The new sovereign credits... Citi's big numbers... The best business in the world... More bullish housing news... A personal housing story...
Financial stocks are one of the best places to protect your capital while global central banks print money.
The world's largest commercial banks have become de facto sovereign credits. They are principal beneficiaries of the liquidity created by the central banks' various money-printing strategies (things like quantitative easing and "Operation Twist"). The central banks' promise to continue easing measures infinitely represents an implicit guarantee that they will not let the major commercial banks fail.
With this central bank guarantee, investors only need to ensure they buy shares of high-quality banks with enough capital to protect themselves from further surprises.
In addition to a backstop, this money printing will aid bank profits in two other ways... The flow of credit will increase the value of the assets on banks' books. It will also widen banks' net interest margin (the difference between what rate banks pay to borrow and what rate they receive to lend). As Porter wrote in the April issue of his Investment Advisory...
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Consider Miami Beach, where I've been living for the past year. I bought a waterfront property here last February for around $400 per square foot... Those properties are now selling for more than $1,000 per square foot. I've already received one unsolicited offer for the property. That's one small example. |
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Rising housing prices in Miami (one of the worst-hit areas of the mortgage crisis) will also flow through to the balance sheets of these banks. It will take another 18-24 months... but it will happen. And as the bad debts turn into performing loans and the value of the collateral rises... some of the huge write-offs that were taken in 2008 and 2009 will be reversed. Let's say rising prices lift the average value of Bank of America's assets by 10% over three years. That would increase the bank's equity by $200 billion. That's a huge increase for a stock with a $90 billion market cap. |
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The coming inflation will also cause banks' net interest margin to widen. That's what determines how much cash flow and earnings they generate. It's the difference between what they pay to borrow money and what they collect by lending it. As long-term rates rise because of inflation, banks' profitability should increase substantially because the Federal Reserve (and the ECB) have fixed short-term interest rates near zero. |
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These two factors – rising asset prices and increasing net interest margin – should cause the share prices of these banks to double (at least) over the next 12 months. And because these banks are all trading for less than book value… we can capture profits without taking on much risk. |
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To summarize... thanks to the policies of the world's major central banks (which is creating a huge inflation) and the panic in financial stocks (which led investors to abandon these banks), we have a nearly risk-free way to make huge gains. |
If you examine yesterday's quarterly numbers from Citigroup, you'll see Porter's prediction playing out...
Citigroup's allowance for loan losses at the end of the third quarter totaled $25.9 billion (4% of total loans), down from $32.1 billion (5.1%) in the third quarter last year. The bank released $1.5 billion of loan-loss reserves in the quarter – a 6% increase from the year before. That $1.5 billion goes straight to Citi's bottom line.
Citi's cost of credit also decreased 14% the same period a year ago (due to lower net credit losses). This was largely driven by low-cost deposits... Citi's deposits rose 11% to $945 billion.
The bank also saw higher mortgage revenues as a result of wider profit margins. Originations fell 15% to $14.5 billion. But refinances were strong.
Citi also increased the percentage of its total assets represented by its highest-quality ("Tier 1") assets. The so-called Tier 1 common ratio increased to 8.6%, up from 7.9% three months earlier.
Shares jumped 5.5% on the news. And in a surprise announcement, Citi's CEO Vikram Pandit stepped down today... Shares jumped another 1%.
Another area of the financial sector that's showing strength is insurance… You'll see lots of insurance companies reaching new highs. In the most recent issue of his Investment Advisory, Porter called insurance "the best business in the world" because these companies have a "positive cost of capital." Simply put, virtually every other business in the world has to pay for capital (via dividends, interest, etc.). But insurance companies are paid to take money from their clients (via insurance premiums).
And assuming an insurance company can underwrite insurance at a profit – meaning it pays out less than it takes in – the firm makes even more money.
As legendary investor Warren Buffett – a man who made billions of dollars through insurance – wrote in his 2011 letter to Berkshire Hathaway shareholders...
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Insurers receive premiums upfront and pay claims later. In extreme cases, such as those arising from certain workers' compensation accidents, payments can stretch over decades. This collect-now, pay-later model leaves us holding large sums – money we call "float" – that will eventually go to others. |
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Meanwhile, we get to invest this float for Berkshire's benefit... If our premiums exceed the total of our expenses and eventual losses, we register an underwriting profit that adds to the investment income our float produces. When such a profit occurs, we enjoy the use of free money – and, better yet, get paid for holding it. |
Despite the recent new highs for many name-brand insurance firms… Porter believes the big gains for these companies have just begun.
