Fabrice Taylor, CFA, publishes the President's Club investment letter. His letter and The Globe and Mail have a distribution agreement. You can get a free copy here.
When you think of emerging markets, you usually think of growth, dynamism and hefty returns from faraway lands. Over the past decade or so, the biggest emerging stars have been the BRIC countries—Brazil, Russia, India and China.
You don't normally think of the United States in this company. But it, too, has become something of an emerging market. After taking its lumps in the 2008-2009 financial crisis, it is going through a renaissance. One big reason is energy—shale oil and shale gas in particular, which are helping to propel the rest of the economy forward.
Signs of a broad-based recovery are multiplying. Housing is coming back, corporate profits are solid and some states that were near bankruptcy, such as California, are now close to running surpluses. The stock market, spurred by low interest rates from the Bank of Bernanke, has climbed to record highs. But it's not just the modest economic gains so far that are buoying spirits; it's that the shale revolution is gaining momentum. Prolific shale production has already helped to push down natural gas prices, and it's keeping a lid on oil prices. Low petroleum prices squeeze the bottom lines of giant U.S. energy companies, but they are a huge boon for consumers, industry and governments. North Dakota, not long ago a sleepy state with a largely agricultural economy, now produces more than 700,000 barrels a day of light oil.
A story out of Texas recently suggested that one new shale find could contain 50 billion barrels of oil. Saudi Arabia's mighty Ghawar field, discovered in 1948, contained more than 100 billion barrels. It was the biggest conventional oil discovery ever, but even 50 billion is an elephant. U.S. oil and gas reserves are growing so fast that geologists are struggling to keep track of the totals.
Natural gas reserves have swelled by almost three-quarters over the past decade thanks to horizontal drilling and multistage fracking. Those discoveries will require higher gas prices to make real money, but the increased volume alone will boost investment, employment and tax revenues.
Lower pump prices for gasoline—or at least more stable ones—will also make a huge difference. The U.S. middle class is extremely economically sensitive to rising fuel costs. Pretty much all U.S. recessions start with high oil prices. The country consumes about 18 million barrels of oil a day, much of it still imported. The shale re-volution could make the U.S. energy self-sufficient by 2030.
Meanwhile, some of America's international competitors are getting flabbier. China is saddled with high costs for imported energy and its manufacturing wages are climbing by about 20% a year. U.S. factory wages are still higher than those in many rival countries, but they are stagnant in many industries. There are already credible signs that American manufacturing is making a comeback.
All this is good for federal and state government revenue. Income and corporate tax proceeds should increase, and states blessed with energy resources will collect more royalties.
The added plus for Canadian investors is that the loonie will likely weaken if oil and gas prices level off. Moving money into higher-return U.S. stocks today, with the loonie still relatively strong, should make for even better returns when those U.S. stocks are sold and the money is converted back into Canadian dollars.
Buy American.
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TIP SHEET
Value stock: American International Group
Price/book value ratio: 0.66
The giant insurer has not made an annual underwriting profit from its property and casualty business since 2007. Oh, and the company would have gone bust in 2008 if not for a big cash injection from Washington. But AIG earned an underwriting profit from P&C in the first quarter. The government? It's been paid back. Yet AIG's stock still has dread dripping off it, and it's been trading more than 30% below its book value. Eventually, big investors forgive and forget. Get in now and you'll do just fine.
Growth stock: Cemex
One-year share price gain: 89%
The stock market is often the best analyst. Take shares of Mexican cement and concrete giant Cemex, which trade in New York. The company carried too much debt into the recession. But the U.S. and Mexican construction industries are now rebounding and lower interest rates will shave Cemex's finance costs. Despite falling short of analysts' earnings estimates over the past two quarters, its stock keeps going up. The market knows best and it says buy.