Financial Crisis Round Two Survival Guide

8/6/2019 Financial Crisis Round Two Survival Guide

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Financial Crisis"Round Two" Survival Guide

Thisbearmarketisnowherenearover.SinceitsMarch10lowof666in2009,theS&P500rallyhasbeenalmostunstoppable.Punditsandmediacommentatorsalikehavetakenthistomeanthatthebearmarketisoverandthatstocksshouldonceagainbetheprimaryassetclassforinvestors.Noneofthemknowswhattheyretalkingabout.

Overthelast30years,theUShasbuiltuprecorddebtsonapersonal,state,andnationallevel.Consumersthoughttheywerefinanciallystablesolongastheycouldcovertheinterestpaymentsontheircreditcards,statescreatedprogramafterprogramfewifanyofwhichtheycouldafford,andtheFederalGovernmentissued$3050trillionindebtandliabilities(countingSocialSecurityandMedicare).Thisallcametoascreechinghaltwhenthehousingbubble(arguablythebiggestdebtbubbleinhistory)implodedin2007.Sincethattime,stockshavestagedoneoftheirworstyearsonrecord(2008),oneinfiveusmortgageshasfallenunderwater(meaningthemortgageloanisworthmorethanthehomeitself),andsometrillionsinUShouseholdwealthhasevaporated.

Theseissuesseemtobedistinct,butinrealitytheyallstemfromadebtproblem.Andasyouknow,thereisonlyonelegitimatewaytodealwithadebtproblem:Payitoff.However,insteadofdoingthis,theFeds(theFederalReserve,TreasuryDept,etc.)havebeenproducingEVENMOREDEBT.Heresabriefrecapoftheirmovesthusfar:

TheFederalReservecutsinterestratesfrom5.250.25%(Sept07today) TheBearStearnsdeal/Fedbuys$30billioninjunkmortgages(March08) TheFedopensvariouslendingwindowstoinvestmentbanks(March08) TheSECproposesbanningshortsellingonfinancialstocks(July08) TheTreasurybuysFannie/Freddiefor$400billion(Sept08) TheFedtakesoverAIGfor$85billion(Sept08) TheFeddolesout$25billionfortheautomakers(Sept08) TheFeds$700billionTroubledAssetsReliefProgram(TARP)(Oct08)


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TheFedbuyscommercialpaper(nonbankdebt)fromnonfinancials(Oct08)

TheFedoffers$540billiontobackstopmoneymarketfunds(Oct08) TheFedsbackstopsupto$280billionofCitigroupsliabilities(Oct08). Another$40billiontoAIG(Nov08) TheFedbackstopsup$140billionofBankofAmericasliabilities(Jan09) Obamas$787BillionStimulus(Jan09) TheFeds$300billionQuantitativeEasingProgram(Mar09) TheFedbuying$1.25trillioninagencymortgagebackedsecurities(Mar09

10) TheFedbuying$200billioninagencydebt(Mar0910) CashforClunkersI&II(JulyAugust09)

AndthatsaBRIEFrecap(ImsureIleftsomethingout).Inanutshell,TheFedshavetriedtocombatadebtproblembyISSUINGMORE

DEBT.Theyrepumpingtrillionsofdollarsintothefinancialsystem,tryingtopropWallStreetandthestockmarket.TheyvemanagedtokickoffarallyinstocksButtheyHAVENOTADDRESSEDTHEFUNDAMENTALISSUESPLAGUINGTHEFINANCIALMARKET.StocksareheadedforanotherCrash,possiblyasbadastheonewesawinOctoberNovember2008.Asyouknow,thatCrashwipedout$11trillioninhouseholdwealthinamatterofweeks.TheresnotellingthedamagethisSecondRoundwillcause.TheFedshavethrowneverythingtheyvegot(includingthekitchensink)atthefinancialcrisisandthingsarefundamentallynobetterthantheywerebefore:

mostmajorbanksareinsolvent,oneinfiveUSmortgagesisunderwater,andthestockmarketisbeinglargelyproppedupbyinhousetradingfromafewkeyplayers(GoldmanSachs,UBS,etc).Makenomistake,wearerapidlyheadedforuglytimesinthefinancialmarkets.ThetimetoprepareyourselfisNOW!AndIvelocatedseveralinvestmentsthatwillnotonlyprotectyourportfoliotheyllalsohelpyouturnaprofitwhenthishouseofcardswecallamarketrallycomescrashingdown.

Ivedetailedalloftheminthisreport,TheFinancialCrisisRoundTwoSurvivalGuide.

