A $20 billion loss...

 Once again... UniCredit is giving lie to the central banker's game.

 

We've written about Italy's biggest bank many times over the years... To us, it's a poster child for our debt-addled, inflation-addicted economies. It recently announced one more example: it lost $20.8 billion last year. But first, recall...

 

We started warning readers about Milan-based UniCredit in early 2010... The bank's long history of failure dates back to 1931.

 

 

 

The sudden weakness in UniCredit's shares (down 21% in the last several weeks) indicates to me that big trouble is brewing in Europe. I don't believe efforts to stop the crisis in Greece will work. The austerity measures undertaken in Ireland, Spain, Italy, and Greece have severely weakened these economies, causing loan losses to banks like UniCredit.   And if there's a run on UniCredit (and I believe there will be), the losses will be too large for Italy to manage without a huge international bailout. UniCredit has borrowed $300 billion from other European banks. And Italy's government already owes creditors more than 120% of GDP. There aren't any easy solutions to this problem.

 We thought the European currency union's rules on debt and deficit spending – put in place by the Maastricht Treaty that formed the euro – would force a day of reckoning... Of course, we should have known better... Governments are happy to lie and cheat their way out of a crisis...

 

 In our new, manipulated economy, banks aren't allowed to fail... Markets can't fall. Governments funnel trillions of dollars to brace these giant banks' balance sheets (filled with garbage loans) and stem losses.

 

Just take a look at this chart of the iShares S&P Global Financials Sector Fund (IXG):

 

 

Many would call that chart (and the loose monetary policies of the U.S. Federal Reserve and ECB that enabled it) a success story. The banks survived, our economies stabilized. They don't believe there will be any negative consequences.

 

But easy money solves nothing... It only masks the problems in the Western economies... and once again, UniCredit – which would have failed years ago without the ECB's currency manipulation – is revealing the depths of the problem.

 

 Like we said, UniCredit announced a record $20.8 billion annual loss. The bank's market cap is $50 billion.

 

The bank wrote down 9.3 billion euros in goodwill and customer relationships, including a full write-down of goodwill allocated to Italy, Russia, Turkey, Austria, and central and Eastern Europe, according to the Financial Times.

 

UniCredit also added 9.3 billion euros of loan-loss provisions, bringing the total for the year to 13.7 billion euros. UniCredit said provisions now cover 52% of its bad loans at the end of the year, up from 45% at the end of September.

 

The bank said it expects to return to profitability with 2 billion euros of earnings this year. It expects 6.6 billion euros of profit by 2018.

 

 And how did the market react to UniCredit's $21 billion loss? Shares rallied more than 7% on the news. As we said, most investors clearly believe actions of the Federal Reserve and ECB will never have any consequences. Why else would the market reward a $21 billion loss with a 7% gain in share price?

 

But we know better... Nothing about UniCredit's business has improved. It's still loaded down with bad loans that sap its ability to earn money. The situation can't last forever, and when it does, the results will be severe...

 

 Still... as long as governments are providing huge amounts of liquidity into their economies... balance sheets and send share prices will keep rising... for now.

 

Just look at the list of stocks hitting new highs, we see businesses of almost every kind – hotels, banks, chemical firms, shippers, credit card issuers, restaurant chains, casinos, life insurers, and energy companies. As we've been writing for many years, it's a bull market. The Federal Reserve's "E-Z Credit" policy has pushed the value of nearly every asset higher and higher.

 

 And while a money-printing government is the shareholder's friend (at least while QE is working), a government as a business partner isn't as sweet.

 

Just look at shares of Brazil's giant state-owned oil company, Petrobras, whose shares have plunged 37% over the past year.

 

Regular Digest readers shouldn't be surprised at this fall. We've issued loud warnings about Petrobras in the past. We've been loudly skeptical of the idea of investing in companies run by government officials. Petrobras operates with heavy involvement from the questionable Latin American political regime. We've worked hard to steer readers away from companies like this.

 

S&A Editor in Chief Brian Hunt wrote a fantastic essay about the idea of "partnering up with the government." We believe it's so important, we're reprinting his original piece from early 2013 at the end of today's Digest. We hope you'll take this educational idea to heart...

 

 Signs of a top...

 

High-frequency-trading giant Virtu is going public. These computer-driven trading firms make money between the prices buyers are willing to pay and sellers are willing to offer. The speed at which they transact (milliseconds) allows them to get ahead of big orders and profit on the momentum. They make tiny gains on each transaction, which add up to large profits when repeated in huge volume ($182.2 million last year).

