Your Best Chance at Huge Speculative Gains in the Market Today
Editor's note: Regular Digest readers know Porter believes a bubble is forming.
Of course, we can't know exactly when it will pop. It could happen next month... next year... or beyond.
But despite Porter's warnings, most of you have done nothing to prepare for it.
Today's Masters Series is adapted from a Friday Digest originally published last September. In it, Porter explains how his "Big Trade" works... and how you can use it to potentially make 2,000% returns on your investment...
Your Best Chance at Huge Speculative Gains in the Market Today
The inevitable outcome of the policies around the world's central banks is unprecedented amounts of global overcapacity. Why?
Well, just follow the money.
When credit is too cheap (or free... or better than free), vast amounts of new money will be borrowed. Look at the huge amounts of capital that have been invested over the last decade in discovering new oil resources – about $700 billion annually since 2006, or about 10 times more than has ever been invested in any previous 10-year period. Can all these projects succeed? Of course not. It was only a matter of time until increases to production and additional capacity caused prices to collapse and weaker producers to fail.
The same thing is now taking place across vast portions of the global economy – not just oil and gas. Super cheap (and even free) capital has caused massive distortions in capital spending around the world. Economists from the so-called Austrian school call these "malinvestments." They're made with "funny money," not legitimate savings. These artificial booms don't produce lasting prosperity. They're merely a kind of inflation... And they're always followed by a sharp collapse.
That's what we're about to see. It's obvious that far too many capital projects have been started. Too much risk was taken in industries and countries all around the world. Now we see profit margins and earnings falling, because there's far too much supply. We see defaults rising as weaker producers fail. And we see production stop growing and begin to decline. Employment will decline next... And then defaults will really begin to grow.
So... do we actually see these trends playing out around us? Absolutely.
Even if you don't really understand why, I know you'll understand this...
Governments around the world have brewed up the biggest economic hurricane in the history of capitalism. They've printed so much money that they've warped the entire global economy, financing absurd surpluses in markets all around the world. That is crushing profit margins, causing default rates to rise and production to fall.
Look at China's debt expansion. Total private debt grew from $5 trillion to $25 trillion in just the last 10 years. And no surprise, you'll find tens of thousands of empty apartment buildings all over China. You'll also find huge stockpiles of raw materials.
Look at the United States' $80 billion auto bailout. You'll find record car sales through last December (though they declined in the first half of 2017), but falling earnings for some of the major carmakers. You'll also find electric carmaker Tesla has never made any money and now has total debts of almost $8 billion. And investors believe the company is worth $50 billion!
Over the last several years, governments and central banks around the world have created a bubble that's bigger and more dangerous than any other in the history of capitalism. It has grown so large that investors have come to believe that bonds should have a negative yield... that falling production doesn't matter... and that companies that can't even repay their debts should be worth tens of billions.
Eventually, the enormous consequences of this huge, global bubble are going to be recognized. The storm is on its way. We know it because rising default rates will cause bond investors to panic. Bond prices, which are now at all-time highs, will plummet. That will cause the cost of capital to soar, sending equity prices crashing. The die is cast. But incredibly, despite the inevitable nature of this coming default cycle, "hurricane insurance" has virtually never been cheaper!
Let me give you one example of the kind of trade you can still make today – either as a hedge if you're still fully invested, or as a speculation to make 20 times your money (or more) over the next 24 months or so.
Cheniere Energy is a fiction of the credit bubble. It is a financial experiment, wrapped in the veneer of an energy company.
The company is the creation of a clever stock promoter (Charif Souki). He rallied gullible investors who believed in the "Peak Oil" theory – that the world was running out of oil and production was in permanent decline. He convinced them to put up billions to build a new liquefied natural gas ("LNG") import plant on the Gulf Coast. (The previous five LNG plants that had been built in America all had gone bankrupt.)
Sure, there's no plausible economic reason to import LNG to North America, which has immense natural gas resources. The business model was akin to bringing sand to the beach. Nevertheless, in the "Peak Oil" madness of the mid-2000s, investors stupidly fell for the idea. (For the record, we warned about the company at the time. See the June 2006 issue of my Investment Advisory newsletter, titled "Madness.")
Cheniere soon collapsed under the weight of its debts and its absurd business model. But then... cheap capital came to the rescue. Souki figured he could simply borrow enough money to turn the whole project around. Cheniere wouldn't import natural gas, it would export it. It sounds like a joke, but that's exactly what happened.