TwoWaysStocksPay:InflationandDividendsBeforewegetintothespecificinvestmentsuggestions,itsimportanttotakeabigpictureofstocksasanassetclass.Thecommonconsensusisthatstocksreturnanaverageof6%ayear(atleastgoingbackto1900).


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However,astudybytheLondonBusinessSchoolrecentlyrevealedthatwhenyouremovedividends,stocksgainsdroptoamere1.7%ayear(evenlowerthanthereturnfromlong termTreasurybondsoverthesameperiod). Putanotherway,dividendsaccountfor70%oftheaverageUSstockreturnssince

1900.Whenyouremovedividends,stocksactuallyofferLESSrewardandMOREriskthanbonds.Ifyoudinvested$1instocksin1900,youdhavemade$582withreinvesteddividendsadjustedforinflationvs.amere$6frompriceappreciation.SoasmuchastheCNBCcrowd(andoutserialbubbleblowingFedChairmanBenBernanke)wouldliketobelievethatthewaytomakemoneyinstocksisbuyinglowandsellinghigh,therealityisthatthevastmajorityofgainsfromstocksstemfromdividends.Theremaininggainshavecomelargelyfrominflation.

BillKing,ChiefMarketStrategistM.RamseyKingSecuritiesrecentlypublishedthefollowingchartcomparingREALGDP(lightblue),GDPwhenyouaccountforinflation(darkblue),andtheDowJonesperformance(black)overthelast30years.Whatfollowsisaclearpicturethatsincethemid70sMOSToftheperceivedstockgainshavecomefrominflation.

Whichbringsustotoday.Accordingtoofficialdata,theS&P500iscurrentlytradingataPricetoEarnings(P/E)ratioof20andyields1.7%.Inplainterms,stocksareexpensive(historicaverageforP/Eis15)andpayinglittle.Inotherwords,thereislittleincentive,otherthanfutureinflationexpectations,forowningstocksrightnow.


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Withthisinmind,nowisthetimetobepruningyourlongholdings.WevehadaspectacularruninstockssincetheMarch2009lowandthelikelihoodofthiscontinuingmuchlongerisrelativelyslim.

RunningOutofBuyersBymosthistoricmetrics,themarketisshowingsignsofasignificanttop.Herearejustafewkeymetrics:

1) Investorsentimentisbacktosuperbullishautumn2007levels.2) Insidersellingtobuyingratiosarebacktoautumn2007levels(insidersare

sellingthefarm).3) Moneymarketfundassetsareat2007levels(indicatingthatinvestorshave

goneallinwithstocks).4) Mutualfundcashlevelsareatahistoriclow.

Thisfinalpointiskey.Mutualfundsarethebigboysoftheinvestmentworld.Iftheyhavebecomefullyinvestedinthemarket,thismeanstherearefewbuyerslefttopushstockshigher.Thisisevidentinthefactthateverytimemutualfundcashlevelsdropped,stockscollapsedsoonafter(seechartbelow).

http://home.comcast.net/~RoyAshworth/Mutual_Fund_Cash_Levels/Mutual_Fund_Cash_Levels.htm


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Inplainterms,theoddsarehighthataTopisforminginstocks.Withthatinmind,ifyourportfolioisheavilyinvestedinstocks,nowisatimetobetakingsomeprofits.Ifyoucan,considermovingasizablechunkintocash.

ThemarketisextremelytiredandthesystemicrisksunderlyingtheFinancialCrisisareinnowayresolved.Withinvestorcomplacency(asmeasuredbytheVIX)backtopreCrashlevels,theFedwithdrawingseveralofitsmoresignificantmarketprops,andlowparticipationcomingfromthelargerinstitutions,thismarketisripeforaseriouscorrection.Imnotsayingthiswillimmediatelyhappen.ButatsomepointtherewillbeanewroundtotheFinancialCrisis.Whenthathappens,weWILLhaveanotherCrash.Indeed,itisquitepossiblethatstocksaremakingaVERYsignificanttop,sobeingheavilyinvestedinstocksgoingforwarddoesntmakemuchsense.Takesomemoneyoffthetable.Ifyouneedaplacetoputit,IsuggestphysicalcashorGold/

Silverbullion.

