I (Dan Ferris) will turn 51 this Sunday. When you start getting old, people start asking you what you've learned... Porter asked me yesterday about the most important thing I've learned in 15 years as a newsletter analyst. I said, "Don't buy garbage."
If I were quicker-witted, I might have said, "Buy the best, forget the rest." That's a good thing to remind yourself any time you're tempted to buy a stock that's not a leader in its industry.
If we'd had more time yesterday, I'd also have told Porter that I've learned to be an eternal optimist. I'm not foolish. I don't think Komrade Obama will suddenly get religious about cutting taxes and shrinking government… But I do believe the actions of millions of people across the country and billions around the world will trump the edicts, power grabbing, and other nonsense of the president and other politicians around the world. In the March 2012 issue of Extreme Value, I described it simply as "Shopping Trumps Politics."
No matter how bad things look or what "doom and gloom" talking heads and other pundits try to tell you, humanity is improving its lot, little by little, year by year, decade by decade. Historian/scientist Jacob Bronowski described this ultimate trend as "The Ascent of Man."
To invest, you must be an optimist about yourself and your fellow man. Investing relies on the belief that everything will be OK enough for the value of a business or other asset to rise over some period of time. Try to remember that when the news reports are all filled with dour predictions...
With the S&P 500 down 5% this month, it's a fair bet you're getting nervous. Many of the highest-quality stocks in the market have been crushed – McDonald's, Intel, and Microsoft are down double digits from their highs... Many high-quality stocks are trading at 52-week lows.
Even World Dominator Wal-Mart, the largest retailer in the world, dropped today after missing Wall Street's quarterly revenue projections… (More on Wal-Mart in a moment.)
Intel is trading about 30% below its 52-week high. The stock yields 4.4%, making it the highest-yielding stock in the Dow Jones Industrial Average. It's got $14.4 billion in cash and just $7 billion in debt. It's got an 80% share of the global microprocessor market. It generated $8.1 billion in free cash flow the last four quarters. Its largest competitor, AMD, has been absolutely crushed… Its stock is down 77% since March.
With a fortress balance sheet, a dominant market share, sickly competition (at best), and gushing free cash flows... Is Intel's business really worth 30% less than it was in May? I seriously doubt it.
You could say the same thing for many other fine businesses whose share prices are down now.
Most people get nervous when stock prices fall. The older and more experienced I get… the less I understand this attitude. You should jump for joy when stocks fall (as long as you stick to buying truly wonderful businesses), the same way you jump for joy when the prices of beer, steak, tires, and gasoline fall. When things you like go on sale, it's always a good thing. Exploiting lower stock prices is the one and only way you're ever going to make really huge money in stocks.
But the average member of the great thundering herd of "investors" doesn't get it. He thinks it's bad when stock prices fall.
Are Wal-Mart, McDonald's, Intel, and Microsoft really that bad off right now? Are their businesses worth 10%, 20%, or 30% less since January? They've all hit new highs since then. Now, they're hitting new lows.
They're all still minting free cash flow. And they're still the best in the world at what they do. Think about it before you join the herd.
If you need more reassurance to hold your favorite positions through this decline, consider this bit from Warren Buffett's 2011 letter to Berkshire Hathaway shareholders. Buffett was reminding shareholders that when you own high-quality companies, you shouldn't worry about price fluctuations. You should only worry about the company's earnings and shareholder payouts.
Buffett used his position in IBM (he owns about 5.5% of the company) as an example. How does Buffett want IBM's shares to perform over the next five years? He wants them to languish...
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Let's do the math. If IBM's stock price averages, say, $200 during the period, the company will acquire 250 million shares for its $50 billion. There would consequently be 910 million shares outstanding, and we would own about 7% of the company. If the stock conversely sells for an average of $300 during the five-year period, IBM will acquire only 167 million shares. That would leave about 990 million shares outstanding after five years, of which we would own 6.5%. |
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If IBM were to earn, say, $20 billion in the fifth year, our share of those earnings would be a full $100 million greater under the "disappointing" scenario of a lower stock price than they would have been at the higher price. At some later point, our shares would be worth perhaps $11.2 billion more than if the "high-price" repurchase scenario had taken place |
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The logic is simple: If you are going to be a net buyer of stocks in the future, either directly with your own money or indirectly (through your ownership of a company that is repurchasing shares), you are hurt when stocks rise. You benefit when stocks swoon. Emotions, however, too often complicate the matter: Most people, including those who will be net buyers in the future, take comfort in seeing stock prices advance. These shareholders resemble a commuter who rejoices after the price of gas increases, simply because his tank contains a day's supply. |
Likewise, long-term investors should be applauding Wal-Mart's falling share price. For the first nine months of its 2013 fiscal year (which ends in January 2013), the dominant retailer has paid out 94% of its free cash flow in dividends and stock repurchases. It also raised its dividend 9%, a rate that easily trounces inflation.
