Bitter Cold Winter

The sectors we warned were falling are now falling still further; and those we said were soaring are now soaring some more.

Last night in after-hours trading, Apple Computer plunged 10.5%, despite announcing a tremendous improvement in its revenues…

Dozens of other tech stocks, with results that don’t come close to matching Apple’s, are now on the chopping block, and …

Real-estate and mortgage-related companies like Fannie Mae, Toll Brothers, Golden West Financial, Countrywide Financial, MBIA, and KB Homes are mostly getting killed.

Meanwhile, natural resources are going in precisely the opposite direction …

• Copper has just jumped to still another, all-time, record high …

• Gold futures have now surged past $480 per ounce, and …

• Oil has begun to bounce back, rising still another $2 early this morning. Reason: New forecasts of supply shortages in the Gulf of Mexico are pouring into the market. New forecasts of demand surges are pouring in from the U.S. due to the approaching winter and from Asia, where China’s demand alone is expected to rebound 7% in 2006, according to the IEA.

This explosion in natural resource prices is not slowing down it’s gaining momentum.

A Bitter, Cold Winter for
Consumer Companies
by Tony Sagami

I woke up this morning to a fresh dusting of snow on the picturesque Swan Mountain Range that surrounds my small Montana town.

The splash of fresh white overlays the leftover green from summer and the bright colors of autumn.

But the arrival of the first snow means different things to different people.

For my family and me, it means snowball fights, sledding, skiing, ice skating, and the anticipation of the holidays. But for most, it signals a cold winter and bitter heating bills.

Indeed, for the last two weeks, our heating system has been kicking in during the night as temperatures routinely drop into the 30s. And in the morning, I already need to let my car warm up for five minutes before driving my children to school.

I’m not complaining, though. Some of our eastern Montana neighbors got a heck of lot more than a dusting of snow. Billings, the largest city in the state, got slammed with 11 inches last week, a new record.

But that was just the beginning. On Monday, another powerful storm dropped up to 20 inches on Colorado, closing a lengthy stretch of I-70, triggering rock slides and leaving thousands more without power.

I can’t predict the weather. But one thing I know for sure: My next few natural gas bills are going to be whoppers not just from higher prices, but also from increased usage.

Oil and gasoline prices have gotten all the headlines. But the biggest rise of all has been in natural gas. No one has strategic reserves of natural gas. And the only source of imports is Canada.

Bottom line: For the 75% of Americans that use natural gas to heat their homes, the cost this winter is going to skyrocket.

And don’t blame it all on Katrina or Rita since 2001, natural gas prices have tripled!

My local natural gas utility, NorthWestern Energy, raised its prices by 26% on September 1. But I’m not complaining. That’s peanuts compared to some other parts of the country …

California: Pacific Gas & Electric is charging 70.8% more today than it did last year.

Michigan: Two utilities MichCon and Consumers Energy have filed rate increase proposals that would increase the typical monthly utility bill from $120-140 to at least $180 a month.

Florida: Martin and his staff in Palm Beach County may still be wearing short sleeve shirts, but they’re also going to be spending a lot more on energy, even if they use no natural gas. Florida Power & Light, for example, said it expects to spend $770 million more than its budget for fuel in 2005. For starters, it will increase rates on electric power by 15% for residential customers and by 20% – 36% for commercial consumers.

Minnesota: The Minnesota Commerce Department has warned that the average home heating bills will increase by 73% this year. CenterPoint Energy, the largest natural gas utility in Minnesota, has already raised its prices by 77%.

No matter where you live, your heating bills are going to jump.

The jump in heating bills would be bad enough.

But consumers are also getting hit with higher gasoline prices and air fares … fuel surcharges and price hikes from a long list of energy consuming companies … higher property taxes … much higher home insurance premiums … and higher interest rates, especially on teaser-rate, adjustable mortgages.

What do you think these sudden jumps in the cost of living will mean to most Americans?

I think the answer is simple: Any extra dollars they have to spend on items they have to buy translates into fewer dollars they’ll be able to spend at places they want to go visit like McDonalds, Wal-Mart, or Toys R Us.

That’s exactly what we began to see last month when Wall Street was shocked by the news that the nation’s retail sales dropped 2.1% in August, the largest single-month decline in four years.

And those were just pre-Katrina sales, which means the September numbers are going to be a lot worse. I can tell because of a series of warnings from the few companies that have already reported their September sales:

A.C. Moore Arts & Crafts: “The third quarter was a disappointment for the Company as customer traffic dropped 6.2% and was below our expectations due to several factors including rising gasoline prices.

Ann Taylor Stores: Overall results for the month were negatively affected by a low double-digit decrease in traffic.”

Bon Ton Stores: “Consumer spending was impacted by several issues during September: increased gas prices, hurricanes Katrina and Rita and predictions of higher heating costs.”

La-Z-Boy: “Given these disruptive events and the continued softness at the retail level, we will significantly miss our estimates for sales and earnings for the second quarter.”

The reason retail sales are so weak is simply that, for most Americans, the expense side of their personal P&L is rising faster than the income side. The Commerce Department reported that in the month of August, American’s personal income fell by 0.1%.

This spend-more-than-you-make pattern cannot last. In the month of August, our national savings rate dropped by 0.7%, on the heels of the record 1.1% drop in July.

That’s probably why the Conference Board’s index of consumer confidence plunged from 105.5 in August to 86.6 in September the largest single-month fall since October of 1990.

That’s also why so many more Americans are falling behind on their bills. The latest quarterly data shows that the percentage of credit cards accounts that are overdue rose from 4.76% to 4.81%. The default rate on home equity loans rose from 2.57% to 2.66%. And for auto loans, it jumped from 1.87% to 2.08%.

These numbers may not sound huge to most people. But for banks and other lenders that get stuck holding the bag, it can be devastating.

Frankly, I don’t know how some hard-working, working-class families are going to make ends meet this winter. Budgets aren’t just stretched they’re getting torn apart.

My Recommendations

First, stay far away from any company in the consumer sector. I’m talking about retailers, restaurant, homebuilders, automakers, furniture businesses, toys, recreation, consumer lenders, and consumer electronics.

For a sneak preview of what may lie ahead, take a look at the S&P Retail Index (RLX). After hitting 488 at the end of July, it has dropped by 11% and appears to be on the brink of a far deeper decline.

Second, bear in mind that this is a lot more than just a retail story. A big chunk of our entire country’s growth in recent years has been driven by wild consumer spending, which, in turn, was driven by even wilder consumer borrowing.

So if surging energy costs … rising interest rates … bigger tax and insurance bills … plus cooling housing markets do not smack the entire consumer sector, I will be very surprised.

And if a big hit to the consumer sector does not clobber the S&P 500 and the Dow Jones averages, I will be even more surprised.

Your best defense: A nice, fat cash position, stashed in the safest investments in the world U.S. Treasury bills or Treasury-only money market funds.

Third, be selective. Focus on sectors that consumers are complaining the most about: energy and natural gas.

Fourth, be opportunistic. If you have some risk capital you can afford to speculate with, consider placing a modest portion of your portfolio in investments that can soar. For details, click here for Larry’s latest report on windfall profit opportunities in surging energy options.

Fifth, also consider opportunities to make tremendous profits from falling stocks. If you are doing it on your own, I’d recommend a small sake in long-term put options (LEAPS) on the most vulnerable stocks in the market. And if you need help, read Martin’s recent report on Stock Market Dogs.

Of course, how you prepare your portfolio is up to you. But I can assure you that sitting on your vulnerable investments and waiting for the next shoe to drop is probably the worst strategy of all.

Best wishes,

Tony Sagami

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