By MoneyMorning.com.au

Australia’s housing bubble is one of the largest in the world.

The bad news – for Australians – is that it looks as though it’s on the verge of popping.

That could spell disaster for the Australian economy. One pundit reckons that prices could fall by as much as 60%.

The Birth of Australia’s House Price Mania

Politicians like rising house prices. They make people feel better off. That means they’re likely to spend more. In turn, this boosts both the economy and also the government’s chances of re-election.

Of course, this wealth effect is in many ways illusory. For a start, upgrading to another, larger home also becomes pricier. And because rising house prices are just another form of inflation, it means that incomes, and cash savings, are worth less than before.

But you don’t notice the downside until the housing bubble bursts. And your average politician doesn’t think that far ahead. So it’s no surprise that Australia’s house price bubble was initially inflated by the government, starting in the late 1980s.

The 1987 stock market crash had hurt confidence in the economy and also the Australian property market. So in 1988, to perk up home prices, the Hawke government brought back a scheme that gave grants to first-time buyers if they loaded up on home loan debt.

Australians began piling into property. Over the next 12 years, mortgage rates halved from 14% to 7%. But Aussie households took on so much debt during that time that their interest payments doubled as a proportion of their disposable incomes (if their debt levels had stayed static, the proportion should have halved, which shows you how crazy things became).

After the dotcom bubble bust at the turn of the millennium, Australian politicians were worried about another recession. So what did they do? In 2001, the first-time buyer grant was doubled to give the domestic property market another boost. But it didn’t need it.

Lending secured on property as a percentage of GDP was already soaring: it had trebled to more than 40% since 1988. The government handing more money to property buyers made matters worse. Add in overly-low loan costs in the noughties, which spurred even higher borrowing, and Australia was soon inflating a huge housing bubble.

In nominal, ie actual price, terms, Australian house prices have soared about six-fold in the last 25 years. That’s extravagant even compared with the UK, where values rose just over four-fold between 1986 and 2007. Or the US, where the increase between 1986 and 2006 was about 3.5 times.

Australian mortgage debt has soared to more than 85% of GDP. The debt now equates to 130% of household income: five times the 1988 level.

That level of growth in both mortgage debt and house prices simply couldn’t continue. And home values have now topped out. Yet in the first 11 months of 2011 they only dropped 3.7%, says market watcher RP Data.

Whenever prices hold up in one market but fall elsewhere, there’s always talk that “this time it’s different”. Australia is no exception.

Several experts reckon the country’s property is still a good bet, as lower inflation and interest costs mean buyers can afford to pay higher prices than before.

Mmm… I’m not so sure about that. Here’s why Aussie property prices could be about to plunge.

The Chinese Threat to Australian House Prices

The global economy is starting to look sick again. Indeed, the World Bank has just warned of a looming worldwide recession that could be worse than the one we suffered three years ago.

This would be bad news for Australia. It’s one of the main providers of raw materials. It has the world’s largest known supplies of bauxite, iron ore, lead, zinc, silver, uranium, industrial diamonds and mineral sands. When the global economy is booming, Australia cashes in.

But the reverse is also true.

“The average Aussie may think the massive demand for Australia’s raw materials will bail the country out of any economic hole into which it risks sinking”, says Ron Fraser in The Trumpet. “That may appear so, as long as… strength in demand continues.” But the country’s problem is that all “its economic eggs [are] placed in one mineral resources basket, being marketed to one major customer – China”.

We also fear the Chinese economy will slow down fast.

But in short, if China’s demand for raw materials drops off, it could crush large parts of Australia’s economy. That will mean lower incomes, more job losses – and much lower demand for houses. Meanwhile, many over-indebted Australian households could become forced sellers.

Leading US real estate analyst Jordan Wirsz predicts that a flood of properties will begin to hit the market in Australia from next year as investors scramble to bail out. In fact, he reckons this could lead to the biggest property crash the country has ever seen.

“Right now is not a time to be buying real estate in Australia,” he says. “Residential prices are likely to fall up to 60%, possibly even more, within five years.”

