, row crop farmers in the North America, Europe and Brazil continued to prosper. They willingly invested in fertilizers, crop protection, GM seeds, tractors, and other high-end equipment. However, it has taken a long time before agricultural stocks gained recognition as a distinct asset class. The seed and fertilizer companies were analyzed by chemical analysts. The farm equipment companies were analyzed by machinery analysts. We still see some residues of this weakness in Street analysis. In particular, there are so few farm equipment manufacturers that their shares tend to be rated along with machinery stocks like Caterpillar, Manitowoc, and Briggs & Stratton. A bigger problem for us as investors comes from the fact that all those years of low profitability meant that most agricultural companies remained privately held, such as Cargill, or are organized as co-ops, such as CHS. Conclusion: Because so many row crop farmers in the US, Canada and South America have been earning good returns year after year, they are now investing heavily. The maxim that kept farmers from going broke over the decades was "There are never three consecutive good years for a farmer." That rule was reliable during the decades of surpluses in the advanced nations and of minimal diets for most of the population in the Third World. We view this sector as having the lowest downside earnings risk within the four commodity stock groupsEnergy, Base Metals, Precious Metals and Agriculture. Once people graduate to a daily 2,200 calorie diet, they're not going to go back to 800 calories because the economy has turned down. Eating is not an option.
Despite the stock market crash, row crop farmers in the North America, Europe and Brazil continued to prosper.
May 2012
23

Deere (DE) May 1, 1999 to May 10, 2012
100 90 80 70 60 50 40 30 20 10 May-99 May-01 May-03 May-05 May-07 May-09 May-11 78.96
CNH Global (CNH) May 1, 2003 to May 10, 2012

70 60 50 44.37 40 30 20 10 0 May-03 May-04 May-05 May-06 May-07 May-08 May-09 May-10 May-11 May-12
Potash (POT) May 1, 1999 to May 10, 2012

CF Industries Holdings (CF) August 13, 2005 to May 9, 2012

200 180 160 140 120 100 80 60 40 20 0 Aug-05 Jun-06 Apr-07 Feb-08 Dec-08 Oct-09 Aug-10 Jun-11 Apr-12 172.17
Monsanto (MON) October 21, 2000 to May 9, 2012

Syngenta (SYT) November 18, 2000 to May 9, 2012

80 70 60 50 40 30 20 10 0 Nov-00 May-02 Nov-03 May-05 Nov-06 May-08 Nov-09 May-11 66.63
Agrium (AGU) May 1, 1999 to May 10, 2012

24
May 2012
The American Elections: Church & State

According to the bettors on Intrade, Obama is almost unbeatable, barring a double-dip recession. The economy is the only issue. That statement has been valid for recent elections across Europe, as voters have expelled governments everywhere, because of economic disappointments. It was alsoparadoxicallyvalid for last year's federal election in Canada, as voters delivered Stephen Harper's Conservatives a majority because Canada (and Canadian banks) had come through the global financial crisis relatively unscathed. As long as the Republican race was Romney vs. the field, he was the issue, and his opponents pummeled him from all sides. He was too rich, too liberal, to inclined to flip-flop, too dull to debate Obama, and he was a member of the somewhat suspect faith, Mormonism, which was even considered fair game for ridicule on Broadway. The Religious Right, a major component of the Republican Party, generally favored the devoutly Catholic Santorum, or, on occasion, the Catholic convert, Newt Gingrich. In April, just as Romney rose to a near-tie in the daily tracking polls, Gallup released a detailed poll of registered voters which elicited almost no press commentary. Candidate Support by Religiosity
Obama Supporters 37% 54 61 Romney Supporters 54% 40 30
...this religious preference study comes from Gallupnot, as you might assume, from Pew Research.
Very religious Moderately religious Nonreligious
Very religiouschurch/synagogue/mosque attendance every week or almost every week41% of voters. Moderately religiousall other who do not fall into the very religious category but gave valid responses on both religion questions27% of voters. NonreligiousReligion is not an important part of daily life and respondents seldom or never attend church/synagogue/ mosque32% of voters.
(As we said, this religious preference study comes from Gallupnot, as you might assume, from Pew Research.)
May 2012
25

