The S&A Digest

Correction underway… The low-document bull market ends… What will gold do?… Will interest rates keep rising?… Buffett's latest buy…

Until last week, investors thought nothing could go wrong in the stock market… but fear has returned with a vengeance. Does this bother you? I hope not. If you invested in solid businesses and bought your shares at good prices, you've got nothing to worry about. On the other hand, if you've been speculating this month… well… you might have to take a few losses. As long as they're small losses, you'll be fine. Whatever you do, don't allow small losses to become big losses.

Like the rest of market, I'm concerned about what will happen as liquidity dries up. "Liquidity" is a euphemism for money – other people's money. From 2002 to 2005, banks and mortgage companies were shoveling other people's money out of their doors. Now… the "other people" want their money back because they've discovered whom the bank was lending it to…

Says Robert Rodriguez of FPA Capital: "Two years ago, we noticed a problem developing in our bond portfolios involving Alt-A securities. Despite having average FICO scores of 718 on the underlying loans, these securities experienced rapidly escalating delinquencies and defaults after just nine months… Our worst fears were recently confirmed in a study by First American Financial entitled, First American Real Estate Solutions Report, Alt-A Credit – The Other Shoe Drops? This report shows the following changes in underwriting standards between 1998 and 2006, with the major changes occurring in the last two or three years:

"And here's the punch line: Despite the obviously deteriorating credit quality, FICO scores were essentially unchanged at an average of 706."

Since 2002, torrents of credit have bolstered asset prices around the globe, creating roaring bull markets. You have to expect that as credit becomes more expensive to refinance and harder to get, asset prices will stop increasing and probably reverse course. In other words… I wouldn't be surprised to see a bear market develop, with stock averages falling 20%-30%.

I'll be watching two things closely for the next several months: 1) The price of gold (and silver), and 2) the yield on the U.S. long bond. Interest rates on the long bond appeared to bottom in 2003. And for the first time since the bull market in bonds began in 1981, the long-bond yield has begun to set higher highs and lower lows. This suggests a secular change in interest rates has begun, which in turn signals a return to a mostly inflationary environment. If this is in fact beginning, we should continue to see gold and silver increase, despite a slowing economy. If gold and silver "confirm" higher interest rates, stock prices will be very vulnerable to substantial declines.

Buffett on the move… Berkshire Hathaway bought a less-than 5% stake in food producer Kraft (KFT) last month. Buffett is joining the ranks of activist legends Nelson Peltz and Carl Icahn on Kraft's roster of owners. It's unclear whether Buffett will side with management or the activists, but either way, look for the stock price to move with these three guys involved. These three legends obviously see value in Kraft, which Altria spun off in March. Spin-offs can turn out to be incredible investments, as the market properly values the new, independent company. Dan Ferris just recommended the market's best spin-off play in his latest S&A Penny Letter.

Out of the hole? Ford (F) posted a surprise second-quarter $750 million profit on cost cutting and the sale of its Aston Martin unit. The results end a seven-quarter losing streak. Even excluding one-time gains, second-quarter profit is estimated at $258 million. How many Aston Martins can it pull out of the hat?

Company of the day: Stericycle (SRCL) provides medical-waste management and return services internationally to large-quantity producers of waste, including hospitals and Big Pharma. The company disposes of hazardous materials and handles returns for expired and/or recalled materials. Stericycle is a $4 billion company trading for 36 times earnings. The company has $450 million in debt and only $18 million in cash. Revenues for the past four quarters were $821 million and cash flows were $181 million.

Beijing announced today that it will increase the limits on overseas investments for Chinese insurance companies by 15% – which makes potentially $50 billion available for new investments.

The best charts are the ones that don't require any explanation at all. To the chart below, I'll only add a single question: Do you think the bull market in commodities is over?

New highs: Alnylam (ALNY), FLIR Systems (FLIR), Posco (PKX), Gen-Probe (GPRO).

The recent correction in stocks is sure to heat up the mailbag. Let us know how you're handling the drawdowns. As a long-term investor, I enjoy these kinds of pullbacks. They test my resolve, my knowledge, and my skills. How is your portfolio holding up? Are you cutting your weakest positions? Adding to the companies you have the most confidence in? Let us know: feedback@stansberryresearch.com.

"I sure would like to see the math on the Seabridge Gold statement! I bought it recently, based on the True Wealth recommendation for $25.35. It closed on the 23rd at $28.24. Did somebody get in at $0.02824 somewhere along the line?" – Anonymous

Porter comment: Steve recommended Seabridge in the July 2005 issue of Sjuggerud Confidential at $2.64. The company was in our top-10 list for several months before he felt confident enough in the company's prospects to recommend it again in True Wealth.

"Why don't you have any write-up related to the Middle East? Especially Saudi Arabia." – Paid-up subscriber Isagani

Porter comment: Stay tuned. We're working on a few right now, actually.

