Why Investors Should Consider These Two 'New Songs' Today

Netflix's 'bleak future' turns into its bleak present... Investors punish the stock over loss of U.S. subscribers... We've seen this movie before... A question worth asking yourself before putting money to work... Why investors should consider these two 'new songs' today... Doing this might save your financial life...

Editor's note: With Digest editor Justin Brill on vacation, we're turning once again to Extreme Value's Dan Ferris for his latest commentary on the markets.

In today's Digest, Dan looks at the latest bad news from online-streaming giant Netflix (NFLX), shares a question you should ask yourself before investing right now, and explains why folks should consider two "new songs" when figuring out how to spend their money...

Well, that didn't take long...

In yesterday's Digest, my colleague Bill McGilton spelled out the changes that will soon come to the media industry. More specifically, he highlighted how increased competition across the over-the-top ("OTT") media market will cause Netflix to suffer.

Bill noted that entertainment giant Disney (DIS) "will soon become a dominant player in the OTT market." As it prepares to launch its own OTT service in November, Disney is pulling its content from Netflix. But other companies are joining the party. As Bill noted yesterday...

In the fall, consumer-electronics giant Apple (AAPL) will launch an OTT service called "Apple TV+." It will feature exclusive, original content from beloved talent like Oprah Winfrey, Steven Spielberg, Reese Witherspoon, Jennifer Aniston, and more...

AT&T plans to launch its WarnerMedia OTT by the end of the year – incorporating exclusive content from its acquisition of Time Warner.

Pay-TV juggernaut Comcast's (CMCSA) media subsidiary, NBCUniversal, plans to launch its own OTT in 2020. It will be supported by advertising and feature TV shows and movies from NBCUniversal's existing library, original content, and third-party programs.

In other words, the Internet that made Netflix's success in streaming possible over the past decade has now turned it into a middleman the "Big Media" companies don't need. As Bill concluded...

Moving forward, we can expect the OTT marketplace to be much more fragmented. And most consumers can't afford to buy all of these services. So they're going to have to make some tough choices.

No matter what they choose, one thing is clear: The future looks bleak for Netflix.

As if on cue, Netflix's 'bleak future' suddenly warped into its bleak present...

After market close yesterday, the company announced that its U.S. subscriber count declined for the first time in almost 10 years.

The company lost roughly 130,000 U.S. subscribers in the second quarter of the year, compared to the end of the first quarter. It added 2.7 million total paid subscribers worldwide, but that was much less than its 5 million forecast. And it was also only about half the 5.5 million global subscribers it added in the second quarter of 2018.

Not surprisingly, investors punished Netflix's stock today...

Shares closed at $325.21 – down more than 10% from yesterday's close of $362.44 per share.

Of course, despite today's drop, Netflix's stock is still up more than 20% year-to-date. And it's a 56-bagger over the past 10 years, according to Bloomberg data.

The stock hit an all-time high of nearly $419 per share about a year ago. Then, it lost roughly 45% of its value during the market rout last fall, falling to as low as around $233 per share in late December. Since then, it has recovered strongly... along with just about everything else.

Until today, that is.

But because of its long-running success, Netflix's stock is still very expensive...

That could indicate that many folks believe the company will shake off the latest bad news.

That's just human nature. You expect the good times to last far longer than you should. But that sort of thinking can get you into trouble in the markets. As I said in Tuesday's Digest...

That's how it goes, doesn't it? It's not the risky stuff you need to worry about...

For example, everybody knows cattle futures and junior mining stocks are risky. That's why investor demand for them is always pretty low... Few people are interested in taking those kinds of risks.

It's the allegedly safe, "can't lose" investments that you need to watch out for.

For too long, Netflix and other high-flying stocks have been considered no-brainers – the "best of the best" stocks that you could buy at any price and hold indefinitely.

We've seen this movie before...

On several occasions over the past couple years, I've likened today's "FAANG stocks" – Facebook (FB), Amazon (AMZN), Apple (AAPL), Netflix, and Google parent Alphabet (GOOGL) – to Cisco Systems (CSCO) during the dot-com frenzy.

Cisco makes routers and switches, the basic "plumbing" that makes the Internet possible. Its stock was owned by all of the top mutual funds of its day. You couldn't go wrong owning it at any price.

