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August 29, 2003

Lights Out!
by David Chapman

Being on holidays for two weeks with only limited access to newspapers, cell phone and internet certainly allows one not only a holiday breather but a more unemotional look at what is happening and potential consequences. Visiting the Canadian Rockies one was highly aware of the fires raging west of where we were. A smokey haze and highly visible fire ban signs were a constant reminder. As the fires chewed through the forests you were reminded of the vulnerability of the people who live near the great western forests. Kelowna and others of course found out all too well how vulnerable they really were. Of course losing all that forest is also going to extract a price in terms of jobs and higher lumber prices a process that is already underway.

Other news was like a bad drip. The bombing of the UN building in Baghdad that killed over 20 and injured scores of others was at the top of the list. Underreported by the press was the daily the death or injury of another soldier (usually US) in the war in Iraq that was declared over on May 1. The UN bombing was sending the message to scores of aid agencies and others that they were not safe. A war without an identifiable enemy and little potential for closure is too similar to quagmires we have seen before and will be a long term drag on the markets.

The Mid-East road map, that never really was, was shattered by more tit for tat killings continuing the cycle of violence. The noose keeps tightening on the beleaguered British Prime Minister Tony Blair where the embellishment to justify the war in Iraq has turned into a major scandal in Britain. If Mr. Blair is forced to resign the ramifications may yet go beyond Britains shores where it seems to have barely registered against the Bush administration.

Gold stocks broke out on huge volume possibly anticipating further geo-political problems or maybe it was the continuance of the huge debts being piled up for everyone in the US, governments ($450 billion and counting), corporations and consumers or the collapsing bond market which signals higher interest rates and will put a definitive damper on the hot housing market. Or it could be jitters over competitive currency devaluations with the Japanese spending billions to buy US$ to keep the Yen down against the US$ and the Euro (everyone wants that export led recovery). Or it could be nervousness over Freddie Mac (FRE-NYSE) where the ECB has guided its members to sell its debt due to its high risk and questions over its derivative and mortgage portfolios.

Gold will have its ups and downs but ultimately it is going higher with targets this year of $400 to $450. On a negative note the commercials have their lowest bullish position since the peaks seen last February. That may be signaling another pause but then the low bullish consensus for the commercials has stayed that way before when gold prices kept rising. A break through $375/$380 will ensure a move to $400 and higher. Numerous stocks are making new highs and volume continues to rise as the funds are taking a more serious look.

A similar phenomenon is being seen in the stock market where the market hangs in but volumes get drier and drier. For the past three months the market (S&P 500) has been locked in a range. But the NASDAQ led by tech stocks and the TSX keep moving higher. Short interest has been falling throughout the rally suggesting that the rally owes much of its life to short covering. What it doesn't tell us is whether it is covering old shorts or covering recent shorts that are now scrambling to cover as the market moves higher. As well the monetary authorities keep the wheels greased as monetary growth continues to outpace economic growth. Given the losses seen over the past three years this respite has also brought in its share of buying justifying it on the basis that the economy is turning the corner.

But rising long-term interest rates even as fear of deflation keeps short rates down threatens to cut the recent rise in the stock market and the hot housing market. As well increased insider selling is being seen suggesting that the smart money is getting out. The bullish consensus is over 70 and has been that way for a few weeks. Seasonally the September/October period is the weakest of the year so the safe bet right now is for investors to hit the sidelines after the gains of the past few months and sit it out and take a look again in November or December.

But the most fascinating event that occurred during my holiday absence (and which I missed even though I live in Toronto) was the biggest power blackout in North American history that occurred on August 14, 2003 leaving 50 million people in Ontario, New York, Ohio and other eastern US states in the dark. Neither terrorism, nor an act of nature, nor the negligence of the technicians caused the event. The investigation into what caused the blackout continues.

But what is being overlooked is as Stuart Gilman points out in an article entitled "Private power versus the public good" (Globe and Mail, August 28, 2003) years of government functions being privatized both in Canada and the United States have left us with a serious investment shortfall. And as Mr. Gilman points out it is not a criticism of privatization and deregulation per se but what has failed to be coordinated is the squaring of privatization as an ideology with satisfying the public good.

Some have said that it spurred "the Enron mentality" turning electricity into a gambling casino with the result that companies built where it was convenient and the investment in transmission failed to keep up. The North American Electric Reliability Council (NERC) has warned for years that the lack of investment in transmission capacity, and congestion caused by "economy transfers", where energy companies wheel in bulk power from hundreds of miles away because it is cheaper, were putting the entire grid system at risk.

Huge investments of upwards of $50 to $100 billion are required in both Canada and the United States to upgrade the transmission systems over the next number of years. The major question of course is who will pay for it. No matter what users are facing both increased shortages down the road if the investments are not made and higher costs irrespective, or the investments can be made and everyone will see their power costs jump substantially but at least the lights might stay on. And the argument will continue about privatizing an essential public good and who should benefit.

The huge investment required leaves one wondering who would be beneficiaries. Alternative energy stocks, semi-conductor stocks and power generation stocks are ones that immediately come to mind. We would like to save alternative energy stocks for another day. The semi-conductor stocks are interesting because of the need for computer equipment to run the grids. But many of them have already had a hot run (SOX index up over 50% since the October 2002 lows) so we would if long be standing aside to fight another day.

