Iron ore is being stockpiled in granaries and copper in car parks, because the warehouses are overflowing. Copper stocks in Shanghai’s bonded storage, the biggest in China, are now double the 300,000 metric tons (330,693 tons) average of the past four years and iron ore stocks are about a third more than their 74 million metric tons average.

The glut is prompting some firms to sell copper into London Metals Exchange warehouses, a move which would further depress the exchange’s benchmark prices.

But this is just the start, given just how big the Chinese property bubble is. China’s residential real estate prices, in aggregate at construction cost, are 350% of GDP. The only two economies to have had higher numbers were Japan in 1989, at 375% and Ireland. So China’s property collapse will be epic, as will the fall in commodity prices will be.

China, as 8% of the world’s economy, was generating 80% of the marginal demand for iron ore, cement, and steel.The attached chart from Goldman Sachs, showing just how far beyond the norm China’s cement consumption has been, says it all.

market investors have filled the gap, and there was no drop in overall trade finance in the fourth quarter of 2011 despite the diminishing foreign exposure of European banks. However, access to funding is likely to tighten across-the-board as the euro-zone crisis deepens, according to BoA Merrill Lynch.

Western European bank deleveraging poses an especially big threat to Eastern Europe, as I warned in The Game is UP for the Commodity Super-Cycle As the Yo-yo Years Begin. After all, this is a region still struggling to recover from the last credit recession, and facing further financial turmoil from the euro-zone crisis (see Central Europe’s Special Hell).

The IMF and the European Bank for Reconstruction and Development continue to present a united front on the need for austerity to tackle the debt crisis. But as Emerging Markets magazine reports, the battle over austerity and growth has moved east, as hostility to further cuts in spending and tax hikes spreads across large swathes of Europe.

In an increasingly interdependent global economy it was always disingenuous to suggest that emerging markets could de-couple from the developed world, given their dependence on exports. But fund managers were all too willing to suspend their disbelief, as a liquidity-driven investment boom sent commodity prices soaring.

However, with fixed asset investment – which accounts for 50% of GDP – collapsing in China, global demand for non-food commodities will plummet, argues Michael Pettis of Peking University. After all, China’s share of global demand for such commodities as iron, cement and copper is almost wholly a function of this high level of investment. Moreover, commodities are notorious for going through periods of scarcity and glut. Having increased production massively since 1999  - crude oil output has risen by 16%, copper by 28% and aluminum by 94% – it certainly feels like the end of the cycle (see chart).

The multinational mining, oil, and gas company, BHP Billiton, agrees.  It expects commodity markets to cool further and has put the brakes on a plan announced in 2011 to spend $80 billion over five years to expand its iron ore, coal, energy and base metals divisions, banking on continuing high demand from its main market, China.

Some die-hards, like Morgan Stanley, cling on to the hope that there will be some kind of turnaround, and that China can stimulate its economy. Cutting interest rates will do no more than push on the proverbial piece of string though, as the Chinese are queuing up to pay down their debts. Besides, the Chinese government is in no mood to reflate a property bubble it has done so much to deflate.

Meanwhile, with European banks being forced to shrink their balance sheets, and under strategic and political pressure to lend close to home, new syndicated bank lending to emerging markets dropped 51% to $105 billion in the first quarter of 2012. But this is only the beginning. If European bank lending abroad fell 37% after the collapse of Lehman Brothers, then how much will it fall if most of Europe’s banking sector ends up being nationalized?

Eastern Europe, where Austria, Italy, and France typically own 60-90% of bank assets, is particularly vulnerable in this respect. But so is Asia. European banks may only contribute around 10% of the financing needs of Asia’s markets, but the 5.9% fall in the consolidated claims of European and UK banks on Asia in the fourth quarter of last year was enough to cause an acute shortage of dollars, rising interbank rates, and downward pressure on emerging market currencies.