Why is this so important? Because nearly all the press commentary and analysis focuses on the economy, women, Hispanics, unions, deficit proposals, and the candidates' cash for organization and TV commercials, ignoring that the US remains far more religious than other industrial nations, and deeply religious people care about their leaders' concern for religious values. As this is written, the latest tracking polls show a dead heat between the candidates, with Romney's ranking finally rising in such battleground states as Ohio and Florida. Deeply religious people are in the habit of getting up and going to church. That self-imposed discipline also, historically, seems to apply to their willingness to get out and vote. Religion has been an important factor in American politics dating back to the Revolution. Although the nation is far more secular now, in a close election, where turnout matters, a Mormon could surprise the sophisticates. We had earlier agreed with the prevailing consensus among political analysts on the Left and Right that almost nothing short of a double-dip recession could stop Obama from defeating any of the Republicans on offer. They all seemed so inadequate as campaigners compared with him. As we noted previously, Obama is to the microphone and TelePrompter what Horowitz was to a piano. The man who was able to defeat the Clinton organization should have no trouble with any of these Republicans. Now, we are not so sure. Romney has apparently overcome his biggest disadvantage with the deeply religious core of the Republican basehis Mormonism. They are now accepting his membership in that faith because of their fears about Obama. That means Romney has a strong base, and if he manages to surprise the electorate during the campaign by showing passion and/or wit, (a big "if") and by addressing the fiscal crisis with more wisdom and nuance than proposing even more tax cuts (an even bigger "if"), he could yet pull off an upset.
...Obama is to the microphone and TelePrompter what Horowitz was to a piano.
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May 2012
Obama has of late been showing signs of role remodeling, of reinventing himself as a traditional Chicago South Side street-fighting Democrat, with a tinge of his mentor Saul Alinskya tough, take-no-prisoners guy, no longer the unifying dreamer of great dreams. His sudden decision to endorse gay marriage was a shrewd move: it solidified his base, which includes a high percentage of gays among his chief funding "bundlers," but is also a swing toward Jeffersonian liberalism ("That government is best which governs least") which could win him support with libertariansincluding the Ayn Randians. Since his pattern has been that of a creator of vast new programs and multitudinous new regulations and impositions on Americans, this bow to classic liberalism will impress the youngand oldpeople who made Ron Paul an unexpectedly strong candidate. (As recently as March, Paul polled nearly as well as Romney against Obama.) Our current call is that the Presidential race is likely to remain close. Since the Republicans look to be able to keep control of the House and have a shot at winning the Senate, if Romney were to pull off a Trumanesque upset, the Republicans would almost surely control the Capitol for two years. Given the wide range of opinions among Congressional Republicansfrom the utterly daft to the financially sensible ( la Bowles-Simpson deficit controls)fiscal policy after the elections is anyones guess.
...fiscal policy after the elections is anyones guess.
May 2012
27
Is It NowFinallyTime for Stocks for the Long Run? THE INVESTMENT ENVIRONMENT
If Stock Markets Havent Entered a New Eurobear Phase, What Happens to Commodity Stocks?
We had the opportunity to address the CFA Annual Convention on The Role of Commodity Stocks in Equity Portfolios this week (May 7, 2012). Among our points: Equities, as measured by the S&P, have underperformed long Treasurys for the past three decades: that isnt supposed to happen; Similarly, a bar of gold in a vault has outperformed the S&Pwith dividends reinvestedfor the four decades ending last year; Until the millennium dawned, the S&P was basically compared with other industrial nations stock markets: it now has to contend with those of economies that have been growing far faster than the industrial worldright through the Crash. In 2001, Chris Patten observed that for the first 18 centuries of what is called the Christian era, China and India accounted for roughly half of global GDP; they didnt experience the industrial revolution, so the industrial world dominated global growth. In the first half of the century, historic normalcy will return; The fast-growing economies are far more commodity-intensive than the mature economies; We said in 1998, As an investment strategy, avoid investing in companies that produce what China produces; invest in companies that produce what China needs to buy. The list of significant commodity buyers now includes India, Saudi Arabia, Indonesia, Brazil, Mexico, and Korea. Mining and oil stocks build stockholder wealth primarily by building unhedged economic reserves in politically-secure regions of the world; investors that judge them primarily on near-term earnings prospects are missing that crucial appraisal factor.
...a bar of gold in a vault has outperformed the S&Pwith dividends reinvestedfor the four decades ending last year...
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May 2012
The great commodity-producing stocks managed to accumulate over previous decades a large percentage of the mining and oil deposits that were not owned by governments, and they continue to harvest those deposits, at product prices that would have seemed surreal even ten years ago. Until recently, the mining and oil companies could proceed more or less at their leisure to accumulate prospective properties globally for their resource inventories; now that China is following the Leninist strategy, (as set out in his book Imperialism, The Highest Stage of Capitalism) of accumulating the raw materials their factories and refineries will need for the rest of this century, the competition for mineral prospects will remain intense. For the forty years ending in 2007, the top-performing equity industry group based on stock price performance and reinvested dividends was the oil industry, primarily because of the generous dividend policies of the majors; Food and fuel, and metal prices have far outpaced general inflation rates in this century, as they did in the 1970s; Commodity stocks have historically traded as cyclicalssuch as auto manufacturers, department stores, machinery and durable goods manufacturers, and shipbuilders; that evaluation reflected the reality of a global economy dominated by consumption patterns in the industrial economies, which were together experiencing deteriorating demographies, and which went into recessions more or less together. But with China coming almost out of nowhere to become the worlds biggest importer of base metals, second-biggest of oil, and major importer of grains, fertilizers, and meats, the cyclicality discount of commodity stock valuation should have been reduced or repealed
...China is following the Leninist strategy, (as set out in his book Imperialism, The Highest Stage of Capitalism)...
May 2012
29

