Well, gold has meant 'wealth' for ages. Before the economic revolution in the 18th Century, the two ideas were inseparable. If you wanted wheat you went and found some wheat. If you wanted wealth you went and found some gold.

This was before economists began to toss around other ideas of wealth. The new ideas varied in quality. Adam Smith said a man's real wealth came from accumulating capital and investing it. Karl Marx said capitalist wealth only ever came at the expense of workers. Craig James said shares always go up, so buy them and you'll be wealthy.

Some ideas are better than others. But before Smith's idea, gold held sway as wealth. Everyone agreed on this. Even Isaac Newton was a part-time alchemist. Between inventing calculus and gravity, he'd pop out to the back shed to whip up a batch of gold.

That's the funny thing about alchemy though. What if you actually could make gold from other metals? Gold would be worth about the same as those other metals. Basically worthless. It wouldn't be rare any more. It wouldn't be precious.

Yet today we have an economic system founded on this fallacy. Paper money is 'wealth' backed by the government. The government employs alchemists like Glenn Stevens and Ben Bernanke to create more money. And that means the whole stock of money is worth less.

Meanwhile, no-one's printing gold yet. We've tried every combination and permutation of every ingredient in our cupboard. None of it makes gold, although with a hybrid of vegemite and honey we think we've invented a grand new condiment. No new gold supply though.

Meanwhile, Bloomberg says South African gold production dropped 10% last year. Energy production over there is unreliable. And when it comes down to it, the lack of new gold supply makes it a better wealth-holder than cash. We'd take scarcity over abundance any day. Gold is scarce. Fiat money is abundant.

That'll become very obvious soon. The failure of Fannie Mae and Freddie Mac is pushing Bernanke and the US Fed closer to a wholesale dollar-printing scenario. But you might not have to wait that long for gold to react.

Demand from the Indian jewellery market hits its stride around this time of year. Or, at least, that's been the case every year for the last 6 years. Since 2002 gold investors have gotten a 10% Christmas present. Ten percent, on average.

Deck the halls with bullion. But for goodness sake, do it in September.

Last year the September-December surge was 24%. Following that Indian jewelers and worried investors helped take gold to its highest peak ever. The fundamentals of the gold market haven't changed much in a year. And the price is where we left it at the end of last year, US$800.

The gold companies, however, are a completely different story.

You'd expect big gold producers to track with the gold price. They have, sort of. But in the last month they've gone off the rails. With the exception of Newcrest, most of Australia's larger gold producers have lost two years of share price gains. They're trading at 2006 prices. Back then gold was US$600.

A lot of commodities are cheap now (like our favourite metal for the energy boom). But gold producers have taken the most serious of whackings. They've been the scape-goats and whipping-boys for commodity bears.

If you go further down in the gold food chain, things are even cheaper. Smaller gold producers are about as fashionable as a pink mohawk at the Melbourne Cup. Take our favourite Diggers and Drillers gold pick. It's on sale at 2005 levels. That price implies something even more dire than a US$600 gold price. There's nothing wrong with the company. It's selling lots of gold. But it's at a huge discount.

There's a point for discussion. When the market for gold equities turns around, what'll lead it up? Chronically oversold juniors? Or producers with more leverage to gold itself?

We don't know to be honest. We probably lean towards producers. To ride the gold express you'll need a ticket. To benefit from a rising gold price, you need some gold. Some explorers 'might' have gold. But a lot of them only have patches of spinifex-ridden desert. And even if there's gold in the ground, it might not be mine-worthy.

Considering that this sell-off hasn't been completely rational, it's difficult to tell exactly when it'll turn around. You can't predict what a crazy man will do next. He might just keep acting crazy. But we do know that these things turn around eventually. Nothing's as cyclical as the commodities sector. And gold firms have taken a bigger haircut than most.

Al Robinson
for The Daily Reckoning Australia

• Reader Mail: Is the DR Contradictory? Are We Hustlers?
• Outsize Demand for Commodities and Gold
• The Century of the Emerging Markets
• Gold Falls for Four Straight Days but is the Low Price a Bad Thing?
• A Word About the Dollar’s Decline from Our Intrepid Correspondent, Byron King:

What of all that hoo-ha about Big Banks keeping the cut to themselves? It turned out to be just that. A monumental load of hoo-ha. Within nine minutes of the RBA’s announcement, all four had passed on the savings. Pretty eager. Who said there wasn’t enough competition in the banking sector?

Don’t think the credit ‘crunch’ is over though. This is the downleg of a cycle, not a blip in a glorious, perpetual uptrend as some people seem to think. Kris Sayce at Money Morning spies a dissenter in the market. Wizard Home Loans didn’t lower interest rates. It raised them. Check out today’s MM for the full story, and all your other important market news.

Meanwhile, the economy is blowing a cloud of fog into investor’s windshields.

The first thick layer of mist becomes apparent in Glenn Stevens’ official statement. Here are the two paragraphs to take note of:

The rise in Australia’s terms of trade that has occurred is working in the opposite direction [to slowing growth], adding substantially to national income and ability to spend. Fixed investment spending by businesses continues to be very strong. At the same time, high prices of oil and a range of other commodities have added to global inflationary risks. They are also dampening growth in a number of countries.

Given the opposing forces at work, considerable uncertainty has surrounded the outlook for demand and inflation. On balance, however, it is looking more likely that household demand will remain subdued and overall economic growth slow over the period ahead. Inflation is likely to remain relatively high in the short term, with the CPI affected by the high global oil prices in mid year and other increases in raw materials prices.