Until the dot-com bubble burst.

The stock peaked at $80 per share in March 2000. Today, nearly 20 years later, it still hasn't broken even yet.

It's not that Cisco wasn't a great business. It definitely was well-managed, way ahead of all its competition, growing rapidly, and gushing cash earnings. But everybody thought it was the greatest business on Earth.

When everybody on Earth thinks an investment is a no-brainer, you should question it. You should question whether Netflix's future returns will resemble the incredible 56-bagger it has generated over the past decade... or more like a company that faces increased competition in its space and just lost U.S. subscribers for the first time in almost a decade.

I'll leave it to you whether you should question the other FAANG stocks, too.

I don't question that they're incredible businesses. I question whether they're less attractive today as long-term investments when absolutely everybody knows for certain they're great businesses.

Maybe you can make a ton of money buying Netflix at 126 times earnings with competition coming out of the woodwork...

But should you bet that way?

It's a question worth asking yourself before putting your hard-earned money to work.

Bad bets can turn out well... and seemingly wonderful bets can turn out poorly.

I would say Netflix has probably been a bad bet that turned out well for a few years.

After all, no one had any reason to believe the company would have a great advantage in delivering video content over the Internet. The Internet tends to be a highly competitive place. The "winner-take-all" businesses like Amazon, Facebook, and Google tend to be the exceptions, not the norm.

For today's episode of the Stansberry Investor Hour podcast, I interviewed poker champion Annie Duke. Last February, she published the book, Thinking in Bets: Making Smarter Decisions When You Don't Have All the Facts.

During our chat, Duke told a great story about bets versus outcomes...

You might remember how the Seattle Seahawks lost Super Bowl XLIX to the New England Patriots in February 2015. The Seahawks trailed by four points with 26 seconds left in the game. They had the ball on the Patriots' 1-yard line. It seemed like they were about to score the go-ahead touchdown to win their second consecutive Super Bowl.

Seahawks head coach Pete Carroll called for a pass. The Patriots intercepted it, and the rest is history. The Seahawks lost, 28-24... giving the Patriots their first Super Bowl victory since 10 years earlier. They've gone on to win two others over the past four seasons.

The "Monday Morning Quarterbacks" fell over one another to criticize Carroll in the aftermath. Sports Illustrated called it the "worst play in NFL history." Fox Sports called it the "dumbest call in Super Bowl history"... And many others wrote similar headlines.

But ask yourself... What would have happened if the pass had been completed?

In fact, as Annie told me, there was only about a 1%-2% chance of an interception in that situation. The most likely outcome was an incomplete pass... And since it was only second down, that would have left the Seahawks with two more opportunities to score.

The Seahawks made a good decision to pass, given that the Patriots defense was likely anticipating a running play so close to the end zone. An interception was highly unlikely.

Good decision. Horrendous outcome.

Duke said the Monday Morning Quarterbacks were engaging in what poker players call "resulting" – the tendency to equate the quality of a decision to the quality of its outcome.

Resulting can get you into trouble in the stock market.

I remember having breakfast with hedge-fund legend Joel Greenblatt and a small group of investors about 10 years ago. Greenblatt was studying a group of portfolio managers' returns over a 10-year period.

I'll never forget what Greenblatt told us that morning...

The portfolio managers who achieved the best returns after 10 years had the worst returns at the five-year mark.

Imagine those five-year returns were all you knew about these managers. And it was your job to put real money to work with some of them.

Would you put any money at all into the worst-returning funds? Even if you did, you must admit it would be much harder emotionally than putting money with the five-year winners.

I wonder how many people could ever be convinced in that situation that the worst five-year returns were achieved by the most skilled managers – even though the longer-term record strongly suggested that was the case.

The point I'm trying to make is this...

Investing and pro football are hard in part because they involve elements of chance. Even when you're one of the best of the best... operating under the perfect circumstances to outperform and make a perfectly rational decision... the situation can still go against you.

I can't help being reminded of Ecclesiastes 9:11 from the Bible...

I returned, and saw under the sun, that the race is not to the swift, nor the battle to the strong, neither yet bread to the wise, nor yet riches to men of understanding, nor yet favour to men of skill; but time and chance happeneth to them all.

It's a humbling passage.

But even though "time and chance happeneth to them all," the swift, strong, wise, or skilled should not change what they're doing.

