Thu, Jun 20, 2013|Sean Goldsmith

At ValueX Vail...

At ValueX Vail... Good stock idea... Bernanke spooks the herd... Gross and Gundlach's bond price rebound... 'Own physical metals'...

I (Dan Ferris) am in Vail, Colorado for the ValueX Vail 2013 Investing Conference.

Organized by well-known value investor and author Vitaly Katsenelson, the nonprofit Vail event is small and by invitation only. All attendees must make a 15-minute presentation.

Last night, we started off with a slew of good presentations. My favorite was Alex Rubalcava. Alex is something of a whiz kid, who started a one-man money-management shop at age 24. He made an excellent case for buying shares of Mueller Water last night.

Mueller makes all kinds of fixtures for water-transportation systems. Many of their products are specified by building codes, so it's almost illegal not to use them. It's the No. 1 or No. 2 supplier in many of its markets. It has just three serious competitors. The last one entered the market in 1905. Mueller itself was formed in the 19th century, as were its other two competitors.

Right now, Mueller is operating at about 55%-60% of its manufacturing capacity. And it's still able to raise prices and generate positive operating income. Rubalcava said the company's business will benefit from the ongoing housing recovery, but it's not too late to buy the stock because its business tends to trail the housing market. So the stock is still cheap today.

Other companies presented were mortgage REIT Redwood Trust, diversified Italian conglomerate CIR, railcar maker Trinity Industries, professional wrestling organizer World Wrestling Entertainment, and defense contractor Engility.

All the presenters are investment professionals, so everybody knew his stuff. But I thought Mueller was the most compelling idea. I'll hear more presentations tonight and tomorrow.

I can't tell you the company I'm presenting, but it's a natural resources firm Extreme Value readers know well.

Another great talk last night was by Win Murray, head of research for money management firm Harris Associates. Harris has about $90 billion under management and manages the well-known Oakmark mutual funds. It's a dyed-in-the-wool value investing shop. It only buys cheap stocks with shareholder-friendly management teams and good underlying growth characteristics.

Win began his comments describing the culture and style of Harris Associates. I was surprised to hear that seven of the 10 highest-paid people in its U.S. equities group are analysts, not portfolio managers. I was also surprised that the company prohibits its portfolio managers – even headline-making stars like Bill Nygren and David Herro – from investing in anything the analysts deem off limits.

I'm looking forward to tonight's presentations. Famed short-seller Jim Chanos will be among them. I've never met Chanos, who heads the Kynikos Associates hedge fund. Should be interesting.

Federal Reserve Chairman Ben Bernanke spooked investors yesterday...

This debate has been raging for months... whether the Fed was getting ready to cut back on its $85 billion in monthly bond purchases. The market knows Fed easing will eventually coming to an end. But how soon?

So Bernanke's announcement that the Fed would continue its purchases (and continue monitoring the "improving" economy for a tapering point) should not have surprised anyone... It certainly shouldn't have sent markets tumbling as it did.

Bernanke has tied his bond purchases to unemployment and inflation. He's indicated that the Fed may dial back its purchasing if inflation hits an annual rate of about 2% annual inflation, compared with the officially reported 1% today. The government reported today that the official unemployment rate has fallen 200 basis points (one one-hundredth of a percent) to 7.6% today. But it's still not optimal. As we pointed out yesterday, the average unemployment rate between 2000 and 2010 was 5.9%.

So yesterday's announcement wasn't shocking. Still...

The Dow dropped over 1% yesterday... 10-year Treasury yields spiked above 2.3%... And gold dropped $37 an ounce to $1,351.30.

And the carnage continues today...

The Dow closed down another 354 points (a 3.4% drop). Gold is down to about $1,280 an ounce, and silver is trading for less than $20 an ounce – both metals are around 2.5 year lows. And the 10-year Treasury yield closed at 2.42%...

Since bond prices fall as the yield rises... anyone holding Treasurys got whacked today. Few people hold more government debt than Bill Gross – co-CEO of PIMCO and manager of the world's largest bond fund – or Jeff Gundlach – CEO of bond manager DoubleLine Capital. Both bond gurus expect Treasurys will rally again (yields will come back down).

These guys are both "talking their books" – a rising bond market is good for their portfolios. But it's still worth listening to their opinions.

Gross, a longtime skeptic of Bernanke and his policies, believes easing will continue for some time. And he believes Bernanke's views of the economy are simply wrong. He told Bloomberg:

Based on what [Bernanke] said, based upon what the Fed estimates have given us in the last hour it suggests that yes, towards the end of the year, as we hit 7.25%, and if inflation rises as opposed to [staying] at 1% that the Fed would begin to taper and that ultimately they would end tapering in perhaps the first quarter of 2014. Is that a realistic possibility? At PIMCO, we don't think that really is.

