by Louis Basenese, Advisory Panelist

Trying to call market tops and bottoms is a foolish and fatally flawed endeavor.

However, we all know the mergers and acquisitions (M&A) market is notoriously cyclical. And deal volume picks up coming out of recessions.

And if the last 10 days are any indication, we might have hit the turning point. Let me tell you why. And more importantly, the best way to play it…

Corporate America is Finally Dipping into its Massive Wad of Cash

The economic slowdown and credit freeze prompted many companies to horde cash. Some wanted it as a buffer. Others simply refused to reinvest their profits until they could use leverage to effectively buy more.

Regardless of the reason, an arsenal of cash sits on the balance sheet of corporate America.

In fact, the latest tally of corporate cash available pegs it at roughly $700 billion, according to S&P analyst, Howard Silverblatt.

Keep in mind that this figure excludes the financials, utilities and transportation sectors. These companies generally carry lots of cash as a normal part of business. And it also doesn’t include the nearly $1 trillion in cash in private equity funds, according to London-based research house Preqin.

Here’s the big whoop: That much cash doesn’t sit idle forever. Not when it earns a paltry 1% interest in a bank account.

In fact, the longer it sits, the more executives will be itching to put it to work to earn higher returns. After all, it’s their responsibility to maximize shareholder wealth.

Well, last Monday, they started scratching…

August 31 Was “Merger Monday”… and the Trend is Continuing

On Monday, August 31, the newswires lit up with merger activity.

• Baker Hughes and BJ Services….
• Disney and Marvel Entertainment….
• Kinder Morgan and Crosstex….
• And of course, the credible rumors that materialized involving E*Trade Financial.

In the end, it was the busiest day of deal making in almost three months.

But it wasn’t a fluke. It happened again this week!

Despite the market holiday, Kraft Foods went public with its $16.7 billion takeover offer for British candy maker Cadbury PLC. And Deutsche Telekom’s T-Mobile announced plans to merge with France Telecom’s Orange subsidiary.

All told, more than $40 billion worth of deals were announced over the past 10 days.

So is this just a short-term spike that won’t be sustained?

Loads of Cash + Cheap Takeover Targets = A Boost in M&A Activity

Not according to investment bankers and M&A attorneys. They confirm that more deals are in the pipeline. For example…

• “There is a lot of activity behind the scenes,” says Andy Levine, a partner at M&A law firm Jones Day.
• Paul Parker, head of global mergers and acquisitions at Barclays Capital concurs: “Given that this down period was an extended one, there is a lot of pent up demand.” He adds, “They [CEOs] are no longer worried about catching a falling knife and are now worried about getting left behind.”

Clearly, the stage is set for a revival. There’s ample cash to fuel it. And the longer we go without a market correction, which would put buyers on guard again, the quicker I expect M&A activity to perk up.

If you want to capitalize on it, focus on the sector chock-full of cheap targets and buyers flush with cash.

A Perfect Storm for Technology Takeovers

Even after this year’s rally, prices for many small technology firms are down significantly, below cash in some instances.

Meanwhile, the titans of technology are cash heavy. If you take the collective balance sheets of Oracle, Cisco, Microsoft, IBM, Google, Apple, Intel and Hewlett-Packard, these big boys are sitting on $158.1 billion in cash.

And since they don’t suffer from huge debt burdens or enormously unfunded pensions, get ready for them to spend it. But don’t just take my word for it…

• Over the past 18 months, Oracle made several impulse buys, scooping up 10 smaller firms for a combined $750 million. CEO Larry Ellison is an unashamed takeover addict, not interested in quitting, even after gobbling up Sun Microsystems for $7.4 billion.
• Over at Cisco, CEO John Chambers believes, “Cash is king, queen and the royal family” in a recession. By his own admission, he doesn’t intend to let the company’s $36 billion sit idly on the throne.
• Then there’s Microsoft executive Chris Liddell. He thinks the buying opportunities have “probably never been better.” Not a comment one makes unless they’re out shopping.

Bottom line: Thanks to low prices for takeover target companies and historically high cash balances, the deal machine in the technology sector is well greased and primed for action.