In plain English, there are opposing forces. The rising Australian terms of trade is bringing money into the economy, fueling it. A higher oil price is adding helium to the price balloon too.

Meanwhile, the credit crunch has smashed investments and caused money markets to flare up. The upshot: higher market interest rates, lower asset values and less spending by John Citizen. Poor Johnny C.

That’s pulling the economy down.

We have consumer price inflation plus a stagnant economy. Stagflation. The two-headed ogre of despair. With its dual maws, it attacks wealth from two directions at once. Rising prices mean Johnny C pays more. A slower economy means he has less wealth to spend in the first place.

Central banks are only equipped with one sword: manipulating cash rates. ‘Sword’ might be a generous term. Maybe butter-knife is better. Anyway, it can’t take out both the ogre’s heads at the same time whether it’s slashing or buttering. So what’s the economic solution?

There isn’t one. Not based on Keynesian, business cycle-smoothing economic policy. Or any other economics for that matter. An economy is a self-correcting system. It’s correcting the low prices and high growth we’ve had for years…with high prices and low growth.

So there’s that first layer of mist. Economists are faced with a scenario they’re not used to. Economic ‘uncertainty’, as Glenn Stevens put it. Hence the fog. How do you invest when the future is invisible?

(If you answered the housing market, go sit in the corner. If you can even afford the rent of sitting in the corner. Investing in unaffordable assets is not advisable. And we see Money Morning has a nice graph of what unaffordable housing looks like today too.)

We’ll get to a real investing solution shortly.

First, we spy a second layer of wisping, foggy uncertainty. A cheaper Aussie dollar. The interest rate cut has slashed over US13c of value from our little gold kangaroos. They’re trading at US83.5 cents today.

Other currencies are giving our dollar the hop too. That’ll only serve to import higher prices from overseas. Australians paying more for things, in other words. The left head of the ogre just grew a little. Which problem should the RBA deal with? Slower growth or higher prices?

Again, this isn’t the kind of thing a central bank is equipped to deal with. An article in The Age down here in Melbourne hinted we might see the RBA switch back to raising rates. Just to keep the dollar up. That’s getting fancy. A cut here, a snip there. A deft dodge, a subtle weave. Now we have a ballet dancer taking on a two-headed ogre with a butter-knife. Eeep.

It’s an absurd suggestion. But it’s evidence that this is a serious dilemma. Absurd suggestions start appearing when there are few good ones. We have rising prices from higher incomes…higher prices from a lower currency…and slower economic growth from high market interest rates. It doesn’t bode well for individuals or businesses.

About that solution. Quickly.

It’s no barnstorming, revolutionary idea. It’s just picking an industry that has the best of this world.

Raw materials companies are Australia’s breadwinner. Undeniably. The RBA’s still worried about ballooning prices. Mainly because mining exporters are still pulling in cash from Asia. Those rising terms of trade are concentrated in a few industries; coal, iron ore, energy, wheat. If the Australian economy is a water balloon that expands and contracts, there’s only one thin straw drawing real, liquid wealth inside. That straw is Western Australia, Queensland, and their natural resource advantage.

It’s the precursor to the inflation that keeps the RBA up at night. Mining earnings. Inflation’s first stop-over in Australia is BHP’s income statement. Unlike John C Citizen, and most other businesses, miners are still making money. Most coal companies locked in double digit earnings growth last month with contracts.

The lower Aussie dollar doesn’t hurt every industry either. China’s basically pegged to the US dollar. As far as Beijing is concerned, Australian coal is US13 cents cheaper than it used to be. So are the coal companies themselves.

And those falling asset values? That’s the key. That’s what makes investing in resource firms timely. Without a broken stockmarket, miners might still be trading at P/Es double those of today. Buy low.

So Diggers and Drillers will be stocking up on miners this month and next. More than usual.

Al Robinson
for The Daily Reckoning Australia

• Rising Coal Prices to Increase Electric Bills in Australia
• Australian Dollar Set to Grow for the Remainder of 2008
• Australian Recession in the Works? Ask the Sharemarket
• RBA Leaves Rates Unchanged, Rio Wraps Up Negotiations
• Australian Credit Card Debt Grew by 9% in February

With a crook laptop and an hour to go before we fly to Baltimore via San Francisco, your editor has plugged a few coins into an Internet kiosk at the airport to see what in the world is going on. A lot.

A Category Five hurricane (Gustav is hurtling toward the coast of Louisiana and Texas, just three years after Hurricane Katrina devastated New Orel ans. Bloomberg reports that oil and gas pipelines in the region are already being shut.

Hurricane season always reveals the two Achilles heel's of Gulf oil industry (Achilles had two feet after all, even though only one of them was not protected by the gods). The first is that off-shore productionsome 1.3 million barrels per day from the Gulfhas to be idled when the storms roll in and can remain off line for repairs for weeks.

The other issue is that Gulf based crude oil refineriesyou know, the ones that produce petrol for American carshave to shut too.
Better hope those tanks are topped up for the Labour Day weekend!

Meanwhile, wouldn't you like to know what was said during the one-hour phone call this weekend between British Prime Minister Gordon Brown and Russian President Dmitri Medvedev? Brown got off the phone, wiped the sweat from his brow, and told all of Britain, "No nation can be allowed to exert an energy stranglehold over Europe."

