S&A Digest: Lehman barred from energy trading

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Lehman barred from energy trading... Pickens' green energy plan... Grantham's bearish forecast... Warburg's bottom fish... Betting against Steve: bad idea... More downside ahead...

 Extreme Value short pick Lehman Brothers (LEH) was barred from Platt's oil trading window. Platt's is a division of McGraw-Hill. The window is just a 30-minute period during which pricing information is collected and distributed to traders. Creditworthiness is obviously not the issue. Traders under review aren't allowed to post their trades.

According to Forbes, this is a common occurrence. Lehman Brothers won't comment, except to say it thinks the matter has been blown out of all proportion. Lehman fell 9% yesterday, also a fairly common occurrence these days.

 CNBC interviewed oilman T. Boone Pickens this morning. Hold on to your wallet. He sounds like he's running for office: Pickens says he's worried about our dependence on foreign oil.

Currently, the U.S. uses almost $700 billion in foreign energy supplies, mostly oil. In 1970, the U.S. imported 24% of its energy needs. By 1991, we were importing 42%. Now we're importing almost 70%, which Pickens says is "very close to a disaster for the country." To lower oil prices, which Pickens believes will rise to $200 a barrel, he says the U.S. needs to develop wind and solar power and rely more heavily on natural gas.

Pickens says we could use natural gas for purposes normally reserved for oil, like transportation. Pickens drives a Honda GX powered by natural gas. He says this could lead to a 38% reduction in the use of foreign energy supplies, which would leave gas around $1.48 a gallon. The reduction would also be accomplished using energy that doesn't run out. Says Pickens, "It's not like finding an oil field. You find an oil field, and it's not long before it starts to decline, and then deplete. Then, the oil field's gone. The wind doesn't stop."

I wonder if the Saudis, Canadians, and Mexicans (three of our biggest oil suppliers) worry about their dependence on U.S. dollars?

 Pickens' plan is on his new website, www.pickensplan.com. He's starting a nonpartisan campaign to bring the energy crisis to the forefront of the presidential debate. "Nonpartisan" is Washington lingo. It means taxpayers don't have a slug's chance in a salt mine because all the politicians from right to left are in on it.

 Permabear Jeremy Grantham, chairman of the venerable Grantham, Mayo, Van Otterloo, says the current market rout will continue... "We are still in the super bear of 2000." In bear markets, stocks fall back to, or below, their long-term trend line. But after the great bull market from 1982 to 2000, equities never shed their excesses "because of the Greenspan-inspired chain of bubbles."

Grantham thinks this bear market will end in 2010, with the market turning around at 1,100, if we're "lucky."

 I'm not a market prognosticator like Grantham... but overall, it's been too easy to make money in stocks for too long. It'll be unpleasant for longer than anyone can tolerate. At the end of it, Jim Cramer's show will get canceled because no one watches it, and stocks will be the last thing anyone wants to get involved with.

It'll be a wonderful moment, as a huge swath of the U.S. population stops pretending it knows anything about investing.

We are nowhere near that point yet.

 Private-equity company Warburg Pincus reminds us why it's always a bad idea to bottom fish. Six months ago, Warburg bought 25% of bond insurer MBIA for $800 million – the firm's single largest investment. When Warburg announced the investment in December, MBIA was trading around $30. Now it's down to $3.91. In the quarter ended March 31, Warburg wrote down its investment by $215 million.

 New highs: none.

 In the mailbag... when to stuff the mattress and other wisdom. Send us more here: feedback@stansberryresearch.com.

 "Dr. Steve says sell, sell, sell. Can the bottom be far away?" – Paid-up subscriber D.G.

Ferris comment: I don't know. But if you're bullish, can the bottom be anything but far away?