Here’s how to tilt the odds in your favor…

Let the $2 Billion Mark Be Your M&A Yardstick

Although the M&A pace is quickening, the credit markets haven’t completely thawed. So we shouldn’t expect the mega deals we witnessed in 2007. In fact, July marked the first month in six years without an announcement of a deal worth $5 billion or more.

Deals for small companies, however, are plentiful. The bulk of all announced transactions in the last two months were for $500 million or less.

So I recommend that you focus on all-cash deals – takeover targets with valuable assets that can be purchased for $2 billion or less.

Once such opportunity is Trident Microsystems (Nasdaq: TRID), which I’ve covered in Investment U issue #1076, Buying Low Density Stocks.

And if you want more, I’ve revealed two others in the latest issue of The Oxford Club Communiqué.

• One is a $110 million high-speed networking specialist whose technology is used in almost 25% of the fastest 500 computers in the world.
• The other is a $444 million data storage provider with a valuable niche focus on small- to medium-sized businesses

To learn more about The Communiqué, click here.

Good investing,

Louis Basenese

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by Alexander Green, Advisory Panelist
Tuesday, September 8, 2009: Issue #1087

This month, we received word that the independent Hulbert Financial Digest just ranked our investment letter – The Oxford Club Communiqué – among the five top-performing letters in the nation over the past 10 years.

Part of our success has come from knowing what to buy. Another major factor is knowing when to sell.

And that, quite frankly, is the result of keeping our trailing stop discipline.

Whenever a recommended stock closes 25% below its closing high – or our original recommended price – we sell, no questions asked…

Why do we do this? Number one, a stock trader needs to have a sell discipline or he’s simply flying by the seat of his pants. Anyone can plunk for a few shares. But getting out at the right time is the true art of investing.

Your timing will never be perfect, of course. No investment system devised will ever beat the uncanny success of hindsight.

But the key is to always cut your losses and let your profits run. Easier said than done, however…

Using Trailing Stops to Overcome Emotion and Second-Guessing

Emotions like fear and greed (and hope) often get in the way. Even professional investors and money managers are prone to rationalizing.

But using a trailing stop enforces a discipline that takes the emotion – and the second-guessing – out of the investment process. Prices reflect the facts about a company better than individual opinions. So we don’t argue with the market.

However, some investors tell me they are just too busy to keep up with the trailing stops on their stocks. This makes no sense. It’s tantamount to a driver telling you he doesn’t have time to keep his eyes on the road.

Fortunately, Richard Smith, President and Founder of Tradestops.com – and a PhD in mathematics – has a solution…

A Foolproof Sell Alert Service

Tradestops specializes in helping individual investors protect their profits and investment capital.

The service is straightforward. On the site you can enter the stocks you own, your price paid and the percentage trailing stop you want to use.

If any of your stocks close beneath your selected stop, Tradestops sends you a text message – to your cell phone, e-mail account, or page – alerting you.

Tradestops not only covers all three major U.S. exchanges, but London and Toronto, as well. It can even alert you to stops on your mutual funds and option positions.

Some firms, like Fidelity, offer trailing stop alerts with their accounts. But they generally expire after 30 or 60 days. TradeStops’ information never expires. It’s important to note, though, that Tradestops notifies you, not your broker. It does not enter sell orders.

Personally, I prefer it this way. Anyone who has seen “2001: A Space Odyssey” doesn’t want HAL taking over their account trading.

With Tradestops:

• You can track up to 50 stocks at a time (and whenever you stop out of one, you can replace it with another).
• Tradestops even offers a 30-day risk-free trial.
• Tradestops is easy to use (it’s specifically designed for technophobes) and it’s reasonably priced.
• Ordinarily, the cost is $7.95 a month or $79.50 a year. (If you’re an Oxford Club member, you get a special rate of $39.95 a year.) There are also additional services available for dedicated short-term traders who want even more.

For complete information, feel free to visit: www.Tradestops.com.

And, remember, if you own individual stocks, trailing stops are essential. They don’t just help cut your losses and let your profits run… they guarantee it.

Good investing,

Alex

Editor’s Note: Here’s another way to take the guesswork out of your buying and selling decisions: Let the experts do it for you. That’s exactly what Investment Director Alexander Green and his colleagues at The Oxford Club have done for more than two decades. For $79, you’ll receive an entire year’s worth of specific stock recommendations, with instructions on when to buy and when to sell for maximum profits. (You’ll also be eligible for the Tradestops rate mentioned above, too.) For more details on how to become a member, check out this report.