Switching business models after your build-out is expensive. In total, the company has accumulated $24 billion worth of debts over its lifetime. Sadly, it has produced zero profits. And the future doesn't seem bright, either.
You see, the entire economic rationale for exporting LNG (which has to be chilled to around negative 260 degrees Fahrenheit) was that it was illegal to export crude oil. Thus, LNG was thought to be one of the few legal ways to export America's soaring energy production.
Good idea, in theory. Trouble is, Congress changed the law. Now you can simply pump crude oil onto a boat, which is far cheaper than chilling natural gas to negative 260 degrees.
So... who is going to pay for all of Cheniere's LNG and all of its debt?
Nobody will.
Just as sure as you're reading this Digest, Cheniere will declare bankruptcy during the next credit-default cycle, wiping out its equity holders and probably 80% or more of its debt. That's why last year, Wall Street's best short-seller, Jim Chanos, called Cheniere one of his best short ideas... or as he put it, "financial engineering gone crazy."
And yet, today Cheniere still has a $48 share price and an equity value of $11 billion.
More incredibly, for only $0.60 you can buy a put option with a $20 strike price that's good through January 2019.
That means, for $0.60, you can buy the right to sell Cheniere for $20 any time before January 2019.
If Cheniere goes to zero before that point, you can still sell your shares for $20, earning $20 for $0.60 invested, a return of 32 times your capital.
And even if you're only half-right, you'll walk away with a profit. If shares trade at $10, you would still make 15 times your money. In other words, even if Cheniere doesn't actually default before then (and it might not), you'll still do very well.
My bet is that equity holders are going to wake up at some point in the next year or so and realize that they're never going to see a penny of dividends, and that this company is just a debt bomb waiting to explode. The share price will one day take a huge dive to less than $10. And you'll end up making something between 10 and 15 times your money on that day. I'd say there's a 90% chance of that happening at some point in the next 12-18 months.
That's what happens during a credit-default cycle. Everyone wakes up and realizes how stupid they're being. Or as investing legend Warren Buffett says, "Only when the tide goes out do you discover who's been swimming naked."
How should you use this kind of information?
Let's say you have a $1 million portfolio. And let's say you're not stupid. You can see what's coming. You've raised some cash (20%). You've bought some gold and other hedges (20%). But you still have something like 30% in stocks and 30% in bonds – your core, long-term holdings. You're going to be fine as this whole thing explodes because you're diversified and you've raised cash.
But why not turn this situation into a windfall?
Let's say you take half of your cash (10% of your portfolio) and you buy the kind of insurance I'm suggesting – long-term put options on companies that are headed for bankruptcy, like Cheniere. To increase your odds of success, you don't buy puts on just one company. You buy 10 different positions. And you diversify across time, too. You buy a little bit of insurance every month for the next year. Any time the VIX hits new lows, you can buy puts cheaply.
And let's estimate that you only end up doing half as well as I described above. Instead of making 10- or 15-times returns, you "only" make five-times returns. Investing just 10% of your portfolio, you'll have generated $500,000 in profits, enough to equal 50% of your entire portfolio.
Another way to look at this approach is... even if you lose 100% of your money on nine out of 10 of those put contracts, you'll still make a lot of money on the 10th. Making five times your money with this strategy is the least I expect is possible. I think making 10 or 15 times your money isn't unlikely. And I'm sure that we'll make 20 times on at least one or two of these trades.
Sadly for our country, it will not be hard to execute this trading strategy over the next several years.
To help you get started, we've created our own index of deeply indebted stocks that all have serious flaws with their business models. If you're going to shoot fish in a barrel, you have to pick the fish first.
As you may know, the best index of high-quality, blue-chip stocks is the Dow Jones Industrial Average. It has 30 component stocks.
We're calling our group of debt-financed losers "The Dirty Thirty." You can think of them as the polar opposite of blue-chip investments. These are more like giant toilet bowls of vastly inflated garbage.
Just wait until you see these losers...
On average, companies in The Dirty Thirty have market capitalizations of around $17 billion. These are big companies. And they're carrying huge debts. On average, they're carrying more than $24 billion worth of debt.
None of these companies, in our opinion, has any reasonable chance of repaying its debts... or refinancing them. Last year alone, this group paid more than $21 billion in interest expenses.
Meanwhile, these companies are trying to support more than $700 billion in debt.
That's more money than Fannie Mae and Freddie Mac lost combined on their mortgage investments during the last crisis. And that's just the debt we expect will go bad from the 30 worst corporate borrowers in the U.S. Trust me, what's coming over the next two to five years is going to be worse – a lot worse – than the mortgage crisis.
