It's Time to Be Cautious

Checking in on earnings... Doc Eifrig: It's time to be cautious... Sjug responds to your biggest worry about China... 'What the heck does a trade war really mean?'...

Last week was a big one for earnings...

As we mentioned last Monday, roughly 40% of the companies in the S&P 500 Index were set to report first-quarter earnings.

We also noted that we were watching to see if two early trends continued to play out... Companies had been trouncing expectations. Yet the market had been punishing all but the best results.

The former trend has continued, particularly in market-leading tech stocks. Google-parent Alphabet (GOOGL), Facebook (FB), Microsoft (MSFT), Intel (INTC), and Amazon (AMZN) all reported dramatically better-than-expected sales and earnings.

Unfortunately, the latter trend has also continued... While each of these stocks initially surged following their earnings reports, each has given back most or all of those gains since.

If you're new to investing, you may be confused by these reactions...

But as our colleague Dr. David "Doc" Eifrig explained to his Retirement Trader subscribers on Friday, the relationship between earnings and stock market performance is not as clear-cut as you might expect. From the April 27 issue...

Imagine if you owned a crystal ball that could predict each company's earnings announcement. With this crystal ball, you know with perfect accuracy which companies would report earnings that beat analyst expectations and which would miss. And you can buy or sell the stocks based on these flawless predictions.

This is the goal of every investor, right? Whether you're a Warren Buffett-style value investor, a trend follower, or a day trader... at some basic level, you're trying to figure out which businesses will earn the most money so you can put your money into those shares.

It turns out, your crystal ball would be nearly worthless.

You see, research shows predicting earnings does not mean you can profitably predict stock prices. More from Doc...

In a paper published last year in the Financial Analysts Journal, two professors computed the gains you could earn with such a crystal ball.

Back in the '80s, your crystal ball would have earned you 4%-6% more than the market. That's enough to make you a superstar. Predicting earnings in the old days made sense.

But today, something has changed. In the years since, the advantage has steadily declined to about 2%. Maybe the market is getting more efficient or various accounting issues have made earnings less reliable. You can debate the reasons.

But the point is this: Even with perfect predictions, you won't earn much... And of course, no one has a crystal ball. Even if you predict earnings with, say, 80% or even 90% accuracy... that 2% advantage gets wiped out quickly.

That was certainly the case last week...

Like us, Doc noted that many companies have reported stellar earnings, only to see their shares get beaten down by the market...

For instance, construction-equipment maker Caterpillar (CAT) beat earnings expectations by an eye-popping 33%. But management's comments that earnings growth may be "as good as it gets" was taken as a bearish warning. Shares plummeted 6%.

Defense contractor Lockheed Martin (LMT) beat earnings estimates by 18%, but shares fell by 6% as well. News outlets say it's because Lockheed didn't raise its cash-flow forecasts for the year, but we think those pundits are just grasping for an explanation.

To Doc, this unusual behavior is not a reason to turn bearish...

But it is a reason to be more cautious with your investments today. As he explained...

Investors find themselves struggling in this market. After all, earnings should matter. And when so many stocks have what appear to be illogical reactions to their companies' earnings announcements, it's strange. And it exposes some of the underlying characteristics of today's market that have us growing concerned.

The market is a machine that weighs the consensus of all its participants. When the overriding opinion is optimism and investors expect better things to come, the market will rise. When everyone is scared, the market falls. But other times, the market has no consensus... or it has shifting viewpoints. That's when you see odd things happening – like good earnings leading to falling stocks.

Investors are confused. And to us, that means it's time to be cautious.

What does 'cautious' mean exactly?

As always, there is no one-size-fits-all answer. It will depend on your personal circumstances and risk tolerance. But our general advice remains the same...

Stay long, but keep a close eye on your trailing stops. Hold some extra cash and a little physical gold and silver. And invest new money in only your highest-conviction ideas for now.

Speaking of high-conviction ideas...

Regular Digest readers know our colleague Steve Sjuggerud has been incredibly bullish on China...

Anyone who has followed his advice has made a killing over the past couple of years. Yet Steve remains bullish today. He believes the biggest gains are likely still ahead.

But recently, he's heard from several subscribers – even some of his most loyal longtime readers – with one big worry. As he explained in the latest issue of True Wealth China Opportunities, published last Thursday...

It's come from readers, friends, family, and colleagues. I'm the "China guy" after all. I'm supposed to have the answer. So it keeps coming up...

"Steve, what the heck does a trade war really mean for investments in China?"

It's an important question. The thought of a trade war is scary for anyone who's put money into Chinese stocks.

Of course, if you've been reading the Digest, you know Steve isn't worried...

In fact, as he explained in March, he believes a real trade war is unlikely... and the recent rhetoric has created a fantastic buying opportunity in Chinese stocks. But this month, Steve has even better news...