IfYouMUSTStayLong,ShifttoQualityIfyouDOhavetostayinvestedinstocks,nowisthetimetobeshiftingoutofjunkintoquality.ThemarketrallyfromMarch2009haslargelybeenleadbyjunkcompanies(financials,retailers,etc).Meanwhile,qualityhaslaggeddramatically.Asanexample,letscomparetheperformanceofCoke(KO)toBankofAmerica(BAC).KOisoneofthebest,mostprofitablebrandsintheworld.Thecompetitivemoataroundthisbusinessisextraordinaryanditremainsoneofthemosteasilyrecognizedfranchisesontheplanet.YoucandrinksixglassesofCokeadayandstillenjoyitthenextday.Thatqualityisalmostnowheretobefoundinanyotherfood/beverageontheplanet:evenchocolatewouldgetoldaftersixbarsaday.BAContheotherhandhasswallowedCountrywideFinancialANDMerrillLynchsgarbageassets.Itiseffectivelyinsolventbasedonitsderivativeexposurealone(thecompanyhasderivativesequalto3,000%ofassets).BACsbalancesheetislikeanopensewerandwithoutseriousgovernmentinterventionthecompanywouldnotevenexistrightnow.Andyet,BACsstockhasrisennearly200%sincetheMarch09lowswhileKOisuplessthan50%.


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Thisrelationshipworkstothedownsideaswell.WhatImeanisthatwhenstockscomeunhinged,Quality(Coke)thenoutperformsGarbage(BankofAmerica)handsdown.

So,ifyouHAVEtoremaininvestedinstockstothelongsideforwhateverreason,nowisthetimetobemovingintohighqualitycompanies.Thismeansfindingcompanieswithlowdebt,lotsofcash,strongresults(KOactuallyGREWrevenuesin2008),andsignificantcompetitiveadvantages.Also,andthisiscritical,lookforcompanieswithstrongbalancesheets:companiesthatwillstillEXISTiftheresanotherCrisis.Depressionorno,peoplewillstilldrinksoda,alcohol,smokecigarettes,andneedmedicine.Ivecompiledalistofcompaniesyoushouldconsiderifyouneedtoremaininvolvedinstocksgoingforward:Company Symbol Sector Price/Cash

FlowDividendYield

Coke KO SoftDrinks 15 3.2%


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Budweiser BUD Alcohol 14 N/A

J&J JNJ Medicine 10 3.02%WalMart WMT GeneralRetail 8 2.16%

ExxonMobil XOM Oil 11 2.51%

Youllnotethatmostofthesecompaniespaydecentdividends(comparedtotheS&P500s1.7%).Thisiscriticalgoingforward.Withstocksovervalued,youwanttomakesureyoureatleastgettingpaidforremaininginvolvedinthemarket.However,thereisanaddedbonustoowningQualitystocksrightnow.BecausethismarketrallyhaslargelybeendominatedbyGarbagestocks,QualitycompanieslikeCokehavenotyetrisentoextremevaluations.Thus,youcanstillbuythematrelativelycheaplevels(lessthan15timescashflow).So,inasense,theyareagoodinvestmentbasedonpricingaswell.IwanttostressthattheseinvestmentsareonlyifyouHAVEtostayinstocksfor

somereason.Ifthereisanothercollapsethesecompanieswillfalllikeeverythingelse.However,theywilllikelyfalllessthantherestofthemarket(seethechartcomparingCokeandtheS&P500below).

source:YahooFinance

SowhileIdonotexpectthesepositionstomakealotofmoneynow(thesearenotshorttermtrades),theyshouldshelteryoufromlosingtoomuchmoneyshouldanotherCrashhit.Indeed,ifthemarketDOEScollapseandthesecompaniesfall1015%acrosstheboard(whilethemarketfalls30%+)IwouldconsidertheseinvestmentsevenMOREattractivethantheyaretoday.Letmeexplain.Volatilitycaneitherhurtyouorbeyourfriend.Mostpeoplewouldsellapositionifitfell2030%.Thisiswiseifyoureinvestingbasedonmomentum.However,if


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youreinvestingbasedonvalue,thendoingthisiscompletelyantitheticaltoattaininghighreturns.ConsiderCoke.LetssaytomorrowCokecollapsedfrom$55to$25pershare.Mostinvestorswouldpanicandsell.I,ontheotherhand,wouldbebuyinggreedily.Why?

BecauseCokesbusinesshasafundamentalvalue.EvenduringaFinancialCrisisandDepression,peoplewillcontinuetodrinksoda.SotheopportunitytobuyCokeat$25ashare(whichwouldbe78timescashflow)wouldbetrulyanextraordinaryopportunity.Indeed,fromanincomeperspectivealone,theopportunityherewouldbefantastic.Considerthatin2009,Cokepaidout$1.76individends.Withsharesat$55,thismeansadividendyieldof3.2%(roughlythreetimeswhatyoudgetbyleavingyourmoneyinasavingsaccount).

