A Short Guide to Making the World's Best Water Investments

If you're interested in water investing – like I am – Steve Hoffmann is someone you need to pay attention to.

I recently picked up Hoffmann's new book, Planet Water: Investing in the World's Most Valuable Resource. Hoffmann is well known in water circles. He's the founder of WaterTech Capital, a private group focused on water investing. He's also the creator of the Palisades Water Index, which many water funds use as a benchmark.

I've been researching water investments for years now. I believe that as the developing world becomes richer over the coming years, it's going to spend enormous amounts of money to secure clean water supplies. This means terrific opportunities to make money investing in water stocks.
Hoffmann's book has some good information and research on water issues, if dryly presented. Hoffmann is not the best of writers. Still, it's nice to have it all between the covers of one book. There are certainly many opportunities in the water sector for investors. It's one of the most exciting areas of the market to be a part of.

For one thing, it is an incredibly large sector. Water is the third-largest industry in the world, behind only oil and gas and electricity generation. For another, some of the drivers of water use are only getting bigger as this human drama unfolds. Hoffmann points to these three, among others:

· Industrialization. As a country develops, its water use expands even faster. As people earn more money, they wear better clothes and buy more consumer products. All of these things have a high water content. Not too many people understand how much water we use to make a pair of blue jeans, for instance. (It's about five gallons.) Yet this water use is all too real. Then there is the matter of diet. As people make more money, they shift to eating foods that have a much higher water content or that take more water to produce – fruits and vegetables and meats.

So all of this is a tremendous source of growth for water demand. India alone, for instance, expects water demand to double between now and 2025 – and industrial water demand should triple.

· Urbanization. More and more people around the world live in cities. And more are moving to cities with each passing year. In 2007, more than half of the world's population lived in cities for the first time in history. Our cities are also bigger than ever. For example, some 9% of the world's population lives in cities of more than 10 million people. 

Well, people in cities use more water than those not in cities. To support all that water use requires a lot of pipes, pumps, and more. As Hoffmann writes, the infrastructure needed to support urban water use is "staggering." 

· Globalization. When goods can more easily travel across borders, water use tends to increase. Suddenly, you can build cities in areas where older human societies would never have thought to build a large city. Basically, we've created a sort of virtual water trade.

"Countries with a relative abundance of water," Hoffmann writes, "can grow food and trade it to water-stressed countries." The sheiks in Dubai are grateful, no doubt.

As I've pointed out, water is big business. And Hoffmann goes through a variety of sectors, highlighting the issues facing each and compiling tables of companies in each space. Let's walk through a few of them.

The biggest part of the water industry – and the one everybody thinks of first – is the water utility group. There was a time when I liked the water utilities. I can say I've never lost money on a water utility. For years, investing in water utilities was an easy way to beat the market. But things are changing.

I've come to think that the water utilities have to support an enormous investment going forward. And they have to do that in a political environment not favorable to water price increases. Bad mix, that. Hoffmann agrees. "Public policy will dictate rate increases," he writes, and "water utilities will then [see] increasing pressure on profit margins."

For this reason, I'd pass on the water utilities. There are far better opportunities in the water industry's "picks and shovels" providers... the companies that provide products and services needed to supply clean water.

Take water treatment, for example... As Hoffmann writes: "The fundamentals of the [water] treatment sector... are extremely compelling. Virtually all global water quality issues come down to treatment in one form or another." Water treatment means taking raw water and purifying for some use, either industrial or for human consumption. 

My favorite water treatment company is Nalco Holding (NLC), a company my readers have owned for a long time. Warren Buffett recently joined us as the firm's largest shareholder. Hoffmann gives a nod to Nalco as "the preeminent publicly held water treatment chemical company in the world." 

Infrastructure is another great picks and shovels play on water. This is one of my favorites, because it is easy to understand and there are several good ideas in the space. Infrastructure covers all the pipes, pumps, valves, and more that make up the physical framework that supports water delivery. As Hoffmann says, the importance of this sector "cannot be overemphasized." 

This is why I've recommended several of the best players in water pipe and water pump manufacturing. I expect their sales and profits to enjoy a huge tailwind over the coming years.

To sum up, if you're looking for long-term water investments, keep in mind the pressure water utilities will face to keep their profits down. Avoid it. The "picks and shovels" of the water boom offer much bigger opportunities.

Sincerely,

Chris Mayer 

Editor's note: Chris Mayer is the editor of Mayer's Special Situations, a monthly investment advisory focusing on small, hundreds-of-percent-upside investments. We consider it required reading at DailyWealth. For information on how to access the Special Situations portfolio – including Chris' top water picks – click here.