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by Alexander Green, Advisory Panelist
Saturday, September 5, 2009: Issue #1085

I recently received a prospectus for a new closed-end fund, the Artemundi Global Fund.

This fund does not invest in stocks, bonds, commodities, or currencies. Rather, it invests solely in art, from Old Masters to Post-war and Contemporary Art.

Artemundi points out that fine art has outperformed stocks, bonds and real estate over the past 20 years. It has a low correlation with other assets, providing excellent diversification. And it is portable, so you can take it with you around the country and across borders.

However, I don’t have the slightest interest in owning art through a fund. To me, that takes away this asset’s single greatest benefit: aesthetic pleasure.

The paintings, prints and sculptures I display in my home and office pay dividends every day. I never tire of looking at them. Guests are intrigued, often asking where I got them or why I bought them.

No investment provides more pleasure – or says more about you as an individual – than the art you display in your home.

If your walls are still dotted with framed posters from the furniture store or that print of dogs playing poker you bought on your first trip to Las Vegas, I’ll let you in on a little secret.

You don’t have to pay a small fortune to own beautiful artwork. In fact, I’ll show you two ways to display stunning art in your home at a greatly reduced cost.

Don’t Pay Retail Prices for Artwork… Here’s a Better Way

Number one… if you visit a gallery, art festival, or retail store and see a print, painting, sculpture, or other piece you’d like to own, don’t pay retail.

Instead, when investing in art, use a buyer’s broker like Mike Kuschmann, President of Fine Arts Limited. Fine Arts doesn’t have a gallery of artwork to sell. In fact, it doesn’t have a gallery at all.

Kuschmann is strictly a “buyer’s broker.” That means he works for you, not the seller. When you find a piece that you like, Mike will contact the seller on your behalf and negotiate a dealer’s price, saving you hundreds or perhaps thousands of dollars.

For a complimentary brochure pack, detailing his services, feel free to call him at: 800.229.4322 or 407.702.6638.

Another great way to enjoy beautiful artwork at a greatly reduced cost is to buy re-creations rather than original paintings. Here’s what I mean…

How to Obtain Masterpiece Replicas for a Fraction of the Price

Last week, I made one of my semi-annual pilgrimages to Monticello, the home of Thomas Jefferson. Displayed on the wall in Jefferson’s study were portraits of Benjamin Franklin, Isaac Newton, Francis Bacon and Voltaire.

I asked our guide if the portraits were originals. Turns out the Franklin and Newton paintings were; Bacon and Voltaire were re-creations. Unless you were an expert with a magnifying glass, however, you would never have known the difference.

Prestige Fine Art in Coral Springs, Florida is an unsurpassed re-creator of the world’s most renowned oil paintings. The company uses professional artists who strive to match every nuance of a great master’s palette, brushstroke and vision.

Understand, you are not buying prints here, but museum-quality replicas of the world’s great masterpieces actually hand-painted in oil on canvas.

I was stunned, for instance, the first time I walked into my colleague Mark Skousen’s living room and saw van Gogh’s masterpiece, “Irises,” hanging behind his sofa.

I knew he couldn’t possibly own the priceless original, of course. It was a perfect replica from Prestige Fine Art. And it was gorgeous. Mark laughed and told me the painting has launched a hundred conversations about art from his guests over the years.

For more information and a complimentary 32-page booklet displaying 350 masterpieces, contact Ed Mero at Prestige Fine Art 800.838.9885, or 954.227.8186.

Incidentally, I have known Mike and Ed for decades and have used their services many times. They have excellent reputations for quality and reliability.

Is an investment in artwork right for you? Only you can answer that.

But take a look at the walls in your home or office and ask yourself this: What other investment pays dividends every day?

Good investing,

Alex

Editor’s Note: If you’re looking for a different kind of investment “master” take a look at the investment experts from IU and our affiliated premium services, you can find out more about them – like how they made their first dollars…

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by Louis Basenese, Advisory Panelist
Wednesday, September 2, 2009: Issue #1082

How much are you willing to pay for good advice? And by “good,” I mean profitable.

A couple of hundred bucks? A couple of thousand?