You see, if we should get into a full-blown trade war – which he still believes is unlikely – the real losers may surprise you. More from Steve...

To know who wins and loses in a trade war, you need to know which companies make money outside their home country. That's all that matters.

The folks at MSCI recently dug into this idea. They looked at the MSCI China Index and MSCI USA Index to see who really loses in a U.S.-China trade war. (You can read MSCI's post here.)

The surprising result is that Chinese companies don't earn much revenue from the U.S. The table below shows the sectors that earn more than 2% of their revenue there. Take a look...

Only three sectors in China earn more than 2% of their revenue from the United States.

In a trade war, most of these Chinese companies would make it through unscathed. But the same can't necessarily be said for the U.S. As Steve explained...

The table below shows which U.S. sectors have 2%-plus revenue exposure to China...

Nearly every U.S. sector earns 2% or more of its revenue from China. Only utilities and telecom stocks missed the list.

In short, Steve says U.S. companies need China more than Chinese companies need us...

This means that despite the rhetoric, U.S. stocks are far more vulnerable to a potential trade war than the Chinese stocks in the True Wealth China Opportunities portfolio...

This isn't the mainstream view, of course. But the numbers are clear. So stop worrying about a trade war killing our China investments.

I still believe the rhetoric has set up a buying opportunity. And if the trade war continues, our investments are less vulnerable than anyone thinks.

New 52-week highs (as of 4/27/18): Fairfax Financial (FRFHF).

The mailbag is overflowing with feedback on Porter's two Friday Digest announcements: a big change to our marketing efforts... and his most serious warning yet about the growing risks in the market. What did you think? Let us know at feedback@stansberryresearch.com.

"Thank you, Porter, for taking the time and making the effort to warn us to be vigilant with our money. You, your writings, and company newsletters written by others, meet the highest standards of good business ethics.

"I've listened to you and been a subscriber to various publications over the years. The first writing I came across by you had to be circa 1998. It was a one-page listing of companies who had consistently paid and increased dividends for many years. I circulated it among my investment club members in the little town of Sequim, Washington and it quickly became a guide and keeper.

"I hope you will continue your very thoughtful and earnest campaign to help us learn. You are appreciated!" – Paid-up subscriber Adele P.

"Thank you, thank you, thank you. I am a long-term subscriber, and I have learned a great deal from your writing. I have significantly increased my returns and lowered my risk by following the principles you write about. I'm watching my position sizes and trying not to worry. I actually feel better about my investments now than ever before. Keep up the good work." – Paid-up subscriber Billy T.

"Porter thank you so much for your Friday's Digest, and giving readers permission to pass it on to friends. I write a weekly newsletter discussing what happened in the market to 48 subscribers. They have heard your name and Doc and Steve many times. I am going to forward your Digest to all of them. I hope that a number of them become subscribers to the most honest and best researched newsletters in the world. Thank you again for always telling your subscribers the things you would like to hear if you were the subscriber." – Paid-up subscriber Tom D.

"[Friday's Digest] kept alluding to a top 10 list of the worst companies with poor underlying fundamentals. It was nowhere in site. Can you send it to me please, or re-post article?" – Paid-up subscriber Nick G.

Porter comment: Nick, it was in a graphic. If you're using an e-mail provider that only displays text, you won't see it. Try reading it on our website instead. We sent a follow-up e-mail with a link directly to the Digest posted on our website. Your web browser should display the graphic correctly.

"Why aren't you sharing the 100 major companies [that] are in this poor financial condition?" – Paid-up subscriber Paul M.

Porter comment: Paul... 1) I didn't want to spend 10 hours formatting a list of more than 150 companies. 2) Most folks wouldn't read anything past the first 10 or so names. 3) Most of the smaller companies (less than $500 million in market cap) can't be shorted, thus there are no options that trade. In terms of stock-specific trading, the information is mostly useless... thus our focus on the 10 largest. 4) The Digest is a free e-mail.

Ever heard the expression "looking a gift horse in the mouth"?

"Hi Porter, thanks for all you do. I just signed up for the Stansberry Concierge service and discovered that you're already giving me a discount just for signing up! I couldn't believe it was only $99/month. Oops, I mean a year. Wow! This horse knows good clean water when he sees it." – Paid-up subscriber Will C.

"As an Alliance member, I'm not affected by what you announced in Friday's Digest in regard to the Concierge, etc. but I must say it's brilliant, as well as another remarkable demonstration of your keen sense of excellent, real customer service. You just seem to get better and better all the time in this regard in my opinion, Porter. Very smart from all angles...

"I look forward to the day you reach your ultimate goal, where it's Alliance members only who 'truly get' what is offered to them intrinsically, with only insightful questions and no complaints, but rather a deep and abiding understanding which you have helped make possible with your work. Best regards as always." – Paid-up Stansberry Alliance member Shawn S.

