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Editor’s Note: The Federal Reserve’s interest rate decision next Wednesday looms larger by the day… as volatility surges and investors quake.
We’re marshaling PBRG’s maximum “firepower” to help carry you through this economic minefield unscathed. Tomorrow night, we’re holding an emergency wealth-protection summit. All PBRG subscribers are invited to attend.
Today, we conclude Tom’s eye-opening interview with his friend and mentor Porter Stansberry (founder of Stansberry Research). Yesterday, Porter explained how the global economy is entering a new leg of the credit default cycle. Below, he shares where he sees fresh opportunity to profit amid the chaos…
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Tom Dyson, founder, Palm Beach Research Group: Porter, how does the credit default cycle affect our readers and the average investor? People like our parents, who are mostly invested in stocks and mutual funds.
What are you doing? And what can they do to protect themselves from these cascading credit defaults?
Porter Stansberry, founder, Stansberry Research: That’s a very big question… it’s hard to grasp all the different ramifications for an individual. Everyone’s situation is a little bit different.
During a period of credit default, you should see poor performance from financial assets in general.
As a surprising corollary, you should also see better-than-expected performance in commodities.
Here’s why…
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Think about what’s happened in the U.S. “oil patch.” Most of those on-shore oil exploration and production companies—that’ve issued $500 billion in debt over the last five years—will go broke.
That’s because they can’t earn enough money to pay their debts with oil at $40 per barrel.
When they go broke, a lot of them will be liquidated. Operations will shut down. That means less oil being pumped… and lower supply.
So you’d see oil going from $40 to $60 per barrel next year… a 50% increase. That’s a substantial move to the upside in commodities.
Likewise, a lot of the marginal commodity players across the spectrum—whether it’s gold, silver, or other metals—are shuttering operations because of credit stress. That’ll also lower supply.
And of course, lower supply plus even demand means higher prices.
So again, the opposite of poorly performing financial assets is a surprising upside to commodities.
Now, I’m not suggesting you go out and dump your stocks and buy nothing but gold. The timing is quite difficult to get correct. But look for commodities to rise as part of the credit default cycle.
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You also don’t want to own any stocks under credit stress. If a company’s at risk of going bankrupt, the stocks will get crushed.
Make sure you’re invested in highly rated businesses. These are large companies with great brands and unstoppable businesses (one of my all-time favorites is Hershey’s).
In my opinion, you want to own these companies through thick and thin. But the next couple of years is not a good time to speculate in stocks.
If you like to buy penny stocks or micro-cap stocks, watch out. They’re likely to get hurt.
But if you do want to speculate, the best way during a period of credit stress is by buying bonds. It’s a contrarian idea… and it’s hard for people to wrap their heads around.
When bonds default, bondholders usually enjoy substantial recovery of their money. That’s because they’re much higher on the creditor “pecking order” than shareholders. So it’s safer to speculate in bonds than it is to speculate in stocks—where there’s usually no recovery.
The recovery for investment-grade bonds—high-quality corporate debt—has averaged around 40 cents on the dollar. If you can buy distressed investment-grade bonds for less than 50 cents on the dollar, you’re probably making a good speculation. You’ve capped your downside risk at about 20%. You’ll also enjoy high yields plus a major capital gain if the company doesn’t default.
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Now, there’s a lot that goes into this strategy. I’m not saying you should speculate with any bond trading at 50 cents on the dollar.
But there’s a lot of opportunity out there for folks who are skillful… and can do the balance sheet analysis or credit analysis properly.
And here’s the really interesting thing, Tom: Non-investment-grade bonds—or “junk bonds”—have the exact same average historic recovery rate: around 40 cents on the dollar. That’s what’s exciting…
Normally, if you go lower down the quality spectrum in stocks, you can get burned.
For example, if you’re buying the fourth leading provider of online search [technology], Google’s going to crush you. Your stock won’t be worth anything.
But if you buy the more marginal business’ bonds… as long as the property and collateral is good behind the bond, you don’t have to pick a winning business to make money. The company only needs to be strong enough to be able to pay your money back.
So bonds offer a fertile ground for speculation and research. You can do well if you do your homework.
I like bonds so much because they’re so “binary”…
I don’t have to know whether it’s the best business… or even a good business. All I need to know is if it can earn enough money to pay me back.
And that kind of analysis is a lot easier than trying to predict who’ll be the next great solar panel maker… or something like that.
Tom: Yes. I agree on both the commodities and bonds calls. Porter, thanks for talking with me today. I know our subscribers will appreciate it… especially on such short notice.
Porter: No problem, Tom.
Reeves’ Note: Tom and the entire PBRG research crew are busy putting the finishing touches on our emergency wealth-protection summit. It will feature our tailored plan to shepherd your assets away from any market turbulence… while showing you how to harness the chaos for quick triple-digit gains.
The urgent presentation hits tomorrow night. It’s 100% free. We invite (and implore) all PBRG subscribers to attend. Don’t enter the new credit default cycle unprepared. Click here to join.