Before you answer, consider this: Two weeks ago, I alerted members of The Oxford Club to the precarious position of Chinese equities. As I put it, “China could be on a crash course with a correction.”

A contrarian stance, no doubt. But vindication came quickly.

The following Monday, Chinese stocks (represented by the Shanghai Composite Index) suffered a 5.8% drop – the worst single-day decline of the year. Two days later, they got dented by another 4.3%.

Unabashed China bulls will point out that the Shanghai index promptly recovered. But then this week hit…

Rally Rebuffed: Chinese Stocks Take Another Tumble

On Monday, the Shanghai Index plunged 6.7% – the worst one-day decline since June 2008.

My point? If you’d merely trimmed up your stops on Chinese stocks, my warning could have saved you thousands of dollars (depending on how much you had invested).

Or you could have traded China short – perhaps buying puts on the most widely traded China ETF – the iShares FTSE/Xinhua China 25 ETF (NYSE: FXI) – and pocketed a quick 20%-plus gain.

So again, how much are you willing to pay for good (read: profitable) advice?

While you think about it, let me tell you why I’m convinced the China sell off could continue.

My Top 10 Reasons Why China is Still Headed For a Correction

As I shared with Oxford Club members, here are my top 10 reasons China was and is still headed for heavy selling…

#1: More Froth Than a Starbucks Cappuccino:

To say Chinese stocks were slightly overvalued is… well, an understatement.

Last fall, Chinese stocks traded at 12.9 times earnings. After just eight months, they rallied to trade at 38 times earnings. Again, a cooling period is necessary to at least give the “e” time to close the gap on the “p” in the price-to-earnings ratio.

On a price-to-book ratio basis, the story’s no different. Of the 1,739 Chinese companies trading on the Shanghai, Shenzen and Hong Kong exchanges, the average price-to-book ratio is 5.02, compared to 2.1 for the S&P 500.

#2: We Can’t Trust the Chinese Government:

I’m not a conspiracy theorist. There’s just no incentive for a communist government to be truthful. So while the official GDP forecast from Beijing hovers around 8%, I’m not buying it.

Neither is perennial pessimist, Marc Faber. He says China is only growing at 2%. A bit extreme. But Chinese citizens don’t exactly convince me to think otherwise. For example, this recent survey reveals they trust prostitutes more than politicians.

#3: Lemmings Marching in Lockstep:

A recent Bloomberg poll of investors and analysts reveals that darn near everyone (70%) is bullish on China. As Humphrey Neill put it in The Art of Contrary Thinking, “When everyone thinks alike, everyone is likely to be wrong.”

#4: Foreign Speculators:

American investors aren’t just feeling bullish… they’re acting bullish. So far this year, they’ve poured $10.6 billion into emerging market mutual funds – a whopping 34 times more than the total amount invested in U.S. funds.

The bulk of these funds are going to China either directly or indirectly, as most emerging market funds are heavily overweighted to China.

#5: Domestic Speculators:

The bullishness is spreading like wildfire within China, too. In mid July, Chinese investors opened 484,799 stock brokerage accounts in a single week! That’s the equivalent of almost two accounts for every man, woman and child in Orlando, my city of residence.

As one strategist in Shenzhen remarked, “The prospect of making quick bucks in the stock market is luring retail investors.” Why do neophytes always have to learn the hard way there’s no such thing as a “quick buck” in the stock market.

#6: “Insiders” Are Cashing Out:

The timing of IPOs is no accident. Companies try to “time” the market in order to fetch the highest price. And after strong debuts for China State Engineering Corp. and Sichuan Expressway Co., companies are lining up to hit the stock market.

Foreigners sense the opportunity, too. Billionaire Sheldon Adelson, owner of Las Vegas Sands Corp., is getting ready to sell shares of his Macau casinos so he can restart work on the $12 billion project that got mothballed in the throes of the financial crisis.

#7: Too Much Easy Credit:

The United States is the poster child for the ill effects of a country hopped up on easy credit. But China apparently believes it can handle the excess. Over the first six months of this year, Chinese banks lent out a record 7.4 trillion yuan ($1.08 trillion). Monetary tightening is inevitable – and we know how well that tends go over with the equity markets.

#8: Jim Rogers isn’t Buying the Bull Either:

This guy literally wrote the book on investing in China – A Bull In China: Investing Profitably In The World’s Greatest Market. But he hasn’t bought any Chinese stocks recently.

