Signs of a bottom

Signs of a bottom... Protection from Buffett... Prediction: cars get cheaper... GM's blackmail... Is Microsoft really cheap?... Welcome to Mobtown...

Our friend Whitney Tilson passed along this keen observation: The S&P 500's dividend yield rose above the yield on 10-year U.S. Treasuries for the first time since 1958 yesterday. As of 1:13 p.m., the S&P yielded 3.55%, compared to 3.52% for 10-year T-bills.

What does this mean? Investors would prefer to own U.S. government obligations paying a fixed coupon instead of the largest U.S. companies. Prior to the end of the gold standard, investors might routinely decide they'd rather own bonds than stocks, as stocks are riskier. But bonds haven't offered higher yields than stocks since the U.S. went off the gold standard.

So why would investors choose to own low-yielding bonds in the face of the Fed's massive monetary creation over the last two months? They are now convinced a recession on par with the Great Depression is coming. Will they be right? Will U.S. government securities prove to be safer and higher yielding (in real terms) than stocks over the next 10 years? No way. If you were looking for a sign of the bottom, this is the best I've seen yet.

Another sign of the bottom... Investors don't trust Buffett. The cost of buying insurance against a default by Warren Buffett's triple-A holding company, Berkshire Hathaway, has nearly tripled in two months. The price of Berkshire credit default swaps is now more than four times that of rival insurer Travelers Cos. It's also costlier than Allstate (by 250-basis points), Goldman Sachs (310), Citigroup (220), JPMorgan (120), and Bank of America (140). Companies with swaps at comparable prices are normally rated Baa3 by Moody's, one level above junk.

For Berkshire to default, it would first have to burn through its $33.4 billion cash hoard. What explains the pricing? Buffett has sold a large (rumored to be $40 billion) put on the S&P 500 that matures in 10 years. Investors are so spooked right now they're worried Buffett will lose money on a derivative that doesn't mature for a decade. That's nuts.

The New York Times ran a great story today about the Port of Long Beach (the second-biggest in the country behind Los Angeles). For the first time ever, Mercedes, Toyota, and Nissan have all asked to lease space from the port to park their unwanted vehicles. Dealers around the country are refusing shipments, but manufacturers are still shipping cars at their regular pace – it can take months for an auto factory to adjust to changes in demand. Toyota is closing a deal to use six acres to park cars, and it's still looking for more... "Toyota wants as much as we can give them," said Gail Wasil, assistant director of the port's real estate division.

The port's biggest exports – metal, cardboard, paper, and plastic – are also piling up. The port usually takes packing material from shipments, bails it, then ships it to China... but China doesn't want it anymore. For most of this year, the port's recycling operation would ship 25 containers a day, filled with 23 tons of recyclables. Demand slowed after the Olympics. And in the past two weeks, the recycling operation has shipped nothing. "It just came to a complete stop. Absolutely a stop," said Gilbert Dodson, the recycling business' co-owner. "I've seen it slow over the last 25 years, but this is the worst."

Speaking of cars... GM has begun to use its massive advertising budget to scare consumers into supporting a government bailout. Starting last night, Yahoo was running GM ads claiming a bankruptcy filing by GM would eliminate one in 10 American jobs and cost the country $150 billion in lost wages. If only it were true. If even half the things GM says about its importance to our economy were true, the company wouldn't be going bankrupt. (You'll recall I warned nearly two years ago that GM wouldn't be able to escape filing for bankruptcy protection.)

The fact is, there's a huge amount of overcapacity in the U.S. automotive sector, and GM is the least efficient and most indebted manufacturer. That's who goes bankrupt. Any "loans" to GM will only postpone the inevitable and make conditions worse for the remaining carmakers.

ABC News points out that the heads of all three Detroit automakers flew in private jets to yesterday's congressional hearings. I have nothing against private aviation – if you can afford it. But we should all march on Washington with pitch forks and flaming torches if those SOBs in Congress give any more of our tax dollars to corporations arrogant enough to spend $20,000 flying their CEOs around in jets while at the same time asking for handouts from us.

This month, confidence among U.S. homebuilders dropped to the lowest level since record keeping began in 1985. The National Association of Home Builders/Wells Fargo index of builder confidence fell to nine, lower than forecast, from 14 in October. Anything less than 50 means most respondents think conditions are poor.

Can it get any worse? I think it will. I don't think we're anywhere close to a bottom in real estate – especially commercial real estate. Literally dozens of REITs are heading for liquidation (as I've mentioned a few times already). As far as residential goes, I've been looking for waterfront condos in Miami for the last several months, trying to pick up a nice unit on the water, on a high floor, in a luxury building, for around $250 per square foot. Condos like these were selling for between $750 and $1,000 per square foot only two years ago.

