Ryanair service improves... The Mystery of Banking... Tom Wolfe incredulous... Three years of housing gains gone...

Airlines are in trouble, but the CEO of Irish airline Ryanair may have the perfect solution. Watch his colorful response here. It's R-rated, so don't say we didn't warn you.

Merrill Lynch analyst Edward Najarian said regional bank stocks appear to be in "capitulation mode" and will likely trade below fair value as soon as dividend cuts, capital raising, high credit risk, and uncertain earnings push down shares. Najarian doesn't expect the credit market to recover until 2010. He forecasts more dividend cuts and capital raising at banks, including Wachovia and Bank of America, in the second half of this year.

For a few months now, I've been telling you to avoid bank stocks of any kind. I've read things here and there that say they're cheap. But that's only a cursory observation based on flimsy data. Banks aren't as cheap as they look, once you add 20% or so to the share count, penalize their intrinsic value for lousy underwriting, and assume pre-bubble earnings levels going forward.

Crisis or not, precious few banks are worth owning for any length of time. If you don't believe me, believe Warren Buffett. He wrote about banks in his 1990 annual shareholder letter. A few choice quotes from that letter...

• The banking business is no favorite of ours.
  
  
• In their lending, many bankers played follow-the-leader with lemming-like zeal; now they are experiencing a lemming-like fate.
  
  
• Because leverage of 20:1 magnifies the effects of managerial strengths and weaknesses, we have no interest in purchasing shares of a poorly managed bank at a "cheap" price. Instead, our only interest is in buying into well-managed banks at fair prices.

If you want to know how many "well-managed banks" there are, here's a simple acid test: Try to find a bank with enough liquid assets to pay off all its depositors in full. It's not easy. That means the vast majority of banks could never survive a bank run. Now ask yourself if you think the economy is headed in a direction where bank runs happen A) more often, B) less often, or C) not at all. I'm checking the box next to choice "A"... more often.

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When financial assets are all the rage, the masses convert them to cash and load up on depreciable tangible assets like fancy cars and other toys. And they spend heavily on vacations, fancy meals, and other nondurables. When hard asset values go up and financial assets go down, the masses find themselves in the awkward position of having to unload their tangible goods because they always seem to be short of cash.

That's the mob for you... clamoring for the wrong thing at the wrong time... eating free bread and watching the gladiators murder each other in the Coliseum instead of getting out of town before the Huns arrive.

Murray Rothbard discusses the rising demand for cash balances during inflationary spirals in his book, The Mystery of Banking. It's a tough read, but well worth it. It'll definitely cure you of your desire to be a contrarian in bank stocks.

An interesting observation from author Tom Wolfe... "It has always interested me that the word 'credit' comes from the word 'credere,' which means 'to believe.' It only works if people believe in it."

Believe it or not, there are still some believers around. And where else would you expect to find them but in government loan programs and nonprofit institutions?

The phrase, "cash-strapped home buyers" ought to be an oxymoron, but it's not. They can still get FHA loans for as much as 100% of the purchase price. One guy bought a home with $250 down. Sellers are contributing cash for closing costs and down payments to get rid of their properties.

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And still housing prices plummet. In April, home prices in 20 of the largest U.S. cities fell more than 15%. Even Charlotte, North Carolina, which had been holding steady, saw a drop in home prices in April. According to S&P's Case-Shiller Index, three years of housing price gains have been erased.

A bunch of economists are now saying what I've been saying for months, that housing prices will continue to fall...

"[Home price] overshooting on the upside is often followed by overshooting on the downside."

– Alan Ruskin, RBS in Greenwich, Connecticut

"Given the current level of unsold homes on the market, the number of foreclosures already in or about to enter the pipeline, and the run-up in prices over 2000-06, [home prices are] likely to drop much more."

– Patrick Newport, Global Insight

"The weakness has not been contained to the bubble markets…"

– Michelle Meyer, Lehman Brothers

If you think you can call the bottom in banks or housing, maybe you can first help me remember who it was that said something like, "Markets can remain irrational for longer than you can remain solvent."

Investors don't need to do anything but avoid this stuff, but I recognize your overwhelming obsession with "action." To wit...

We wrote it, did you short it?

Today, on a combined basis, Freddie and Fannie own or guarantee 45% of all of the mortgages in the United States – $4.8 trillion worth of mortgages. But looking only at the mortgages they actually own and hold on their balance sheets, you find mortgages with a face value of $1.7 trillion. They hold these assets with only a sliver of equity, about $70 billion in "core" capital. On a combined basis, they're leveraged by a little more than 24-to-1. Thus, a 5% loss in the value of their mortgages would wipe out 100% of the equity in each firm.

I submit to you: Both stocks are certainly and clearly already zeros.
– Porter Stansberry's Investment Advisory, June 2008

Fannie Mae and Freddie Mac fell 7% and 8.7%, respectively, yesterday. And Porter's already up big. But remember, the downside is always 100% from here.

We celebrated the one-year anniversary of private-equity behemoth Blackstone Group's IPO this week. Our thoughts a year ago:

Chief Executive Stephen Schwarzman and his partner Peter Peterson started this company in 1985 with $400,000. They've worked hard for 22 years. And they're no dummies. They've seen a top in the credit markets before... and this time they're cashing out.
– The S&A Digest, June 13, 2007

Turns out we were right. Blackstone shares immediately tumbled, falling as much as 50%. Take a look at the chart below.


New Highs: Comstock Resources (CRK), Western Union (WU), Peyto Energy (PEY-UN.TO), Pioneer Drilling (PDC), Grey Wolf (GW), Stone Energy (SGY), XTO Energy (XTO), Exelon (EXC), Basic Energy Services (BAS).

Most of the e-mails are about habeas corpus and how lame Porter is for drinking Miller Light. He'll address those issues tomorrow... In the meantime, share your thoughts at: feedback@stansberryresearch.com.

"Here is a question for the mailbag. I have always been puzzled about the rationale for the hold status in investment letters. As an example, take the hold Sjuggerud has on ITB, a stock that has fallen steeply from its original recommended price. If the stock isn't worth buying at this lower price, why shouldn't I sell it if I already own it? If it is worth owning because one expects a turnaround in a reasonable time frame, why not buy it at the lower and better price now?" – Paid-up subscriber Earl Ludman

Ferris comment: I can't speak for Steve Sjuggerud or anyone else. I can only speak for myself. In Extreme Value, "hold" simply means "don't add to a position or start a new one."

I recommend stocks at significant discounts to intrinsic value. If a stock goes up, you're no longer at a significant discount. That stock becomes a "hold" because it's too late to buy, but it's too early to sell because it could rise farther from here. If a stock goes down and it's a "hold," it means we're waiting to see how management handles whatever is depressing the stock price.

Regards,

Dan Ferris
Medford, Oregon
June 24, 2008

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