Seahawks coach Pete Carroll shouldn't change his play-calling strategy based on a single negative outcome. Those five-year portfolio managers shouldn't – and, to their credit, didn't – change what they were doing based on the shorter-term negative outcomes.

Of course, you need to be on the right side of this...

If what you're doing isn't likely to generate results in a time frame that makes sense for you, think about changing your strategy. Maybe many investors who've gotten it right for the past 10 years with high-flying stocks like Netflix should think about changing a little of what they're doing these days...

When it comes to investing, the swift, strong, wise, and skilled folks from the Ecclesiastes passage are more analogous to long-term investment strategies that time and chance have left wanting lately. For the past decade, "value investing" has underperformed other strategies. Just look at a simple comparison of the Russell 3000 Value and Growth Indexes...

The index of growth stocks has risen about 270% over the past 10 years, while the index of value stocks has risen a little more than 160%. That's a huge outperformance. And as you can see in the chart, growth stocks really took off around mid-2016. They've been on a tear ever since.

But maybe that tear is getting long in the tooth... It's worth noting that the index of growth stocks fell further during the late 2018 downturn than the index of value stocks.

I bet we'll see something similar happen – and to a much greater degree – when a bona fide bear market finally occurs. All the stuff investors are stone-cold in love with right now – which still includes Netflix, despite today's drop – will do much worse than all the stocks investors have shunned over the past 10 years.

Besides value investing, gold remains an interesting bet these days...

The metal and companies that produce it still haven't recovered from when gold reached an all-time high of $1,900 per ounce in 2011... when folks were still wringing their hands about the Federal Reserve's extreme measures to "save the world" from the financial crisis.

The U.S. dollar had fallen 38% from its 2001 high against a basket of global currencies. It was a moment of great fear about the future of the country and currency. Gold was the no-brainer of the moment. And from there, gold went the way no-brainers eventually all go...

The metal bottomed in late 2015 at less than $1,100 per ounce. Gold stocks – leveraged bets on the price of gold, as measured by the VanEck Vectors Gold Miners Fund (GDX) – fell roughly 80% from their 2011 peak to their early 2016 trough.

GDX has more than doubled off that bottom. But I bet the next gold bull market – which could already be here – will take it well above its 2011 high.

There's nothing like an asset with a five-year track record that tends to do well when bond yields are tiny or – as I explained Tuesday – negative to make a store of value with a 5,000-year track record look much better.

(I'm also willing to bet we've recommended the single best gold stock on Earth in Extreme Value. It pays a 3.5% dividend, and I believe it has 20-bagger potential. It's my No. 1 recommendation in 21 years of investing and writing about stocks. Find more about it right here.)

I know what many longtime readers who are familiar with my work are probably saying right now...

"OK, Dan... value investing and gold. We've heard this before. We get it. Sing a new song, pal."

But that's the thing...

More than a decade into the longest bull market in history, with U.S. stocks trading at their highest valuations since 1929 by some measures, value stocks and gold are the new songs.

Netflix and other enormously successful growth stories trading in the stratosphere with competition coming out of the woodwork are the tired hits of yesteryear.

With the Fed talking about cutting interest rates and stocks hitting new all-time highs recently, it's no surprise at all that investors are more confident than ever...

Our friend Jason Goepfert – editor of the excellent SentimenTrader.com service – said his "Dumb Money Confidence" indicator just "poked above 80%." And while it has been higher at various times in recent years, it's now "in the top 2.3% of all readings." Jason said these levels have preceded market downturns in the past.

Jason also noted that Investors Intelligence's bull ratio – a weekly survey that indicates market sentiment – is in the top 5% of all readings in the past 30 years.

I don't call tops, but I do know from experience that this is what they look like.

Am I telling you that if you don't sell your FAANG stocks today, you'll lose half your money tomorrow? No. I suspect a reasonable use of Stansberry Research's most often-recommended risk-control tool – trailing stops – will get you out of the building before the smoke becomes a conflagration.

Until then, would more new highs on the benchmark S&P 500 Index surprise anyone? Markets always go higher than anyone would have believed, and certainly much higher than a diehard value guy like me would ever believe!

No, I don't think it's time to panic and head for the exits.

