A profoundly simple way to greatly increase your results...

Why unions are so dangerous... and why I think that's changing...

Cities in the United States face tens of billions of dollars in unfunded liabilities, thanks to the large pensions unions have negotiated with local governments. There's no way these pensions can be paid.

In today's Digest Premium, Porter describes why the entire compensation system for unions is about to change.

To continue reading, scroll down or click here.

A profoundly simple way to greatly increase your results... Who's better at selling: Our editors or Dr. Smith's computer?... A new kind of trailing stop...

In today's Friday Digest... I (Porter) return to tilting at windmills. That is, I continue my lonely, thankless, and expensive quest to teach our readers something valuable... or even profound... about investing successfully.

I believe these efforts are completely futile for two simple reasons. First, there's human nature. I don't believe it's possible to teach anyone anything. Or as I like to say: There is no teaching; there is only learning.

The overwhelming majority of people reading this letter will not have the time, patience, or desire to learn anything from what I've written. Second, I know from experience that sincere efforts to educate our subscribers cause massive demands for refunds. We receive far more demands for refunds on Monday than any other day of the week. Many of these demands are accompanied by a specific complaint about my Friday Digest.

That will be especially true this week. I'm certain today's essay will cause a virtual avalanche of refunds. I believe writing this essay and sending it to my subscribers will cost my business at least $100,000. That's the minimum. In truth... the amount of refunds demanded as a result of this essay could easily exceed $1 million. Why?

As you'll see... I'm about to describe a weakness in the newsletters we publish, and I'll give you a simple way to vastly improve your results – without ever buying anything from us again.

In short... while our recommendations beat the stock market (handily), our advice on when to sell is far from perfect. There's a simple way to greatly increase your odds of selling at the right time. Using this strategy will add dramatically to your results.

Why would I go out of my way to tell you that our investment "exits" have been far from optimal? Let me explain…

I conduct our business in this unusual way for a reason. I began publishing these letters from my kitchen table in August 1999. I started with one employee (me), one laptop computer (borrowed from my friend Dan Denning), and one business partner, Bill Bonner. With these tools and lots of talented people we added along the way, we built the largest independent financial advisory in the world. It's a business that now employs more than 150 people and serves millions of readers.

The primary reason we have been so successful is that from Day 1, I was committed to only publishing the strategies and recommendations I truly believed in. I knew my parents and many of my lifelong friends would read our advisories and follow their recommendations. You may be surprised to learn that many other financial publishers don't care whether their advisories are useful and profitable to their readers... And they will actively publish advisories they know are most likely to be destructive to their subscribers' net worth.

Perhaps that's why we continue to be the only major financial publisher who routinely (each year) publishes complete track records for all our products and offers a risk-adjusted assessment of each product's results. Our commitment to serving our subscribers' interest and our dedication to doing so independently has allowed me to successfully recruit the most talented people in the industry to my company. It is fair to say that Stansberry & Associates Investment Research has become the most desirable place to work in financial publishing – by a wide margin. It's our ability to recruit and retain great talent that provides us with our moat against the competition.

By publishing research that's useful to our readers even when it might be detrimental to our financial results (in the short term), I am constantly reminding my staff about the true purpose of our endeavors. And I'm proving to our subscribers that we are a business that can be trusted. We're here to serve you.

And while we will undoubtedly be wrong from time to time (the future is awfully hard to predict), we will always be honest with you. We will never put our financial interests ahead of your financial well-being. As my partner, Bill Bonner, taught me long ago: We cannot guarantee our success... but we can deserve it. Maintaining this culture of excellence is what allows us to recruit and retain the most talented people in our industry.

And so today, I will offer some long-term performance data on three of our most valuable properties: Extreme Value, True Wealth, and Stansberry's Investment Advisory. I will share with you the surprising results from an analysis of our products.

The results aren't flattering to us. But it's important, and you should know about it. After all, if our roles were reversed, this is precisely the kind of information I would want from you.

Here's an interesting question that anyone who reads our newsletters would probably like to have answered. Out of all of our different newsletters, which have the best long-term track records? And using our newsletters, what gives you the best results – selling when the editor recommends or simply using a mechanical trailing stop loss?