#9: A Ponzi Scheme That Would Make Bernie Madoff Jealous:

Wall Street analysts don’t usually buck the trend, but Morgan Stanley’s Andy Xie apparently didn’t get that memo. He claims that, “Chinese stocks and properties are 50-100% overvalued.”

He adds that the only thing pushing prices higher is the expectation of price appreciation, which in turn sucks in more liquidity. In sum, Xie says, “Chinese asset markets have become a giant Ponzi scheme.” As we learned with U.S. real estate, the appreciation stops when the liquidity dries up. That day is coming.

#10: The Writing is on the Wall Of China:

Over the past two months, we’ve witnessed multiple 4%-plus drops for the Shanghai Index. And we already know what happens when the China euphoria truly wanes. In 2008, the Shanghai index plunged by two-thirds.

This week’s sell off could signal we’re headed for another correction. And if history is a guide, it could be severe.

To sum it up in two words: Caveat emptor!

Chinese stocks got way ahead of the global recovery and are in dire need of a cooling off period before even attempting another bull charge.

Which leads me back to the question I posed a moment ago…

The Best Advice is Practically Free

How much would you pay for good investment advice, like the information I shared above?

Is $79 too much?

The truth is for hundreds of thousands of you that subscribe to Investment U, the answer is a deafening “Yes!”

Of the roughly 400,000 subscribers here, the overwhelming majority haven’t decided to join my colleagues and I and become members of The Oxford Club.

However, many people think nothing of spending hundreds, even thousands, of dollars to buy “hot” stocks that they think are trading at deep discounts. And that’s without any principal protection either.

Contrast that with The Oxford Club M.O., which practically gives away a steady stream of profitable investment ideas and recommendations – with a money-back guarantee, too.

In fact, over the past five years, the independent Hulbert Financial Digest has ranked The Oxford Club in the top five global investment newsletters out of the 200 that the publication tracks. That kind of long-term success cannot be fabricated.

As a member, you get benefits like:

• Two newsletters a month, packed with expert opinions and battle-tested investment strategies.
• Weekly portfolio updates.
• Urgent investment reports on the most attractive and timely opportunities.
• Discounted (or free) nights at our clubhouses around the world.
• Educational seminars.

One good recommendation could earn you 10 times the cost of joining. If The Oxford Club were a stock, it would be trading at a deep discount!

And for $79 a year for our very best, most timely advice, we’re practically giving it away.

For more information on what The Oxford Club is, what we do – and how to scoop up the many profitable benefits that come with being a member – just go here.

Good investing,

Louis Basenese

Editor’s Note: Investing in China made millionaires out of roughly 24,000 Americans. And while many media outlets would have you believe the boom is still on – they’re wrong. The Chinese market, once the poster child of millionaire-spawning profits, is flat over the last 12 months. Fortunately for readers, we’ve discovered the next Index Most Likely To Make You a Millionaire.

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by Alexander Green, Advisory Panelist
Saturday, August 29, 2009: Issue #1079

Good news has been swirling around the housing market lately.

The Commerce Department reported on Wednesday that sales of new U.S. homes surged 9.6% in July.

A week before, the National Association of Realtors reported that previously-owned home sales in July jumped at the fastest rate in 10 years.

Realtors are now reminding us that sales have risen for four consecutive months. Thanks to low interest rates and government incentives, they tell us, housing prices will soon be heading back up.

Don’t bet on it…

I was in real estate for years. Asking my colleagues whether prices were likely to head higher was like asking the Army Corp of Engineers whether a river needed a bridge.

The answer was a foregone conclusion.

In many ways, this is understandable. Real estate agents need transactions. Those transactions are less likely to happen if potential buyers think prices will fall. So there is a strong tendency to put a positive spin on things…

Why Housing Prices Will Continue to Decline…

At the risk of being the skunk at the garden party, however, there are many reasons to believe that housing prices will keep coming down in most markets, especially if you’re shopping the high end.

Here’s why…

• A new survey by the trade publication Inside Mortgage Finance found that only 36% of all real estate sales in recent months involved “nondistressed” properties.
• Of these nondistressed properties, only 31% were “unforced or optional.” In other words, nearly seven out of 10 of even these sellers were in the midst of some financial or personal crisis.

