Ags

For a longer term perspective, I really like these sectors. I have discussed banks in the past but now let me elaborate on ag products.

During the past week, ags have sold off across the board for several reasons in my view:

1. The biggest seems to the production cuts made by POT signals slower demand forthcoming. Hot money (aka hedge funds) invest with a 3 month time horizon because they play quarter-by-quarter to keep funds in their account, etc. Therefore, I believe there has been liquidation in the sector as hot money is leaving (due to dim short-term earnings prospects) and heading into industrials (again my personal opinion). This may create good entry points; however, it is like catching a falling knife.

2. Discussions with China. This will determine pricing power for many of the Potash suppliers. Phosphate should increase 20% by next year, while Nitrogen seems to be an overlooked "quite sleeper" with slow-single digit growth.

3. Back to pricing, there seems to be more investor fear that many firms will reduce prices. For example, BPC cut Brazilain Potash prices by 25% and Monstanto's glyphosate guidance was rather weak.

Going forward, the big cloud in the sky remain China negotiations with Canpotex as investors have uncertainity about future output and pricing. In addition, grains and energy prices (well commodities in general) need to stay on a uptrend. This should happen in the next year; however, it is far from a guarantee. If we "double-dip" this recession, which many bears believe, commodities will tank. Inflation is tame but the deflation camp begs to differ. Here is why:

There arguement center around the consumer:

1. The average HH savings rate has increase to 5% of disposable income.

2. The consumer is in the process of deleverging. The average HH has $7500 in credit card debt and over 60% of banks have reduce credit lines. This create a lack of liquidity for the consumer, therefore, spending is not as easy. For ags, the lack of credit hurts farmers as well as they have to negiotatie deals in order to get fertilizer.

3. Unemployment will continue to put downward pressure on spending.

Regardless of this economic viewpoint, these factors effect all commodities, as well as valuations for these firms. The firm's book values are very low, so in my view you can attached EV to EBITDA multiples or EBITDAs to individual business segments and derived a multiple based on demand per sector (hence, vast demand creates multiple expansion).

I have seen numerous discounted cash flow models on these firms but the problem i see is that the growth estimates are too agressive for my liking. However, these valuation metrics will be used to determine price objectives (well that is what I will use, i don't know what analysts will use) and believe if the economy can recover next year, commodities stay strong, this selloff will create opporuntiy in the sector for a 6-18 month trade. I'll give names later in time....