He promises a "root and branch" review of Britain's relationship with Russia. Sounds about right.

The trouble is, nations with abundant oil and gas reserves DO exert a stranglehold over those without them. Oil and gas are no good if you can't sell them. That's true. But the Russians can sell going East and West.

The Indians and the Chinese will be happy to lock up long-term energy supplies from Russia. After all, that's where all the growth is. Where does that leave Europe? Well, it's September, so it's not cold yet. But in a few months, Russian gas, even if it comes with all sorts of geopolitical provisos, will look mighty nice compared to huddling in the dark and eating tinned food.

So energy joins the credit story on the front pages. And don't even ask us about Sarah Palin! We know nothing about the governor of Alaska who's been named as John McCain's running mate on the Republican ticket. But as we'll be in the States for two weeks, we're sure to hear plenty more and will pass on anything worth knowing. Till then, we’ll hand you over to Diggers and Drillers editor Al Robinson…

From Al Robinson, at The Old Hat Factory:

What’s the best way to tell you have a real shortage on your hands? The government starts blaming producers for it.

And how do you find the answer to any problem? Scout out where the government is looking. Then look somewhere else.

Two cases in point popped up on our screen in the news today. The government’s looking for the solution to high prices. Where’s it looking? Company sales, revenue reports, shifty executives. The solution isn’t in a board room though. It’s out in the blistering hot oilfields of Saudi Arabia. Or Australia’s parched wheat belt.

Case one. We’re all having to pay more for food. Personally, we’ve switched to kangaroo sausages. They’re only $5 a kilo. But what’s the real reason prices are so high? Farmers are still suffering from drought and high energy prices. They have limited land to feed a growing global population. It’s a matter of constrained supply.

The government can’t make more rain, more oil or new fields. Don’t expect Kevin Rudd to launch into an energetic rain-dance at his next press conference, complete with tribal head-dress and grass skirt. We need the rain. But that won’t help, though it may disgust or amuse.

So seeing as Canberra can’t fix this, it needs someone to blame. Who else but food retailers? After all, they set the prices, don’t they? It must be greedy corporations hijacking consumers’ wallets. Fiends.

The ACCC is running a gloved finger over Coles and Woolworths to check if the industry needs more competition. We’re not sure what the watchdog will do if it finds evidence of under-competition. Maybe set up fruit and veg stalls outside the Melbourne and Sydney ACCC offices.

It’s busy poking its nose into the gas sector too. Australian gas prices, which have been well under the global standard for years, have risen. Especially in Western Australia. In WA, gas has more than tripled in price in recent years, from $2.50 per gigajoule to $8.

Could this be simply be the forces of supply and demand? Yes, to be blunt. Natural gas prices in the US have risen from US$1.70 in 2001 to over US$10 this year.

Also, West Australian gas has one customer that dwarfs the rest. Mining. Has any sector of any industry in the world grown faster this decade? According to the Minerals Council of Australia WA will need another 50,000 workers by 2020. With that population, they could earn spare cash as a rent-a-crowd for test matches at the MCG.

But politicians don’t solve things. They win elections.

“It is very important we know more about the competitive impacts of this situation,” Resources Minister Martin Ferguson said in The Australian today. "What the Opposition needs to explain to West Australian gas customers is why the Howard government did nothing, as gas prices continued to rise, to pressure companies to pass on the $460million they reaped following that Government's excise cut of 2001.”

We certainly aren’t saying either of these inquiries are a waste of time. Who knows? Maybe Woodside is squeezing blood out the companies digging up stones in WA. Perhaps they’ve added their own premium on top of the energy crisis.

What we are saying is that there’s a real shortage. The government is making a big show like it’s fixing things. It probably isn’t.

But it’s acting. And that means there’s truly something wrong. If this is severe enough to make politicians act, it’s severe enough to threaten their next election. That means it’s severe enough to be affecting voters.

That’s the point. At the core, this is a supply and demand issue that’s taking place in the real world. Labour can blame whoever it likes. These misguided efforts only punctuate the fact that an energy shortage is, at this stage, a real and unassailable trend. Energy prices are going higher.

And really, that’s what makes the whole thing an investment. Still.

Al Robinson
for The Daily Reckoning Australia

• Water Usage by Big Companies
• Americans are Paying Record Prices for Energy and Food
• Trading Airline Stocks in an Energy Bull Market
• Increased Energy Prices Slowing Global Economy
• CNOOC Signs Agreement With Altona (LON: ANR) for Coal to Liquids Project

We just weren't made for soccer. Our lack of movement was legendary. Apparently (according to Dad's favourite story), the ball itself could roll all the way over to us and make contact with our foot without drawing a response. We'd look down at it briefly. It just wasn't that interesting.

But the standout feature of those soccer games was the lack of structure. There were no positions. The ball would move from Point A to Point B. Inevitably, a jostling, violent clump of 11 year-olds would follow it.

All players on both teams went to the same place. At the same time. For the same reason. It was the ultimate example of mob behaviour. And now we're seeing more of the same in financial markets.

The ASX chases the Dow wherever it goes. Last night Captain America's stock market lost 242 points. Leading the charge toward oblivion were US financials. Banker Lehmann Brothers (NYSE:LEH) and insurer AIG (NYSE:AIG) took a whacking.

And what ho...this morning BHP (ASX:BHP) and Rio Tinto (ASX:RIO) are down 1.5% apiece.