Supplier economies such as Taiwan, Korea and China, and commodity suppliers such as Canada, Australia and Brazil, are now highly vulnerable to the “bullwhip effect” in global supply chains. As we move away from the consumer, even small fluctuations in consumer demand get amplified up the supply chain into big swings in demand. This is why a severe recession in Europe is also likely to translate into a collapse in raw material prices, and why hedge fund contrarian Hugh Hendry describes the BRICS as “vastly over-vaunted and over-owned.”

Looking ahead, old patterns of trade and growth will have to change. It’s the end of Chinese, German, and Japanese mercantilism, as every country competes aggressively for a share of global markets, argues Nobel prize winning economist Joseph Stiglitz; “Of course, not everyone can run surpluses, so this becomes a game of hot potato, with everyone pushing the deficit to someone else, via currency devaluation and other aggressive trade moves.”

The terms of trade are shifting in favour of commodity importing countries – which will be a blessing for the US and Europe – given that a system in which they are the “deficit of last resort” is not sustainable. As Europe is also likely to see some highly competitive economies emerge from the ruins of the euro, going short its financial sector and long its export sector could be a highly profitable trade.

Unable to grow on the basis of rapid exports to Europe and the US, Asia will have to focus on trading more with other developing regions like Africa and Latin America, in addition to a much more domestic-centered strategy through regional trade groupings such as Asean, which is moving towards a unified market in 2015.

Whatever happens, the sharp contraction in international and capital imbalances is likely to be a wild ride; one which Lakshman Achuthan, of the Economic Cycle Research Institute has dubbed the “yo-yo years.”

(On Twitter @TheAngryAnalyst)

Commodity super-cycle peaks?

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The writing on the wall, as I wrote in Germany’s Approaching Götterdämmerung, is the Bundesbank’s TARGET2 balances (see chart 1), which reached a new high of €644 billion in April. Germany is now on the hook for much of the €2.1 trillion in rescue measures that will saddle Germans with ruinous losses one day. That is why Germany may have been planning an exit for some time. Why else did it offer Greece and others bailouts on such onerous terms that the likelihood of them being accepted was virtually zero?

Taking a look at the consequences of a Greek exit for the rest of the euro-zone JPMorgan has totted up some numbers. The immediate losses add up to €400 billion: €240 billion of Greek debt in in the hands of the EU and the IMF, the €130 billion of the eurosystem’s exposure to Greece via TARGET2, and a potential loss of around €25 billion for the banks (most of them French).

But the indirect consequences are huge, given that the markets see Greece as a precedent for the other peripheral euro-zone members. The €800bn of Italian and Spanish government bonds still held by non-domestic investors are likely at risk, as are the €500bn of Italian and Spanish bank and corporate bonds and the €300bn of quoted Italian and Spanish shares held by non-residents.

It gets worse: “The numbers balloon if one starts looking beyond portfolio/quoted assets. Of course, the €1.4 trillion of Italian and €1.6 trillion of Spanish bank domestic deposits is the elephant in the room which a Greek exit and the introduction of capital controls by Greece has the potential to destabilize (see chart 2).”

The Western European banking system is already broken. European leaders, by brushing its bad debts under the carpet – remember the bank ‘stress tests’? – have starved firms and households of working capital by paralysing the market with the fear of counter-party risk. Another, much more severe banking crisis is upon us, the consequences of which will be as profound for emerging markets as it is for Europe.

Water across the US has always had gas in it, and there have been reports of “flammable water” since at least 1936. Indeed, Gasland’s director, Josh Fox, admitted last year that he withheld evidence that showed gas can occur in water naturally and is not a result of fracking.

But the EPA went ahead and tested water at 61 homes in Dimock, Pennsylvania anyway. Residents had complained since 2009 of cloudy, foul-smelling water after Cabot Oil & Gas Corp drilled for gas nearby. But sampling did not show levels of contaminants that would give EPA reason to take further action.” Cabot spokesman George Stark said any contaminants found in the tests “are more likely indicative of naturally occurring background levels or other unrelated activities.”