Oil and mining stocks somewhat resemble pharmaceutical companies: the commodity producers have decades of reserves in the ground of commodities with inherent scarcity factors; the pharmaceutical manufacturers have roughly ten years reserves per product reflecting a temporary (10 year, usually) monopoly over sales of that product before the patents expire and generic producers drive prices down to relatively pitiful levels. We have for many years advised clients that we thought drug stocks were overpriced and commodity stocks were underpriced because of the huge disparity in their reserve life indices. The relative performance of such giants as Merck and Pfizer compared with virtually all large commodity companies in this century vindicates that thesis. The worlds reserves in the ground of the major commodities that were economic during the 1990s are gradually dwindling; they are being replaced with production from deposits that are lower-grade, costlier to mine or produce, and, in many cases, subject to greater political risks. The companies that have done the best jobs of replacing those rich, low-cost reserves with new reserves that are intensely profitable at current commodity prices are great investments. A great business to be in is supplying absolutely necessary inputs to producers whose earnings and finances are improving year by year: that describes the suppliers of fertilizers, seeds and machinery to row crop farmers who produce the corn, wheat, soybeans, barley, and sorghum for which global demand increases every year.
Oil and mining stocks somewhat resemble pharmaceutical companies...
In general, shares of the companies that are doing the best jobs of producing oil, gas, and metals or are doing the best jobs supplying farmers with the inputs they need to meet the worlds fast-growing food demands are highquality investments that are undervalued in the stock market relative to most other equity groups.
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May 2012
Mindless on Miners?
The rout in gold mining stocks has been truly stunning in recent weeks. Consider what's been happening to the high quality Big Three of North American-based gold stocks. (As for the small exploration companies, most of their recent charts are X-Rated.)
Goldcorp (GG) May 10, 2011 to May 10, 2012
58 53 48 43 38 35.36 33 May-11 Jul-11 Sep-11 Nov-11 Jan-12 Mar-12 May-12
The rout in gold mining stocks has been truly stunning...
Barrick (ABX) May 10, 2011 to May 10, 2012
55 50 45 40 37.77 35 May-11 Jul-11 Sep-11 Nov-11 Jan-12 Mar-12 May-12
May 2012
31