To put this in perspective:

• Two-thirds of home sales are either foreclosures or short sales (i.e. banks taking a loss on the mortgage).
• Only a third of the remaining – roughly 10% of overall sales – comes from something we could call a normal selling process.

That’s hardly encouraging.

Meanwhile, the Mortgage Bankers Association said last week that the number of homeowners behind on their mortgage payments hit a new high in the second quarter, with more than one in eight homeowners delinquent or in the foreclosure process.

These pending sales will put more pressure on sales prices. And, thanks in part to the refinancing boom, it’s estimated that approximately one quarter of all homeowners owe more on their homes than they are currently worth.

So why are the headlines filled with glad tidings about the housing market stabilizing?

Housing Prices Appear to be Hitting Bottom in Some Areas of the U.S.

Because in some areas, especially in the low end of hard hit areas like Las Vegas, Phoenix and Orlando (where prices have fallen more than 50%), housing prices do appear to be making a bottom.

But understand that the median sales price of the more than 400,000 homes that sold in July was $210,100. I’ll bet most people reading this live in a house worth more than that.

And those higher-end homes are precisely the ones that are likely to keep falling in value. Why?

• For starters, government-sponsored incentives don’t benefit the top part of the market. For example, the $8,000 tax credit for first-time homeowners – which ends in November – phases out for single buyers whose income exceeds $75,000 or couples making more than $150,000.
• And low interest-rate mortgages backed by the FHA, Fannie and Freddie are only available on loans below limits set by Congress. That limit is $417,000, excluding certain high-end markets in California, New York and Hawaii.
• Mortgages for amounts that exceed this limit – jumbo mortgages – face interest rates more than a full point higher. Plus, lenders – newly sober – are now requiring down payments of 20% to 30% or more on jumbo mortgages.

Tougher credit standards, higher interest rates and big down payments are set to torpedo the high end of the housing market. And at the worst possible time…

According to First American Corelogic, jumbo mortgages are the fastest-rising category of defaults of all types of mortgages.

Add in the death of home-flipping and the idea that the smartest thing a buyer can do is buy all the house he can afford and the planets are in alignment for lower – not higher – housing prices.

I’m not gloating about this, incidentally. I own two homes myself. But if you’re in the market to buy a new home, caveat emptor.

Housing prices in most markets – especially the higher end – are almost certain to head lower.

Good investing,

Alex

P.S. If you’re looking for a few ways to hedge against the declining value in your real-estate holdings, take a look at our asset allocation strategy.

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by Louis Basenese, Advisory Panelist
Wednesday, August 26, 2009: Issue #1076

I don’t care what investing legend you idolize and try to emulate – Buffett, Graham, Rogers, Lynch – they all share a common recommendation.

Always buy undervalued stocks and sell them when they’re overvalued. Or more commonly: “Buy low, sell high.” Of course, if you’ve invested for more than a week, you know this is easier said than done.

Undervalued (cheap) and overvalued (expensive) are such subjective measures when it comes to investing. Most times we end up guessing and most times we end up overpaying.

But today, let me show you one amazingly simple way to always buy stocks that are truly cheap…

Why America’s Most Successful Investors Buy “Low-Density” Stocks

All you have to do in order to invest like Warren Buffett, or any of America’s most successful investors – and rack up easy double-digit gains – is to buy what I call “low-density” stocks.

I define density like this: The value the market assigns to the cash that a company has in the bank.

• A high-density ratio: Means the market overvalues the cash.
• A low-density ratio: Means the market undervalues the cash.

The reason I focus on cash is straightforward: It’s the most tangible, liquid asset – and the easiest to value. After all, $1 is worth $1, so it’s easy to tell when you’re overpaying or getting a discount.

Let me use an example to make this concept crystal clear…

• Company XYZ trades for $1 per share and has $1 per share in cash (total cash divided by shares outstanding).
• To calculate the density ratio, we simply divide the price per share by the cash per share. In this case, the result is 1.

Here’s the thing, though: A one-to-one ratio is uncommon.

Most of the time, you’ll have to pay a premium for a company’s cash. Right now, for example, the density ratios for more than 480 companies in the S&P 500 are higher than 1, meaning you’ll pay more for these shares than they’re worth in cash.

