The S&A Digest: A huge mailbag

A huge mailbag... What inflation?... Buffett agrees with our Fannie and Freddie analysis... Falcone buys Cablevision...

This week, inflation soared. Wholesale prices rose at the fastest annual pace in the last 27 years. This is all a direct result of the Federal Reserve's "bail out everyone" policy of creating enough new credit to save Wall Street. And what does our august Federal Reserve chairman have to say about his own handiwork?

Mustering a straight face, the bearded money printer says: "The inflation outlook remains highly uncertain, not least because of the difficulty of predicting the future course of commodity prices, and we will continue to monitor inflation and inflation expectations closely..." We would remind ol' Helicopter Ben that commodities are priced in dollars and, since he controls the dollar spigot, predicting their prices shouldn't be difficult at all.

Buffett, too, believes Fannie and Freddie are going to zero – the subject of my June PSIA newsletter. "They don't have any net worth... The game is up. They were able to borrow without any of the normal restraints. They had a blank check from the federal government," Buffett said. They "kept existing because they had the federal government behind them." Berkshire Hathaway, Buffett's holding company, was one of the largest owners of Freddie until around 2001, when he realized it wasn't well run.

The Shanghai Stock Exchange has been crushed since the market top in October 2007, falling more than 50%...

But it may not be time to jump in yet. Hong Kong billionaire Li Ka-shing, who correctly predicted the Chinese market bubble, said the "worst is yet to come" from the global credit crunch. Li told reporters he is being "very conservative about acquisitions." Li, Asia's richest man, controls companies involved in real estate, retail, and energy.

Activist hedge fund Harbinger Capital, run by billionaire Phil Falcone, increased its stake in Cablevision Systems to 18.95 million shares (8.1%) – from a previous 4.9% stake.

Cablevision, the nation's fourth-largest cable provider, has been criticized for ignoring shareholder interests and not returning cash to investors. Cablevision's controlling family, the Dolans, tried to take the company private four times... and failed. Shortly after Falcone initiated his position, Cablevision announced its first dividend payment in history and said it would look into other payouts and share buybacks, and possibly spin off assets, including Madison Square Garden.

New highs: none.

In the mailbag... I kicked the hornet's nest this time, insulting two congressmen (who richly deserve it) and disparaging silver medals. What was I thinking? How have I offended you, dear subscriber? Count the ways, here: feedback@stansberryresearch.com.

"I really do value your work and enjoy most of the things you say, but your statement '...I've always thought silver metals should come stamped with the word "loser" on them. Second place is for folks who didn't have enough heart to come in first,' is simplistic to the point of being ridiculous. I, too, have some experience competing on a higher level than most folks having played on a state championship high school football team and playing Division I college football, so I think I can provide an educated opinion on this matter... Michael Phelps won the 100-M butterfly by 0.01 seconds. If he had lost by 0.01 seconds, would he have accurately been characterized as a loser or accused of lacking heart? I don't think so. The 1980 Olympic hockey team performed far beyond any reasonable expectation and won a gold medal in what I believe was the greatest sports achievement ever. If they had come up short in the final game and won a silver or bronze medal, would that have made the win against the Soviet Union meaningless? Would they have been losers...? Your statement is a gung-ho proclamation I would expect to hear from a 12-year old who hasn't ever competed in anything or from a 50-year old fat guy in a bar who isn't capable of anything athletic. If you really believe that Olympic silver medallists are losers because you can dominate at your country club tennis tournament, I think you'd better engage in a serious examination of all your opinions and assessments of others." – Paid-up subscriber David Walker

Porter comment: Guess how many times Tiger Woods has finished a professional golf tournament tied for the lead? Twelve times. Guess how many times he's been beaten in the playoff to decide the match? Once.

There's no rational explanation for this incredible playoff record. The physical differences in ability between the world's top golfers are ridiculously small. Nearly all of these playoffs are conducted in sudden-death format, where one good hole immediately leads to victory. This should allow luck to play a role in deciding the outcome. But with only one exception, Tiger always wins playoffs. Likewise, several PGA players, like Greg Norman and Sergio Garcia, have physical abilities that far outstrip their records in playoffs and major championships. They come in second far more than they should, given their playing statistics. Why?