Newmont (NEM) May 10, 2011 to May 10, 2012
75
In recent weeks, the rush out of gold stocks has become almost a mania.
70 65 60 55 50 45 40 May-11 Jul-11 Sep-11 Nov-11 Jan-12 Mar-12 May-12 46.20
Remember that the price of gold has risen for ten straight yearssomething no commodity had ever achieved previously. Remember also that central banks are continuing to buy gold in impressive quantities, and that sales to Chinese consumers have skyrocketed, thereby offsetting the shrinking demand from India due to the recent sharp drop in the value of the rupee. What has happened is that more and more, respected stock market advisers are telling investors interested in gold to buy the ETFsnot the mining stocks. We have dissentedand have recently been wrongfor the first time since the commodity boom began a decade ago. In recent weeks, the rush out of gold stocks has become almost a mania. (It would be a mania if investors were putting the proceeds into Treasurys, but they are most likely putting it into bullion.) Our view wasand isthat buying a well-managed mine operating in politically secure areas of the world is a leveraged bet on high gold prices. If buy the ETF, you get only the full move in goldbut no imbedded optionality. If, for example, you buy a gold miner with 20 years of proven and probable (P&P) reserves and seven years in "resources," you have a call on gold price appreciation for free. Resources become Probable reserves under two circumstances: when the average price of gold (over the preceding three years) climbs high enough to make low-grade reserves economic or when the company does enough infill drilling to convert possible ore into probable ore. (That usually doesn't occur until the company has run down the P&P reserves, or until gold prices rise and the mine manager begins thinking about expanding the mill to handle more ore.)
32
May 2012
Our group's gold analyst, Sonny Tahiliani, recently did a calculation of how much gold one buys with $1,000 invested in the ETF compared with a representative major, intermediate and junior operating gold mining company. Based on the prices that day, with the ETF, you could buy 62% of an ounce; with Goldcorp nearly four ounces, with Eldorado, more than five, and with little Perseus Mining, nearly seven ounces. We like those comparisons. When (not if) gold breaks out through $2,000 in response to massive central bank monetization, we expect to have huge rallies in our gold mines that are now selling as if their reserves were dwindling and they faced extinction. A long-time friend who has been trying to convince us to change our views, sell our gold mines and just hang on to bullion, says that he gets not only the full move in gold prices, but the pleasure of going down to his basement, opening his Krugerrand case, and fondling his "Preciouses." He not only gets his profitshe gets his kicks. We conceded that point. There are potential tax advantages for holding mining stocks rather than bullion. The US Treasury, holder of the world's biggest gold hoard (and facing the foreign scrutiny that goes with being the world's biggest debtor), was kicked by Nixon into legalizing gold ownership. It was incensed: it liked its status as the only entity licensed to hold The Forbidden Treasure. Whatever the motive, Treasury has always insisted the profits from "dirty" assets don't qualify for capital gains tax relief. The Rich doubtless find ways to protect themselves from the Treasury's clutches. The rest of us (in the US) would have to pony up if we made a packet on a holding bullion or the ETF equivalent. Caveat emptor.
...the pleasure of going down to his basement, opening his Krugerrand case, and fondling his "Preciouses."
May 2012
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The B5