The last few years, Wal-Mart has created incredible shareholder value. It bought back $4.7 billion in stock, reducing the share count about 17% since January 31, 2008. And it has converted every dollar of retained earnings since then into a $4.86 increase in its market capitalization. That's a great performance. If you like the stock, you should be happy to get the chance to buy more on the cheap.
Markets hate uncertainty. The big uncertainty right now is all about the upcoming "fiscal cliff." But let's ignore the national media's fretting over this latest "crisis"… What exactly are we facing?
There are three parts to the "cliff." The first part is tax increases… and lots of them. The special 15% tax on dividends will go away, and those distributions will be taxed as regular income. That's 39.6% PLUS the new 3.8% Obamacare tax (for a total tax rate of 43.4% on incomes exceeding $200,000 for individuals and $250,000 for households). Long-term capital gains of less than five years will be taxed at 23.8%. Five-year and longer capital gains will get hit with a total of 21.8%.
As it stands now, five out of six income brackets (including the very bottom one) will see income tax rates go up. And a temporary payroll tax reduction ends, hitting workers with a 2% tax hike.
The second part of the fiscal cliff is a whole slew of automatic spending cuts to more than 1,000 government programs, including deep cuts to Medicare and defense spending.
The third part of the fiscal cliff is its immediate effect – an approximately 50% reduction in the federal budget deficit.
It all becomes effective January 1 if no laws are passed to change it.
So you get higher taxes, a smaller government, and a smaller budget deficit. Two out of three ain't bad... but don't count on it. The spending cuts will never happen. There's not a politician alive who benefits from a shrinking government. And fewer and fewer voters want to see the government stop paying them to make babies and quit their jobs.
The government is putting on a show... No politician will willingly cut spending and upset constituents. It's suicide. You'll see a new agreement before January 1. And if that doesn't happen, Congress will make a retroactive agreement sometime after January 1. The whole thing is one giant farce, designed to convince you that things are bad and only the government can make them right…
We've seen this drama before. Remember the deadline leading up to the "debt ceiling" last year? We ignored that, too... despite the media frenzy that our government could cease to exist should we not increase the debt ceiling.
Nothing our government decides will solve our country's financial problems. Our debts and deficit are too large. Even if we doubled tax receipts, we'd still be running a deficit.
The result will be continued money printing and eventual inflation…
In the minutes published yesterday from the Federal Reserve's latest meeting, our central bank hinted at more easing, on top of what it's already doing with "QE3." To date, the Fed's efforts have not saved the economy. (It's aware of the failure, questioning "the effectiveness of current purchases" in the release.)
The Fed mentioned potential "quantitative thresholds" in the future, meaning it would target specific economic numbers (like unemployment rate or inflation) with its easing.
The message from the latest Fed minutes was clear... The central bank isn't done printing money.
Knowing that, we're happy to own shares of world-class businesses with inflation-beating dividend policies… what we call World Dominating Dividend Growers. We also like to own plenty of gold and gold stocks.
Like the rest of the market, gold stocks sold off hard recently. The Market Vectors Gold Miners Fund (GDX), a basket of gold mining stocks, is down 10% from last Thursday. While the broader market is up today, GDX dropped more than 1%.
But we expect the downtrend in gold stocks to reverse soon...
In a note to S&A Short Report subscribers yesterday, Jeff Clark said he thought the market decline was "close to the end." And he believed gold stocks would lead the rebound in the market.
If you invest in gold stocks… and especially if you'd like to take advantage of the upcoming rally in the sector… we'd encourage you to read Gold Stock Analyst, written by our friend John Doody.
When it comes to companies that mine gold, John is the best analyst in the world. As a portfolio, his Top 10 list of gold-producer stocks returned more than 1,032% between 2001 and 2011... an average of 40.6% a year. To learn more about John and his method for picking winning gold stocks, click here...
New 52-week highs (as of 11/14/12): None.
With the "fiscal cliff" consuming the news media… our mailbag is naturally getting our share of questions. Please send any questions or comments to feedback@stansberryresearch.com.
"Can you give us your 'expert' opinion on how much longer you think this posturing and arguing between the parties up in DC will cripple our investments over the looming 'fiscal cliff'?" – Paid-up subscriber Jeff Hughes
Goldsmith comment: As we said above... we don't expect the "fiscal cliff" to amount to much. If there's one thing politicians are good at, it's kicking the can down the road and making it look like an act of heroism...
As for the market... This morning in the Direct Line – his live update service for S&A Short Report subscribers – Jeff noted many of his favorite indicators are in "extreme oversold territory." He sees S&P 500 support at 1,346. (It's at 1,357 today.) It may be approaching a bottom. We expect to see a rally starting soon... perhaps as soon as tomorrow.
Regards,
Dan Ferris and Sean Goldsmith
Medford, Oregon and New York, New York
November 15, 2012
Turning 51... Are these great stocks really worth less now?... The only way to make huge money in stocks... The fiscal cliff hoax... Gold miners looking good... Buffett on IBM...