The S&A Digest: Ignore the "One Trick Pony"

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

As of 06/21/2013

Porter's crash... Jim Rogers on the Fed... Poor Bill Miller... Tom's outstanding new report on Canadian income trusts... Who is Barton Biggs?... Drugs in the pipeline...

Last Monday morning was a bit chaotic at my house...

On Sunday night, I learned Bear Stearns would go out at $2, down from more than $60 the week before. I knew Monday would be painful in the markets. So... you can imagine me running around the house before work. I'm hurrying to get to the office; I know it's going to be a very long day at work. Meanwhile, I haven't slept a wink. My six-month-old son has his first cold. He kept us up all night. Sleep-deprived, anxious, and in a hurry, I'm trying to get in my car and out of the garage before my wife asks me to do any more chores. As I'm running down the small flight of steps that lead to my garage, I slap the garage-door opener button mounted on the wall beside me. It glows lime green in the darkness. I look down to sort out my keys. I hear the garage door cranking open behind me – it sounds like the Thunder Mountain Railroad roller coaster at Disney World. Without looking up, I walk to my car and slide the driver's seat of my big Mercedes sedan. As bad as my night was and as long as I knew the day would be, every time I get into that car I feel lucky. The engine rumbled to life... the satellite radio kicked on... the electronic seat warming began to loosen up my back. Ah. Taking a big, deep, relaxing breath, I put the car into reverse. As the car begins to move, I look down, fumbling for my sunglasses...

And then... CRASH!

What sounds like an explosion erupts from the rear of my car. What the hell? I slam on the breaks, while my eyes automatically flip up to the rearview mirror. I'd just driven my cherished new car into my garage door; it's wrapped around the trunk like cheap wrapping paper. The wheels from the garage door tracks have all popped off; they're rolling around the garage like little metal rats. My wife comes running out of the kitchen. She saw immediately I had opened the wrong garage door. She begins laughing hysterically. She's laughing so hard she can barely ask me if I'm all right...

The next time I recommend a stock and you don't agree with my logic, just remember: I'm the dimwit who backed through his own garage door.

It was 10 years ago that I met Jim Rogers for the first time. Sjuggerud and I sat next to him at a speaker's dinner in New Orleans. He was bullish on commodities and had just set up his own commodity index fund. In addition to being an excellent speculator, Rogers understands more about the history of finance than just about anyone in the whole world. And he knows the Fed is making a horrible mistake with its bailout of Bear Stearns:

They are really giving up on the dollar, they are driving the dollar down, they are printing money as fast as they can. Look, the Federal Reserve has just in the last week spent $230 billion taking on loans, house loans, mortgages, out of the system. This man Bernanke was never elected by anybody, I don't know where he gets the audacity to spend $230 billion of our money to bail out a few friends on Wall Street. This is totally outrageous. He is next going to be in his helicopter going around the world collecting rent payments from people. Who gave him the authority to do that? To destroy the dollar, to destroy our currency, to essentially destroy the American economy? And no one ever voted for the man. It is just mind boggling to me. And then he gives more money to Bears Stearns, so these guys can continue to drive around in their Maseratis.

You can see the whole interview here.

Last night, Charlie Rose interviewed Paul Volcker, the former Fed chairman who ended the great inflation of the 1970s. I can't quote him exactly because I don't have a transcript, but Volcker said essentially: The U.S. economy and the actions of Bernanke are remarkably similar to the early 1970s and, if things continue like they're going now, we'll have a new massive inflation.

Most of the time our newsletters are the regular fare: stock recommendations and updates. But, from time to time, one of our editors will produce something that's truly extraordinary. Tom Dyson has just completed an in-depth study of the Canadian income trust market, which is in the midst of a huge transition. Most of these companies are in trouble because new laws will take away their tax advantages. The corporate boards will respond by cutting dividends sharply. Most... but not all.

Most Canadian income trusts will have to convert to corporations by 2011. If investors are going to react so strongly to conversions, then I don't want to own those trusts, even if they pay 15% dividends. That said, there is one pocket of the income trust market I still want to own. Let me explain...

I spent the weekend digging through the tax data on dozens of income trusts. I found infrastructure-focused trusts have assets on their balance sheets called "capital cost allowances" or CCAs. These assets are tax shelters. It costs billions of dollars to build a new skyscraper or lay a gas pipeline across the country, for example, and it takes years to earn a return on your initial investment. So the Canadian government gives out CCAs to these trusts as a reward for investing in Canada's infrastructure. After the 2011 tax deadline, these trusts will still be able to pay huge dividends by shielding their cash flow with CCAs...

If you're not yet a subscriber to Tom's 12% Letter, I can assure you Tom's report on the situation in Canada alone is worth the price of an annual subscription. To find out more, click here.

Be sure to check out today's essay by S&A FDA Report Editor George Huang. George reveals the second criterion in choosing winning biotech trades... a loaded pipeline.

We don't spend a lot of time in these pages criticizing other money managers or newsletter writers. When you live in a glass house, it's never smart to throw stones. But... occasionally... we can't resist.

We've always been critics of Bill Miller, the famed Baltimore-based money manager. Back in 2006 when Miller's fund started to blow up, we launched this salvo: "Bill Miller, the head of Legg Mason's $20 billion Value Trust, is famed for beating the S&P 500 for 15 years in a row. Having met him, heard him speak, and watched him pick stocks, I've always thought he was a very, very lucky hack with a penchant for buying his own book at the end of every year to push up his December performance..."