Australia is a two-sector market: financials and resources. But in a bear market, they cease to be two different sectors. They become the same thing. 'Stocks'.

The same was true for the US market in the early 1920s. More so. There was no index for the overall market. One each for the two different sectors: railroads and industrials. You could have chocolate or vanilla. No strawberry.

Industrials pulled the whole market up during WWI. Analysts were worried pre-war that Europe would sell US dollars for gold to help finance their war efforts. The opposite happened. Liquidity flowed in. To murder each other more efficiently, European nations needed to tap into the new, American industrial machine. They bought everything America could make.

At the turn of the century, US industrial stocks were worth about 25% of the market. By the end of the war that was closer to 80%. During that time, the railroad-dominated transport index had been up and down. Then the bear of 1919-1921 struck.

Prior to the bear, industrials were industrials. Railroads were railroads. They went up and down for their own reasons. In 1919, they all became 'stocks'.

There was no more discrepancy. The chocolate tasted awful. Vanilla tasted just as bad. Investors spat them both out. Each lost over 40% before the market settled in 1921.

The last year has eclipsed that performance. Pretty much anything with a price tag has tumbled in value at some point, on a global scale. It all went up, bar a couple of dogs like the US dollar. Now it's all coming down.

The common denominators? Stupidity, ignorance and speculation. Credit booms breed these things. Credit busts help eradicate them.

What we want to know is how the financial mountain-range will look after the snow of speculation has fully melted. Our guess is that the real Everest of the boom (Asian industrialisation) will stand a lot taller than the other, false peaks (banking, real estate, derivatives, stupidity).

On that point, Rio has raised an interesting possibility this week. It reports annual results later today. Expect double-digit profit growth and shameless spruiking of its businesses.

But the big miner gave us an appetiser this morning.

Your Most Honourable Chief Reckoner Dan Denning mentioned the possibility of a post-Olympics slump in China's economy recently. Something similar to Sydney. A slow-down in the economy as all the tourists and competitors head home, taking their spending money with them.

Best of luck to any athletes travelling Qantas. The swimmers should be fine.

Beijing isn't Sydney, though. It's the centre of the world's third grand industrialisation. And while the country was on show, everything had to look ship-shape. That meant a bit of spit here. A bit of polish there. Shutting down factories that otherwise would've spewed pollution into the path of Kenyan marathon runners.

"The Olympics have accentuated the usual summer slowdown in commodities demand," Rio's Chief Economist Vivek Tulpule told reporters yesterday. "When activity is allowed to start around - Beijing, there will be a post-Olympics jump."

There's the possibility China might have brought the slump forward. That's food for thought. Sydney didn't have smokestacks it could turn off prior to the 2000 Olympics. All it had was tourism spending.

But China has more internal demand that it can now bring into play. And it continues to prove that point. The greatest source of its wealth is its own people. Their spending and labour is self- contained. They have little to do with America's shambles.

China has 1.2 billion people living on incomes of around US$5,000 per year. The average person in a developed country makes over six times that. Catch up, China.

There will be bumps, of course. You can't grow a country at double- digits smoothly. And there's always the risk the whole thing could come crashing down in a heap. There's only so much oil in the ground, after all.

Until that happens we like a couple of metals plays. You'll find them in the recent pages of Diggers and Drillers.

The first is nickel. We'll hold off on dropping the full story here. Suffice to say, a lot of the world's biggest nickel mines are getting a mite expensive. That's putting a new floor under the nickel price. Want a closer look at the nickel market right now for free? Pop on over to Money Morning. Gabriel Andre has a few words for you.

But we don't mind telling you about the other play in full. We're out of time today. You can read the full report sometime in the next 48 hours. Keep an eye on your email inbox. And tomorrow we'll find out exactly what Rio has been up to there past six months.

Al Robinson
for The Daily Reckoning Australia

• CRB Index Correction Likely to Go Further
• Bailout Deal Will Expand China’s Influence in U.S. Economy
• Skyrocketing Costs of Sulfuric Acid
• Dow Jones Has Worst June Since Great Depression, American Model in Decline
• Australia’s Current Account Deficit Up 4%

National Australia Bank (ASX: NAB) dumped the news on investors Friday morning. No-one told shareholders National Australia Bank was coming. That heightened the impact.

Specifically...NAB boss John Stewart set aside an additional provision for credit risk. An additional provision of AU$830 million. That was the part where the leapt dove into the sleepy-eyed market's midriff. An extra credit provision tells us all that there may be more subprime losses to come. Oooff.

But get an eyeful of this:

"This is the bottom for us for housing in the U.S. because we are now cleared out."  - John Stewart, NAB boss.

That's quite a statement. Especially seeing as Stewart considers the US to be less than half-way through this crisis. Total losses equal US$450 million. John Stewart sees the total topping US$1 trillion.

Of course, if the bank has cleared the table of those rotting subprime assets, it must be at the bottom. That would imply the bottom for share prices. In fact, if you're an efficient market fan, that would imply the bottom for share prices at some time in the past. The market likes to pre-empt things like this.

Well, the bottom isn't here. Not the way we see it.

It's useful to think of the credit industry as a web. There isn't one direct line between each Australian bank and "subprime". There are thousands of different mortgages, sliced and manufactured into more different securities, split between thousands of different institutions. Each firm is connected to many of the threads.

What National Australia Bank is talking about here are ten collateralized debt obligations (CDOs). Each CDO is a blend of different types of assets...packaged as one security. They aren't all 100% subprime. But they all contain subprime exposure.

