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Week Commencing June 2, 2014

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This week we look at the following topics:•Beating the StreetSometimes we need to just stop and re-wire our minds to ensure results are achieved.•Bullish on oil – weekly commentaryWe continue to spell out our weekly reasons on why energy markets are set for a bull run.•Gold price slipping away?The yellow metal has recently seen a fall in the spot prices but isn’t exactly collapsing.•Aussie dollar outlook: webinar this monthThere are growing fundamental signs as to why the Aussie dollar will keep falling.

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Beating the Street

Most traders and investors enter the market thinking that they can generate excess wealth. They start with the incorrect assumption that they are smarter than everybody. This is often the first mistake.

The market is a collection of many participants who all think they have the edge. They are willing to put either their money or the money of their clients to use. The most important part in becoming a successful trader or investor is in starting out with humility. The quote above is from Abraham Lincoln, it shows just how much humility the great leader actually had.

To be successful in investing or trading, you need to respect your opponent – the market. Every successful sporting great has held this view. Sporting coaches teach their players to respect the opponent. When you don’t respect your opponent, you become prone to shocks. Likewise in markets, the person on the other side of the trade is your opponent.

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You need to develop an understanding for what drives the market and often step back to see what the market is assuming. The market isn’t always wrong and if you find yourself constantly fighting the market it is often a sign that you are on the wrong path. Sound familiar? Read on.

We have had the pleasure of meeting various clients and individual traders over the past few months through our exhibitions and seminar presentations. Invast recently presented at the Future Wealth Forum in Brisbane. We fielded many excellent questions. Many of you who asked these questions are probably reading this report right now. We want to welcome you into our way of thinking.

Existing Invast clients have been through this before. We tend to write pieces on trading psychology every few months. Some of you might find this repetitive but it is crucial. The greatest asset a trader or investor has is their ability to think and turn those thoughts into profit. If your way of thinking isn’t update, your profitability will become very sporadic or worse, you will start to lose money.

The point in this note is that we don’t want you to start investing with the assumption that you will beat the market or as some investors in the United States often say, “beat the street”. The first assumption you should always start off with is that the market is usually well informed and is made up of a whole range of people who are willing to put their money to use. This doesn’t mean that the market is always correct.

If you start with the assumption that the market is usually right you can then start to also accept the fact that sometimes the market doesn’t get it right. Sometimes the market over estimates the threats of challenges, these find their way into incorrect assumptions which impact pricing. This is where the individual investor or trader can exploit the situation and start to put together a plan to take advantage. IT IS ONLY IN RARE CIRCUMSTANCES THAT THE MARKET IS WRONG. If you accept this, you will stop falling into the constant trap of fighting the market.

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Our experience and the feedback from many smart investors we regularly talk to is that being contrarian doesn’t always pay off. Sometimes following the trend is a lot more profitable, even though it might conflict with your initial impression. For those interested in trading stocks, we have found the following formula works really well:

•On larger companies, it is worthwhile at times being conservative. Sometimes the market gets it wrong and large institutional investors don’t have the luxury of time, which an ordinary investor can afford. It is worthwhile becoming a contrarian on large companies if you have the time and patience.•You cannot be a contrarian and buy against the trend unless you are willing to hold out. Many large companies have the ability to turn themselves around. They have access to capital, to resources. They can survive which is why we suggest a contrarian should only limit themselves to large companies.•Smaller companies are a lot more fragile, they have the ability to disappear much easier. Because of this, we suggest with smaller companies to only follow the trend. Many smart investors target smaller companies, which they think have the ability to become future leaders. They get paid a lot of money to find these opportunities and so they spend a lot of time speaking to management, understanding businesses and pinpointing future opportunities.•With smaller companies, don’t try to be a hero and fight the trend. You will usually lose, particularly when a stock price is falling. Foregoing upside potential is something you can live with but holding onto a small company which is being sold off by the market is usually a recipe for disaster. Those who have recently traded stocks in the Australian market know exactly what we are talking about here.

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For those trading currencies, commodities and indices, the same doesn’t necessarily apply. Your biggest asset here is your system. Your system is based on your own experience, it meets your own goals and risk tolerance levels.