We think the chairman and the Fed are taking a very much of a cyclical type of view. He blames lower growth on fiscal austerity and expects towards the end of the year once that is gone, all of the sudden the economy will be growing at 3%. He blames housing prices moving up on homeowners that simply like higher home prices as opposed to emphasizing the mortgage rate, which is really what has provided the lift in the first place.

To certain extent his driving analogy, which he talked about pulling back on the accelerator, I think he might be driving in a fog. I think the Fed itself may be driving in a fog. To think that is a cyclical as opposed to a structural problem in terms of our economy. I simply think, and PIMCO thinks, that real growth to lower unemployment below 7% is a long shot over the next six, 12, 18 months.

Jeff Gundlach, speaking with the financial news network CNBC, said he expects a bond rally soon...

I think the place – the one place – that you're likely to make money in the next several weeks, maybe couple of months, is actually, believe it or not, the most hated asset on the planet: Long-term U.S. government bonds. That's what I think is going to be the most successful investment.

Gundlach believes bonds will rally because we're not seeing inflation yet, especially in the commodities sector...

Look at where copper is. Look at where gold is. Look at where gold is in foreign currencies. It's hitting new lows in terms of Japanese yen. It's hitting new lows in terms of the euro. It looks like it's about to hit new lows even in terms of the dollar, which has been a weak currency. So gold should be going up in dollar terms.

Gundlach does believe the Fed will reduce purchases later this year. But as we pointed out above, the market expects that.

Still, the market action of the past two days further proves today's prices have nothing to do with fundamentals. Everything is being propped up by trillions of dollars the Federal Reserve has pumped into the system.

And while bond prices may rebound – as Gross and Gundlach predict – over the short term, over the long term, we're certain they will crash.

Porter says the coming bond-market crash is "without a doubt the single greatest threat to your wealth you will ever face." And it will result in "the largest destruction of wealth in history," as he wrote in the May 10 Digest.

Whether the crash comes tomorrow or in the next two years, you need to start preparing. At the very least, you need to own physical gold and silver. We repeat: Own physical metals. And as Porter wrote in the June 7 Digest... make sure it's real, hold-in-your-hand physical bullion, and not some paper receipt or investment that claims to represent a share of some gold somewhere...

When this house of cards finally collapses, the holders of dollars, euros, and yen will suffer a giant wipeout. Gold, the currency central banks cannot print, will double, maybe even triple in price. That's why I encourage everyone to hold a large allocation of gold. But take your position soon...

Contrary to popular perception, the supply of real gold is vanishing – quickly.

Millions of people, perhaps even you, are "buying" gold investments without ever seeing, holding, or possessing this gold in any way. This enables companies to sell gold in the form of certificates and shares for which the actual bullion doesn't really exist.

Mark my words: In the next few years, scandals will erupt all around the world. It's going to send shockwaves through the industry. "Share" gold investments like exchange-traded funds could get hit hard, whether they really have the gold to back up their shares or not.

But owning gold is only the first step you should take to protect you and your family from the coming crash. This is the big one... Unlike in 2008, the Federal Reserve has exhausted all ways to "solve" the problem... Interest rates are already at zero. And the Fed has been pumping trillions of dollars into the economy for the past five years. What's left to do?

We've prepared an entire "toolkit" you can use to start fortifying your wealth... It includes special reports like...

• How to Get Some of Your Money "Off the Financial Grid"
• The U.S. Government's Secret Gold Glitch
• How the Rich Make a Fortune During a Currency Crisis

New 52-week highs (as of 6/19/13): DCP Midstream Partners (DPM) and short position in iShares Barclays 20+ Year Treasury Bond (TLT).

More positive feedback on one subscriber's observations about our increasingly autocratic government. Send your comments to feedback@stansberryresearch.com.

"Mark Pittman wrote a truly powerful perspective. Thank you for publishing it all; there was no 'fat' on it." Paid-up subscriber John Matthew

"Congratulations for publishing Mark Pittman's essay. It is spot on and, unfortunately, quite accurate in a dictator's timetable. The U.S. has never been this close since FDR's first term." Paid-up subscriber A. Rutherford

Goldsmith comment: Mark Pittman's comments in Monday's Digest on fascism in America generated loads of feedback. It seems many subscribers also see America sliding into fascism. Whatever labels you want to use... it's true that socialism inevitably leads to an oppressive, totalitarian State. As we've noted many times, government doesn't produce anything. It can only give to one person what it has taken from someone else. The bigger its promises and obligations grow, the more blatant and coercive its taking becomes.

For now, the U.S. government's ability to print money holds off the worst abuses. Today, the government can print all the money it wants. So it doesn't have to break out its most extreme measures. But when it loses the option to print... watch out.

In the June issue of his Investment Advisory, Porter highlights some disturbing signals from the bond market that the global, paper-money system is failing. Should the Treasury bond market implode and our creditors no longer want our dollars, the government may feel it must resort to "extraordinary measures." As Porter wrote in the issue – titled, "A Return to Crisis Conditions" – "There's nothing more dangerous than a colossal, bankrupt, and well-armed government."