What does this mean for you? A country’s – or region’s – currency is a useful barometer of investor confidence: just look at the eurozone.

Right now, the Aussie dollar (AUD) is high against the US dollar as AUD buyers hope the looming China slowdown won’t be too bad. But as markets begin to ‘price in’ what less Chinese growth really means, this AUD strength is likely to reverse. A housing market crash would drive it down much more.

David Stevenson
Associate Editor, Money Morning (UK)

Publisher’s Note: This is an edited version of an article that originally appeared in Money Morning (UK)

From the Archives…

Are ASX Energy Index Stocks Worth The Risk?
2012-01-20 – Aaron Tyrrell

Why the World Bank Wants Your Money
2012-01-19 – Kris Sayce

Could $50 Billion In Unpaid Credit Card Debt Drag Aussie Bank Stocks To A Record Low?
2012-01-18 – Aaron Tyrrell

The US-China Power Struggle… and What it Could Mean For Oil and Australian Energy Stocks
2012-01-17 – Dr. Alex Cowie

How Global Oil Supplies Could Fall 40% Overnight
2012-01-16 – Dr. Alex Cowie

Strong Currency Hides Australia’s Housing Bubble

By MoneyMorning.com.au

It’s amazing the places you can pick up investing ideas.

Your barber (or hairdresser). The butcher. The postman…

And even from a millionaire art gallery owner – if you happen to know one.

Of course, we’re not saying they’ll give you good advice. But it’s worth listening to, just on the off chance you can use it.

As it happens, the advice from one particular art gallery owner is worth listening to. Especially because she used to be a foreign exchange trader at a major hedge fund…

The advice she gives is something every Aussie investor tied up in Australian dollar assets should consider. If you want to protect your investments from a major market collapse… and potentially profit from it.

First, the person we’re talking about is Kashya Hildebrand. You’ve probably never heard of her. And neither would we if she hadn’t made a large currency transaction last August, just a few weeks before her husband caused the Swiss franc to crash 20%.

Reports in the press claim she made “tens of thousands” of dollars on the trade.

High fives all round. The only trouble is…

Kashya Hildebrand’s husband is Philipp Hildebrand. Until recently he was president of the Swiss National Bank (SNB). It was his decision late last year to devalue the Swiss franc as it surged to a record high, causing problems for Swiss exporters.

Ms. Hildebrand says her currency trade was a coincidence. That her husband didn’t know about it. And that she didn’t know the SNB would soon devalue the Swiss franc.

But, the denials weren’t enough. A couple of weeks ago, Mr. Hildebrand resigned his post after news broke of the currency trade.

We don’t know if the trade was a coincidence or an inside job. But the reason for the trade is believable. In an interview with TV station Schweizer Fernsehen, Kashya Hildebrand said:

“In order to get the liquidity in the account to a 50% level, dollars were purchased just as a conservative idea for this portfolio…”

The idea was for the Hildebrand family to reduce its exposure to currency fluctuations. With a 50/50 split between U.S. dollars and Swiss francs they would have had a neutral position against currency movements.

If the value of the U.S. dollar fell, the Swiss franc would rise, and vice versa.

It’s a strategy most Aussie investors should think about now. And fortunately, there’s a pretty easy way to do it…

What if the Aussie Dollar Was a Stock?

If you’re like most Aussies, 95% (or more) of your wealth is tied up in Australian dollar assets.

That’s a big risk. As the chart shows, the Aussie is back to a long-term high:

Click here to enlarge

If you treated the Aussie dollar as a stock, you’d probably look at the chart and think, perhaps I should sell here.

Yet most of the commentary and opinion we see says the Australian dollar is going even higher… supported by the resources boom and a free-spending China.

We’re not convinced. The Australian economy has had a dream run. But even dream runs come to an end. And when they do it can take a long time to recover.

That’s why it now makes sense to shift some of your assets away from Australian dollars and into something else. One way of doing that is gold – a strategy we’ve long recommended. But there is another way. You can use an exchange traded fund (ETF) to bet on a falling Aussie dollar.