This is good news for those who understand the global economic benefits of vast reserves of cheap energy.

Green Mountain Coffee Roasters was a scandal waiting to happen. There’s been something fishy about their accounting from the outset. The business strategy it was pursuing was a classic example of front-end loading, where revenues and cash flows today are exaggerated in order to fool the unsuspecting investors into thinking that profitability can be maintained. Specifically, they pursued a highly aggressive acquisition strategy to create an illusion of growth. So the fact that their growth has finally cratered shouldn’t come as a surprise to anyone paying the least attention to the game they’ve been playing.

As I wrote in an article for Acquisitions Monthly in October 201, titled Wake Up And Smell the Coffee: Is Green Mountain Coffee Roaster’s acquisition of Van Houtte a sign of weakness?

There won’t be any meaningful free cashflow until 2012. Perhaps that is why Green Mountain has just hiked prices on all its K-Cup portion packsby 10%–15%, blaming it on a 31% increase in green coffee prices duringthe past quarter.

On top of that, the cost of amortising the goodwill building up on Green Mountain’s balance sheet – the cost of overpaying for its acquisitions – will weigh on earnings for years to come. So if Green Mountain’s present share price is to be justifiable, the manufacturing and distribution synergies that its recent deals promise ought tobe realisable.

Switching royalties for actual revenues has allowed Green Mountain to boast the sort of impressive sales growth – 56% each year for the past three years – that has persuaded the market to give it a premium valuation.

But with close competitor Peet’s Coffee trading on a price-to-sales multiple of 1.4, and having paid close to 2x for Van Houtte and Diedrich, it is questionable  Green Mountain deserves to be trading on a price-sales multiple of about 3.5. It might be time for shareholders, dare we say it, to wake up and smell the coffee.

Here’s a link to open letter written to Green Mountain Coffee Roasters’ Board of Directors, which says it all.

The problem for BC is that no other provinces or US states have chosen to follow the same path, and the Western Climate Initiative – a regional cap-and-trade system, has been reduced to just California and four Canadian provinces, after six US states withdrew last November. Because its businesses are therefore competitively disadvantaged, the province is having to provide aid to them through tax breaks and credits. Funny that.

End of the line for First Solar?

Generous solar subsidies were never going to survive in an age of austerity and cheap natural gas. Nowhere is this more apparent than in Germany. Solar energy was supposed to herald a new age of clean energy, and provide thousands of green jobs. But not a single solar manufacturer is expected to survive there. With governments like Italy also ending their tax payer funded bonanzas, the industry is facing total collapse, globally.

A massive glut of manufacturing capacity – the solar industry sold only 40% of its total solar module capacity last year – is driving down prices. Price falls may be good for power plants, but given the technology’s limitations it is doubtful whether prices will ever drop low enough to make solar a viable energy option without government subsidies.

This is because shale gas has upended the economics of electricity, in the US and elsewhere. Renewable energies just can’t compete, but none less than solar. Even with subsidies, solar projects in the sunniest regions can’t compete with efficient natural gas plants. Gas-fired generation jumped 40% in the last year alone, increasing its share to 29.4% of America’s energy needs.

The failure of Obama’s green energy revolution has been well publicized given the controversy surrounding the bankruptcy of solar panel manufacturer Solyndra, and the Federal money it received – to protect a big Obama donor – even when it was known the company would fail. Public investment in clean energy appears to have been “nothing but a way to shovel lucre to politically influential producers.”

So, how long then can US solar industry last, when President Obama has made dirt-cheap natural gas a cornerstone of his energy policy? For now the Department of Commerce is attempting to protect solar manufacturers by imposing tariffs on subsidized Chinese solar panels that are imported into the US – at the expense of plant operators. But judging from America’s largest manufacturer, First Solar’s $450 million loss in the first quarter – and $10 billion loss in market capital in only one year – it looks like a lost cause. It can’t be long before budget imperatives and logic prevail, as it has in Germany.