To find those answers, Richard Smith, the founder of TradeStops.com, analyzed the results of three of our most valuable newsletters over the past 10 years. Dr. Smith studied math at the University of California Berkeley. And he holds a PhD in systems science from The Watson School of Engineering at SUNY Binghamton. He owns his own huge database of securities prices and has a large team of programmers. He's done extensive statistical analysis for major pharmaceutical companies.

In other words, while it's unlikely that any 10-year study with several hundred data points will be completely error-free, this study was conducted with as much statistical rigor as modern computer technology can produce.

Now... before we go any further... I want to acknowledge a fundamental weakness of this kind of analysis. There are lies, damn lies, and statistics… And then, there are the worst lies of all – newsletter track records. Any analysis of a series of newsletter recommendations (even when they've been honestly kept) will suffer from the differences between an actual portfolio (which has a start date, a finish date, and a specific amount of capital invested) and a series of recommendations (which has an unlimited capital requirement and a rolling investment period). This makes comparing any particular newsletter to a market index or a given investment fund impossible. That's part of the reason we publish the S&A 16 – a model portfolio – each quarter. This allows us to compare a whole portfolio, over a discrete period of time (one year) to the market.

On the other hand, if your goal is merely to compare various newsletters, then looking at the series of their recommendations is all you really need. The purpose of this study was to discover which letter's results were the best over the period, using simple averages. And it was designed to discover whether these average results could have been improved by the application of trailing stop losses in place of the editors' decision to sell.

Take a look at this chart produced by Dr. Smith's study...

Two things jumped out at me. First, of course, I was happily surprised to see that my letter had performed the best over the 10-year period. Between 2003 and 2013, a subscriber to my Investment Advisory who followed all of the recommendations would have enjoyed returns of 134%. Dan's Extreme Value recommendations clocked in at about 106%. And Steve's True Wealth recommendations tallied a 79% return.

And I should note… these are all outstanding results. The stocks in the S&P 500 averaged a 28% return over the same period. So subscribers following any of these advisories did well.

I was also surprised to see how the volatility of the results decreased over time. That decrease in volatility was somewhat of a mirage, the result of studying a long series of outcomes. As the number of data points (new stock recommendations) grew over time, the volatility naturally decreased.

Now... here's the part that I think you will find most useful. Assume that rather than following our editor's advice on when to sell, you instead simply held onto every recommended stock until you hit a 25% trailing stop loss. (If you don't know what a trailing stop loss is or how to use it, I wrote about them in detail here.) In short, it's a selling discipline that says you'll close a position, no matter what, if the stock closes down a predetermined percentage from its high point during the time you've held it.

So… if you followed this mechanical exit strategy rather than the editors' advice, would you have made more money... or less?

The answer is more… in some cases, a lot more. Below are the results from Dr. Smith's study where he found the optimal trailing stop for each newsletter. It shows the percentage trailing stops that maximized profitability without taking on any additional risk. Just to be clear here, these are mechanical stop loss strategies. In other words, you follow the editors' buy recommendations, but disregard their sell advice and strictly follow a trailing stop loss.

What's particularly interesting here is that in most cases, a mechanical trailing stop strategy would have matched or improved profits and reduced volatility.

This work raised an interesting question… If a single fixed level of trailing stop (e.g., always use a 25% trailing stop) improved the performance for all our newsletters, is it possible to further increase average results with a strategy that fine-tunes the stop to each recommended stock? The answer here, too, is yes.

Dr. Smith has pioneered a new kind of stop loss. Rather than using a fixed amount (like 25%), he has invented new, dynamic stop losses that measure the normal volatility for each individual stock you own and instruct you when to sell based on movements out of the normal range.

I can't tell you too much more about this research just yet though because it isn't ready to be released to the public. You will undoubtedly be hearing more about this research from me in a future Digest.

But looking at just these results, I am more convinced than ever that for individual investors holding a diversified portfolio (say more than 10 securities), trailing stop losses will undoubtedly increase your returns over time.

They work because they will keep you from experiencing any catastrophic losses, which is the real key to success in equities over time. They also work because they will force you to raise cash during the early part of major market declines. This will help ensure that you have "dry powder" to buy at market bottoms.

