Well... we must be hitting a nerve. Yesterday, after we'd published two or three Digests about the absurdity of the SEC's lawsuit against us and after we'd rallied thousands of investors to our banner, one of the big, liberal, faux media networks started attacking yours truly. Gee whiz... what a coincidence...
So... this guy Terry Krepel at MediaMatters... thinks I'm "crazy" to worry about what might happen in this country if our government goes broke. Meanwhile, last week in Greece, you saw what happens when people used to living at the expense of their neighbors find out their government is broke and the gravy train is over.
They riot. They destroy assets. They kill people. And when this happens, the government blames... not the rioters or its own profligacy... the government blames the investors – folks like you and me!
If that happened here, I'd rather guarantee the safety of my family and my wealth than be faced with the uncertainty of how it might all play out. This, in the eyes of an over-educated, leftist pundit, who lives in the miasma of Washington's Beltway, makes me worthy of his derision.
Interestingly, he only attacks me personally – my mental health, my patriotism, and my credibility. He never answers any of the important questions I asked our readers in that day's Digest, like: "Show me the example in history where a nation survives without a violent revolution after adopting paper money as its only standard, ringing up enormous foreign debts while fighting multiple wars, and relying on a tiny fraction of its population as its revenue base. Or ... simply show me any democracy in history that survived after more than 50 percent of its population stopped paying taxes."
So... the important question to ask would seem to be, how do America's financial problems stack up to Greece's and the world's other over-indebted governments? Just look at the chart below (courtesy of Casey Research, Bud Conrad, and Jake Weber), which compares America's total debt and annual deficits to the world's financially troubled nations.
We're running just a hair behind Greece in terms of our annual deficit. And we have nearly as high a total debt to GDP ratio as Portugal and Ireland. The combination would seem to put us next in line for a crisis – and we're adding far more debt each year than any other country on the list. Plus, if you were to throw in our off-balance-sheet obligations (namely the debts of Fannie and Freddie) our total debt to GDP would far surpass Greece's.
Now... let's ask Terry Krepel (or anyone else)... What's a plausible scenario where America doesn't end up facing an enormous fiscal crisis? And if a crisis is coming – sooner or later – why doesn't it make sense to prepare for it now?
I'd wager a large sum Terry Krepel has never seen that chart or even thought for a moment about what it means. Meanwhile, we – investors with something to lose – should print it out and post it on our refrigerators. It should constantly remind us of two very unpleasant facts: One, our national government can't support its level of spending without resorting to massive inflation. Two, as interest rates rise because of that inflation, our government will be forced to raise taxes substantially.
Hopefully the problems these policies will cause – economic dislocation, fleeing wealth – won't boil over into a crisis. I wouldn't bet on it. But if these facts don't bother you in any way, you can join with a middle-aged, out of shape, Soros-backed, left-wing blogger who thinks I'm a bad guy. In that case, you get to bury your head in the sand and hope for the best. Good luck.
Yield-hungry investors poured $7.8 billion into high-yield municipal bonds last year, pushing the assets to a two-year high. High-yield munis due in eight to 12 years were yielding an average 6.63% (about 11% taxable equivalent), more than double the 3.42% on similar-maturity bonds in the general tax-exempt market. That compares to a 1.98% average yield for the S&P 500 and a taxable money-market fund at 0.02%.
But all of this new money is entering the market while the risk of default is "higher than it's been in quite some time," according to Deutsche Bank's Gary Pollack. There are two types of municipal bonds: general-obligation bonds and revenue bonds. General-obligation bonds are issued by state and local governments for general capital needs. These bonds are supported by the issuer's taxing power. Revenue bonds are issued by governments to fund infrastructure projects and are supported by the project's revenue stream.
General-obligation bonds are in trouble because government tax revenue is plunging. U.S. state and local government tax revenue fell 6.7% as of September 2009 from a year earlier. That's the fourth consecutive quarter of decline. These creditors only have a claim on an intangible revenue stream. If a state or county goes bankrupt, the creditor loses everything – unless that bond is insured (though the monoline insurers like MBIA and Ambac are insolvent) or the federal government steps in with a bailout.
Revenue bondholders have a claim on the underlying asset, which can be anything from a bridge to a hospital to raw land. But as we're currently seeing, municipal bond investors are selling their revenue bonds at 70% losses in lieu of owning the underlying assets. Take Florida's "dirt bonds" for example (the fastest defaulting sector of U.S. tax-exempt debt). From 2003 through 2008, 438 Florida districts sold $6.5 billion of debt to install sewage, power lines, and roads on raw land to make it developable. Florida added 1.2 million houses during the boom.
Around $2.4 billion in face value of Florida dirt bonds are currently in default. One distressed-debt expert expects another $2.7 billion in Florida dirt bonds to default this year. If these bond investors don't want to own property at 30% of their original investment, it makes you wonder what the land is really worth.
Cambridge Energy Research Associates is currently holding its annual conference in Houston. The conference, which hosts the biggest energy players in the world, is split into three days of discussion: oil day, gas day, and power day. Yesterday was oil day. But according to the update below (courtesy of John Kingston at Platt's), all anybody could talk about was gas:
ConocoPhillips CEO James Mulva gave a lunch keynote in which he referred to the US' growing reserves of natural gas as "The Gift." (It was sort of a play on the fact that Daniel Yergin, chairman of CERA, is the author of the oil industry classic history, "The Prize.")
