Last chance for the Short Report... 50% higher S&P earnings?!... Moody's still lying about MBIA, Ambac... FDR's Folly still with us today... Where is Galt's Gulch?... Different S&A editors, different viewpoints...

Editors note: Porter's en route to Italy and can't yet report back. So Dan Ferris is on The Digest today.

Tonight at 12:01 a.m., we're doubling the price of our best-performing letter, the S&A Short Report. If you get in before then, you'll save 50%. The price is going up by thousands of dollars, so if you're interested, now is the time to act before this deal expires and it's too late. For details, click here.

After more than 45 years of spectacle-free living, middle age has crept up a little more, and I've been wearing glasses for driving and seeing distances for several months now.  

Maybe I need reading glasses too, because I thought it said the following in today's Heard On The Street column in the Wall Street Journal:

[A]nalysts expect the companies in the S&P 500 to report operating earnings in the first quarter of next year that are 50% higher than in this year's first quarter, according to data from S&P.

See that? I thought it said analysts are expecting 50% higher earnings in the first quarter of 2009. Fifty percent higher? Could that possibly be correct? Maybe it was supposed to say "5% higher." Or 50% lower. But not 50% higher. Definitely not that. 

The Wall Street Journal went on to say: "Of course, in recessions, investors will pay up in the belief that earnings will grow into a stock's high valuation when the economic rebound occurs."

You should only pay up for growth when you've got a company like American Express or Coke on your hands. There aren't many of those around. And even then, you should never, ever buy at anything but a discount to an intrinsic value about which you're highly certain. That kind of certainty is rare, and significant discounts to it are even rarer. 

Since Moody's lowered MBIA and Ambac's financial strength ratings from triple-A to double-A, we get to ask a new question: How in the world are these companies rated more than double-B on financial strength, let alone double-A? They obviously are lousy underwriters, some of the worst. And they obviously have carried way too much leverage and have held too little in reserve. So they're financially clueless, too. But, hey, Moody's says they're double-A, so it must be true. 

Jim Powell's book, FDR's Folly, is a great intro to the Great Depression. I'd recommend it to anyone who wants to know more about that crisis and its effects.  

One thing you learn from studying the Great Depression is crises tend to result in more government intervention into your life... making the current crisis worse and setting us up for future unpleasantness. Among other things, the Great Depression led to the more centralized Federal Reserve we know today...

The Wall Street Journal's website today says New York Federal Reserve Bank president Timothy Geithner thinks we need more central bank regulation of financial markets. Like it or not, Geithner is drawing the shape of things to come. 

If not from me, take it from an old hand, Paul Volcker, the former Fed chairman who raised interest rates to kill inflation in the 1970s and 1980s. Volcker says the Fed's actions earlier this year "extended to the very edge of its lawful and implied power, transcending certain long embedded central banking principles and practices."

"Transcend" in this case is a euphemism for "throw out the window." Volcker also said the Fed's earlier moves "will surely be interpreted as an implied promise of similar action in times of future turmoil." More crises. More Fed intervention... making everything worse. 

By the way, don't be surprised if your McDonald's sandwich doesn't have a tomato on it today. Mickey D's is pulling tomatoes from U.S. menus until the cause of a salmonella outbreak is cleared up. 

Salmonella outbreaks... Cranes falling in New York City... Financial woes all around... It's like an Ayn Rand novel, coming true before our very eyes. If only I had the co-ordinates of Galt's Gulch, I could go there and shine some billionaire's shoes for a living. 

As for investors, what are they to do when times get tough? Same thing they should do any other time. Short the bad actors, and buy businesses with great, long-term franchises at discounts to intrinsic value about which you're highly certain. 

I shorted Lehman Brothers a couple of months ago in Extreme Value, and the company has made one bad disclosure after another since. Now, our short position is showing a 29% profit. Today, Lehman said it's going to raise $6 billion of new capital, but that's not nearly enough. It'll need tens of billions more to make up for all the toxic waste it's holding at 27-to-1 leverage. 

As far as great businesses, Steve Sjuggerud found one of the greatest, selling pretty cheap recently. And Porter has recommended many over the past year or two. As for me, I'm still recommending Wal-Mart. I think it'll do great as interest rates remain low and your dollar buys less and less.

