S&A Digest: What I heard in Vancouver

What I heard in Vancouver... Stay tuned for more bank failures... Lampert and Gates buy AutoNation shares... SAC and AQR buy death...

Federal Reserve Chairman Ben Bernanke testified before Congress yesterday. I don't want to say the financial situation doesn't look good, but he testified via satellite from the Cayman Islands.

— Jay Leno, The Tonight Show

 Yesterday, I ran into Jim Rogers, fresh off the plane from Singapore. He walked up to the conference registration desk, and the young lady behind it looked at him and said, "Can you spell your last name for me?" Then, she looked at me and said, "I already know your name..."

I looked over at Jim and said, "How about that. I'm more famous than Jim Rogers!" Jim laughed and said he didn't like being famous, that he was sick of being famous. Then, he went down to the bookstore, half asleep from 24 hours of travel, to sign a bunch of his books before the crowd poured in. I'm looking forward to his speech. He's usually got plenty of personal anecdotes.

 For the past two days, I've been listening to Rick Rule, the Warren Buffett of natural-resource investing, give presentation after presentation at the Agora Financial Symposium in Vancouver, British Columbia.

Rick gave us a couple of great ideas. First, he said only 15 people really count in the market for small-cap Canadian mining and energy stocks. Most of them go on vacation in August, and share prices will likely remain weak into August, providing a good buying opportunity. Second, Canada allows tax loss carrybacks (instead of our own carryforwards). Because Canadians have taken losses this year and paid huge taxes on the capital gains they've enjoyed in the past, they can take some of those losses and carry them back – in other words, get a refund of some of the taxes they've paid. So... December will likely provide a wonderful buying opportunity in small-cap mining and energy stocks. Rick expects to nibble in August and gobble in December.

Rick is still a huge believer in the ongoing natural-resource bull market. He thinks it might have somewhere between five and 10 years left in it.

Everyone at the conference is super bullish on natural resources and super bearish on the U.S. dollar. Human nature being what it is, you should take Rick's advice and look for both trends to moderate or reverse in the near term.

 The best presentation I've seen so far was by Rick, who has worked for decades in natural-resource stocks. The past few years have been great ones for him, and everyone is on the edge of their seats, trying to glean actionable advice from his comments. The SEC says Rick can't make recommendations because he's a broker, not an analyst. So Rick just tells stories about mining and management, and discloses his conflicts of interest along the way.

Those are the best presentations, the ones by people with real wealth and real experience, the Jim Rogers and Rick Rules of the world. They neither need nor want your money. You should listen to those people most closely. Few people worth listening to haven't made a fortune in the markets.

The newsletter editors' presentations tend to be flat, theoretical, and unfortunately, not especially helpful most of the time. Chris Mayer of Capital & Crisis is, so far, the lone exception here. Chris makes me feel like I need to work harder because he's so well-prepared and informed. Stansberry's own Matt Badiali is here. His stories about mining and geology are indispensable to anyone interested in mining investments. I'm not speaking because I get lousy marks as a speaker, so I'm not allowed on the podium. Considering most of the folks who get great marks and are asked to speak, I'm encouraged by this.

 FDIC Chairwoman Sheila Bair said Tuesday more banks are in danger of failing and the agency needs to raise premiums to restore its reserves after bailing out IndyMac. Bair also reassured depositors that up to $100,000 in a bank, failed or not, is completely safe. I'm not sure how she can say that, given that the FDIC has guaranteed nearly $5 trillion of deposits on a reserve base of around $50 billion or so. Private insurance companies that underwrite too much risk and keep too little reserves usually go out of business.

 Reality is returning to the banking world with a vengeance, and it has only just begun...

Of the 8,500 banks in the country, 90 were in trouble as of the first quarter – the FDIC does not release the names. On average, 13% of the banks on the list fail. The others are repaired or acquired by a stronger bank. But according to Bair, "That number will go up and the number of assets will go up, but it will still be a fairly low range when you look at this historically."

Banking in this country (durst I suggest in this world?) is totally screwed up from the top down. Our banking system can't really work out well over the long run. Once upon a time, the deposit and lending functions in banking were separate and unrelated businesses. The deposit function was a storage function, called a bailment contract. You stored your gold for a fee, period. The warehouse issued you a ticket for your gold. If the warehouse manager issued more tickets than gold, he was committing fraud.

But that fraud is precisely what modern banking is based upon. You make your deposit, and the bank promptly lends out much of it. No bank in the country could pay off its depositors in full. Our whole banking system is one giant fraud.

Due to our fractional reserve banking system, banks are inherently inflationary. They literally lend money into existence... just like the fraudulent warehouse manager.

 This is by far the worst thing to come from our rampant inflation... Due to rising chicken and beef costs, McDonald's will raise the price of its beloved Dollar Menu. The menu, which makes up about 14% of McDonald's U.S. sales, will look very different by next year, said COO Ralph Alvarez. He did not disclose how much prices will increase.

 A great arbitrage opportunity: Zimbabwe's new $100 billion bill, worth about US$3, is going for US$80 on eBay. Check it out here...

 Billionaire hedge fund manager Eddie Lampert built a 40.4% stake in retailer AutoNation since October and now has some billionaire company... Bill Gates' personal investment vehicle, Cascade Investments, reported owning 5.3 million shares of AutoNation. The Bill & Melinda Gates Foundation reported owning 4.6 million shares – for a combined 5.5% stake. Gates' position comes as AutoNation shares hit a 52-week low of $8.02, down from $22 last July.

