The liquid that's more precious than oil, and how to make it pay

Fresh water is becoming ever more scarce the world over. We look at how there's money in managing, treating and conserving it - and tip one stock to watch.

About 7,050 feet above sea level, high in the snowy Sierra Nevada mountains, lies a little frozen meadow called Gin Flat. It got its name from a speak-easy that closed long ago. Nestled amid a forest of pine and cedar, a little scientific outpost measures snowfall - and has done so since the 1930s.

This is important work, because the melting snow from the Sierra Nevada provides water for millions of Californians. The size of the snowpack at Gin Flat gives us clues to how much water will flow from the mountains. With the data gathered at Gin Flat, scientists can divine the future of California's water supply.

The latest reading this year is that the snowpack is only 67% of normal. So California looks like it will have more water troubles this year. "I have not seen a more serious water situation in my career," opined one official. "And I've been doing this 30 years." Some scientists think that we're overstating the water content at Gin Flat by 20% or more. If so, we have even less water than we think.

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Across the globe, scientists look to the world's mountains and watch carefully. The snow is melting earlier this year. That means water will flow less freely this summer, when people need it most. The areas most at risk of lack of fresh water include parts of the Middle East, southern Africa, the United States, South America and the Mediterranean.

In this piece, we return to a familiar theme: the unfolding water crisis. The spur that drives me to revisit it once again is the thoughtful annual report of a publicly traded water company that has purchased water rights in the western United States. In the shareholder letter, the company's CEO wrote: "Arguably, the most critical issue facing the Western United States is the availability of water to support continued population growth."

Water scarcity in the West is not new, the CEO admits. At least since the time of Mark Twain, people have been fighting over it. ("Whiskey is for drinking and water is for fighting over," goes the old saying often attributed to Twain.) But what's new this time is the sheer amount of water needed to support the fastest and largest population growth in the union. In Arizona and Nevada (and Colorado and Idaho), population grows at a pace double the national average. Yet water is scarcest in these places.

For all that's demanded of it, water is too cheap. The CEO continues: "Market prices [for water] have started to appreciate dramatically in recognition of the actual economic cost of developing new supplies." Despite constant threats of shortages, there is a reluctance to allow the price of water to rise. Lastly, the company's CEO chides the public's irrational view of water as something that ought to be a "free" public resource, not subject to market forces."

"Paradoxically, this same public is willing to pay exceptionally high prices for bottled water," he writes, "rather than drink inexpensive tap water, in part due to the often mistaken belief that bottled water is safer to drink." This water scarcity issue does not only affect America's dry Western half. It's a global issue affecting many other parts of the globe. In a water-constrained world, conserving water becomes top priority. Treating existing water supplies when new supplies are not available becomes especially important.

On that idea, I've held Nalco Holding (NYSE:NLC) in my Mayer's Special Situations letter since summer 2006. It's up 46% for us, but I believe bigger gains lie ahead. Nalco is the world's largest water-treatment company. Nalco is all about helping companies treat and conserve water in their manufacturing processes. A trio of insiders bought the stock in February and March for prices at $19-22 per share. It's a steady business that generates plenty of cash flow and trades for 15 times next year's estimate of earnings. Nalco is one of the few water stocks sitting a good 20% or more off its high.

As an investment idea, the water theme is not going away anytime soon. Many trends in energy and agriculture make the water situation only worse. Take a recent Tampa, Florida, development. Officials got a shock when the state's first ethanol facility put in its request for water - 400,000 gallons per day! That instantly made it one of the top 10 consumers of water in Tampa, yet there are plans to double its capacity. All the while, Florida's rivers and lakes are at or near record lows.

It's madness, of course. But at least you can make it work for your portfolio by putting some money in the water resources arena. Maybe one day, people will quote the readings at Gin Flat - and its counterparts across the globe - as they do the Dow Jones industrial average.

This article was written by Chris Mayer for Whiskey and Gunpowder