I haven't gotten "filled" yet, which means there's still demand for these properties. Sooner or later though, demand will dry up. As I told my partner, "We don't need this condo... But sooner or later, someone is going to need us to buy it."

What's the easiest way to gain $1.8 billion? According to Yahoo, firing your CEO. After Yahoo's CEO Jerry Yang announced he would step down yesterday, shares shot up nearly 12% - adding $1.83 billion to Yahoo's market value. It makes you wonder how much value would be created if some other firms ousted their CEOs...

New highs: nyet.

In the mailbag... the usual complaints and a very good question from a smart subscriber. I've noticed something about our inbox – the same three or four dozen people write to us frequently, but the overwhelming majority of subscribers never bother to send a thing.

Do me one favor: At some point in your subscription, let us hear from you. Send us something, anything. We know we write to real people. We want to know how you're handling this challenging economy. We want to know what you think about stocks. Are you buying or selling? And we want to know what you think about our work. Are you satisfied... or horribly disappointed? Send your comments to: feedback@stansberryresearch.com.

"Thanks for 'dropping the hint' about REITs being ready to go down... and with all the other daily hints now showing up... but NO specific information about exactly which ones are in the worst shape... just a lot of come-ons! Please cut the 'sell' and give YOUR READERS / BEST CUSTOMERS the SPECIFIC INFO NOW / QUICKLY! At this rate, you will prove to be right about the next shoe(s) to drop... REITs... but YOUR READERS WILL NOT have your best recommendations until TOO LATE! Come on... at least give us the debt rankings you hint about and so on." – Alliance member SC

Porter comment: Well, we can't give everything away. And if you saw my Put Strategy Report issue yesterday, you saw that I recommended buying a put for the first time. What did I recommend? An in-the-money put on a highly leveraged REIT that cannot afford to pay its obligations next year. The stock was at $25 when I wrote the update and was already under $20 by this afternoon. The puts, which were trading at $8.30 when I wrote the report, are now going for over $12.

"Please help me understand your recommendation. Your columns constantly sing the praises of 'world-beating businesses' and 'cash-gushing franchises.' But when I look at their charts, I don't see why they're so attractive. Take Microsoft. It had a great run but it's been dead flat to down for 10 years. I'm not convinced its business model is going to turn around its growth anytime soon. With no capital gains and a 3% yield, why would I want it? Or Coca-Cola. Again, a great run followed by 10 years of nothing, and 3.5% yield. Why own it?" – Paid-up subscriber Gary Fritz

Porter comment: The charts tell you exactly what has happened to the price of the securities in the past. They tell you nothing at all about the value of those securities and nothing at all about what the price will be in the future.

In regards to Microsoft, it made more than $21 billion in cash over the last 12 months, up 50% from only two years ago. It has another $20 billion in cash on its balance sheet and no debt. It earns 23% a year on its assets and over 50% a year on its equity. Its products have gross margins above 80% (higher than Google's). And its stock has never been cheaper, as measured by its earnings yield (10.5%) – nearly three times more than U.S. Treasuries.

Over the last three years, Microsoft has repurchased $46 billion in stock. Assuming these buybacks continue (and Microsoft says publicly they will), there won't be any outstanding shares left in about 10 years. Put that on your chart.

"I remember your prediction that Citi will fall to $10. Now the price is under $10 and falling. Nice call. Do you have any guesses about how long it's going to take the hedge funds to finish selling off their equities? Is it likely that this would happen by the end of this year?" – Paid-up subscriber Win Bissell

Porter comment: I bid $1. Not per share, either. For the whole thing.

"So, as I read the story of your doused hog tent party with Janet – who, after working for years for an event company, is just starting up her own event company out in Park City, Utah – we are dumbfounded with the event company's performance and even more so with their response. She says she'd have eaten the whole cost and offered to pay for the hog, and wants you to know that you have the right to collect for any guest's dry cleaning bills, the hog, and the FULL cost of the tent. But we're really writing just to see what your reply was to the moron of a businessman who told you pay or else." – Paid-up subscriber Scott Beall

Porter comment: Many of you might not know that Baltimore's nickname is "Mobtown." And in Mobtown, when a guy named Carmen Trimboli tells you to pay or else, you pay.

Regards,

Porter Stansberry

Baltimore, Maryland

November 19, 2008

Stansberry & Associates Top 10 Open Recommendations

Stansberry & Associates Hall of Fame