How to Short-Sell the Australian Dollar

It trades on the Australian Securities Exchange as the Betashares U.S. Dollar ETF [ASX: USD].

It’s quite simple. If, like us, you figure the Aussie dollar could come a cropper this year, you can buy shares of the USD ETF. And as the U.S. dollar rises against the Aussie dollar, so the value of the ETF will go up… and you’ll make money.

If the Australian dollar goes up against the U.S. dollar, the ETF will go down and you’ll lose money.

There are other ways to do the same thing, such as using CFDs or exchange traded options. But both of those involve leverage. That’s fine if you’re looking to make a big punt on currency movements. But if you just want to hedge all or part of your portfolio, an ETF should be a safer bet…

And you’re less likely to be tempted into taking out a big leveraged position.

As we say, if you treated the Australian dollar as a stock, it would be flashing a sell signal right now. Our advice is, when you see an alarm go off it’s foolish to ignore it.

Cheers.
Kris.

[Ed note: In yesterday’s Money Morning Dr. Cowie was talking about how much better tungsten has performed compared to other commodities, with a 35% gain last year. Tungsten is traded in the form of APT. This stands for Ammonium paratungstate, and not adenosine triphosphate as accidentally added by a colleague. The former is good for hardening drill bits and bullets. The latter is good for supplying your muscles with energy when you are sprinting – so not much use for commodity investors interested in making money on strategic metals!]

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What if the Australian Dollar Was a Stock?

Williams Partners (WPZ) announced its quarterly dividend of 76.25 cents per share, an increase of about 2% over its prior dividend in November of 74.8 cents. The dividend is payable on February 10, 2012, to unitholders of record at the close of business on February 3.

In trading on Tuesday, railroads shares were relative laggards, down on the day by about 2.1%. Helping drag down the group were shares of Kansas City Southern (KSU), down about 8.2% and shares of Csx (CSX) off about 3.8% on the day.

Three More Industries Thriving From Record-Low Natural Gas Prices

by Mike Kapsch, Investment U Research
Tuesday, January 24, 2012

Since hitting a high of $15.37 in December 2005, the price of natural gas has plunged to its lowest level in over a decade to $2.30. That’s an 85% drop.

As Reuters recently reported, “The unrelenting surge in shale gas production and one of the warmest winters on record are driving the natural gas market toward uncharted territory. Soon companies may have to pay to get rid of their gas.”

So far, this has been tough news for natural gas drillers and electric utilities. Many drillers are ramping up their oil production, trying to make up for lost income.

Chesapeake Energy even cut its gas drilling production in half, which led to a bit of a rally over the past few days – leading some to believe we have seen the bottom.

Regardless of whether this is a bottom or not, low natural gas prices aren’t bad for everyone. A few other industries are seeing enormous boosts with cheap, readily available natural gas. Here are three to consider…

Industry #1: Plastics

Most people don’t know that natural gas is a key component used to manufacture certain plastics. That’s because natural gas naturally contains ethane.

Ethane is an odorless chemical compound that, through various cooling and heating procedures, is converted into ethylene, and eventually turned into plastic.

Companies like Dow Chemical (NYSE: DOW) and Du Pont (NYSE: DD) are big players in this sector. But smaller firms such as Ashland, Inc. (NYSE: ASH) and Eastman Chemical (NYSE: EMN) could also prove to be very lucrative in the near future as they take advantage of low natural gas prices.

In fact, companies are building new pipelines specifically to transport ethane. This is positive news for plastic manufacturers looking forward.

The Wall Street Journal reported just a few days ago that Enterprise Products Partners LP (NYSE: EPD) said it’s moving forward “with a planned 1,230-mile pipeline to transport ethane from the Marcellus and Utica shale regions to the U.S. Gulf Coast.”

Industry #2: Methane

Although ethane is found in natural gas, its principal ingredient is methane. It’s estimated that methane makes up 70% to 90% of natural gas.

For firms like Methanex Corp. (Nasdaq: MEOH), low gas prices signal a huge chance to profit.