...this latest fiasco reinforces the advice we've given for nearly a decade: stick to the Canadian banks... Thirteen years is a long time for break-even in the stock market. We believe that the market has redeemed investors' idiocy and greed in the Triple Waterfall of the tech era, but has not yet redeemed big bankers' idiocy and greed in the subprime era. Governments stepped in to save almost every institution except Lehman, adding those gigantic costs to national debts. The big, bad, bonused, bailout bankers (B5) of Wall Street feel they get no respect. True. But they haven't been given retribution either. Maybe next time. As this issue was going to press, we heard the news about the blowup at JP Morgan Chase, that has cost $2 billion and counting. Pierpont Morgan must be spinning in his grave as he contemplates what machinations and risks have been taken in his name. That Jamie Dimon was the most conspicuous critic of the Volcker Rule gives those of us who lament what Wall Street has been doing in the name of innovationto the banks' reputations, to the shareholders, to the markets and to the economysome satisfaction. The next eurocrisis will shake North American stocks, but not break them. The Fed has a license to print money that all other central bankers can only envy, and the Bank of Canada doesn't really need one. So North America will not be driven into recession even if the euro plunges into the Mediterranean. If we thought the Street had learned from these disasters, we'd include the big banks in our recommendation to build strong exposure to North American banks in your portfolio. But this latest fiasco reinforces the advice we've given for nearly a decade: stick to the Canadian banks and the conservativelymanaged Main Street banks. Don't invest in banks that sneer at the wisdom of Paul Volcker, the wisest banker of our time.
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May 2012
Eurovercast?
On the one hand, all the economic and financial and political news from the eurozone seems bad. On the other hand, the euro is virtually flat against the dollar since mid-Januarywhich is when analysts began wondering aloud what horrors loomed ahead: The ECB had made it completely clear that there were no more LTROs. The job of saving Europe would now be in the hands of its politicians, bankers, and union leaders, whose performance in recent years had been collectively dreadful. Last Sunday, the political news from France and Greece was certainly bad, and when Asian markets opened, stocks were savaged. By Monday afternoon in New York, stocks had recovered. Why? Because what happened in France and Greece was almost exactly what pundits had predicted and stocks had discounted the bad news the previous week. Since almost no one whose judgment one could respect has believed for months that the eurozone is going to solve its problems painlessly, it is hard for us to believe that the coming weeks stock market activity will be dominated by eurogloom. ...it is hard for us to believe that the coming weeks stock market activity will be dominated by eurogloom.
May 2012
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Is It NowFinallyTime for Stocks for the Long Run? RECOMMENDED ASSET ALLOCATION
Recommended Asset Allocation Capital Markets Investments US Pension Funds
US Equities Foreign Equities: European Equities Japanese and Korean Equities Canadian and Australian Equities Emerging Markets Commodities and Commodity Equities
(ex-Gold & Gold Stocks)
Allocations 23 1 3 4 5 6 6 15 11 4 2 10 2 8
Change unch unch unch unch unch unch unch unch unch unch unch unch unch unch
Gold & Gold Stocks Income Generating Assets Dividend Stocks Bonds: US Bonds Canadian Bonds International Bonds Inflation Hedged Bonds Quality High-Yield Bonds Cash
Bond Durations
US Canada International Inflation Hedged Bonds Years 5.25 5.25 4.00 7.25 Change unch unch unch unch
Global Exposure to Commodity Equities