However,ifCokesharesfellto$25,that$1.76suddenlybecomesa7%yield($1.75/$25.00).Thatsaheckofareturnfromanincomeperspective.EvenifgloballytheworldenteredasharpDepressionandCokesincomefellby30%,pullingitspayoutsdownto$1.23,yourestilllookingata5%yield.Indeed,companieslikeCokeofferthepotentialofREALvalueshouldtheirsharepricesdrop.TheirfundamentalsalmostALWAYSoutperforminvestorsentiment.WhatImeanbythisisthatshouldtherebeanotherCollapse,CokessharepricewillalmostcertainlyfallMOREfromitscurrentlevelsthanCokescashpayoutsorincomewillfromtheirs.

During2008,Cokesharesfell30%orso.However,CokeactuallyINCREASEDitsdividendthatyear.AnyonewhoboughtCokeinOctober2008,nowcollectsa4%yieldontheirshares(fourtimeswhatheorshewouldgetfromabankaccount).ThisiswhycompanieslikeCokeremainsostrongduringtimesofCrisis.WiththeFDICbrokeandmostUSbanksinsolvent,investorsdesperatelyneedaplacetoparkcashthatwillstillEXISTinafewyears.CompanieslikeCokeareareasonablealternativetoasavingsaccountinthesensethatyourepaidahigheryieldforyourdeposit(now3%,but5%orhigherifCokesharesplunge).Ofcourse,becauseCokeisastock,youcanlose10 15%ormoreifsharesdrop

andyousell.InaCrisis,plainoldcashwilloutperformjustaboutanything.ThisiswhyIvesuggestedmovingmoneytocash,ifyoucan.ItsalsowhyIsuggestedbuyingCokeandtheothercompanieslistedaboveonlyIFyouHAVEtobeinstocksrightnow.

CatastropheInsurance:TradesForWhentheCollapseHits


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NowisalsothetimetobetakingoutsomeCatastropheInsurancebycompilingalistoftradestomakeoncestocksbegintocollapse.Letmebeclear,thesearenottradesthatyoullmakerightnowthesearetradesyoullmakeWHENstockscollapse.

Personally,IfavorUltraShortETFs.IfyoureunfamiliarwithUltraShortETFs,theseareinvetsmentsthatreturn2XtheinverseofaparticularETF.Letstakeanexample,theUltraShortFinancialsETF(SKF).SKFreturns2XtheinverseoftheFinancialsETF(IYF).SoifIYFfalls5%,SKFrises10%.IfIYFfalls10%,SKFrises20%.Inthissense,SKFisagreathedgeormeansofplayingFinancialstockstothedownside.However,theresanaddedbonustoUltraShortETFslikeSKF:theseinvestments

ALSOtradebasedondemandfromthemarketplace.Soifstockscollapsesay30%,youmightactuallyseegainsGREATERthan60%(2Xtheinverse)duetoinvestorspilinginastheyseektoprofitfromthecollapse.ConsiderSKFsperformancein2008,forexample.In2008,financialstocks(asmeasuredbytheFinancialsETF:IYF),fellroughly50%.

However,ifyoudboughtSKFoncetheCrisisreallytookhold(lateSeptember),youcouldhavemadeMOREthan100%intwomonthstime:


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ThisiswhatmakestheUltraShortETFssohandywhenaCrisishits:becausetheytrulyskyrocketasinvestorsstampedelikeelephantsintosafety.However,IMUSTSTRESSthatthesearenotinvestmentstobuyandhold.Instead,theseareshort termtradesyoushouldmakeONLYoncestockshavebeguntotrulycollapse.SimplyaddthemtoyourondecktradestomakeoncethenextCrisishits.

Youreprobablyaskingyourself,howcanIdistinguishbetweenanordinarycorrectionandaREALCrisis?Letsseewhathistoryshowsus.Ifyourecallfrom2008,stocksdidntgostraightdown.Insteadtheydropped,bounced,andthenbegantheseriouscollapse.Lookingbackatthattime,the50DMAservedasausefulmetricforgaugingthataseriousdeclinewasabouttobegin:


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Asyoucanseestocksrolledoverandbrokebelowtheir50DMAinlate2007.Afterthat,the50DMAactedasstrongresistance.Indeed,therewasonlyonebounceabovethislevel,whichlastedroughlyamonthandahalf.Therealtroublebeganinthesummerof2008,andinvestorsweregivenadecentwarningwhentheS&P500collapsedandthenbouncedtotestthe50DMAandfailedtobreakit.