Methanex specializes in turning methane into methanol. Methanol can be found in windshield wiper fluid, plastic bottles, paints, fertilizers, compact discs, fleece jackets… the list goes on and on.

America’s natural gas boom makes manufacturing methanol that much less expensive.

Methanex, the world’s largest methanol producer, is even relocating one of its plants from Chile to Louisiana to take advantage of these low prices. The new plant is estimated to churn out one million tons of methanol a year.

Bloomberg reports Methanex expects “the factory will generate $400 million in annual sales at current methanol levels [starting in 2014]… and there is potential later for another unit to be moved to the U.S.”

But chemical manufacturers aren’t the only companies that stand to gain…

Industry #3: Biofuels

The EPA has mandated that the volume of renewable fuel required in transportation fuel will be increased to 36 billion gallons by 2022. That’s roughly a 300% increase from today’s figures.

In other words, fuel standards are rapidly changing in America. And this is creating some interesting developments in the biofuel sector.

As MIT’s Technology Review reports, “A biofuels company based in Madison, Wisconsin, has developed a potentially inexpensive way to make gasoline and other valuable chemicals out of grass and wood chips. Its approach reduces costs… by using natural gas to increase the amount of fuel that can be made from a given amount of biomass.”

The company is Virent, Inc. Although it’s a private firm, Royal Dutch Shell (NYSE: RDS-A) and Honda Motor Company (NYSE: HMC), among others, have invested a good amount of capital into Virent.

And the future looks promising…

In fact, according to Technology Review, Virent’s founder says that thanks to the company’s latest developments, it’s now “in the ball park range to be competitive with crude oil.”

The important thing here is that developments like these show how biofuel companies are getting very creative about adapting to cheap natural gas to achieve their business goals.

Looking Ahead

Some experts, including our own David Fessler, warn U.S. exports of natural gas are about to increase. This supposedly will soon push natural gas prices higher, thus scaling profits back for these various industries. But federal officials report prices are only set to increase 54% by 2018.

By this measure, the price of natural gas would be $3.54 in six years. That’s still a 76% discount from its 2005 highs.

Good Investing,

Mike Kapsch

Article by Investment U

Natural Gas: Another Great Contrarian Investment in 2012

by David Fessler, Investment U Senior Analyst
Tuesday, January 24, 2012: Issue #1693

There’s an old saying that goes something like this: “In the valley of the blind, the ‘one-eyed man’ is king.”

If you seriously consider what I’m about to show you, this old saying could well ring true for your investment portfolio at the end of this year. Perhaps even before. Let me explain…

At roughly $2.41 per million Btu, U.S. natural gas prices are in the dumpster. The truth is, they’ve been declining for years. But the recent shale gas boom accelerated their fall. Now they’re the lowest they’ve been in over a decade.

If it gets any cheaper, the companies that supply it will be paying you to take it. You see, they have a huge problem.

They have to keep producing in order to generate revenue, even in the face of declining prices. The problem here in the United States is that supply exceeds demand by a wide margin. And it’s getting wider all the time.

Why? Stores of natural gas at record levels… A mild winter… New wells coming online every month…

No wonder it’s eviscerating shares of explorers and producers. Take a look at the six-month chart for Chesapeake Energy Corporation (NYSE: CHK), for instance.

It looks like the first big drop on a roller-coaster. Shares are off 38% since last July.

Another producer, Cimarex Energy Company (NYSE: XEC), has a similar chart.

Its shares have virtually fallen off a cliff, dropping over 37% in the same timeframe as Chesapeake’s.

The fact is, even companies with minimal exposure to natural gas are getting hammered.

Our intuition tells us that the outlook for these companies – as long as natural gas remains at such low prices – is dismal at best.

In order to survive, some will be acquired by competitors. Shares of many will touch 52-week lows. For their decline to reverse course, the price of natural gas has to increase.

With a record supply glut firmly in place, demand has to increase dramatically. What could possibly cause that to happen, especially in the relative short term? Let’s ask the one-eyed man.

