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If you've been following the financial news, you know that we are once again peering over the precipice of financial disaster. Multiple European countries are on the brink of default. China is considering raising interest rates to combat inflation. And 16% of working-age Americans are unemployed.

Yet, all is not lost for the prescient investor, as many companies survive -- if not thrive -- in times like these. Macroeconomic trends point to one sector in particular that can provide investors with not only investment security but also impressive upside potential. Before getting to that sector, however, we must first understand the proverbial lay of the land.

A tale of two worlds
The current macroeconomic picture reveals two divergent trends. On the one hand, the emerging market economies led by China are experiencing simply phenomenal economic growth. Since opening up to the world in 1978, China's economy has grown an average of 9.9% a year, going from $148 billion to almost $5 trillion in 33 years. To give you a rough comparison, our economy grew an average of 3.4% since 1930. And at the time, the U.S. was the poster child of economic growth!

On the other hand, the developed market economies are drowning themselves in debt. While Japan leads the way with a debt-to-GDP ratio of 220%, it's the European countries that have investors terrified. As I write, European leaders are discussing how (not if) Greece should default on its debt of $500 billion. And the concern is that the defaults won't stop there, spreading next to Portugal, Ireland, Spain, and even France if the European leaders aren't able to agree to a sufficiently large bailout package.

Even more significant than Europe, though not as imminently dangerous to the world economy, is the debt load in the United States. As you probably know, our national debt currently stands at $14.9 trillion, roughly the same as our GDP. And that's on top of $16 trillion of household debt and $24 trillion in debt spread between businesses, states, and municipalities. Indeed, when you factor all of these things in, the total U.S. debt is $54.4 trillion. That's $662,000 per household!

What differentiates the United States from Europe, however, is that we can print our way out of this mess. For example, suppose China redeemed the $1.2 trillion in Treasury notes that it currently holds. Although that seems ominous, it wouldn't be a problem at all. The Federal Reserve would simply credit their account $1.2 trillion. No questions asked.

This is known as monetizing debt. Because individual European countries don't control their own currency, however, they can't similarly solve their problems by starting up the printing presses. Sure, Greece could print drachma to its heart's content. But nobody would care because the prevailing currency on the European continent is the Euro, which is controlled by the European Central Bank.

The intersection of trends
It's the intersection of these two trends that brings us to the heart of the matter: energy price inflation. Energy is literally and figuratively the indispensable fuel for economic growth. You simply cannot grow an economy without it. Here in the United States, for example, we consume an equivalent of 19 million barrels of petroleum-related products each day. It's no surprise, then, that countries like Brazil, India, and China have dramatically increased their energy consumption over the last 40 years by 83%, 95%, and 243%, respectively. And as you would expect, this has put considerable pressure on the price of oil, among other energy sources.

Adding fuel to the fire is the United States' strategy of monetizing our debt and flooding the economy with dollars (i.e., liquidity) to revitalize the economy -- both of which deflate the value of the dollar, and thus further inflate the price of energy. Since 2009, for example, the Federal Reserve has added $2.3 trillion of additional liquidity to the economy by buying mortgage-backed securities and Treasury debt under the guise of "quantitative easing." And there's reason to believe that this will continue, as two top Federal Reserve officials have recently made comments in support of further buying.

So what should you do?
Given that these trends are likely to continue, the question is not whether you should buy into the energy sector, but rather which stocks to buy. The safest bet is to go with one of the so-called major integrated oil and gas producers. This includes familiar names like ExxonMobil (NYSE: XOM  ) , Chevron (NYSE: CVX  ) , and ConocoPhillips. Even though these companies have enormous balance sheets, they've nevertheless shown a remarkable ability to grow. Over the last five quarters alone, for example, Exxon has seen its revenue increase from $92.5 billion in the second quarter of 2010 to $125 billion in the second quarter of this year, much of this due to higher energy prices. And the same is true of Chevron and ConocoPhillips.

You could alternatively go with a natural gas producer, though recent discoveries have driven down its price (as a side note, if you want to learn about this industry, I strongly recommend Aimee Duffy's Natural Gas 101 and Natural Gas 201). Among my colleagues here at the Fool, the favorite natural gas producers seem to be Chesapeake Energy (NYSE: CHK  ) and Devon Energy (NYSE: DVN  ) , both of which were recommended by our newsletter analysts.