That's one thread NAB has woven between itself and the subprime industry. It's direct exposure. But that's the very reason why the pain isn't over. Direct exposure isn't the only exposure.

NAB and banks like it have thousands of different loans spreading out in different directions. They provide exposure to other institutions that have exposure to subprime. They provide exposure to institutions that have exposure to institutions that have exposure to subprime.

It sounds a little pedantic. But all of it adds up. One financial firm drops a bit, and it tugs on the credit quality of thousands of others.

This means more credit pressure on big banks. If you need some tangible evidence, Standard and Poors lowered its credit rating on NAB Friday too. Please refrain from jumping on investors' beds in the morning.

So don't look at this at the bottom. National Australia Bank shares probably haven't finished the longer slide. And other banks? Well, if one is at risk, so are the rest. ANZ put out a statement today. Its EPS is likely to be
down 20-25% this year, thanks to larger provisions for credit losses.

Avoid the dip in financials. The bottom for National Australia Bank looks like one of the best ways to lose money in the market today.

Bank earnings, as you can see, aren't giving the market much inspiration. In fact, despite a good lead from Wall Street on Friday, they'll probably help push the market lower.

Aside from Earnings, there are two other market-moving Es to keep track of: Energy and the Economy.

But the Aussie economy isn't giving away any clues this week. Don't camp out for any big announcements. Not in Australia anyway.

Over in the US though, house prices and unemployment numbers come through on Wednesday and Friday. They might be good or bad.

Actually, scratch that. They will be bad.

But the Dow Jones doesn't care about quality...it only really gives a hoot or two if numbers surprise analysts. Be prepared for a chain reaction if that happens. A worse-than expected economy equals falling US stocks. Falling US stocks are, in the absence of anything important happening here, a bad omen for the ASX.

The All Ordinaries is sitting just above a key support line. That makes any big event more important than usual.

So we'd rather just watch the market this week. It doesn't quite have a clear direction yet. And those US releases have the potential to louse things up again.

Al Robinson
The Daily Reckoning Australia

• Funny Business at the Banks
• Twenty-Five Standard Deviations in a Blue Moon
• More Subprime Thinking
• Oil Dropped to a Four-Month Low
• Australia & China: Already Partners in the Commodity Boom

"Every single person," he said, illustrating his point, "who drinks milk...dies. There's a perfect correlation between drinking milk and kicking the bucket."

A couple of inattentive students looked worried. What our maths teacher meant, of course, was that milk isn't a significant cause of bucket-kicking. Unless you happen to be a particularly uncooperative cow.

But whether you're bovine or human, here's a correlation that should have a bit of meaning for you. There's some causation here. Take a look a look at the graph below, Crude Oil vs The All Ordinaries.

Yesterday we looked at the Dow Jones version. The All Ordinaries has fallen in much the same way as crude oil has risen. But since oil corrected, the bounce in shares hasn't taken off yet.

There are a couple of reasons that might be the case. The oil price might not be the cause of share price movements. Or a bounce in shares might be ahead.

We think it's somewhere in between. Crude oil certainly isn't the only cause of the downward slope in the All Ordinaries this year. Worries about inflation (more on that below) and earnings are right up there. But the oil price has been a bigger worry for shareholders.

Why? Well, the heart of Australia's economy runs on energy. The two big sectors in the market are financials and resources.

What happens to a resource company when you take energy away from it?

That. That sorry chart is the tale of nickel miner Minara Resources (ASX:MRE). It's been unable to run operations at full capacity since Apache Energy's gas plant at Varanus Island blew up. Nickel production will be around 4,000 tonnes lower at Minara this year. That's causation.

Its P/E ratio has tumbled from over 11 to under 4. The market would rather chew on glass than look at this company now.

But isn't this what's happening in the overall market itself ? Just on a slower time scale. An invisible hand is slowing removing oil from easy access. Energy is contracting. If oil prices rise in the long term, the mining and manufacturing sectors will eventually feel a general production slump.

We reckon that's the major reason the market was selling under 5000 points earlier this week. But there's a good chance the correction in oil will undo a lot of that negative sentiment. Oil fell 3.1% yesterday.

Incidentally, we think there is a way to make money out of nickel. It has nothing to do with Minara. What it does involve is a company that has devalued almost 40% this year. If you'd like to see a few solid reasons why it can undo that, take out a subscription to Diggers & Driller.

Inflation refused to go quietly into the night yesterday. Instead it stormed up to its room, plugged in its electric guitar, turned the volume up a little higher...and made a bit of a nuisance of itself.

The key consumer price figures for the June quarter came out yesterday. They amounted to further evidence that the RBA has little control over inflation any more. Economists expected consumer prices to rise 1.3% in the June quarter. They rose 1.5%.

Here's the breakdown, straight from the statistics bureau. The biggest movers are in red (inflation) and green (deflation).

Food prices fell largely thanks to a correction in grains prices. That's temporary. Transportation needs little explanation. The greatest oil spike of all time is responsible for the inflation there.

And here's our point: the cost of financial services rose by more than any other category. High interest rates may have something to do with that. The major banks raised their mortgage rates again this month. They're nearing 10% now.

So now, the RBA can leave interest rates up there and contribute to the inflating cost of the financial system. Or it can drop them and risk letting the economy overheat. It only has one lever to pull. Now it can pull the lever up and add to inflation. Or it can pull the lever down and add to inflation.