Similarwarningsappearedbeforethe1987Crash:


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TheTechBubble:

Andthe2008Crash:


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For this reason, I suggest buying the UltraShort Russell 2000 ETF (TWM) when themarket begins its next real collapse.

The UltraShort Russell 2000 ETF (TWM) returns 2X the inverse of the Russell 2000.

So if the Russell 2000 falls 5%, TWM returns 10%. If the Russell 2000 falls 10%, TWMreturns 20%. Its a terrific means of playing the collapse in small cap stocks.

Again, wait for stocks to enter a free fall before opening this trade.

Trade #2: Short Financials

By now you know that the current Crisis has centered on the financial sector, specifically

the banks. TheProtect Your Savings report details the issues extensively. However, asfurther proof, the below chart shows that US banks are about to get slammed with another

round of mortgage defaults from the residential housing sector (Im not even going tobother including the commercial real estate market which is a multi-billion time bomb in

of itself).


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Suffice to say, Financials have a lot of issues coming their way in the future. For that

reason, when the next Round of the Crisis hits, I suggest buying the UltraShort

Financials ETF (SKF).

SKF returns 2X the inverse of the Financials ETF (IYF). So if the IYF falls 5%, SKF

returns 10%. If the IYF falls 10%, SKF returns 20%. Its a terrific means of playing thecollapse in financials stocks.

Again, wait for stocks to enter a free fall before opening this trade.

Trade #3: Short the Retail ETF

TheUSconsumeraccountsfor70%ofUSGDP.Realunemploymentiscurrentlycloseto17%.FoodStampusageisaroundarecord38million.Taxreceiptsfor2010sofarareLOWERthan2009slevels(didnteveryonethinktheentireworldwasendingbackthen?).Andyet,retailstocksarebacktotheir2007highs:


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Asyoucansee,retailstocksingeneralareupnearly200%duringtheworstrecessionindecades.Itssimplystaggering.Forthatreason,IsuggestShortingtheRetailETF(XRT)whenstocksstarttocollapse.XRTgivesbroadexposuretotheretailsector.Itstopholdingsare:

Company %ofAssets

CaseyGeneralStores 1.9%Gamestop 1.9%

JosABankClothiers 1.8%Netflix 1.8%

TractorSupply 1.7%

AnnetaylorStores 1.7%

LimitedBrands 1.7%ChildrensPIRetailStores 1.7%

BestBuy 1.6%

AbercrombieandFitch 1.6%

ShortingthisETFgivesyoutheopportunitytoshortretailacrosstheboard.However,ifyouremoreinclinedtoshortspecificcompanies,IdfocusonapparelandclothingretailerslikeGap(GPS),LimitedBrands(LTD),Nordstrom(JWN),andthelike.Aswiththeothertrades,onlyentertheseshortswhenthemarketbeginstoenterafreefall.


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Trade #4: Short the Emerging MarketsEmergingmarketshaveleadedtheUSonthislatestrally:theybottomedbackinNovember2008,whileUSstockscontinuedtoplungeuntilMarch2009.Thatsnottheonlyleadingemergingmarketshavedone.WhiletheS&P500isupsome60%

fromitsMarchlows,China,BrazilandtheirkindhaveallmorethanDOUBLEDfromtheNovember2008lows.This relationship will reverse in the next Crisis.

During times of Crisis, the flight to safety involves institutional investors dumping

their foreign shares to load up on Treasuries or other perceived safe havens.Consequently, emerging markets are hit hardest when the markets collapse.

For that reason, when the next collapse begins I suggest shorting emerging markets viaany number of inverse Ultrashort ETFs. The most popular ones are:

1) The UltraShort Emerging markets ETF (EEV)2) The UltraShort China ETF (FXP)3) The UltraShort Brazil ETF (BZQ)

All three of these return 2X the inverse of an underlying index: the MSCI EmergingMarkets ETF, the FTSE/ Xinhua 25 ETF, and the Brazil ETF, respectively. As such, they

represent a great way to pocket major gains when the emerging markets collapse alongwith the rest of the financial world during the next Crisis.

Aswiththeothertrades,onlyentertheseshortswhenthemarketbeginstoentera

freefall.

ConclusionThisconcludestheourreport.IfyoufoundthisinterestingyoumightwanttoconsiderdelvingintoourotherFREEreports.Allofthemareavailablefordownloading.Simplyclickhere.Good Investing!

Graham SummersChief Market Strategist

Phoenix Capital Research

Financial Crisis Round Two Survival Guide

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