Since 2006, things have gotten even worse for poor Bill Miller. My friend Eric Fry reminded me in a recent Rude Awakening e-letter that Miller is now dead last in his fund category over the past three years. Value Trust is down 24% this year, so far. His most recent debacle? Buying heavily into Countrywide Financial and Bear Stearns last fall. I once heard Miller say that he knows he's wrong about a stock when he can no longer get a price quote, meaning he likes to buy all the way down until a company finally goes broke. Seems like a strange strategy to employ, doesn't it? Well, he's certainly had the opportunity to buy all the way down lately.

New highs: none.

In the mailbag... only a few notes. Looks like most of our subscribers only wanted to debate prostitution. We admit... it's certainly a much more interesting topic than money. But... we must persevere. Send us something to talk about, here: feedback@stansberryresearch.com.

"It may be a bit lengthy to print the whole communication in the S&A Digest, but the below article sums up why Eliot Spitzer was pursued for prostitution. If any of this were pursued and proven just partially true, George Bush and his whole administration would go to jail. If you don't reprint the article, then you should give your readers the URL so that they can see the structure behind the subprime debacle." – Paid-up subscriber Ken Hankin

Porter comment: I don't know if this is true or not. But it is interesting... http://www.gregpalast.com/elliot-spitzer-gets-nailed/

"I have no idea who Barton Biggs is but considering he is a manager for a Hedge-fund I wouldn't give him too much credence. The last I heard, Hedge-fund managers had mismanaged their funds about as poorly as anyone in history. Also, take a look at the S&P chart for the past 2 months: it has gone sideways, 8-9% up and down. Considering how poorly' the stock market has done and combined with months of bad economic news if anything I would say "this thing" is underdone. The markets have done exceptionally well when you factor in all the current problems." – Paid-up subscriber Jeremiah

Porter comment: You're right... most hedge-fund managers are punks. Mr. Biggs, on the other hand, is one of the most experienced and knowledgeable investors in the world. He's retired now, but for years and years he wrote the best investment letter in the business from his post as Morgan Stanley's senior equity strategist. Both before and after working at Morgan Stanley, he led very successful hedge funds. Lately, he's been writing books and has two out now that are both excellent. I wasn't as specific as Mr. Biggs (who predicted a 1,000-point rally in the Dow on Monday), but as I told our readers, I did pile half of my portfolio into financial stocks on Monday.

"I wanted to comment on [Jeff Clark's] 3/6 prediction to short oil when it got to about $110 and correspondingly USO at $87. So, I watched as it (oil) played out (as you predicted) and last week bought a few April puts on USO when it hit about $87 and in Monday's decline I sold and made 60% on one trade and 90% on another. In Thursday, out the following Monday - I'd say you called it pretty good. Thanks, Jeff. I'd like to sign up for your short report, but it's a bit steep for me at this time. Maybe one or two more trades like this will get me there." – Paid-up subscriber Bill

Regards,

Porter Stansberry Baltimore, Maryland

March 19, 2008

Ignore the "One Trick Pony"

By Dr. George Huang, editor, The S&A FDA Report

Last week, I discussed the first criterion for a "no-brainer" biotech trade in The S&A FDA Report. Before we invest, we must know that the FDA's request can reasonably be fulfilled. Otherwise, we're going to put our money to work elsewhere.

However, the company in question must satisfy three additional requirements before it's safe enough for The S&A FDA Report.

Here's the second...

Are there other drugs in the pipeline?

In short, we look to see if the company has anything of value beyond the drug under FDA review. We'll never trade "one-trick ponies" here at The S&A FDA Report. The only companies we'll touch are those with multiple drugs in development.

In most industries, the first prototype of a new technology or product is almost never the most commercially successful. Think about the first iPod – large, clumsy, and the battery died after a couple hours. Or your first computer, with its 1.2-megabyte floppy drive and a whopping 64 kilobytes of memory. Biotech is no different. The first of a new type of drug is almost never the most successful version... It's often not even the first to gain FDA approval.

Consider Alexion Pharmaceuticals' (ALXN) first inflammatory inhibitor, which failed a phase III clinical trial in 2005. The stock dropped 30% to $20 a share on the news.

Investors forgot that Soliris – the second drug of the same class – was being tested in a different disease... and had a much better chance of success. The FDA approved Soliris two years later, and the stock now trades for around $60 a share.

For this reason, we'll never bet on a one-drug wonder. In order to qualify for a trade, we require a company have at least two drugs in clinical development.

Usually drugs hiding deep in the pipeline – in the shadows of the lead drug closest to market – hold most of the value for a company fresh off an approvable letter. In a rush to dump the stock, investors forget the lush pipeline and assign little value to these gems. This is a perfect setup for FDA Report subscribers. We love to pick up forgotten stocks with forgotten drugs in the pipeline... for next to nothing!

Oftentimes, news coverage on these tucked-away drugs eventually brings life back to stocks that undergo approvable-letter setbacks. And the best part – all this positive coverage, which propels the stock upward, is a windfall for FDA Report traders.

"Multiple shots on goal" is the second cog in our four-pronged trading strategy. I'll share with you the third criterion on Friday...

Good investing,

George Huang

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