 "No accusations boys. We all have to do our own final homework, but rely on you for 'good' ideas that have been investigated. The last few weeks have seen my porfolio substantially affected in a most unappealling way. Hopefully, I can learn from this experience. Last comment: every bath I've taken in the market (and humbly, there have been a few over the many years) was due to the irresistable (eventually) urge (no matter how well I start at a given re-entry into the market) to try to time the market." – Paid-up subscriber Mark

Ferris comment: Your "no accusations" attitude is refreshing, Mark. Thank you. Against all reason, the one thing investors avoid most is doing their own research and taking full responsibility for their own money. You're way ahead of the know-nothing herd by acknowledging the need to do your own "final homework."

In the next issue of Extreme Value, due out this Friday, I give the antidote for compulsive market timing. Market timing is an attempt to guess at something you cannot know and over which you have zero control: the future movements of securities prices. So my method focuses on what you can know and control. You can learn to figure out what a stock is worth, the fine art of security analysis. With that information, you'll have total control over when, where, and how much of your capital you put at risk.

Focus only on those businesses you understand well enough to value. And pay only deep discounts to that value. If you just do those two things, you'll leave the market timers in the dust.

 "OK, there's a financial mess. When do we take cash out of our savings accounts and stuff it in our mattresses?" – Paid-up subscriber Bob King

Ferris comment: You'll actually lose slightly more ground to inflation that way, since you won't even be earning the paltry interest they pay you at the bank. It's rational to be worried about our banking system, though. I've looked at hundreds of bank balance sheets the last month or so, and only one has enough liquidity to pay all of its depositors in full. A run on deposits would crush almost every bank in the country.

 "I am new to investing and have been guided toward the majority of my assets being put toward Indexes as I am only thirty-eight and will be in it for the long haul. Eventually I plan on playing around with ten percent for high-risk high-yeild, but that will be after I get to know you all better as suggested. I subscribe to The 12% Letter and am looking for a general investment strategy. Is there a simple 'How to Get Started?' article on the site or available from you all?" – Paid-up subscriber Albert

Ferris comment: Porter tackled a similar question in yesterday's Digest. Click here to read it. Extreme Value readers also have the Extreme Value Owner's Manual, which they can find under Special Reports (December 2006). It's loaded with explanations of how investing really works.

Regards,

Dan Ferris

Medford, Oregon

July 8, 2008

When Will the Next Relief Rally Appear?

By Ian Davis

Each week, the American Association of Individual Investors (AAII) polls its members. It asks its members whether they believe the stock market will be higher or lower in six months.

More or less, investors split down the middle... Over the last 18 years, on average, 57% of investors have been bullish.

But last May, 67% of investors were bullish. That's an unusual level of optimism, especially given the U.S. financial crisis and the likelihood of a recession. So I believed the optimism was overblown.

Here's what I wrote on May 6:

The S&P 500 is up 10% since March 17. However, just as stock markets never go straight down, they also never go straight up. In my opinion, this last month and a half has simply been a relief rally in an overall bear market.

Now that optimism is once again soaring to unusual levels, be prepared for a renewed decline in the major indexes.

– "The Relief Rally Is Almost Over," S&A Digest, May 6, 2008

The S&P 500 rose another 0.6% to its peak of 1,426.6 two weeks after I wrote that article. Since then, all of the major indexes have collapsed: The S&P is down 12%, the Dow is down 14%, and the Nasdaq is down 11%.

Today, I'm looking for an extreme in the opposite direction. I'm waiting for investors to become so pessimistic a relief rally is inevitable. And as the following chart shows, investors are not so optimistic nowadays.

Will this Sentiment Indicator Call the Bottom?

So is it time to jump back into your favorite growth stock?

Although we're getting close to an oversold extreme, I think it's still too early. We're officially in a bear market now... And during bear markets, oversold extremes reach lower levels and overbought extremes fail to climb as high as they would during normal market conditions.

Although only 31.5% of investors are bullish, this is still not extreme enough to mark a bottom in this market. I believe we could see another two weeks to a month of declines before reaching a short-term bottom.

Good investing,

Ian Davis

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