There's a chance this could throw the market comeback off-kilter. But investors certainly look ready to run with the good news.

Alan Robinson
The Daily Reckoning Australia

• All Ordinaries Reach 52 Week Low
• Australian Dairy Prices Up Due to Grain Prices
• A New Hotline Service – Made Just for Central Bankers
• Skyrocketing Costs of Sulfuric Acid
• Crude Oil Extends its Price Decline

Officially, producer prices rose 1.0% in the June quarter. Hmmm. Here's 3.03 cheers for making stuff.

But it's still a good result for the manufacturing sector. Commsec, for example, was predicting growth of 2.0% for the June quarter. The economy pulled a fast one and stopped buying.

The important thing is, if the producer price index is a prelude to a lower consumer inflation release on Wednesday, you might get that bounce in the ASX after all. The slightest prospect of an interest rate cut sent investors into bullish acrobatics yesterday. They did handstands until the close of trade. The All Ordinaries added 3%.

Note that those handstands are based partly on the assumption that the producer price index is linked to consumer prices. That the cost of production finds its way through to retail prices... so that consumers can enjoy the same inflation as manufacturers.

A lot of people are expecting consumer inflation to follow producer inflation's lead.

That may or may not happen. But here's an interesting point. This is the official release about the June 2008 producer price index. Take a glance at it. According to the ABS, the only items to actually fall in price were agricultural goods and electronic equipment. Everything else got more expensive. Especially fuel...refined petroleum rose in price by 8%.

If the fall in food prices filters through the economy, you get a bit of short term relief at the fruit and vegetable aisle later on in the year. And if the oil price continues dropping, there's a good chance petrol might drop off too.

Prices, it seems, have risen enough for now. Inflation will be back, we suspect. And don't rule out a surprise in the consumer price index release on Wednesday. But at this point, the economy could use a rest. Hopefully it'll get one. If the CPI numbers come in at ankle-height too, shares will go up. That's our prediction.

So that's what shape the economy is this morning. There aren't as many sharp corners on it as experts expected. And Energy prices haven't moved a whole lot this week. Oil is still trading at about US$130. But there's one other 'E' that we reckon is driving the sharemarket... Earnings results.

Al Robinson
The Daily Reckoning Australia

• Crude Oil vs The All Ordinaries… Who Will Win?
• CRB Index Correction Likely to Go Further
• U.S. Markets Could Rally on Oil Price Decline
• S&P 500 Index Total Return Was Actually Negative
• Wage Pressure in China to Drive Up Cost of Goods in Australia

Not just coal though…coal seam gas. Black rock is the new black. Rock on.

We emailed our full wrap-up of the sector to our beloved Diggers and Drillers fraternity a couple of days ago. But the big-wig of the sector is Santos (ASX:STO).

Santos, after wooing several potential partners, has found a mate to invest in its LNG export terminal at Gladstone. Petronas, Malaysia’s state oil and gas investment vehicle, grabbed 40% of the project for AU$2.6 billion. Santos must have laid the woo on pretty thick.

But woo is an infectious disease in the hard asset sector these days. You have to wade through a viscous slurry of woo to get anywhere. Romance is blossoming…covetous, greedy-eyed romance. Everyone wants someone else’s stuff.

How else could Australia’s largest sugar producer make 38% of its revenues from building products…35% from aluminium…and just 19% from sugar? It’s been doing some whacky diversifying.

Whacky or not, Gabriel has caught the sweet scent of gains in CSR’s (ASX:CSR) chart. As usual, you’ll find him toiling away down at the bottom of the e-letter.

This new Santos story opens up another door for coal-seam gas producers. BG’s bid at the start of this month was like connecting a jumper lead for stocks with coal-gas. Petronas’ foray will shift share prices up a gear again. Two of the world’s largest LNG producers have thrown their back into Australia’s top-notch coal-seam gas reserves. If they play this right, the stuff should be whizzing out of port and up to China within a few years.

How good is that demand source though?

Huge Growth in LNG Demand

Well, latch your peepers onto this offering from ABARE. It shows you what LNG demand is capable of doing in the next few years. LNG is as good as any fossil fuel, but it’s one of the cleaner ones. So it’s getting top billing these days.

Growth just keeps popping up in the energy sector. A thought hit us late yesterday on the topic. We think the oil price is too hot to touch right at this instant. Further down the track, it’ll be a little cheaper.

But when it comes back a little, that doesn’t mean things go back to normal.

The current spike in oil prices tells you something. No-one has full control over the oil price. The purpose of OPEC in the first place was to keep oil between US$22 and US$28. Obviously it didn’t keep it there.

Want a recipe for today’s oil price? Easy. Take one full-sized digit. Add it to either of those two numbers above. Mix thoroughly. Hey presto. You’ve done it, by jove. You’re now equally as capable as the good people running the International Energy Agency.

This will be a year of oil market exposé. If OPEC has a leash on oil, it’ll be taking up the strain soon. You’ll soon find out whether production can rise to meet the shortage or not.

Tower Says Life Insurance Market will Triple

Life insurer Tower just added 80% to its net profits. It announced this yesterday. Then it said that the life insurance market will triple in the next ten years.

Bold, very bold. Predicting life insurance demand is no easy task. Neither is predicting the supply for it. Do you plan ten years in advance to take out a life insurance policy? How can Tower possibly know something so uncertain?