Beyond these, you could go for some more speculative plays. For instance, our energy analyst here at the Fool, Dan Dzombak, called SandRidge Energy (NYSE: SD  ) the next home run energy stock. While it has a huge debt load of $2.9 billion and is spending heavily on drilling-related capital expenditures, Dan believes its equity could be worth four times its current value. Not to mention that its capital expenditures this year will be funded with $450 million in cash flows from operations, the cash from two spinoffs of royalty trusts -- the SandRidge Mississippian Trust I (NYSE: SDT  ) and the SandRidge Permian Trust (NYSE: PER  ) -- and asset sales of some smaller fields.

Profiting in downtimes
As I said at the beginning of this column, while the near-term prospects for economic growth are dismal, that doesn't mean you can't make a killing as an investor over the next few years. One way to do so is to exploit the ongoing macroeconomic trends by investing in lucrative energy stocks. Beyond the companies mentioned in this article, three of the best energy stocks are identified by our in-house analysts in a recent free report. To get instant access to the names of the three oil stocks, click here -- it's free.

Foolish contributor John Maxfield, J.D., does not have a financial stake in any of the companies mentioned above. The Motley Fool owns shares of Devon Energy. Motley Fool newsletter services have recommended buying shares of Chevron and Chesapeake Energy. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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  • Report this Comment On October 28, 2011, at 9:36 PM, MHedgeFundTrader wrote:

    The financial markets exploded to the upside overnight with news of Europe’s triple resolution of their sovereign debt crisis. As I predicted in my letter only yesterday, the move has caught traders by surprise, enabling markets to break out to the upside from the recent ranges, and give this fall rally longer legs than most expect.

    As I write this piece, the (SPX) futures have popped to 1275, a new high for this move. Ten year Treasury yields have ratcheted back up to 2.26%, and the dollar is in full flight against a basket of currencies. Here are the details in summary:

    *Capital for the European Financial Stability Fund will be increased to €1 trillion.

    *Greek debt will be written down 50%, halving the country’s debt to GDP ratio in one fell swoop.

    *European bank capital ratios must be raised from 6% to 9% by June next year.

    The package raises more questions than it answers. It delivers less than what the optimists were hoping for, but more than what the pessimists dreaded. You really have to wonder where banks are going to raise $120 billion in private capital in this environment. As a result, Asian sovereign debt funds will probably end up owning large stakes in European banks at fabulous discount prices.

    While the cut in Greece’s debt load to only 120% of GDP is welcome, it offers no clear path on how the beleaguered country is going to cope with the heavy burden of the remaining balance. Of course, the deal is a total home run for the Chinese, who I have been advising to load up on as much Greek debt as possible at 30 cents on the dollar. This is only the first chapter in what is likely to become an epic restructuring of the European economy and financial system. Much work lies ahead, and many more gut churning headlines lie in our future.

    The move has triggered a “feel good” rally for the European currency, which has soared to the low $1.41’s. Herein lies the opportunity. Wait for this rally to exhaust itself, then sell the daylights out of the Euro. They next move on European interest rates has to be down. Now that the can has been kicked down the road on the debt problem the European Central Bank can now focus on the distressed economy.

    With outgoing ECB president no longer around to justify his disastrous rate hikes in the first half of the year, the new president, the Italian Central banker Mario Draghi, has a free hand to initiate a rapid unwind. At the end of the day, interest rate differentials are the only thing that foreign exchange traders really care about, and such a move would pave the way for a dramatic weakening of the Euro against the dollar. Today’s bail out gives us a great entry point for such a trade.

    For those who play in option land, the no brainer here is to buy the $1.40 puts on the (FXE) three months out. ETF investors should start nibbling on the (EUO), the double leveraged short play on the Euro. And to show how earthshaking this conclusion is, my house was at the epicenter of a 3.6 magnitude earthquake that just caused it to literally jump off its foundations with a giant roar.

    The Mad Hedge Fund Trader

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