If you want some solid insight into why the Fed continues to say that interest rates will remain low for quite a while, just look at this morning’s wholesale inflation number.
The Producer Price Index rose just 0.3% in October, less than the expected 0.5%. And if you exclude food and energy, the so-called Core PPI was actually down 0.6%. In September, the overall PPI dropped 0.6%.
For the trailing 12 months, the prices at the wholesale level were down 1.9%.
This is sobering news. For all the hope that the U.S. economy is recovering on the path to growth, the fact that prices are still falling is a pretty strong counterpoint. We are still faced with deflation.
Clearly, unemployment is the biggest factor in driving prices lower and keeping inflation in check. There just isn’t enough consumer demand to support prices – even at this stage of recovery and with the amount of liquidity that’s available.
The U.S. economy is still vulnerable. It seems highly unlikely to me that inflation is the shock that will threaten economic growth. Higher energy prices or another downturn for real estate are probably the biggest threats.
*****It might sound like a disaster – selling a development of condos in Florida for $109 a square foot when it cost between $250 and $300 a square foot to build them. And in truth, it is a disaster for the seller. At least it would be, if the seller wasn’t Goldman Sachs (NYSE:GS).
Goldman can afford the haircut it’s taking on these condos. But it brings back to the forefront a point I’ve made in the past. Namely, that it’s good news to see real estate investment losses taken.
A condo development sitting on Goldman’s books at a third of the paid price is a toxic asset. Not only will it never be worth the purchase price, it’s also a drag on earnings as Goldman has to pay for property management, pay for upkeep, pay taxes and insurance and so on. The only way to make the bleeding stop is to get rid of it, once and for all. And that’s what Goldman did.
Goldman could have held on, kept paying the ancillary costs and maybe recouped more of the purchase price, or stop throwing good money after bad and simply move on. It’s win-win for Goldman and the new owner of the condo development. Goldman no longer suffers opportunity cost for holding a toxic asset. And the new owners acquired an asset that may actually allow them to turn a profit, while at the same time giving buyers a condo at a price that makes sense.
What doesn’t make sense it letting toxic assets fester on the books. Take the loss and move on. (This is also good advice to the individual investor. Sitting a loss is not only frustrating, but there’s also opportunity cost to holding a losing stock, and not owning one that’s rising.)
*****I received a question from one of my Top Stock Insights members about natural gas. Ross C. writes:
I have read more than one source that recommends that Natural Gas should be shorted because the price is going to plummet soon. This is because of over supply and a demand that, if anything, will decline in the next few months. What makes you believe that this won’t happen?
Right now, Americans use around 2 trillion cubic feet of natural gas a month. In addition to that use, the U.S. will likely end 2009 with 4 trillion cubic feet of natural gas in storage. And that’s with 50% fewer rigs producing natural gas this year.
Sounds like massive oversupply. And it is – for now. But at current prices of approximately $4.50 per MMBTU, the energy equivalent to a barrel of oil is selling for below $30 a barrel. That’s an outrageous disparity, and one that won’t last.
Could natural gas prices head lower? Sure, especially if we have a relatively warm winter. And when you consider that natural gas-related industrial production is down 12.8% this year, it’s even more likely that natural gas prices won’t immediately move higher – in fact they won’t until the U.S. economy starts growing earnest.
Now, I’m not a short-term trader. I tend to invest for the long-term. And I try to identify what products or assets will be in demand in the future, but are selling at attractive prices now. And natural gas looks attractive from a long-term perspective.
The U.S. produces 90% of the natural gas we use. No doubt, the U.S. could be completely self-sufficient with natural gas if we wanted to, needed to, or if it made economic sense. When you consider that natural gas is trading at essentially one-third of oil in terms of energy output, there is no doubt in my mind that natural gas use simply must rise.
We essentially have the solution to high oil prices right here in America. And I firmly believe the companies that control it, like Chesapeake Energy (NYSE:CHK) should be owned.
Could natural gas stock prices head lower? Sure. Could you make money shorting natural gas futures? You might. And if you trade the swings right, you can certainly make money. Even oil prices move up and down.
But ultimately, I believe trading for lower natural gas prices is fighting against a rising tide.
In Top Stock Insights, I’ve recommended Chesapeake Energy (NYSE: CHK) as well as a liquefied natural gas shipper that pays a 10% dividend. For more, click HERE.