 Two other hedge funds, SAC Capital and AQR Capital Management, are betting heavy on death. The two funds are piling into Service Corp. International, the biggest owner of funeral homes and cemeteries in the U.S. After about four decades of declines, the U.S. death rate will rise to 9.3 per 1,000 people by 2020 and 10.9 per thousand in 2040, according to projections from the National Funeral Directors Association. The group said the mortality rate was 8.1 per 1,000 in 2006.

 What did Keynes say? In the long run, we are all dead.

 Goldsmith also made a bet in the death services industry in his S&A Dividend Grabber. This company is the leading manufacturer of caskets and urns, and it has an exclusive contract with Service Corp. International. You can currently buy shares in this company for less than its initial spinoff value. To learn more about the Dividend Grabber, click here...

 New highs: Barr Pharmaceuticals (BRL), Heartland Express (HTLD).

 Lots of worry about housing and the financial crisis in today's 'bag. Send yours here: feedback@stansberryresearch.com.

 "There are two legitimate points to be made in answer to the 'anonymous' complainer about S&A's penchant for having an ad in almost every issue of one of your other 'products.' First, he's right. It's true. But it's not all there is. It's not even mostly what's there. I assume your Director of Sales, Michael Cottet, is in charge of marketing. OK. I've dealt with Mr. Cottet on more than one occasion. First, he would not be doing his job if he didn't find effective ways to keep Stansberry & Associates' various products always in the eye of the clients, us. I find that the results sometimes test my patience. But it's at the core of the free-market we are blessed to participate in. How else, in the name of heaven, is S&A supposed to survive and thrive? You don't advertise? You don't eat. Thank God you have a product worth the telling!

"Second, look at the man. From the first time I called him to the last, I have found him to be a prince of a fellow. I knew this from the writing, of course. 'Consider the source' is advice that is at the core of my perceptions of the world. Want to know the man? Read his words. He doesn't write? Oh. Right. But look at the men around him who do. 'See' those men, through their words, and realize they are the ones he has chosen to affiliate himself with, i.e., he wouldn't work for/with men who didn't reflect his own ethic. You find solid 'grounding' in the men who write at S&A, you can assume the same in Mr. Cottet. No, Mr. Anonymous. Telling Porter that 'you suck?' No, sir. That's taking the low road; and we really do have plenty of people who already do that. No need for another. Look for the skill and the artistry at work at the desks of S&A. If you give it an honest look, you will see that this is one of the most honorable companies in America. There are plenty of the other kind, for sure. But this is not one of them." – Paid-up subscriber Donald Lewsader

 "I subscribe to both your PSIA and Steve's True Wealth newsletters. I also am an honest person with morals. This is the reason that although I am going through a divorce and have very little 'extra' money, I continued to pay the mortgage payments on the empty house my wife and I owned until an offer was finally made and accepted. Not only did I make 8 mortgage payments on this empty house, but I also had to bring money to the closing table. I did all of this because in my gut I felt it was wrong to go into foreclosure. I wonder now how much money I could have made had I instead shorted shares of Freddie and Fannie during this same 8 month period (which just recently ended)." – Paid-up subscriber Chris Klein

Ferris comment: It doesn't matter how much you could have made. You owed the money on your mortgage and had the means to pay.

Also, considering how difficult shorting is and that everyone now thinks it's easy... and the SEC has made it even harder to short the financials... this trade is getting long in the tooth. When everyone is short, it's time to cover and possibly go long.

Finally, I feel it's my job as a Stansberry editor to point out to you that it's a typical investor foible to pine for the recent past to repeat itself one more time, just for you. "If only I had shorted..." often becomes "Maybe I could short now..." Successful investors don't waste time with that. They readjust their view constantly and remain forward looking.

 "If Bear Stearns, Fannie and Freddie etc are 'Too big to fail' the same reasoning surely applies to the US itself. Imagine if you were China, holding hundreds of billions of dollars, and you see billions more dollars being printed, what would you do? Sell your reserves? To whom? They've got to support the dollar and maintain US demand for Chinese goods or they'll be facing meltdown too. A Chinese rescue program may be humiliating, but it's inevitable isn't it?" – Paid-up subscriber Baxter Lindsay

Ferris comment: Expecting any government to prevent failure of anything at any time is like expecting a gunshot wound to the head to add 25 years to your life. The rescue programs to which you allude always make things worse. There's no such thing as a bailout, anymore than there's a free lunch. When you bail out, you just make the next failure that much worse. If the Chinese try to bail out the U.S. dollar, it will merely compound the error of failing to insist on gold (instead of dollars) in the first place. It will not solve anything.

Bear Stearns should have been allowed to fail. Lehman should fail, if it's going to fail (since it has a negative net worth, I figure that's what would happen). Fannie and Freddie should fail. The destruction of those assets and many others is precisely what we need, and the sooner the better. The market can take care of it much more efficiently than the government ever could. The market is much wiser and better than government planners ever could be. Just get out of the way and let it happen. The world financial system won't fall apart, at least not the parts we actually need.

I promise you, taking these consequences will be easier than what's really going to happen when the morons in Washington (and Beijing?) get through with this crisis. The cure – the crisis they'll create – will be worse than the disease.

Regards,

Dan Ferris

Medford, Oregon

July 24, 2008

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