I just think if you're prudent, you're already getting skeptical about assets priced well beyond perfection – including the crazy negative-yielding bonds we looked at on Tuesday – and you're getting a lot more interested in what hasn't worked as well in recent years... like value stocks and gold.

A final thought...

I've been on a bit of a "learning about learning" kick lately.

I've read a couple of great books on learning and related topics – like Benedict Carey's How We Learn, and Barbara Oakley's A Mind for Numbers. I also read Albert-László Barabási's excellent book, The Formula: The Universal Laws of Success, which I believe provides a very useful underpinning that facilitates better learning. (I interviewed Barabási on the Stansberry Investor Hour recently... great guy. He's brilliant and a pleasure to speak with.)

The ability to learn is the ultimate skill, the one that keeps you successful even when things are changing rapidly all around you – like today. I'd like to believe there's a way for those of us who aren't Warren Buffett or George Soros to learn to navigate such heady times.

That's a really tall order, considering that most folks would have been better off forgetting about investing and just leaving their money in an index fund and getting a life over the past few decades.

But I'm an optimist about humanity and our ability to exercise greater control over our lives. I believe most people's ability to learn is a huge untapped resource... especially older folks, many of whom might mistakenly believe they can't learn well anymore. As Barabási's Fifth Universal Law of Success states, "With persistence, success can come at any time."

So maybe investors don't need to ride out a 50% or bigger drawdown in the next downturn. Maybe more folks than anyone would ever guess can learn to avoid that kind of pain (with more than just trailing stops).

If you've been into FAANG stocks for 10 years, keep holding them... but learn to see the world differently. Learn to seriously assess different asset classes.

It might save your financial life.

New 52-week highs (as of 7/17/19): First Majestic Silver (AG), Sprott Physical Gold and Silver Trust (CEF), Dollar General (DG), Western Asset Emerging Markets Debt Fund (EMD), Franco-Nevada (FNV), SPDR Gold Shares (GLD), Barrick Gold (GOLD), Hershey (HSY), Kirkland Lake Gold (KL), Coca-Cola (KO), Lundin Gold (TSX: LUG), Medtronic (MDT), MarketAxess (MKTX), NovaGold Resources (NG), Nestlé (NSRGY), NVR (NVR), Procter & Gamble (PG), Royal Gold (RGLD), Sandstorm Gold (SAND), Starbucks (SBUX), and Wheaton Precious Metals (WPM).

In today's mailbag, a pair of subscribers share their thoughts on yesterday's Digest about over-the-top ("OTT") media services and the coming downfall of Netflix. Do you have a comment or question for us? Send your notes to feedback@stansberryresearch.com.

"Most of the millennials I know (I am 70 years old) use multiple OTT services but only pay for one or two. Several people get together and each subscribes to one service. Then they share the account and password information so all have access to all of the OTT services.

"They do not view this as stealing and will continue to do it, especially if content gets fragmented across many OTT providers. So I think the OTT war will increase this theft and hurt the business models.

"As much as I hate to pay DirecTV, I cannot get the content I want without paying multiple OTT providers – at a total cost close to what I pay DirecTV. So this fragmentation could actually help cable companies stay in business or the OTT providers would be subject to increasing amounts of theft. Their systems do not seem to be capable of catching the thieves." – Paid-up Stansberry Alliance member Craig J.

"While I agree that Netflix has some tough times ahead (I purposely do not own NFLX because of this), I don't believe that the other companies pulling their content from Netflix, or other similar services, to 'air' exclusively on their own subscription OTT platform will work out for them, neither in the short or long run, unless they can supply an exceptionally diverse array of content (at great cost; Disney may be one that could pull it off).

"As the poll quoted said, very few people will subscribe to more than a couple OTT services. When there are dozens, which it sounds like is going to be the case, none are going to have anywhere near the number of subscribers that a generalized platform like Netflix enjoys, which means that the profits will disappoint. I think the execs launching these services are thinking that people will not have a problem subscribing to a dozen (or more?). Admittedly, if each is $7/month, it's still less than the $100/month cable costs, but I think expecting subscribers to go for a dozen is a fantasy. Subscribers are used to Netflix and its cost, not 12 times that..." – Paid-up subscriber Carl S.

Good investing,

Dan Ferris
Vancouver, Washington
July 18, 2019