Here's my favorite stat about The Dirty Thirty, America's leading corporate deadbeats. As a group, over the last 10 years, they've lost $47 billion in cash. That's the net free cash flow from this group of companies over the past 10 years. Now, you can argue if you want that much of these negative cash flows were capital investments. And I'm sure that's true. But the point of making capital investments is to build profitable businesses. And over the last decade, that hasn't happened.
These firms have taken billions and billions of the credit made available by the central bank... and they've squandered it. As these debts come due, it simply won't be possible to extend the charade. Not because interest rates are necessarily going to increase, but because investors can't finance companies that lose this much capital year after year.
Using this universe of the worst corporate credits, all we have to do is drill down into the individual names to figure out who offers us the best risk-to-reward setup in terms of put-option prices, which will change from month to month. We can also dig into the debt structures of each individual company to figure out when critical parts of its capital structure are going to mature.
In short, not only will we know who is going to go bankrupt... we'll know when. And we'll know which individual options contract offers us the most upside.
As you may know, at the heart of our distressed-debt research service (Stansberry's Credit Opportunities) is a huge analytical engine we built to develop our own proprietary credit ratings. Most of the time, our ratings (on around 40,000 separate bond issues) match the major credit-rating agencies'.
But not always.
Where we find discrepancies, there are tremendous opportunities for investors – both on the long and the short side.
High-yielding bonds trading at a big discount to par can be outstanding investments, as long as they don't default. (And so far, our investments in this space have been outstanding, with annualized average returns of nearly 30% and just one minor loss.)
We've used the same database to find The Dirty Thirty.
On average, these 30 companies have a Stansberry Research credit rating of "5" – which is deeply distressed, and one notch above "Toxic." Just think about that for a minute... More than $700 billion of corporate debt that is trading right now is only one notch above "Toxic" – and that's only the debt of the 30 worst issuers.
As the coming credit-default cycle builds, I have no doubt that at least 90% of these firms will see their credit ratings downgraded by the major ratings agencies, a move that will cause their share prices to plummet.
Two important words of warning...
One, I wouldn't ever recommend buying expensive options. During the crucible of the last crisis in the fall of 2008, I began recommending selling options on high-quality companies because the prices on put options had gone up so much. The VIX soared past 80 at times. These trades were highly profitable – on average, we made 50% measured against capital at risk on each put we sold.
Therefore, for my "Big Trade" to work, we can only buy puts when they're cheap.
And as the economic data get worse and worse and the default rate on corporate bonds increases, puts will become much more expensive. You can't wait until these problems are obvious to other investors. You have to build these positions now, before it's too expensive to buy the insurance you need.
Secondly, a lot of big investors are quietly getting positioned in just the way I've outlined here. The only way for really big investors to position themselves for this "Big Trade" is to simply bet against the entire pool of high-yield corporate debt, as there's just not enough liquidity to bet billions against individual names.
If you look at the short-interest bets against the biggest high-yield exchange-traded fund, the iShares iBoxx High Yield Corporate Bond Fund (HYG), you'll see that it's reaching record proportions.
Just as a handful of major investors made billions and billions in the last "Big Trade" (shorting mortgage securities), a handful of hedge funds and big investors will make a killing as the corporate-debt mania blows up.
I'd like to help you join them.
That's why we launched a research service called Stansberry's Big Trade to track The Dirty Thirty.
We will use the low cost of put options to make huge, 10- to 20-times gains as the corporate-default cycle develops and hundreds of companies default on their debts, wiping out their equity investors.
You should think of this service as the "flip side" of our work in Stansberry's Credit Opportunities. We're already analyzing 40,000 corporate bonds every month. Rather than just looking for high-yielding names that we're confident won't default, we can easily flip our analysis upside down and find bonds we're certain will default. When those names have big equity values (and cheap put options), we'll make our trades.
This isn't just the best way for you to hedge your portfolio. It's the best opportunity for huge speculative gains I've ever seen in my career.
Regards,
Porter Stansberry
Editor's note: We can't be sure when exactly the bull market will end. But a certain group of companies has borrowed nearly $1 trillion in debt that it has no chance of every repaying. And when the bubble pops, many clueless investors will be wiped out... That's why Porter has reopened the door to one of his most exclusive advisories – Stansberry's Big Trade – and is showing readers how to make 10 to 20 times their money as these companies inevitably go to zero. Learn more here.