The example you gave – about Phelps – illustrates my point. The guy Phelps beat by the slimmest of margins was probably the better swimmer in the race. But at the very end, he let up. On the tape, you can see him coasting to the finish. Phelps, on the other hand, came into the wall with so much force he could have hurt himself. He gave it 100% and refused to lose all the way to the finish.

As for me, I have always been the least-gifted athlete in my peer group. To win a starting role on sports teams, I had to work twice as hard as the next guy... and I'd still lose badly nearly every time. Maybe losing most of the time is what makes me try so hard to win. In any case, I've never been interested in coming in second place. If that's a character flaw (my wife certainly believes it is), I'll have to live with it. If you play me in squash or ping-pong or darts, or race me on a bike, I will do everything I can to beat you. I will never give up.

No one accomplishes anything outstanding in life without first believing they can be the best and then refusing to settle for second best. So I don't celebrate coming in second place. And I think that's a great attitude to have in life, whether you're a great athlete or whether you rode the pine (like me) during most of your life. If you think second best is OK, you won't try your hardest to win.

When I hire people, that's what I look for – that spirit of never quitting and always wanting to win. I have no interest in being the second-best financial publisher in the United States. I want to win. And I don't care who comes in second.

"If your kid works his or her whole life to get into the Olympics and manages to get a silver medal are you going to call him or her a loser? Tell him or her they don't have enough heart? You are a very capable stock analyst and I concur with most of your opinions but you are f----- up. I feel bad for your kids with that macho attitude of yours. Silver medals are for losers. Take an objective look at that. You obviously have the brains but do you have the emotional health and courage to recognize and admit how f----- up that is?" – Paid-up subscriber Richard Klein

Porter comment: If my son, Traveler, competes in the Olympics, the first thing I'd do is demand a paternity test. No one related to me is destined for the Olympics, trust me.

But when my son competes at sports, I'll tell him the same thing my dad always told me: The only way to really lose is to give up. I don't expect my son to share my opinions or have the intensity of my ambitions. We are different people. Traveler will grow up in very different circumstances. On the other hand, when he's 15 or 16 years old and he begins to challenge me on the golf course, I don't plan to lose. He'll have to truly beat me. That's how life is.

"Please tell me what the f--- Congressman Frank's being 'gay' has to do with his financial acumen? You have revealed yourself as a dumb-ass homophobic sexist pig. Yes, I am a lifetime subscriber who will now simply skip The Digest as long as you write it." – Paid-up subscriber Bill Bushnell

"I was really disappointed and disgusted with the slur used to refer to Congressman Barney Frank. It demeans you and otherwise lowers the tone of a fairly credible newsletter. I thought better of you and your editors." – Paid-up subscriber Crysta Kearney

Porter comment: Mea culpa. I should have used another adjective. While this will sound like B.S. to the folks who'd like to paint me as a homophobe, I didn't mean to cast any aspersions on lisping Barney's sexual preferences. Homosexuality doesn't bother me or interest me. I was using the slang meaning of the word – to be lame, ineffectual, and uncool. Even my homosexual friends don't like "gay" guys. If I were trying to criticize the little toad's sex life, I would have written what Congressman Dick Armey always called him, "Barney Fag."

By the way, if you want to understand how corrupt our democracy has become, just study the career of the Little Elmo. He's never had a real job in his entire life. He went from Harvard to the mayor's office to the statehouse to the U.S. Congress. And everything he touched along the way turned to crap.

"Yes, I felt you might be right about the dollar bombing as were many others who felt the same. Since this is your bailiwick more than mine and after your being touted in Barron's I decided to try your iShares Silver Trust. I put more in than I should w/25% trailing stop. It promptly fell precipitously even with 10/1 split and momentarily below my 25% TS. It finally inched up and I bailed and lost a bunch of money BIG TIME. I decided you don't know much more than I, and I should have listened to myself and never even chanced it... So much for your advice... And then to add insult to misery one of your fellow writers said NEVER ever invest in silver ETFs. So much for financial letter writers as your picks must be a throw of the darts and sometimes you get lucky." – Paid-up subscriber Sara Bates

Porter comment: This is a classic letter and goes right to the heart of why so many people lose money investing. Although Sara claims she followed my advice, she broke all of the rules we teach, she "cherry picked" one recommendation, and she didn't even buy what I recommended!