Agriculture Precious Metals Energy Base Metals & Steel
We recommend these sector weightings to all clients for commodity exposurewhether in pure commodity stock portfolios or as the commodity component of equity and balanced funds.
32% 29% 26% 13%
Change unch unch unch unch
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May 2012
Is It NowFinallyTime for Stocks for the Long Run? RECOMMENDED ASSET ALLOCATION
Recommended Asset Allocation Capital Markets Investments Canadian Pension Funds
Allocations Equities: Canadian Equities US Equities European Equities Japanese, Korean & Australian Equities Emerging Markets Commodities and Commodity Equities
(ex-Gold & Gold Stocks)
Change unch unch unch unch unch unch unch unch
18 7 2 2 5 6 6 15
Gold & Gold Stocks Income Generating Assets Dividend Stocks Bonds: Canadian Bonds Market Index-Related Real-Return Bonds International Bonds Quality High-Yield Bonds Cash
17 10 3 2 7
unch unch unch unch unch
Canadian investors should hedge their exposure to the US Dollar.
Bond Durations
US (Hedged) Canada: Market Index-Related Real-Return Bonds International Years 5.25 5.25 7.25 4.00 Change unch unch unch unch
Global Exposure to Commodity Equities

Agriculture Precious Metals Energy Base Metals & Steel
We recommend these sector weightings to all clients for commodity exposurewhether in pure commodity stock portfolios or as the commodity component of equity and balanced funds.
32% 29% 26% 13%
Change unch unch unch unch
May 2012
37
Is It NowFinallyTime for Stocks for the Long Run? INVESTMENT RECOMMENDATIONS

1. We renew our recommendation to hold a close-to-normal exposure to equities relative to fixed income, emphasizing dividend and commodity stocks, with a special allocation to gold and gold stocks. This weeks admission by Germany that some higher rate of inflation is warranted means that money-printing will eventually return in force. 2. Within the bond component, maintain an exposure to Quality High-Yield bonds to protect overall portfolio income. In general, bonds other than TIPS are unattractive at todays record-low yields. 3. The Fed has a license to print money that all other central bankers can only envy, and the Bank of Canada doesn't really need one. So North America will not be driven into recession even if the euro plunges into the Mediterranean. Overweight North American stocks and bonds relative to Eurozone securities. 4. The shares of the US Main Street banks, whose business models are based on serving consumers and small and medium-sized businesses, have been on a tear for six months. Wall Street banks have massive exposure to the euro. They claim they have it under control, an assurance they have given before every disaster. When investing in US bank stocks, investors should buy shares only in the banks they know and respect. That kind of caution obviously doesnt apply to investing in Canadian bank stocks. 5. Continue to invest in companies oriented toward China. China is gradually morphing into a normal, consumer-oriented economy. Soon China will even begin to resemble us demographically: BCA Research predicts that the demographic peak for the working population is only three years away and China's demographic profile will deteriorate rapidly thereafter. However, because China's banks are government-controlled, rather than, like big US banks, government-financed, when they bungle badly, there should be no banking crisis in China such as we have experienced in the US and Europe. Another important difference: under Obama, the national debt is up $4 trillion, whereas in China, the foreign exchange reserves have risen $2.5 trillion in this century. Chinas economy will continue to outperform all the other large economies of the world. Almost none of the people who would have had you believe Chinese banks were going broke warned you about American banks that did go broke. 38 May 2012
6. Even if you reject our counsel to invest in quality gold mining stocks, don't divest yourself of your gold. The central bankers are not only printing the reasons to buy gold, but they are buying lots for themselves. You cannot imitate the printing presses, but you can imitate their asset purchases. 7. Commodity stocks: We believe the worldwide campaigns of self-styled do-gooding tax-exempts and over-rich people against mining and oil companies are major contributors to their low stock market valuations. There is not going to be a global depressionand people will still need foods and fuelsand even some base metals. Invest according to the behavior and consumption patterns of billions of people, not according to the predilections of a few thousand rich parlor pinks. 8. We continue to believe that agriculture is currently, on a risk-adjusted basis, the best sector for commodity stock investors. Yes, the US may be about to produce its biggest harvests of corn and winter wheat in the nation's history, but there will ultimately be buyers for every bushel at prices profitable for the overwhelming majority of North American farmers. 9. BHP and Exxon were among the mighty companies to buy big into natural gas too soon. What was once the preserve of colorful speculators like Chesapeake's Aubrey McClendon is about to be rationalized because drilling to produce $2 gas is an act of charity for the economyand one of the biggest contributors to US economic growthand to the low level of US inflation. We have probably seen the low price for natgas, but any sign that it is headed toward profitable territory will mean that alreadyidentified prospects will be drilled. It's too late to sell natgas stocks, but too early to buy the pure plays. 10. The Canadian oil sands stocks hold reserves on majestic scale. Only some of the potash mines of Saskatchewan have such lengthy durations. They are currently in the gunsights of politicians and environmentalists who want to prove they can, by working together, abort the birth of the new Saudi Arabia. Unless the world has gone mad, the oil sands companies will be allowed to prosper, from now until long after most of the world's currently known oilfields have been exhausted. Any serious long-term investor should have significant exposure to these companies.
May 2012
39