New highs: U.S. Natural Gas (UNG), Sabine Royalty Trust (SBR), Carbo Ceramics (CRR). 

If you know where Galt's Gulch is (don't say Nicaragua) or how the S&P 500's operating earnings are going to rise 50% next year, write to us at: feedback@stansberryresearch.com.

"If a company like 'Realty Income Corp.' pays a monthly dividend of 6.8% yield, is that 6.8% per month or per year??? Same question, only different; how about a company that pays quarterly dividends of 11.9% yield; Is that 11.9% per Quarter or year?" – Paid-up subscriber Jeff W.

Ferris comment: Those are annual yields. Yields are almost always quoted in their annualized form. 

"Did I miss something? In the Thursday Digest, there was a comment that you were short on Allied Capital. Is this correct? I thought that this was a strong buy just several month ago. I have been noticing that it was down about 15% from my purchase price. Please give me an update on Allied." – Paid-up subscriber G. Ditz.

Ferris comment: We're not short Allied Capital. We were telling you about a hedge-fund manager named David Einhorn, who is short Allied Capital. I shorted Lehman Brothers in the April issue of Extreme Value. Einhorn is also short Lehman. I can't speak for any other Stansberry editor, but I wouldn't touch Allied Capital with a thirty-nine-and-a-half-foot pole, and I'll tell anybody who'll listen to stay away from it. 

"I don't quite agree with your S&A Digest of June 5 in which you gave out a dire warning about investing in banks. International banks should generally be excluded from this blanket caveat because they have overseas activities that can compensate for any domestic sub-prime losses. HSBC (NYSE: HBC) is one of those. With a huge trading base in China and the Far East in general, HSBC is well-placed to ride out the sub-prime storm in good shape and its solid share price reflects that fact. There are other such banks that you may like to research and exclude from your warning." – Paid-up subscriber Richard Hardy

Ferris comment: I'm sure some American banks ought to be excluded, too. My point is you'd better know what you're buying. And it's very difficult to know what you're buying. Anyone who bought HSBC a couple years ago can tell you that.

"I am so confused, the more I read of all these publications. For example here is Porter June 7th:

With about 10% of the homes built since 2000 sitting vacant, with delinquencies and defaults still rising, and with the real problem – people voluntarily giving up their homes – beginning to kick in, we think Mike Mayo is dead wrong. We don't think the real crisis has even begun.

On June 3, Steve writes that ‘The housing bust is over' and has a great chart and good argument to support it. For those of us who work 60 hours a week in other professions, it is a bit unnerving to find our experts in conflict at the same publisher!" – Paid-up subscriber Diana

Ferris comment: They're from the same publisher, but they are different editors with different viewpoints, different opinions, and different investment recommendations. Every Stansberry editor has his own viewpoint. Looks like Porter and Steve disagree on this one. I've been writing about the financial crisis not being half over for months, and I haven't made a new long recommendation since March. 

"Reading the S & A daily e-mails I'm convinced that we have yet to see the end [bottom] of this mortgage crisis debacle. Additionally, with Fannie May and Freddie Mac backing close to 50% of our country's mortgages it would seem it is only a matter of time before they both go belly up. This would probably lead to a massive cash exodus in bonds, etc. [foreign banks included]. Does S&A believe this could lead to a stock market crash – the likes of which we haven't seen in years?" – Paid-up subscriber Mark

Ferris comment: As I said, S&A publishes many editors who believe different things. I can only tell you what I believe, not what other S&A editors believe. I think it's irrational to expect more than 7%-8% a year from the big stock indexes over the next several years. I'm certain the mortgage crisis isn't half over, nor has it gotten as bad as it's going to get. I think nationwide indexes of housing prices have another 20% to fall to get back to trend and probably another 30% or so before they bottom out. I also think most stocks are overpriced, based on the P/E ratios of the big indexes. The S&P 500 is selling for around 18 times operating earnings. That's not expensive, but it definitely isn't cheap, either. I believe most stocks have more downside risk than upside potential from here.

"I believe Elmer Fudd is known for saying 'Be veeewy, veeewy quiet' Not 'Be veeewy, veeewy careful'. Not that it matters much; I'm just trying to protect the purity of truth inherent in Loony Tunes is all." – Paid-up subscriber D. Shurkin

Regards,

Dan Ferris
Medford, Oregon
June 9, 2008

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