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In his issue, Porter analyzed more than 30 U.S.-based property-and-casualty insurers based on the quality of their underwriting and the relative value their shares represent... The result was a list of the six best insurance companies to invest in today…
We're, of course, withholding the names of these stocks out of respect to Investment Advisory subscribers. If you're interested in subscribing to Stansberry's Investment Advisory and accessing Porter's research on the "world's best business," click here...
Steve Sjuggerud believes buying housing today is "possibly the greatest investing opportunity in American history."
Housing prices were crushed in the crisis. And today, many homes are still selling for below replacement cost. Meanwhile, housing prices have increased for six straight months. And mortgage rates are at record-lows... A 30-year fixed mortgage is below 3.5%.
We've followed the continual bullish news and rising homebuilder prices for months in the Digest. Today… more good news on housing is rolling in… Homebuilder confidence is rising alongside home prices. According to the National Association of Home Builders/Wells Fargo builder sentiment index, confidence has increased for the sixth straight month in October.
The index increased to 41 this month, the highest since June 2006. (A reading below 50 still means the majority of people believe conditions are poor.)
Larry Sorsby, chief financial officer of homebuilder Hovnanian, believes the market is turning. He told investors on an October 4 conference call, "We certainly believe the housing market's recent overall strength and our significant improved sales pace this year indicates that the market for new homes has truly bounced off the bottom." He believes the market is "already in a period of gradual recovery."
New 52-week highs (as of 10/15/12): Eli Lilly (LLY), Alico (ALCO), Travelers (TRV), and Wal-Mart (WMT).
More feedback about our nation's firefighters... You can weigh in here... feedback@stansberryresearch.com.
"The Entitlization of California Firefighters… I live in the SF bay area region and have been quietly sharing my opinion of firefighters who receive $100,000 per year in salary only to be met with knee jerk tongue lashings in their defense. I still maintain firefighter compensation is a total racket. I think so because most of our fire fighting comrades don't fight all that many fires. The building codes are remarkably thorough, which adds a high level of fire preventative measures. In addition, many fire codes are not written to protect the occupants of a burning building, but rather, the fire fighters rushing in.
"From what I can tell most firefighters are more emergency responders than firefighters.
"I'd also like to point out that you only mentioned the current salaries. Have you dug into the benefit and retirement packages? Yes, not only do firefighters hold second jobs, but they tend to retire early by current standards. Many do so between 45-55 years old taking full pensions – some, upwards of 80% of their annual pay – for the rest of their lives.
"Then I dare you to look up the percentage of firefighters (and police officers) who mysteriously get injured just prior to retirement. Should you have the unfortunate luck to get injured just prior to retirement, you'll get even more money added to your monthly pension check. Look it up. Compare the date of injury with the date of retirement. Then look at the financial impact.
"Finally after all that, when they retire they leverage their experience for a more senior level position with a different municipality and can do so until they reach actual retirement age. A position, mind you, at the end of which, they receive a second pension – for the rest of their lives!
"Here's the kicker. Last week a house in my neighborhood burned to the ground while firefighters stood by and watched. The only ones working that morning were the Mexicans from a rental fence company as they erected a temporary chain link fence around the burning property.
"Apparently, someone reported bullets going off in the fire and on the assumption it was true, the firefighters choose to stand down and contain the flames to the area of the property on fire. Looks like now they've found yet another loop-hole which allows them to actually not fight the fires they're called to. Incredible.
"To serve and protect... themselves. They certainly weren't protecting me or my neighbors from stray bullets that morning even though a heavy dousing of water may have prevented some of 'the bullets' from discharging. For how well firefighters are paid in my neck of the woods, I think what they did was cowardly and a disgrace to their profession. Yet try pointing that out in polite company – ha ha." – Paid-up subscriber Jake
"Regarding a great expose on this subject, I can recommend a book called Plunder by Steven Greenhut, a reporter from the Orange County Register. As a taxpayer it will turn your stomach." – Paid-up subscriber Edward Sweet
"I have a search set up on Trulia. I usually get 2-4 houses a week, many are repeats due to price changes. This has gone on for about 2-3 years. Today, 45 homes popped up. Way out of line. Maybe some broker dumped their inventory into to system. Or maybe prices have rebounded enough that sellers are returning." – Paid-up subscriber PL
Regards,
Sean Goldsmith
New York, New York
October 16, 2012