 

In its S-1 filing – a document companies must file with the Securities & Exchange Commission before going public – Virtu says it lost money trading only one day over the past five years. This kind of track record is undoubtedly helped by the government's manipulation of the markets.

 

But why would Virtu, with the supposed "Holy Grail" of trading, go public now?

 

 

 New 52-week highs (as of 3/10/14): American Homes 4 Rent (AMH), Activision Blizzard (ATVI), Berkshire Hathaway (BRK-B), Blackstone Group (BX), CF Industries (CF), C&J Energy Services (CJES), CVS Caremark (CVS), Diebold (DBD), and EMC (EMC).

 

 We always like to see happy Alliance members. Send your praise to feedback@stansberryresearch.com.

 

 "I just wanted to drop a note to express my appreciation for [the S&A Alliance Executive Summary]. I just made the jump of faith to the S&A Alliance. I wondered if I could keep up on all the reading that comes with this 'jump,' but at least I know now that even in those weeks when I can't find the time to get to all the different letters, I can at least get a sketch of some of the important reading I may have missed. I don't know who came up with the idea, but kudos to whoever it was that came up with the 'S&A Alliance Executive Summary.'" – Anonymous

 

Regards,

 

Sean Goldsmith

Miami Beach, Florida

March 11, 2014

 

 

A Timeless Lesson on Investing With the Government

By Brian Hunt, Editor in Chief, Stansberry & Associates

 

Sometime in the past decade, Americans who should know better embraced a horrible investment idea...

 

If you've ever bought a stock because an investment guru told you it was "state owned" and backed by the government, chances are good you fell for a common mistake... And chances are good you lost money on the deal.

 

In today's essay, I'll show you why this is the case... and why you should always be leery of investing with "state-owned" companies.

 

To drive the point home, we'll look at a poster child of "state-owned" investing – Brazil's oil firm, Petrobras. It's a popular stock among investment advisors and fund managers. If you watch a financial television program about "investing around the globe," you'll probably hear someone gushing about Petrobras and its "state-owned" status. After all, how could you go wrong partnering up with the national government?

 

Answer: very easily.

 

Below is a two-year chart of Petrobras. It tracks shares from early 2010 through 2012. They've plummeted from $40 per share to $17 per share... a loss of 57%. This horrific performance was produced in a rising oil price environment. During the same period, other "Big Oil" companies like ExxonMobil and Chevron registered gains.

 

 

How could the "experts" be so wrong about Petrobras? How could investors in a big "state-backed" company get killed while investors in regular oil companies did well? It's easy to explain. But we have to leave investment la-la land and remember how things work in the real world...

 

Remember how your average government agency works (or doesn't work).

 

The bureaucrats running government agencies are not incentivized to produce profits. They are not incentivized to improve the long-term value of a business. Bureaucrats are incentivized to spend their entire budgets and grow larger. This allows them to acquire more power... and bigger budgets for next year... which allows them to acquire more power and bigger budgets for the year after that.

 

Compare this to an entrepreneur who has his own money on the line. He's going to do his best to keep costs down, instead of intentionally blowing his budget. He's going to do his best to hire only employees he needs... rather than hire as many people as possible. He's going to keep a close eye on his cash flow or he'll go broke.

 

Most smart people know this is the difference between government and business. But when it comes to investment, even "small government" republicans and libertarians lose their minds and line up to buy shares in inefficiently managed, state-owned companies. It defies belief. They'd be better off partnering up with a crack addict.

 

As for Petrobras, the company has phenomenal assets. It controls some of the biggest untapped oilfields on the planet. But they are offshore oilfields. Developing them will cost enormous amounts of money. That's why the company has trumpeted its planned $200 billion-plus capital-spending plans. It's believed to be the biggest corporate-expenditure program in the world.

 

This absurdly large amount of spending will be overseen by bureaucrats. Take a guess on how that will turn out. While you're forming your guess, remember that if an entrepreneur opened a lemonade stand, he would work by himself and turn a profit. If a government opened a lemonade stand, it would have a dozen employees and go broke in three months.

 

Don't get me wrong: I'm not saying you should never buy shares in a state-owned company. They can work out as trades. Also, I'm not saying all government is bad. I'm not saying government employees are horrible people. Save your hate mail.

 

But just remember what happens with most every government agency or program. They are not run for a profit. They are not incentivized to keep costs down. They are incentivized to grow bloated and inefficient.

 

The next time you're considering "partnering up with a government" – and buying a state-owned company – remember how government works.

 

You'll probably do better with a lemonade stand.