As the Angry Analyst predicted last year, in The West’s Manufacturing Continues To Pay For Green Gesture Politics, soaring household bills would force politicians to abandon renewable energy. The €100 billion Germany has committed to solar subsidies over the next 20 years has made German electricity the most expensive in Europe, and 15% or so of German’s are now struggling to pay their bills. Fighting for her political survival, Chancellor Merkel has pulled the plug.

From 1 April, solar feed-in tariffs were slashed by 30% for existing plants, and abolished entirely for new industrial-scale plants. A death sentence for the industry, not a single Germany solar manufacturer is expected to survive the next few years. In recent months, Q-Cells, once the world’s largest producer of solar cells, has filed for bankruptcy, along with Odersun, Solon, Solarhybrid, Solar Millenium, and Scheuten Solar.

The question now is can even the Chinese solar industry survive? China, the world’s biggest maker of solar panels, has just cut its Golden Sun program, which funds solar power generation projects, by 21%.

Foreign investors are aware that the UK faces a capacity crisis and electricity shortages in only a few years, because of prime minister David Cameron’s obsession with costly and ineffectual wind turbines – in which his father-in-law has a huge financial stake.

This is delaying the commissioning of desperately needed generating capacity, and there is a risk of the “lights going out” unless ministers act urgently, warns the chair of the Energy and Climate Select Committee, Tim Yeo, a Conservative MP.

Realising, belatedly, that the UK will lose much of its industry if green energy costs continue to rise, the government offered compensation to heavy energy users to mitigate the effects of the carbon price floor and the EU emissions trading system on electricity costs, last November. But the chemicals and pharmaceutical industries have now threatened to go elsewhere – unless the government does more to shield them.

Tragically, however, for British employment, abandoning the ludicrous ‘fight’ against global warming is not yet on the political agenda – even if the UK is paradoxically contributing to a net increase in global emissions, by bleeding jobs to manufacturing countries unencumbered by climate legislation.

The West’s “off-shoring” of emissions is why China increases its CO2 emissions by as much as Britain’s total CO2 emissions, every year. As a result, China – which now accounts for 25% of the global total – has more than doubled its coal output in the last decade to 3.5 billion tons, and become the world’s biggest coal buyer.

A glimmer of hope is that the chancellor, George Osborne, has promised not to burden business with green policies. Environmentalists are also waking up to the fact that the increase in carbon emissions from goods produced overseas that are then used in Britain is now outstripping the gains made in cutting emissions there.

EU governments are in a quandary about what to do about this. Given the current state of international negotiations, a legally binding global agreement to cut emissions could not come into force before 2020 – if at all. Imposing import tariffs on foreign goods produced with ‘dirty’ electricity is nigh on impossible under World Trade Organisation rules.

Meanwhile, the rest of the world’s rush to coal and gas – 50% of global electricity demands have been met by coal during the last decade – has been accelerated by a new crisis in the nuclear industry following the Fukushima disaster in Japan.
Japan, which will have shut down the last of its reactors this weekend, is looking to oil and gas for its energy needs. India – where a quarter of the population still has no access to electricity – is planning to rapidly increase construction of coal-fired power plants. While Germany is filling the power gap created by the shutdown of eight nuclear poser stations with brown coal, or lignite, through the building 17 new coal-fired power stations, and 29 gas-fired ones.

With austerity in Europe and China’s property bubble deflating, it is not surprisingly that metals prices are weakening. But unless something drastically changes to push fundamental demand of metals higher, or the outlook for equities is not good, says Morgan Stanley.

Metal prices, which tend to be a good predictive indicator of global industrial production, have just gone materially negative for the first time since the financial crisis began, which means that global manufacturing data is likely to turn negative over the next few months.

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