"Porter and team, as a relatively new investor, I only have enough capital to enroll in your basic services. And as someone who receives the advertising and e-letters, I would like to say thank you!

"They are insightful and valuable; especially if the reader is disciplined enough to dig in and grasp the strategy being applied. As long as you aren't completely braindead, identifying the company or sector being targeted is a piece of cake. It's free education.

"Do these people complaining understand what they are forfeiting? These free resources are invaluable. As someone who is even younger than Buck, I am grateful for what you guys do; I am learning so much. Thanks and keep up the excellent work." – Paid-up "future Stansberry Alliance member" Hunter S.

"I'm a lifetime member, I'm not sure Porter addressed Lifetime members issues Friday. Can I get some clarification? A Concierge member can opt out of advertising, but a Lifetime member can't? Please explain this." – Paid-up subscriber Allan C.

Porter comment: Allan, the issue we're addressing only relates to the free e-letters we publish. You have a lifetime subscription to one (or more) of our paid research products. We do not send e-mail advertising with your subscription materials.

Our free e-letters (The Digest, DailyWealth, etc.) are supported by advertising. We typically send one e-mail advertisement with each free e-letter you receive. Most folks (90%) don't mind these ads. They either read them for the content they include or they delete them.

Some folks have a hard time figuring out which e-mails are ads and which are the free e-letters they want to read. To make this easy and clear, we're adding a banner at the top of all our advertisements. And if you don't want to receive any ads from us, then you have three choices:

1. Unsubscribe from the free e-letter(s). You won't get any more ads. But you won't receive the free e-letters anymore.

2. You can sign up for our Concierge level of service. That will eliminate the advertisements, but allow you to continue receiving our free e-letters.

3. Unsubscribe from the free e-letters, but use our website to read the free content.

Hope that helps.

"Porter, thank you for devising this option. My husband and I are Flex Alliance clients and want to keep up and frequently experience the same frustration it sounds like others are sharing with you. It's great to know there is a way to eliminate the advertising.

"I think many people get aggravated with the back and forth affiliate links between you and the many Agora sites. I'm sure others receive Bonner's letter and Doug Casey emails which initiates more ads for their editors. When they all start cross referencing their mailing lists it is not out of the realm of possibility to receive dozens of ads – just different banners. Thanks again... Stansberry has changed our world view and financial life." – Paid-up subscriber Maureen W.

Porter comment: Yes, that's right, Maureen. And that's exactly the issue I'm trying to solve. Thank you for your business.

"Dear Porter and/or others @ Stansberry Research: I recently upgraded from an a la carte approach to The Total Portfolio. It was a lot of money for me but I feel it was a wise choice. I just wish I could have afforded the Alliance Partnership. Perhaps in time I will." – Paid-up subscriber Douglas H.

Porter comment: Doug, thanks for your business. And remember, your investment with us is always "money good." That is, we will always apply whatever you've spent with us so far, in new purchases, against the eventual cost of your Alliance membership. I hope that demonstrates our goodwill and desire to have a long relationship with you.

"If the goal is 'to someday serve only Alliance members,' how will my lifetime membership to Stansberry's Credit Opportunities be affected?" – Paid-up subscriber John R.

Porter comment: John, our basic lifetime membership is $3,500 to join. If we transition to Alliance-only, we will stop selling individual subscriptions.

What happens to existing subscribers? We will continue to serve you. When your subscription expires, then we've met our commitment. We will part as friends.

If you're a lifetime subscriber, then we will roll you into an Alliance membership that fits what you've paid us to date, plus the individual pub, like in your case, Stansberry's Credit Opportunities. You'll be rewarded for your long-term commitment to our business with a lot of extra content.

The core idea is that we want to dedicate all of our resources to the subscribers who can afford to sponsor our best work. And maybe you haven't been around long enough to see it, but we always upgrade folks when we make a change.

Nobody ever gets less than they paid for. But they often get more.

P.S. I think it's important to note that we will also always apply 100% of what you've spent for new products toward your full Alliance membership. There aren't many businesses that operate on this core idea. We hope that everyone, eventually, becomes an Alliance member. "Sure," you might think, "that's what's best for your company." And yes, that's true. But I also know it's what's best, by a wide margin, for the subscriber. It's the only way to get the full breadth and the full benefit of our work.

"It is sad that small investors are excluded from your ultimate goal." – Paid-up subscriber Edna A.

Porter comment: Why do you believe that? We offer memberships that begin at $3,500 for a LIFETIME of investment research. Virtually anyone with enough money to invest for 10 or 20 years can afford this service.

Regards,

Justin Brill
Baltimore, Maryland
April 30, 2018