Based on the studies from Dr. Smith that I've seen so far, I believe that these kinds of strategies work best on top down, trend-following strategies, like the kind that Steve uses. Trailing stops may be less effective when applied to the kind of bottom-up analysis and contrarian strategies that we follow in my Investment Advisory. (But regardless… they still work.)

You will be seeing a lot more of these kinds of studies from us moving forward.

In fact, we thought Dr. Smith's work was so important to you… we've invested in his company.

Longtime readers have seen us recommend his TradeStops software as an excellent tool for monitoring the stops on your portfolio. We've always believed his program was a valuable tool for investors.

Now, we are working with him to build out a software program that will allow you to easily apply statistically valid, dynamic trailing stop losses to every investment in your portfolio. To learn more about these new tools, be sure to sign up today with TradeStops.com. You can learn more here.

And... even though a computer may have done a better job of figuring out when to close our positions… we hope you'll remember who taught you about trailing stop losses in the first place... and continue to read our letters.

We've previously discussed the Detroit bankruptcy here and here in Digest Premium. One factor we didn't discuss is the large role labor unions played in dragging the city down...

In short, the outrageous pension obligations of union employees placed an unsustainable burden on the city of Detroit. And today, Detroit faces $3.5 billion in money it must pay out to future and current retirees.

Unions and government are a very, very dangerous combination. Traditionally, working for the government was supposed to be a service to society... So even very liberal politicians historically had opposed the organization of government employees into labor unions. Franklin Delano Roosevelt famously spoke out against it, and so did Jack Kennedy.

The fear was always that the organizers of labor would be able to exert undue influence over the politicians who were depending on the government employees to do the work of governance. If the union says to the mayor, "Give us a raise or we'll vote you out of office," that's a whole different kind of organizing authority than a labor union would have in a private company.

Labor unions in a private company say give us a raise or we'll go on strike... Then, the company has to negotiate with them and figure out what it will cost to replace the workers. There's more give and take. But with the labor union and the government, there is no give and take. There is really no way to negotiate with a well-organized government labor union.

And as soon as unions were allowed to organize in states and municipalities, you saw an immediate increase in wages and benefits for government employees that was not balanced against the public interest. And so, for example, you have lifeguards retiring in California with $100,000 annual pensions. You have police officers in Alabama who are retiring with $150,000 pensions.

By the way, the question is not whether these people have earned these pensions. Under the rules that they were working under, they deserved them. The question is whether or not these pensions can be financed. The answer is, of course, they cannot.

One of the most important things you'll see throughout this current municipal-debt revolution is that local and state employees will lose the right to organize in unions. That will result in a rollback of many of the wage and benefit gains that they have made over the last 30 or 40 years. That's very bad news for government employees, but it's very good news for taxpayers.

– Porter Stansberry with Sean Goldsmith

New 52-week highs (as of 8/8/2013): Energy Transfer Partners (ETP), SPDR Euro Stoxx 50 Fund (FEZ), Fluidigm Corp. (FLDM), Fidelity Select Medical Equipment and Systems (FSMEX), Fuel Systems Solutions (FSYS), Laredo Petroleum Holdings (LPI), Medtronic (MDT), 3M (MMM), Sequoia Fund (SEQUX), and Constellation Brands (STZ).

In today's mailbag… a subscriber follows up Agora founder Bill Bonner's suggested "dark horse" candidate for the Federal Reserve with a suggestion of his own. And another reminds us of the power of doing. Send you e-mail to feedback@stansberryresearch.com.

"Ron Paul as the Chairman of the Federal Reserve would fight to allow external auditors to expose the corruption of the Wall Street Elite and their government stooges and move the country toward independence from their dominance over interest rates and our currency.

"Ideally, Ron Paul would be the last Fed chairman working to abolish the criminal cartel of the bankers that has held America hostage for the past 100 years seeking to enrich the Elite at the expense of the Citizens of the United States our children." – Paid-up subscriber Stewart Hall

"How can I get in when I never sold out in the first place? There is some old expression, probably in Yiddish, about the investment skill of sitting on your butt and doing nothing." – Paid-up subscriber Merle Betz

Porter comment: Well, Merle, it's not in Yiddish… But we published an entire Friday Digest on "The Power of Doing Nothing" in May last year.

Regards,

Porter Stansberry

Baltimore, Maryland

August 9, 2013