COMMODITIES - A Super Cycle or Just a WILD RIDE ?

Commodities can often be a WILD RIDE. So wild in fact that I wanted to opine on what I think are the current UPs, Downs and Unknowns to investing in commodity stocks...you decide if you think the risk is worth the potential reward$:


UPS - This is why you keep commodity stocks in your portfolio:
1.) GLOBAL FOOD SHORTAGE --> Food related commodity prices should continue to benefit in the long term as formerly 2nd and 3rd world nations continue to prosper and demand MORE food at a better quality.

2.) BRIC + REST OF WORLD GROWTH --> B.R.I.C. and other R.O.W countries continue to expand at an impressive yet healthy-looking, sustainable pace. According to the CIA's World Fact Book web site, China's growing its GDP at 10-11%, India and Russia are both growing around 7-8% and lastly, Brazil's bringing up the rear with ONLY 5-6% GDP growth. I will not back down from my strongly held belief that all 4 are still going through INDUSTRIAL REVOLUTIONS at the same time. For instance, Brazil is now energy independent and prospering on record high prices for commodities ranging from coffee to iron ore to orange juice to ethanol. Still, Russia is even more of an energy story, benefiting from holding the world's largest energy reserves (#1 in in natural gas reserves, #8 in crude oil reserves). The last two of the B.R.I.C. countries, India and China, both have GIGANTIC booming middle classes..arguably their greatest resources when engaging other nations in economic trade discussions.

3.) UNDENIABLE INDUSTRY CONSOLIDATION --> Probably the single-best reason to own commodity stocks today. Even if the short term's volatile, stomach the churn and I believe there's a better than not chance (if you pick your target right) that your company gets a takeover bid in the next 5-10 years. This industry is consolidating like MAD, witness some of the most recent examples:

1.) CVRD Vale (RIO) bought Inco - NICKEL
2.) Conoco Phillips (COP) bought Burlington Resources - NAT GAS
3.) Rio Tinto (RTP) bought Alcan - ALUMINUM
4.) Freeport-McMoran (FCX) bought Phelps Dodge - COPPER
5.-10.) Arcelor Mittal (MT) bought EVERYONE - STEEL

In fact, BHP Biliton recently offered to buy Rio Tinto for $147 Billion...if that deal is consumated it would be the LARGEST TAKEOVER EVER in any sector...YES, that's how much money is at stake in this sector.

Who's next to EVENTUALLY get aquired? I'd say it makes sense to bet on my favorite name, the $30 Billion Freeport-McMoran Copper + Gold (FCX). If copper's not your thing then there are other options like Alcoa (AA), Devon Energy (DVN), Cleveland-Cliffs (CLF), Reliance Steel (RS), etc.

4.) ULTRA CHEAP P/E's --> The average S+P 500 P/E multiple is 15. On a P/E basis, commodity and material stocks are one of the market's cheapest sectors. Exp's: FCX, COP and HAL all have P/E's of 10! RIO has a P/E of 12...BHP has a P/E of 14...Alcoa (AA) has a P/E of 12. Needless to say, even despite the recent bull run in commodities these stocks still appear cheap.

5.) HIGH YIELDS --> Commodity and material stocks are among the market's highest yielders. For example, BP yields a 5.5% dividend...COP yields 2.5%...PCU yields 6%...FCX yields 2%.


DOWNS - The downside of owning commodity stocks today:
1.) THE STOMACH CHURNING --> During the rough times it is important to remind yourself that by their very nature, commodities and commodity related stocks trade with much more VOLATILITY than the average stock. Violent moves up and down can take place daily because of the sheer amount of variables (and the various interpretation of how those variables impact the price) that exist and are involved in determining the commodity's value.

2.) DE-LEVERAGED TIMES --> Over the past year or two, commodity prices have been benefiting from LOTS of LEVERAGED 'speculative' INTEREST. Before getting scared realize that no one knows the ratio of buying vs. selling that these leveraged-up funds used. Maybe this speculative money's been shorting commodities? Anyways, in the wake of Bear's 30 X (L)everaged demise, expect wall street to unwind or be FORCED to unwind the LEVERAGE trade.

3.) HISTORICALLY HIGH PRICES --> Virtually all commodities are selling at historically high prices (although NOT record high prices when adjusted for inflation; i.e: gold and oil are not at record highs).


UNKNOWNS - Open questions the market is grappling with:
1.) GLOBAL RECESSION ? --> Will the U.S.'s recession spread to the rest of the world and become a global recession? Or will The Federal Reserve's recent liquidity measures prevent the U.S. from cooling down the BRIC + ROW global growth story? Expect commodity demand to drop (and prices to soften) significantly in the event of GLOBAL recession. Also, please remember that 'recession' implies a temporary or short-term decline...if your perspective is 3-5 years+ then this issue should not concern you...in the grand scheme of everything a recession will NOT mark the end of the global growth story).

2.) DIRECTION OF THE DOLLAR ? --> Commodities (including wheat, gold and oil) have been trading inverse to the dollar (while the dollar's been weakening commodities have shot through the roof)...after the Fed's latest move, is wall street now betting on a dollar reversal and therefore concluding we've seen some kind of a top in commodities? If so, a top for HOW LONG ? (1 month? 3 months? 1 year?).


Full Disclosure: I currently own shares of FCX, COP, DE and HAL.