Back to the One-Eyed Man

The one-eyed man sees things no one else can. Author Nassim Nicholas Taleb coined the term “black swan event.” It’s a metaphor used to describe an event that’s a total surprise.

Now, I’m not the one-eyed man, but right now, low U.S. natural gas prices are clearly setting up several black swan events. All will singly – or, depending on the timing, collectively – increase the demand for natural gas.

Here’s the one-eyed man part: It’ll happen much faster than anyone currently thinks it can. This will have far-reaching economic impacts for the United States and, indeed, the world. Once these events take place, they’ll be rationalized in hindsight, as if everyone always knew they were going to happen.

These events will surprise most investors. But they’ll also make a few very wealthy.

If you’re aware of them, understand them, and invest in companies that will benefit from them, and you’ll be just like the one-eyed man. What are they? I’ve identified three.

Power to the People

The first one is already quietly underway. It’s the use of natural gas to power new electrical generating stations, and to repower older coal-fired plants.

There are natural gas pipelines within reach of just about every major generating station in the country. With even more strict emission regulations for coal-burners on the horizon, the logical choice for a baseload replacement fuel is natural gas.

In 2010 (the latest figures available), the Energy Information Administration (EIA) said utilities used about 515 billion cubic feet (Bcf) of natural gas for power generation. That equates to 24% of all power generated in the United States.

That’s a 7% increase over 2009. Here’s a chart from the EIA depicting the breakdown of power generation types in the United States.

Take note of the amount of generation that’s currently supplied by coal. Most of the 594 coal-fired power plants are baseload plants, meaning they run 24 hours a day, 365 days a year.

Over a third of them are too old to meet the new stringent emission requirements due to take effect in a few years. Natural gas-fired plants will replace most of them. That represents a massive, additional source of constant demand for natural gas.

Cool it, Ship it, Re-Gasify it, Sell It

The second event has to do with selling natural gas to customers elsewhere in the world. Natural gas in the United States sells for a third of what it costs in Europe, and one-sixth of what it goes for in Japan.

The only way to get it to customers on other continents is to liquefy it and ship it. Once liquefied, it can be loaded into specially built, liquid natural gas (LNG) tankers to transport it to re-gasification terminals anywhere in the world.

The problem is that the United States, other than a small facility in Alaska, has no liquefaction facilities that can compress and cool natural gas into a liquid for loading onto tankers.

While there are a number of companies planning such liquefaction plants, Cheniere Energy, Inc. (AMEX: LNG) is further along than all the rest. The company has inked three 20-year long-term LNG supply contracts with GAIL India, Ltd., Gas Natural Fenosa of Spain and BG Group in Great Britain.

If it can keep its construction plans on track, Cheniere will be the only game in town when it comes to exporting LNG. Other companies proposing to build liquefaction plants are years behind Cheniere.

The Biggest Black Swan of Them All

We’ve saved the best for last. Right now, the United States uses about 18.6 million barrels of oil per day. We import about 11 million barrels, or about 60%. According to the Institute for Energy Research, a full 71% of it is used in the transportation sector.

Imagine replacing all, or even just part, of that oil with natural gas. While natural gas-powered jets might be a few years off, cars, trucks, ships and even locomotives all run just fine on it.

And given its current price, natural gas is the equivalent of buying gasoline or diesel for a little over $1.00 a gallon. Remember those days? So what on earth are we waiting for? Why isn’t someone designing engines that run on natural gas?

Someone is: Westport Innovations, Inc. (Nasdaq: WPRT). Headquartered in Vancouver, British Columbia, Westport manufactures engines, fuel delivery and fuel storage systems using gaseous fuels.

Westport has over 400 patents on 130 distinct inventions regarding gaseous-fueled vehicles. It’s partnered with the likes of Cummins, GM, Caterpillar, Kenworth, Freightliner, Peterbilt, Mack and Hyundai in the development of natural gas engines for their vehicles.

Most recently, it teamed up with Electro-Motive Corporation, an OEM maker of diesel-electric locomotives, to develop a natural gas-powered locomotive for the Canadian National Railway.