Coxe Advisors LLP 2012. All rights reserved. Unauthorized reproduction, distribution, transmission or publication without the prior express written consent of Coxe Advisors LLP (Coxe) is strictly prohibited. Coxe is an investment adviser registered with the U.S. Securities and Exchange Commission. Nothing herein implies that the firm is recommended or approved by the United States government or any regulatory agency. Information, opinions, estimates, projections and other materials (referred to collectively herein as, Information) contained herein are provided as of the date hereof and are subject to change without notice. From time to time, Coxe publications may contain Information with regard to securities, commodities, derivatives or other investment assets (each referred to herein as an Investment, or collectively, the Investments), or investment strategies. Due to staggered publication dates, any Information contained herein may differ from Information contained in prior or subsequent publications. Information discussed herein may have been obtained from various unaffiliated third party sources believed to be reliable, but has not been independently verified by Coxe. Coxe makes no representation or warranty, express or implied, in respect thereof, takes no responsibility for any errors and omissions which may be contained herein, and accepts no liability whatsoever for any loss arising from any use of or reliance on such third party Information, whether relied upon by the recipient or user, or any other third party (including, without limitation, any customer of the recipient or user). Foreign currency denominated Investments are subject to fluctuations in exchange rates that could have a positive or adverse effect on the investors return. Unless otherwise stated, any pricing information in this publication is indicative only. No Information included herein constitutes a recommendation that any particular Investment or investment strategy is suitable for any specific person. Coxe publications are not intended as investment advice tailored to the particular circumstances, investment objectives, and risk tolerances of any entity or individual. Coxe publications do not continuously follow any Investments or their issuers. Accordingly, users must regard each Coxe publication as providing stand-alone analysis as of the date of publication and should not expect continuing analysis or additional reports related to such Investments or their issuers. The Information contained herein is not to be construed as a solicitation for or an offer to buy or sell any referenced Investments, or any service related to such Investments, nor shall such Information be considered as individualized investment advice or as a recommendation to enter into any transaction. Coxe separately provides individualized, nondiscretionary advice on an exclusive basis to an unaffiliated adviser to various separate accounts and to a limited number of foreign and domestic investment companies. However, the nature and timing of Coxe publications is separate from the nature and timing of such individualized portfolio advice. Coxe and any officer, employee or independent contractor of Coxe, may from time to time have long or short positions in any Investments discussed. Coxes principal, Mr. Coxe, and other access persons privy to information contained in a Coxe publication prior to publication, are restricted from entering into any transaction concerning any Investments discussed therein for the five days before and after publication, and are required to hold any such positions for a minimum of one month. Coxe has entered into a distribution agreement with certain affiliates of the Bank of Montreal (BMO) to redistribute its publications. Coxe may enter into similar distribution agreements either with additional BMO affiliates or others. To the extent that any publication is reproduced, redistributed, or retransmitted, Coxe is not privy to, and makes no representations regarding, such unaffiliated third parties positions in any Investments discussed therein. Any distributor authorized by agreement with Coxe to redistribute this publication is not affiliated with Coxe. Third parties having permission to reproduce, redistribute, or retransmit Coxe publications may offer to effect transactions in some or all discussed Investments. Coxe makes no recommendation with respect to the use of any particular brokers or agents, and no such recommendation should be inferred by virtue of any distribution agreements that Coxe may enter into with third parties.
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Don Coxe Basic Points May 2012

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Is It NowFinally Time for Stocks for the Long Run?