Digest readers can also read Porter's thoughts on the topic in the June 7 issue.

Regards,

Dan Ferris and Sean Goldsmith
Vail, Colorado and Miami Beach, Florida
June 20, 2013

Why this company's value could be less than zero...

In today's Digest Premium... we continue our analysis of one of Porter's favorite short sales. This company's management has a long history of misallocating company funds in one especially damaging way. Its blunders could soon destroy its equity...

To subscribe to Digest Premium and access today's analysis, click here.

Editor's note: Today, we're completing our excerpt of Porter's recent short recommendation of Hewlett-Packard, which we started yesterday.

The analysis is drawn from his recommendation in the May issue of Stansberry's Investment Advisory. (Subscribers can access the full issue here.)

Since we published Porter's short analysis… HP shares have risen along with the general market rally. (Remember, when you're short a stock… you profit when shares fall.)

Today, the stock has traded down with the market… though the position is still showing a loss.

However, nothing about the company's finances has improved. We still believe the stock is destined for a fall and is an excellent short-sale candidate.

It was one of the most embarrassing wastes of corporate money in history…

In November 2012, a year after paying $11 billion for a software company called Autonomy, Hewlett Packard (NYSE: HPQ) management announced that it had overpaid by about $9 billion...

Even in an industry as accustomed to stupid management decisions as the tech world is... the debacle was astounding. The finger-pointing began almost immediately. Board members and high-ranking executives placed blame on one another. Some large investors began to call for an ouster of the board of directors. When the dust settled, HP ended up suing Autonomy, claiming the software firm had inflated its numbers.

One man was laughing from the sidelines. Oracle CEO Larry Ellison famously said, "Autonomy was shopped to us. We looked at the price, at that time only $6 billion, and thought it was absurdly high!" Oracle even set up a website called "Please Buy Autonomy" mocking the transaction...

HP's $9 billion Autonomy debacle wasn't the company's first bad acquisition... And we doubt it will be the last...

If an acquisition isn't working out, the company is forced to write down the value of the goodwill by booking an "impairment" charge. This is what happened with HP's $11 billion Autonomy purchase. It took HP's accountants less than a year to figure out HP should have only paid about $2 billion and wasted the $9 billion.

Making matters worse, in the 12 months leading up to the Autonomy announcement, HP had booked impairments on two other transactions – totaling another $10 billion. That's $19 billion of impairments in less than two years. As we'll show... this will eventually catch up with HP…

HP's market cap is around $40 billion and its book value is about $23 billion. So HP trades for around 1.7 times its book value. We say its price-to-book value (P/BV) ratio is 1.7x.

That sounds pretty cheap, especially compared with its competitors. But let's look more closely. Even after recording $19 billion of impairment charges, HP still has $36 billion of goodwill and intangibles on its books. That means 33% of its total asset base is of questionable quality... and vulnerable to more write-offs.

And its $28 billion in debts exceeds it book value.

Much of HP's current goodwill relates to its $24 billion 2002 acquisition of fellow computer-maker Compaq. HP has been booking impairments and other adjustments to the Compaq goodwill and intangibles for years. The most recent impairment was the $1.2 billion write-down it took in 2012. Its goodwill and intangibles also include past acquisitions of the firms 3PAR and ArcSight. This makes us nervous, especially considering the unbelievably rich multiples HP paid for these businesses (325x and 57x earnings before interest, taxes, depreciation, and amortization, respectively.)

Given HP's history of multibillion-dollar impairments and charges... what would give an investor confidence that its $36 billion in goodwill and intangibles is sound? HP is only a couple of Autonomy-type blunders away from having negative book value (meaning the value of its liabilities exceeds the value of its assets).

This is why we say HP's case includes a bit of "fraud." Let me be clear... we don't mean that in any legal sense... We have no evidence that anyone involved with HP is acting illegally. All we mean is that all this imagined "goodwill" value makes HP's balance sheet look much stronger than we believe it is. Eventually, as the write-offs continue, investors will see a large share of the value vanish with the swipe of an accountant's pen.

This temporary market infatuation with HP offers us a fantastic chance to open a short position. We recommend you short Hewlett Packard (NYSE: HPQ) when shares trade for more than $20.

– Porter Stansberry with Sean Goldsmith

Editor's note: We know… many people are reluctant to try selling stocks short. We think that's a mistake. Short selling is simply an investment that profits when the price of a stock falls. The process for investors is no more complicated than buying shares.

If you've never shorted stocks, we encourage you to try it… Keeping a few short positions in your portfolio is an important tool to protect yourself in a sharp market downturn.

Why this company's value could be less than zero...

To continue reading, scroll down or click here.

Why this company's value could be less than zero...