There are a number of power generation companies that might be worth a look. A number of them are income trusts such as Algonquin Power Income Fund (APF.UN-TSX) (www.algonauinpower.com, 905-465-4512), Boralex Power Income Fund (BPT.UN-TSX), (www.boralex.com, 819-363-5116), Calpine Power Income Fund (CF.UN-TSX), (403-781-6205), Clean Power Income Fund (CLE.UN-TSX), (www.cleanpowerincomefund.com, 416-777-2800), Great Lakes Hydro Income Fund (GLH.UN-TSX), (www.greatlakeshydro.com, 819-986-5005), Northland Power Income Fund (NPI.UN-TSX), (www.NPIfund.com, 416-962-6262), Superior Plus Income Fund (SPF.UN-TSX), (www.superiorpropane.com, 403-218-2953), and TransCanada Power (TPL.UN-TSX), (www.transcanada-powerlp.com, 403-920-2000).

Power generation being a stable business does not attract the attention of huge speculation, as one would find elsewhere. So these companies should be viewed as stable businesses that generate a reasonably stable income flow. There are risks as all utilities are exposed to interest rates and there could be problems at individual plants that may impact the stock price and or cash flow payouts. We always advise that investors should keep their portfolio diversified and not take a significant position in any one trust. All of these trusts have had good runs lately and all are worthy to be in a diversified income portfolio.

Other utility companies that are also involved in power generation are Canadian Utilities (CU-TSX), (www.canadian-utilities.com, 403-292-7500), Emera Inc. (EMA-TSX), (www.emera.com, 902-428-6494), Fortis Inc. (FTS-TSX), (www.fortisinc.com, 709-737-2800), TransAlta Corp. (TA-TSX), (www.transalta.com, 403-267-2520) and Terasen Inc. (formerly BC Gas) (TER-TSX), (www.bdgas.com, 604-443-6559). Of this group we favour TransAlta who is the only one coming out of a low technical base. Terasen has moved higher but it is beginning to show some possible topping patterns. Fortis has been in a powerful uptrend and while showing no signs of topping it is becoming more expensive. Emera and Canadian Utilities appear to be making broader topping patterns.

Of bigger interest to us at least from a technical perspective are some junior power generation companies. Maxim Power Corp. (MXG-TSXVEN), (www.maximpowercorp.com, 403-263-9125), Canadian Hydro Developers (KHD-TSX), (www.canhydro.com, 403-298-0257) and Altek Power Corp. (APK-TSXVEN), (www.altekpower.com, 250-717-3707) are all junior power development and producing companies. We have provided their charts below. Maxim and Altek being penny stocks would be considered highly speculative but the recent breakouts on the charts of these two stocks makes them attractive acquisitions. Of the three KHD is currently the weakest but would appear more attractive on a break above its downtrend line and 200 day moving average near $2.20.

Electrical power is essential to the economic well being of our entire society. Without it we would be quickly shoved back to the 19^th century. When the lights went out on August 14 people pulled together and had a party. But if this had extended for days or weeks the situation would have been completely different. Many in third world countries face this kind of situation on a daily basis. Society needs to make the necessary investments to ensure that the lights don't go out on a regular basis or the economic well being of the country would be seriously undermined. And governments and the private sector must ensure that both the goals of private power and public need is squared in order to ensure that the lights don't go out again. The above companies are part of the solution to make sure it really isn't "lights out".

Note: Charts created using Omega TradeStation or SuperCharts. Chart data supplied by Dial Data.

DavidChapman.com
Technical Scoop

Charts and technical commentary by:
David Chapman of Union Securities Ltd.,
69 Yonge Street, Suite 600,
Toronto, Ontario, M5E 1K3
(416) 604-0533
(416) 604-0557 (fax)
1-888-298-7405 (toll free)

David Chapman is a director of Bullion Management Services the manager of the Millennium BullionFund www.bmsinc.ca

Note: The opinions, estimates and projections stated are those of David Chapman as of the date hereof and are subject to change without notice. David Chapman, as a registered representative of Union Securities Ltd. makes every effort to ensure that the contents have been compiled or derived from sources believed reliable and contain information and opinions, which are accurate and complete.

The information in this report is drawn from sources believed to be reliable, but the accuracy or completeness of the information is not guaranteed, nor in providing it does Union Securities Ltd. assume any responsibility or liability. Estimates and projections contained herein are Union's own or obtained from our consultants. This report is not to be construed as an offer to sell or the solicitation of an offer to buy any securities and is intended for distribution only in those jurisdictions where Union Securities Ltd. is registered as an advisor or a dealer in securities. This research material is approved by Union Securities (International) Ltd. which is authorized and regulated by the Financial Services Authority for the conduct of investment business in the U.K. The investments or investment services, which are the subject of this research material are not available for private customers as defined by the Financial Services Authority. Union Securities Ltd. is a controlling shareholder of Union Securities (International) Ltd. and the latter acts as an introducing broker to the former. This report is not intended for, nor should it be distributed to, any persons residing in the USA. The inventories of Union Securities Ltd., Union Securities (International) Ltd. their affiliated companies and the holdings of their respective directors and officers and companies with which they are associated have, or may have, a position or holding in, or may affect transactions in the investments concerned, or related investments. Union Securities Ltd. is a member of the Canadian Investment Protection Fund and the Investment Dealers Association of Canada. Union Securities (International) Ltd. is authorized and regulated by the Financial Services Authority of the U.K.

Copyright © 2002-2008 David Chapman

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