Andy Inglis, chief executive of exploration and production for BP, also talked about shale gas several times during his presentation as part of the Oil Plenary. A panel on US Energy Policy also kept coming back to the shale gas issue.
The evening's dinner speaker, Eni CEO Paolo Scaroni, said in the first five minutes of his address, "Natural gas is going to be an increasing part of our energy future... the world is awash in gas."
The CERA meeting is otherwise just way too big and covers too many topics for it to be summed up with a sort-of "theme of the day." But the repeated "intrusion" of gas into oil day made this year's meeting an exception.
If you've read my January issue of PSIA, you know I'm wildly bullish on natural gas. And I've found a stock I think will double in the next 18 months. Plus, it's yielding almost 8%. To read my report on natural gas, and the single largest investment trend I see this decade, click here.
New highs: Fairholme Fund (FAIRX), PowerShares Dynamic Biotech Fund (PBE), Hershey (HSY), Kinder Morgan Energy Partners (KMP), Enterprise Partners (EPD), Altria (MO), Tejon Ranch (TRC), Longleaf Partners (LLPFX), Portfolio Recovery Associates (PRAA), Akamai (AKAM), Steak 'n Shake (SNS), A. Schulman (SHLM), Jinshan (JIN.TO).
In the mailbag, a good question about our True Income recommendations – distressed corporate debt – and the risk of much higher inflation. We've gotten this same question at least 50 times. We're glad to see so many of our subscribers are aware of the risks inflation poses to their investments.
Send your questions – good or bad – to us here: feedback@stansberryresearch.com. Please understand, we aren't licensed to offer any personalized advice. We can only respond to questions in a general way, to our entire audience. But as you know, we do frequently answer questions in the mailbag, so send us yours.
"I am a new subscriber to True Income... I believe interest rates are heading up; would that be detrimental to True Income bonds?" – Paid-up subscriber John B. Porter
Mike Williams comment: Many subscribers are asking this same question. Isn't there an inconsistency between recommending bonds and forecasting higher inflation? Don't bond prices decline when interest rates go up because of accelerating inflation?
Yes, bond prices decline when interest rates go up. In fact, buying and holding long-term bonds in an inflation-prone environment is committing financial suicide. Your interest income is underwater and you lose principal, a deadly combination.
We buy high-income bonds at a discount and hold them until maturity in only a few years. This allows us to sidestep the inflation pothole for several reasons.
The first is our income return is nearly 10%. Our real rate of return is huge, over 8%. Inflation would have to accelerate to over 10% for us to suffer a real loss. This magnitude of change in annual inflation has not occurred in any year over the past century, outside of war years. My point is we already have high real rates of return, and time to adjust the portfolio to much higher rates of inflation when it occurs.
The second and most important reason is the short maturities in the portfolio. The average maturity of the True Income portfolio is less than four years, with maturities starting next month and laddered fairly evenly over the next six years. I have concentrated the longer maturities in convertible bonds because we need plenty of time to realize our potential gains from a rising stock market.
Our regular bonds mature in less time than our average maturity. Even if the bond market suffers a severe loss, we simply hold our bonds until the borrower repays us in full. This guarantees our capital gain. Short maturities are our best protection against the cancer of inflation.
And finally, True Income now also has a significant exposure to the global oil and gas industry, giving us even greater protection against accelerating inflation. I suspect Porter's forecast of much higher inflation will eventually occur. High real income, creditworthy borrowers, short and laddered maturities, and exposure to essential commodities ensures we are well protected from the ravages of inflation. This portfolio is as protected as I can make it.
There is no inconsistency between the True Income portfolio and the expectation of higher inflation. Bring it on. We're ready.
"I'd like to add my support for Porter and the Stansberry Research team. After 28 years of investing apathy, I decided to take an interest and control of my nest egg in 2004 with a subscription to True Wealth. I added a letter here and there until finally joining the Private Wealth Alliance. I hope to go all in with the S&A Alliance upon retirement with the time to do the additional reading (and I'm sure I'll kick myself then for not doing it years earlier, but...).
"I can't say enough about the information that's been provided. Not just the recommendations, but the thoroughness of the research presented in language I can understand and that has garnered my avid interest in the subject. "The education has been invaluable, on how to invest, where to invest, understanding exactly what I'm investing in and as important, why. Trailing stops, position sizing, options income, dividends, what's rock solid safe, what's speculative and again, why. I love the analyses of geopolitical influences and impacts both in the paid and free subscriptions. I appreciate the annual (and liberally scathing) report card and willingness to fess up and learn from a recommendation that goes bad, rather than just never mentioning it again. Though it often hurts my head, I understand and appreciate the independence you allow your analysts, even though it sometimes results in diametrically opposed opinions.
"Though I learned a hard lesson in '08 after rationalizing my way into ignoring my trailing stops and getting whacked to the tune of 40% from my 2007 all-time high, I still had the confidence to get back in on your recommendations in early '09 and have to-date recovered 3/4 of my losses. And with the aforementioned included, since that first subscription to True Wealth in 2004, the self-managed portion of my portfolio has about tripled to-date. Many thanks – I couldn't have done it without you." – Paid-up subscriber C Nienburg
Regards,
Porter Stansberry and Sean Goldsmith
Baltimore, Maryland
March 10, 2010