It probably uses some sort of model based on demographics, and human behaviour. Such models over the course of history have been enormously successful at embarrassing their owners. It’s difficult to put your thumb on human behaviour because it appears to have a random component.

We wouldn’t invest in that kind of prediction. You should treat any growth stock with a dour attitude. Most of them don’t live up to expectations.

Al Robinson
The Daily Reckoning Australia

• Coal Delays at Dalrymple Lead to a Longer Boom
• Queensland Govt Chooses Coal Seam Methane Over Resource Boom
• Rising Coal Prices to Increase Electric Bills in Australia
• Quotes on Coal and Oil from Stupid Politicians
• The Australian Resource Boom Isn’t Dead Yet

Apart from our new found foot-warmth, something else is giving us a warm glow today. The coal boom isn’t over yet. You haven’t missed it. That’s reason to celebrate. A Lleyton Hewitt-style show of fist-pumping bravado might be in order.

Coal prices might be staying higher longer than anyone expected.

Dalrymple Bay terminal is one of the largest coal ports in the world. It can ship 65 million tonnes of coal in a year. That isn’t enough to feed all of China’s coal power plants. But it makes Dalrymple a focal point for Queensland’s coal production.

Babcock and Brown, infrastructure owner and not much else these days, owns the port. It heralded an ambitious expansion at Dalrymple last year. By December, total capacity would be 85 million tonnes.

Funny thing, ambition…

It won’t happen. That’s not Babcock and Brown’s fault. Rains came. Builders languished. The new expansion will be finished in March at best.

That means supply of coal to China will be a few million tonnes shorter than investors expected. That may not sound like much. China’s imported 51 million tonnes of coal last year. Who gives a hoot about an extra 3 million?

We do. We give many hoots. We’ve got a truckload of hoot coming your way. We’ll explain why in a minute.

First, a key point. We were surprised to find that Newcastle, Australia’s other big coal port, just announced an 18% fall in shipments. You’d think coal producers would be swarming the place while Dalrymple’s full.

There’s nothing wrong with Newcastle. But the same rains that hit the port in Queensland delayed the miners themselves. They simply don’t have the coal to ship.

The grand new coal expansion is certainly having a few teething problems.

Now…the important part.

This is a marginal situation. Marginal situations are a type of investment idea that often escapes the average person’s attention. They don’t look particularly enthralling on the surface. But everything happens at the margin.

A premium example is Saudi Arabia’s oil production. The world uses 86 million barrels of oil per day. Saudi Arabia produces around 9 million. It’s special because it has the ability, although limited, to add new production. Most other countries are running at full capacity.

The world oil market is stretched tight, like a fitted bedsheet on an expanding air-bed. But the bed is growing as more Asians buy cars. Saudi Arabia may be the only corner of the sheet left with any give.

But here’s the thing… it doesn’t need to add millions of barrels of new oil to have a significant affect. It announced an extra 350,000 barrels yesterday. That’s only 0.4% of world oil demand. Tiny. Miniscule. Marginal.

Well, the oil price fell US$3. More on that below.

You see, it doesn’t take a lot to move a tight market. So if China misses out of 3 million tonnes from Dalrymple Bay when it wants 50 million overall…that’s quite a lot.

Website Globalcoal keeps indexed prices of coal. It also keeps track of the prices at major ports like Newcastle. They’ve all had big movements in the last couple of weeks. One index shifted 14%.

The short story is that coal prices may just keep rising. It’s not too late to invest here. It’s still a hot asset. And there just isn’t enough of it. That’s the kind of asset you want to hold.

Saudi Arabia Responds to Oil Shock

Saudi Arabia still has a bit of grunt left apparently. It announced a production increase yesterday. Arabia will pump an extra 350,000 barrels a day. That makes 9.45 million barrels.

Putting oil in a barrel used to be like shooting fish in a barrel. You could do both with the one barrel. Yep. The olden days were good times for everyone.

Now it’s more difficult to raise new production. Apart from the Saudis, few other nations have shown themselves willing or capable to pull it off. This latest move is important. We’re about to find out how many countries have the oil to pump.

We said a couple of days ago that Saudi Arabia makes a lot more money at a higher oil price. What we should’ve also mentioned is that the higher oil price eventually destroys demand. America uses more oil than anyone, so Saudi Arabia has a vested interest in keeping America alive.

There have been signs recently that America is starting to struggle as a direct result of the oil shock. The US Federal Highway Administration reports that US drivers drove 11 billion 17.6 billion kilometers less in March. They’re recoiling from the sting of exorbitant petrol prices.

The Saudis didn’t like the sound of America using less oil. So they added new oil to the market. It’s no coincidence. And it’s now a matter of keeping the balance right. Drill enough energy to keep America on life-support…but not so much that it eats into cash-flow.

You’ll find that other OPEC nations have the same vested interest. If they’re going to add new production, now is the time. And as Gabriel Andre outlines in this month’s Diggers and Drillers, the oil price might finally be ready for a break.

A few months ago he made a similar call on the gold correction. “The bottom will be at US$860,” he rasped to us in an exotic French accent. Bullion dipped below that mark, but not for long. It’s been on the up ever since. Must be something in the croissants. Take a three-month trial to find out where he thinks oil prices will land.

Origin Energy to Become BG Property

It looks as though Origin Energy (ASX:ORG) is ready to sign off on a BG takeover. BG, one of the largest LNG exporters in the world, sweetened the deal first. Raising its bid from $14.70 per share to $15 may prove to be enough.