"I'd really appreciate your thoughts on two things. Firstly, what the hell is keeping Cheniere Energy (LNG) up? I know you've shorted the stock before, and Jeff is shorting it at the moment, and ever since I've watched in disbelief as it's gone up to $41. And secondly, can't Dan Ferris officially average in, in the Penny Letter? I do, and my results are much better than his… [T]hat really isn't fair on his track record. I bet some of your new, unfamiliar subscribers may actually doubt his ability, and that is a huge injustice. He is the best stock picker in the world, period. Your greatest business decision ever was to snag him for your brilliant team." – Paid-up subscriber Adam Lee

Porter comment: We only allow our editors to average down if they announce in their original recommendation that they plan to "scale" into the stock. After all, we know our readers don't have unlimited amounts of capital. Regarding LNG… beats me. I only know the market can be irrational longer than I can remain solvent.

"Thank you for assembling a quality team of investors. I've been an Alliance member for probably over 3 years now, and it's paid for itself many times over. The newsletters are all well written, being both informative and entertaining. I find it hard to believe that you have so many people who write in and say they are unhappy and want to cancel their membership. Do you make some of those e-mails up? Oh – almost forgot – the initiation to make me write – what's the deal with these "books and beautiful leather binder" that new Alliance members get when they sign up? I don't have any investing books just yet. I've been doing too much reading to finish up my residency. Any chance you can send me them to start my library collection?" – Paid-up subscriber Dave Caggiano

Porter comment: When you signed up for the Alliance (three years ago) our price was significantly lower than it is now. We've added close to a dozen publications since then and doubled the size of our research staff. We expected these things to matter to you more than a leather case and a few books. I guess, if you really want the case and the books, you could send us the difference in price between what you paid and what we charge now ($7,000), and then we'd be happy to send them along.

"'On Hatteras Island... (the eastern-most point of the United States)...'

Porter, your commentary on markets makes for interesting reading but you need to do some further research before you make comments on geography. Have you ever been to Maine?" – Paid-up subscriber Brian Clark

Porter comment: I stand corrected… Apparently the fishermen on the point in Hatteras haven't been to Maine… That's what they told me. I should have double-checked. They didn't look trustworthy. Here's the real easternmost point.

"The beginning of July, Opteum changed the name of its wholly owned subsidiary, Opteum Financial Services, to Orchid Island TRS. Maybe they should consider changing the name of the company too, to Orchid Island, as its valuation may be better if the public was led to believe they were involved in horticulture rather then mortgages." – Paid-up subscriber David Prince

"Ever since you changed your Alliance web page to the new format, it has become very frustrating to visit. Before, it was a good way to check on new reports that I'd missed. Now, not only is there no central place to see recent reports from the different newsletters, but to go to any specific newsletter, I have to re-enter my user name and password. This is a royal pain in the wazoo – even if one had a good password manager, which I no longer do. I do hope you plan to fix this. I also tried to leave a message on the message board and after I got registered, could find no way to do that."

– Paid-up subscriber Margaret Pratt

"I just became an Alliance member in your last drive. In my spare time, which usually is late at night (1-2 a.m.), I have been reading all the information that is available to us within the Alliance section of your web page. First of all, I would like to know what is available to me for viewing, from what I have been able to gather the only three sections that I cannot access are: Phase 1 Investor, Quant Trader, and The Partners Letter. Is that correct, or am I suppose to be able to get into these? There is a lot of very good information in all of the reports, but it is also very time consuming going between all of them trying to make the best decision for my future investment considerations. It would be great if all the recommendations could be tracked within one spreadsheet. That consistency in format should be carried through all different analyst sections. I am very pleased with Steve's and your format (information presentation). It is easy to read, and at the end of the letter I don't have to back track two or three weeks back in time to understand what has changed. Lastly, are you having server problems? Since last Friday, the server is not available for very long periods of time (early morning hour PHX time)."

– Paid-up subscriber J. Stanisz

Porter comment: First, as an Alliance subscriber, you are entitled to everything we publish, except for Phase 1. I don't know why you couldn't open Partners Letter or Quant Trader. Second, your spreadsheet recommendation is a good idea. We'll figure out a way to incorporate it into our new website. And third, I know… we've been having a never-ending series of problems with our website. That's why we've built a new one from scratch, and we're hosting it on a much more reliable server. It's working now, and we're using it internally. We plan to open it to the public on July 31. That's only about two months later than promised. (If you have IT infrastructure, you know that two months behind schedule is great.)

"Ellis' theory is that year-over-year consumer consumption is a good predictor of stock market direction. Worth your time to read."

– Paid-up subscriber Earl

Regards,

Porter Stansberry

Baltimore, Maryland

July 26, 2007

Stansberry & Associates Top 10 Open Recommendations

Stansberry & Associates Hall of Fame

Stansberry & Associates Top 10 Open Recommendations
(Top 10 highest-returning open positions across all S&A portfolios)

As of 06/27/2013