Of course, you have to consider types of housing units, interest rates, and how long the newly constructed houses will last. However, 1.26 million per year estimate is right in line with long-run averages. The current new housing construction rate is 660,000 per year.

Barring an outright depression, housing construction must go up over the long run to meet basic demand from new families and to replace old ones. And the timber demand will rebound right along with it.

A Tight Correlation – Although the timber market is truly global, lumber and U.S. housing are very closely correlated.

For instance, a few hours before Rick and I sat down for lunch, the U.S. government announced plans to extend the $8,000 first-time homebuyer tax credit. That was expected. The market didn’t expect the extension of a $6,500 credit for other non-first-time homebuyers.

The reaction in the lumber trading pits in Chicago was euphoric. Lumber prices surged 5% and went “limit up” – the point at which trading is halted because the price has moved too much in a single day. It’s a very bullish sign.

The Russian Wildcard – Russia accounts for 22% of global wood trade. It is the third largest timber producer in the world behind Canada and the United States.

Russia has repeatedly proven its willingness to leverage natural resources to its political advantage. It has used oil and natural gas and -coming soon – agriculture (follow this link for Agriculture Report), with total disregard for the economic consequences in the country. Timber is about to join that group.

For example, Prime Minister Putin placed a 25% export duty on timber last year and announced it was going up to 80%, with the intention of encouraging foreign investment in Russia’s timber industry. The big increase has been delayed, but the delay is not indefinite.

The impact here is Russian timber became 25% more expensive on the world market with the swipe of a pen. And it’s only going to get more expensive. This creates a situation where timber production has much less competition at current prices.

In addition to all that though, other leading timber producing regions are facing their own set of challenges.

Pine Beetle Devastation – The biggest challenge facing the two largest timber producing regions is the pine beetle. Pine beetles bore through pine tree bark and basically kill the tree. They then move onto the next.

The pine beetle has ravaged forests across North America over the past few years. One of the hardest hit areas is in British Columbia, Canada. The timber industry throughout inland British Columbia has practically ground to a halt. For example, West Fraser Timber (TSX:WFT) closed its last timber mill in northern British Columbia last week. They had to shut it down because there aren’t enough trees. The pine beetle has killed most of them.

It doesn’t stop there; the pine beetle infestation is spreading. It has already spread through the U.S. northwest and has reached as far away as Colorado. The beetles have had the same impact there too. The Colorado State Forest Service recently reported 660,000 acres of lodgepole forests have been destroyed by the pine beetle. That’s more than 40% of Colorado’s forests!
To put the pine beetle infestations into perspective, think of timber like the oil industry. Then picture what would happen if Iran’s oil production was eliminated from the market.

Prices would go up – way up. That’s about what the pine beetle has done so far in the timber industry, but lumber prices haven’t gone up…yet.

Buying Low and Selling High
Needless to say, now is the time to get really interested in timber. The industry has been decimated by the housing collapse. The sector is completely out of favor and assets are selling for pennies on the dollar.

The timber industry’s future, however, is quite bright for those willing to get past the knee-jerk “housing market is terrible” reaction and look at what’s really going on.

More importantly, all this truly shows there are folks looking to turn the current downturn into an absolute fortune. The markets may be weak and getting weaker, but as investors, we have the opportunity to get on board with the few who are doing it right and go along for the ride. It also shows the best low-risk/very high-reward opportunities will be limited to those of us with a contrarian approach looking where nobody else is.

Andrew Mickey is Chief Investment Strategist, Q1 Publishing

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