Systems take many years to develop, sometimes decades. It doesn’t come easily. The notion of developing a system is similar to separating the two types of stocks on the market but because currency and commodity markets are so much more diverse, the system needs to also be robust enough. This is why businesses like Invast have spent years developing their own proprietary software like ST24, which combines over 6,000 systems from around the world and brings them to individual investors.

We will continue to expand on this notion into the future. For now we just want you to know that humility is vital. If you have been in the market for a while we suggest that you apply more humility to your planning into the new financial year. We plan to launch plenty of investing and trading material over the coming months, which you will no doubt find useful so we are just preparing you. Read the material, follow our content with humility and with the understanding that the market can get things wrong at times, but the market isn’t usually wrong all of the time. We hope you find the next section interesting – our view on energy.

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Bullish on oil – weekly commentary

Last week we wrote about the oil market and expressed our continuing belief that oil is set to increase in price in response to many supply side factors. We don’t assume that the market is wrong; we just feel that there are perhaps some emerging signs that the market will start to worry about oil supply. We have been bullish on the oil price since the start of the year – we wrote about it extensively in our 2014 Forecast Guide published in January. We are so interested and fascinated in the market that we plan to write on oil and energy on a weekly basis over the next few months so that we can better articulate our views.

A discussion on oil and energy is really a discussion around geopolitical events. The world’s energy supply is concentrated in certain regions, which constantly experience tensions. Sometimes the tensions are not a complete threat to oil supplies.

For example when the war in Syria started to intensify at the end of last year, we wrote to our clients and quantified the fact – through statistics published by BP – that Syria is only a very small net exporter of oil and its geographical territory does not see huge amounts of oil passing through it. The Persian Gulf though is a completely different story. We made that point that tensions between Saudi Arabia and Iran are a lot more significant to global energy threats. The Strait of Hurmiz is a major transit way for global oil supplies.

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We continue to monitor the situation in Saudi Arabia very closely because it is the single largest producer of global oil. There are a lot of assumptions out there in the market that Saudi Arabia has the ability and capacity to increase its oil production rates f the world needs it. What the statistics have shown though is constant pressure and inability in expanding oil production despite the huge amount of investment that has recently poured into the country.

The high oil price is a perfect opportunity for the Saudi’s to cash in and add that spare capacity which the market has so long assumed. OPEC spare capacity is near the lowest levels in its history – at 2-3 million barrels of oil a day but most of this comes from Saudi Arabia in which we have some serious doubts.

The Saudi’s claim that they have total oil production capacity at 12.5 million barrels of oil capacity on a daily basis but they have not been able to produce at 10 million barrels of oil per daily for a full year in over three decades. OPEC member investment plans have not been published in 4 years, suggesting that new investments are limited in scope and perhaps mainly intended to offset depletion.

The only major growth potential in OPEC is Iraq and with the recent elections expected to return in incumbent to power, the country is now at the highest risk of civil war than any other time after the exit of US and coalition troops. Iraq now produces at just over 3 million barrels of oil – similar to levels during the period of Saddam Hussein. The country has barely increased its total production rates. The common view in the market is that near perfect conditions – which are very unlikely for at least the next five to ten years – could see oil production reaching a daily run rate in the order of 6 million barrels of oil.

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But one of the main points out of Iraq is neither market nor the government itself does not really have a good handle on depletion rates. Decades of under investment and near anarchy at times have brought Iraq’s oil production industry to its knees. Even recent post war efforts to kick start production have brought with them legal issues – the Kurdish autonomous region constantly fighting for status and revenue flows with the central government in Iraq.

The other point to consider is Russia and central Europe. New oilfield installations have provided a rash of disappointments in recent years. High hopes for Kazakh production gains have been dealt a major setback with the closure of the Kashagan field just days after its much delayed start up after corrosion damage to the facilities. The field is now expected to restart sometime next year, if the best-case scenario takes place.

It cost more than $50bn of investment to date – that’s the amount that we know about. European efforts to diversify their energy exposure away from Russia are progressing but not without hiccups.