As a follow-up to my June letter, where I predicted Fannie and Freddie would go to zero (long before anyone else), I wrote it would be prudent to own some physical gold and silver – the same advice I've been espousing for years. Here's what I actually wrote:

Make sure you own a substantial amount of gold and silver. I would recommend at least a 5% position in gold and a 5% position in silver... That should be plenty to hedge yourself. Don't forget, well-run companies will also appreciate along with other assets during an inflation crisis. So, you don't need to dump high-quality stocks and buy a huge position in gold and silver... The best way to buy gold or silver, in my opinion, is to simply own bullion – plain coins.

I went on to explain that in a real crisis, owning the silver ETF might not do you much good, which is why I advocated buying bullion coins and taking physical delivery of them. I also explained it's very difficult to time the purchase of precious metals, because you have no way to judge intrinsic value. Still, owning precious metals is a good idea in any case... just for insurance: "Whether gold and silver soar as I expect or not, it certainly seems safe and prudent to hold a 10% position in the precious metals."

So... upon reading this newsletter... Sara went out and put a huge wad of money into the silver ETF, ignoring my advice to buy bullion and ignoring my warnings about silver's volatility. More importantly, she didn't take any of my other recommendations or follow our position-size limits. What happened next was inevitable. Silver goes straight down, she sells, and she takes a big loss. Of course, she blames what happened on me.

Sara, if you'd like to learn how to make money investing, you might want to start over and do things a bit differently...

First, never break your position-size limits. Second, buy the high-quality, safe investments we recommend first... the stuff I've got ranked No. 1. Don't expect to get rich by next week. Third, when you do take a loss (which will happen from time to time), try to figure out what went wrong and learn from your mistakes.

In regard to the silver recommendation, I've marked the loss in my model portfolio (even though I think everyone should own some silver). But the 25% loss in my model portfolio won't ruin my results for the year. It's only a small part of my average return. I have plenty of gains to offset the loss. The same should have been true for you.

"Actually I think society can eat the rich about once every 25-50 years, again and again. Why? Because a significant percentage of the rich have done little or nothing to earn it! My neighbor lost his job to Mexico. These days, he and his brother do excavation work. One of his current jobs is preparing the foundation for a $14M home on Lake Michigan – a home the owners plan to use for the 2 weeks before Christmas until New Years each year. The rest of the year will be divided among their other 4 palatial homes. Sick, sick sick!" – Paid-up subscriber ML

Porter comment: I wonder who will decide if I have "earned" my wealth... and if I ought to be allowed to spend it as I see fit?

"Porter, when you first recommended shorting GM I was fully invested. When it ran to the High thirties, I had some extra cash. Using Jeff Clarks return vs risk guidelines, I started buying short term puts, using strict trailing stops. I have been in five different puts since then. I don't need to tell anyone how that turned out. Would you please forward my thanks to the Chairman of GM for allowing S&A to publish his company update letters? They were indeed very helpful." – Paid-up subscriber Bruce DeMayo

"I'll second the 'Jeff Clark is the best' email. I bought call 2 separate call options on Tuesday, and closed ½ of both out Thursday for 110% and 104%. Jeff's trading rocks! I don't get into every one of his trades because price can move quickly out of the buy range, but I'm making $ consistently with his options recommendations. Jeff rocks!"

– Paid-up subscriber Stephen

"I wish everyone will stop telling the world how good Jeff Clark is. We don't need more subscribers trying to trade his recommendations then we have now. You should charge $10,000 a year for his service to 'keep the riffraff out.' Seriously, when it comes to Jeff, put a blanket on him and keep him warm. I don't want him to catch a cold!!! I made enough on his last recommendation (PBR), 4 days ago, to pay for the next four years of service!! But, please don't tell anyone." – Paid-up subscriber Mike Z.

Porter comment: Sorry, Mike. The word is out. But I do like your idea about raising the price... We already doubled it recently. And we may again, soon. Subscribers who want to get in before we do should click here.

"Hard to believe you would not have given us more fair warning than 'the night of' for such a big production from your Parent Company. By the time I got the information, the movie had long since started. Nice job." – Paid-up subscriber Darren Moeller

Porter comment: Yes... I admit it. We botched it. The date just snuck up on us. But the movie should be out for a week or so, at least.

Regards,

Porter Stansberry

Baltimore, Maryland

August 22, 2008

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