May 11, 2012

Published by Coxe Advisors LLP

BMO Capital Markets Disclosures

Don Coxe THE COXE STRATEGY JOURNAL

Is It NowFinally Time for Stocks for the Long Run?

May 11, 2012

Coxe Advisors LLP Chicago, IL

Donald Coxe dc@coxeadvisors.com Angela Trudeau at@coxeadvisors.com

Is It NowFinallyTime for Stocks for the Long Run? OVERVIEW

THE COXE STRATEGY JOURNAL

Is It NowFinallyTime for Stocks for the Long Run?

The S&P is almost exactly where it was 13 years ago...

Is It NowFinallyTime for Stocks for the Long Run?

China - Shanghai Composite Index (%) May 1, 1999 to May 9, 2012

Japan - Nikkei 225 Index (%) May 1, 1999 to May 9, 2012

India - Bombay Sensex 30 Index (%) May 1, 1999 to May 9, 2012

Brazil - Bovespa Index (%) May 1, 1999 to May 9, 2012

Canada - S&P/TSX Composite (%) May 1, 1999 to May 9, 2012

Indonesia - Jakarta Composite Index (%) May 1, 1999 to May 9, 2012

THE COXE STRATEGY JOURNAL

Is It NowFinallyTime for Stocks for the Long Run?

THE COXE STRATEGY JOURNAL

Today's Political Challenges

Is It NowFinallyTime for Stocks for the Long Run?

THE COXE STRATEGY JOURNAL

...she managed a restrained endorsement with clenched teeth...

Is It NowFinallyTime for Stocks for the Long Run?

Not to worry: there'll be a bailout.

THE COXE STRATEGY JOURNAL

Is It NowFinallyTime for Stocks for the Long Run?

THE COXE STRATEGY JOURNAL

Is It NowFinallyTime for Stocks for the Long Run?

Best Buy (BBY) May 1, 1999 to May 10, 2012

THE COXE STRATEGY JOURNAL

Oil May 1, 1999 to May 10, 2012

Copper May 1, 1999 to May 10, 2012

Corn May 1, 1999 to May 10, 2012

Soybeans May 1, 1999 to May 10, 2012

Wheat May 1, 1999 to May 10, 2012

Feeder Cattle May 1, 1999 to May 10, 2012

Is It NowFinallyTime for Stocks for the Long Run?

The Enviro-Left Goes After the Mining and Oil Companies

Is It NowFinallyTime for Stocks for the Long Run?

THE COXE STRATEGY JOURNAL

Is It NowFinallyTime for Stocks for the Long Run?

THE COXE STRATEGY JOURNAL

We believe that the oil sands stocks are extremely cheap...

Is It NowFinallyTime for Stocks for the Long Run?

THE COXE STRATEGY JOURNAL

Is It NowFinallyTime for Stocks for the Long Run?

CNH Global (CNH) May 1, 2003 to May 10, 2012

Potash (POT) May 1, 1999 to May 10, 2012

CF Industries Holdings (CF) August 13, 2005 to May 9, 2012

Monsanto (MON) October 21, 2000 to May 9, 2012

Syngenta (SYT) November 18, 2000 to May 9, 2012

Agrium (AGU) May 1, 1999 to May 10, 2012

THE COXE STRATEGY JOURNAL

The American Elections: Church & State

Very religious Moderately religious Nonreligious

Is It NowFinallyTime for Stocks for the Long Run?

...Obama is to the microphone and TelePrompter what Horowitz was to a piano.

THE COXE STRATEGY JOURNAL