It’s a bit of an understatement to say that business is booming. Revenue for its second quarter ending September 30, 2011 was $81 million, up 80% for the same quarter a year ago.

But what lies ahead for the company could make a few astute investors incredibly wealthy. CEO David Demers sums it up the best:

“With strong growth in all areas of our business, we now expect consolidated revenue for 2011 to reach between $240 and $250 million, representing growth of approximately 70% over calendar 2010.

“A few years from now, we expect that, looking back, 2011 will be seen as the tipping point for the use of natural gas as a transportation fuel.

“We are working with three of the top four heavy-duty engine manufacturers around the world, and more than 60 OEMs. Our Light Duty business works with seven of the top 10 automotive OEMs.

“This quarter, we announced a co-marketing agreement with Shell, the largest and most sophisticated liquefied natural gas (LNG) production company in the world, that would improve the economic case for acquiring LNG vehicles along with the infrastructure, providing a complete, cost-effective solution for fleet owners who want to unlock the savings, price stability, and environmental performance advantages of LNG.”

The bottom line: Three events are going to upset the natural gas apple cart, and I’ve listed three great ways to play them all. As my good friend Rick Rule likes to say, “Will you be a contrarian, or a victim?”

Good Investing,

David Fessler

Article by Investment U

Jan. 24 (Bloomberg) — Shane Oliver, Sydney-based head of investment strategy at AMP Capital Investors Ltd., talks about the outlook for global stock markets and his investment strategy. Oliver also speaks with Rishaad Salamat and Susan Li on Bloomberg Television’s “Asia Edge.” (Source: Bloomberg)

The Central Bank of the Republic of Turkey kept its benchmark 1-week repo rate unchanged at 5.75%.  The Bank said: “The Committee has indicated that tight monetary policy stance should be maintained for a while in order to  keep inflation outlook consistent with the medium term targets. However, given the prevailing uncertainties regarding  the  global economy, it would be appropriate to preserve the flexibility of the monetary policy. Therefore, the impact of the measures undertaken on credit, domestic demand, and inflation expectations will be monitored closely and the amount of Turkish lira funding via one-week repo auctions will be adjusted in either direction, as needed.”

The Turkish central bank last cut the benchmark rate by 50 basis points when it held an emergency meeting in early August, the bank also cut its benchmark interest rate by 25 basis points to 6.25% in January this year.  The Turkish central bank also adjusted required reserves in late July.  Turkey reported annual consumer price inflation of 10.45% in December, up from 7.7% in October, 6.7% in August, 6.3% in July, 6.2% in June, 7.2% in May, 4.26% in April, and 3.99% in March, and above the Bank’s full year inflation target of 5.5%.  

The Magyar Nemzeti Bank held its central bank base rate unchanged at 7.00%.  The Bank said: “In the Council’s judgement, the Hungarian economy is likely be stagnant next year, with growth expected to resume only in 2013. The level of output will remain below its potential over the entire forecast period. As the effects of the indirect tax increases and the exchange rate depreciation wane, the disinflationary impact of weak domestic demand is likely to become the dominant factor shaping inflation.”

The Magyar Nemzeti Bank previously hiked the rate 50 basis points at its November and December meetings, after last raising it 25 basis points in January this year.  Hungary reported annual inflation of 3.9% in October, up from 3.6% in September and August, 3.1% in July, 3.5% in June, 3.9% in May, and 4.7% in April.  Hungary’s Central Bank has a medium term inflation target of 3%, while the Bank said annual inflation for 2011 was 3.9 percent.

Jan. 24 (Bloomberg) — Shubhada Rao, the Mumbai-based chief economist at Yes Bank Ltd., talks about India’s economy and central bank monetary policy. The Reserve Bank of India will keep its repurchase rate at 8.5 percent today for a second month, all 21 economists in a Bloomberg News survey said. It is due to release its monetary-policy announcement later today. Rao speaks with Rishaad Salamat on Bloomberg Television’s “On the Move Asia.” (Source: Bloomberg)