It’s more good news for coal-seam gas producers in Queensland. Anyone there with a coal asset is going up in price.

Engineers and Builders Enjoy Healthy Construction Demand

Every month, more roads and bridges spring up around the countryside. Australia’s construction activity grew by 2.3% in the March quarter.

The result for engineers was even better: 5.2% growth in engineering projects in the first three months of 2008. Well. We know what we’re doing this afternoon. Checking over the mining services sector to look for a cheap stock.

Al Robinson
The Daily Reckoning Australia

• Pemex and Mexican Peak Oil Equal Expensive Oil
• Chinese Steel Price to Rise in Wake of Coal and Iron Price Hike
• Why an Energy Crunch Could Lead to Booming Profits in “Solid Electricity”
• Saudi Arabia Pours Oil Investment into Australia
• Dry Bulk Market in Riot Mode

Curious. How could that be?

It’s an interesting story. Glad you asked.

Saudi Arabia runs its oil operations like a family Italian restaurant. In theory, everyone owns a bit of the business. There aren’t private interests like Santos (ASX:STO) or Woodside (ASX:WPL). Aramco is Arabia’s oil producer. The profits from oil then go to the government.

Of course the last link in the chain, where the government transfers money to its people, is usually missing.

But Saudi Arabia is a lot richer than it used to be. As we said in a previous Money Morning, at US$130 it pulls in revenues of well over a billion dollars a day. And that means it has spare liquidity to pour into investments. Those investments will, of course, be the source of its income when oil eventually runs out.

One of them is Australian. Bemax Resources (ASX:BMX) recently received a takeover offer from Arabian National Titanium Dioxide Company. Bemax burrows around in Australia’s vast mineral sand resource. Among other things, it produces minerals containing titanium and zircon.

As Dan Denning notes in a recent Australian Small-Cap Investigator, these metals are getting a lot of demand from ceramics industries. He’s put a magnifying glass to the whole sector. It doesn’t seem like anyone else has heard of the potential here. We’d thought you’d be interested. Foresight here could be very profitable indeed.

So Arabian National Titanium put up a AU$300 million takeover offer. Bemax is already up 35% this week. It’s one way Saudi Arabia is expanding and diversifying its economy to prepare for post oil-boom times.

Sinosteel Regroups for Another Billion-Dollar Iron Bid

It’s often how a person acts, not what they say, that shapes your opinion of them.

The politician who promises to lower taxes? He’s too busy splurging on an electoral campaign. The fellow in the pub who tells you he’s “sober as a judge”? A judicial authority is rarely found sprawled upside-down under a bar stool, attempting to woo a disgusted member of the opposite sex.

Actions talk. Talking doesn’t always mean action.

As you saw yesterday, Murchison and Midwest look set to wed in corporate matrimony. But let’s consider the actions involved. How did China’s Sinosteel respond?

It went straight to the Foreign Investment Review Board.

Why?

To argue that it wouldn’t have to re-apply for approval, now that its target will probably become a new entity. There’s only one reason it would keep that option open. It plans to make another bid.

This time, the stakes have risen. Murchison just announced five-fold growth in its iron mineral resource. Add in Midwest’s resource. The company now controls over 600 million tonnes of iron, in various forms. It’s all quite close to important shipping ports.

To China, this means more iron under one roof. So it has popped down to the realty to see if this new house is for sale.

We’re surprised it found the time. Sinosteel has been very busy working on a stake in Fortescue (ASX:FMG) lately. The iron-hungry steel maker has been soliciting Harbinger Capital for its 8% stake in FMG. Fortescue leapt 7% yesterday. It’s now a AU$27 billion company.

We don’t need to spell this out. Sinosteel wants to own an Australian iron exporter, one way or another. We have a feeling it’ll get its way.

ABB Grain Adds 80% to Profits

ABB Grain (ASX:ABB) just unleashed some déjà vu upon us. A week ago AWB (ASX:AWB) announced a 90% boom in profit growth. Yesterday ABB did a good impersonation, revealing an 80% boom in earnings. The company’s share price added 8%.

Wasn’t the market expecting something along these lines? Grain prices soared earlier in the year. It’s been a good growing season. Maybe people are only just starting to wake up to the agricultural boom.

If that’s the case, you might be interested to know that Graincorp (ASX:GNC) is yet to announce any new profit guidance for this year. Maybe it’s next in line. The company expanded its grain marketing operations in 2006-07. And as you can see below, its share price hasn’t curved up in the recent past.

That’s probably because the stock is bidding for Ridley Corporation (ASX:RIC). The market may have overlooked this one.

If you’re not exposed to rising agricultural earnings yet, it might be time. And if none of the companies above suit you, we have two even better suggestions.

We know you might prefer to sample something before committing to it. Fair enough; we’re the same way. So we’ve twisted our boss’s arm a little. Diggers and Drillers is now offering a 3-month trial subscription. Take a look at the link for our top two picks in the Ag sector, plus all our currents “buys” in metals, coal, iron, oil and gas. If you don’t like what you see, no problems. It’s only a trial. The next issue comes out later today.

We’ll be looking at others soon. Until then...

Al Robinson
The Daily Reckoning Australia

• The Fourth Biggest Iron Player in Australia
• Australian Iron Ore Shares on China’s Menu
• Foreign Investment in Australia, How Much is Too Much?
• The Iron Ore Pricing War Between China & Australia
• The Australian Resource Boom Isn’t Dead Yet