Monday, April 16, 2012

Water Is Free......Clean Water Isn't

What is the most precious commodity of all?  For the economically sensitive minds, that answer may be oil.  In reality, the answer is clean water.  I would dare say that when you are a commodity that is needed to sustain life, then you should be considered the most precious of them all.
The problem is we rarely spend any time thinking about water as a commodity.  It seems to take a natural disaster such as a hurricane, tornado or earthquake to make people realize that clean drinking water is a priority.  Then the news coverage quickly fades and clean water once again becomes an afterthought.  Let’s push clean water and the potential to profit from the infrastructure that makes it possible back into the forefront.

Due to the constant demand and uninterrupted supply, water is by far the most stable of all commodities. In the developing and emerging markets, unsanitary water is a major health problem. In developed countries, even in the U.S., demand is increasing at an alarming rate while water infrastructure is falling apart.  Clean and cheap water is no longer something we can take for granted.  My saying, “Water Is Free……Clean Water Isn’t.” 

Population expansion and demands from industrial output continue to strain the aging water infrastructure. Governments are feeling the pressure to rehabilitate their water infrastructure systems and raise the standards for quality and enforcement.  Consider the following information from the American Society of Civil Engineers and CBI China:

-        Some water, wastewater, and stormwater systems have been in the ground for more than 100 years. Estimates suggest that hundreds of billions of dollars may be required to restore them and it would be the single largest public works endeavor in our nation’s history.   I can personally attest to this.  I recently spoke with a public water works engineer in a major city.  They were in the process of replacing parts of the water system.  The piping they were replacing was originally installed during the Lincoln administration, and was made of wood!

-        By 2025, nearly one third of the world’s population will face water shortage. China is regarded as one of the major countries in the world that will suffer the most. It is estimated that over 80% of water consumption in coastal China is used for industrial purposes, which is compounding the problem.

According to the Environmental Protection Agency (EPA), there are approximately 52,000 community water systems in the U.S. serving roughly 292 million people.  The majority of the population is being served by government owned water systems.  The bulk of these systems tend to be small (serving less than 3,300 customers) and typically do not have the capital resources to meet the challenge of maintaining the system as well as making necessary improvements.  This is where the investment opportunity comes to light, because the current environment may provide an opportunity for privately-owned utilities, which together currently serve only a small percentage of the population, to acquire these smaller systems for prices that provide a very high return on invested capital and allow for significant economies of scale.

One of the first things President Obama did when taking office was the announcement of a financial commitment to spending on infrastructure.  It was supposed to be a job creator as well as a restoration of our infrastructure system.  We have yet to see a huge boost to either area, and the financial commitment was considered a small drop in the bucket.  In January, House Republicans introduced the American Energy & Infrastructure Jobs Act.  It was a $260 billion proposal, but once again seems to focus on oil & gas exploration.  I have yet to see the serious financial commitment to fix the structural problems our country is facing.  This means it may fall on the shoulders of the free market to fix the problem, and that may mean larger profits for publically owned water utility companies. 

In the U.S. alone it may cost more than a $1 trillion to repair and expand our water systems.  Who do you think these costs will be passed on to?  The answer is the consumer.  Sadly, that may be the price we have to pay to be able to rely on the most precious commodity of all.  There are two ETFs that you can position yourself in for the long-term that may provide the potential to profit from this process, and help offset some of the pain you will feel in your water bill.  The first ETF is the PowerShares Water Resource Portfolio (PHO), and is up about 9.6% as of Friday’s close.  The second ETF is the PowerShares Global Water Portfolio (PIO), and this ETF is up about 10% as of Friday’s close.

Thank you and good luck everyone!

Jon R. Orcutt, founder of Allocation For Life, is an asset allocation strategist and author of “Master the Markets with Mutual Funds: A Common Sense Guide To Investing Success”