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Shale gas in Poland has thus far been an enormous disappointing due to poor drilling results. The UK is growing uneasy around the chemicals and technical processes used in extracting its gas with public awareness against the measure of fracking increasing pressure on legislators, as is the case in Australia.

In the meantime Russia has been quietly looking to sure up its geopolitical position by recently signing a long term energy agreement with China where consumption is currently at a rate of 2.7 barrels per capital per year, compared to the United States where consumption is 21.8 barrels per capital. If China were to increase its consumption to a modest 5 barrels per day per capita, it would consumer almost as much oil as the US comes today.

The stakes are high and the oil price has consolidated its gains in recent years. We feel that US$100 per barrel is becoming the new $20 per barrel – which means that after a period of consolidation and the global economy becoming accustomed to the price, the market is finally ready to start moving higher. We will continue to right about the trends in energy company investment plans next week – for now we just want to reaffirm our firm bullish view on oil.

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Gold price slipping away?

It’s hard to be bullish on the gold price at the moment. After a period of solid support at around the US$1290 per ounce level for a few weeks, the price has slipped through and is now looking for support around US$1220-35. A break below this level could signal a fall to the $1180-$1185 mark as was the low back in December 2013.

We actually called this move lower in our live market analysis session earlier in May. Remember our live market analysis sessions run every Wednesday and they are a perfect opportunity to ask our analysts questions directly. We will be having an update on the gold price in this week’s webinar as per usual.

Image: Spot gold daily price chart via Invast MT4 platform

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We still see solid support at around the US$1200 per ounce level at a fundamental level. We look at the marginal cost of production, which we have spoken about over the past several months and a major floor in the spot price at around US$1000-1100 per ounce.

The momentum at the moment on the daily chart does not look that flash – the stochastic oscillator signaling an oversold level with no bullish divergence showing. We could see another major pullback before the overbought position is triggered and so for now we think that there isn’t any immediate need to be long the spot gold price but traders should watch the market very closely. If we see a breakout on the oil price, as we have stipulated above, the gold price will no doubt respond on inflationary fears.

The greatest threat to this gold/oil outlook is if the global economy falls into a period of uncertainty and demand for energy drops significantly. The gold price would respond favourably to periods of fear but is also vulnerable to arguments around deflation. With global central banks printing money and remaining committed to stimulating the world economy at any cost, it’s really hard to see this happening.

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That’s why we remain of the view that commodity prices as set to rise relative to major currencies as the printing of money circulates its way throughout the economy and diminishes the value of paper currencies. A short-term correction in the gold price could provide an attractive long term opportunity to enter on looming inflation fears.

Aussie dollar outlook: webinar this month

One of the key themes we are telling our clients about is the reversal in the Australian dollar. We wrote about this on this in last week’s Invast Insights report and published a blog on 20 may via the Invast website. If you missed the note, you can click here and have another glimpse. Invast is proud to announce that we will be holding a webinar on this topic where Peter Esho will go through the fundamentals driving the currency in detail. The webinar will be held on 24 June 2014 at 7:00pm EST.

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Peter’s presentation will quantify the impact of falling commodity prices on the fiscal situation and provide his view on how the Reserve Bank of Australia (RBA) is likely to respond. Some of the suggestions will surprise you, so make sure you register and secure your seat early. Peter’s earlier webinars have seen our webinar facility approach near capacity and so not everybody is guaranteed to have their spot secured. The webinar will not be recorded, so make sure you get in and ask your questions. To secure your spot, visit the link here and register your interest.

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Go to www.invast.com.au/insights to get a complimentary 4 week trial and receive the latest insights as they are published to our live clients.

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DisclaimerPlease note that you are receiving this report complimentary from Invast Financial Services Pty Ltd (AFSL 438 283). Invast staff members may from time to time purchase securities which are included in this or future reports. The authors of this report may or may not be holding a position in the securities mentioned. Please note that the information contained in this report and Invast's website is of a general nature only, and does not take into account your personal circumstances, financial situation or needs. You are strongly recommended to seek professional advice before opening an account with us.

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