But it’s even rarer to find a stock trading at a density ratio below 1.

Density Ratio Below 1 = Cheap Stock & Massive Gains

A density ratio below 1 means a stock could be worth $10 in cash, yet it trades for $7.50. Or it’s worth $1 and trades for 75 cents, etc.

And rest assured, whenever America’s best investors can buy $1 for 75 cents or less, they do. And you should, too. That’s because these discounts, understandably, don’t last for long.

Just take a look at Cynosure, Inc. (Nasdaq: CYNO). It traded at a density of roughly 0.70 for about a month this year. Once investors woke up to the bargain on offer, shares surged 138% higher.

There’s another low-density stock up for grabs at the moment, too…

Buy This “Low-Density” Stock Today

If you want to put my low-density strategy to work today, consider Trident Microsystems, Inc. (Nasdaq: TRID), which makes specialized semiconductors used in flat panel televisions.

• With zero debt, $2.87 per share in cash, and a market price of $1.90, it trades at a density ratio of 0.66.
• In other words, when you buy Trident, you’re buying $1 for 66 cents.

Incidentally, such a steep discount also makes Trident a prime takeover target. And with $2.21 billion in cash, Broadcom Corp. (Nasdaq: BRCM) could easily afford the $125 million market cap Trident.

But, even if Broadcom doesn’t pounce on the opportunity, history dictates that other investors will.

Based on its low-density ratio, Trident needs to rebound 51% to return to a density ratio of 1.

I recommend you capitalize on this truly cheap stock before it’s too late.

Good investing,

Louis Basenese

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by Alexander Green, Advisory Panelist
Thursday, August 20, 2009: Issue #1071

Imagine trying to tackle algebra, geometry, or calculus without understanding basic mathematics.

Clearly, you wouldn’t get far.

Yet it’s not uncommon to run into investors who are knee deep in option trading, currencies, short selling, or sophisticated arbitrage strategies without mastering – or even understanding – basic investment principles.

Even seasoned hands can benefit from a refresher course from time to time.

So today we’re going to revisit Investing 101 and talk about the six factors that will determine the future value of your investment portfolio, whether it’s worth $10,000 or $10 million.

Six Factors That Determine Your Portfolio’s Future Value

Those six factors are:

• The amount of money you save. To put it bluntly you have to start by maximizing your income, minimizing your outgoing and paying yourself first. Why? Because expenses always rise to meet the income available. As soon as you get a raise or a higher paying job, you’ll find that you need a new car, a bigger house, better furniture and a new set of Callaway irons. But you have to draw the line somewhere. You can’t save a pittance and expect your portfolio to perform miracles each year.

• The length of time your money compounds. The sooner you start investing the better. And the longer you leave it alone the better. If you start too late – or raid your portfolio to redo the kitchen or take the kids to Disney – you’re going to have a lot of catching up to do down the road. The old chestnut is true: Don’t touch your capital. It’s like eating your seed corn.

• Your asset allocation. Studies consistently show that how you divide your portfolio among non-correlated assets – stocks, bonds, real estate investment trusts, precious metals, etc. – determines 90% of your portfolio’s long-term return. (The rest is due to security selection.) If you’re too conservative – or too aggressive to stick with your program – you simply won’t meet your goals.

• Your assets’ annual return. This, of course, is the great unknown. Not even Warren Buffett or Ben Bernanke can say what their portfolio will return each year. But the better your security selection and asset allocation decisions, the higher your annual compounded returns.

• What you pay in expenses. Don’t be oblivious to what all those financial intermediaries are charging you. You can sacrifice far too much in commissions, bid/ask spreads, wrap fees, management expenses and other costs. All things being equal, the lower your expenses the higher your net returns.

• How much you pay in taxes. Too many investors are oblivious to the tax ramifications of their investment moves. When possible, put your high-yielding investments in your tax-deferred accounts and your tax-efficient funds and individual stocks in your non-retirement accounts. (I call this your asset location strategy.) Hold positions 12 months or more to qualify for the lower long-term capital gains tax rate. Offset your capital gains with capital losses if possible.

Only one of these six factors is beyond your control: your assets’ annual compounded return. That means it only makes sense to focus on the other five.

Investing 101: Don’t Worry About The Markets…

So instead of worrying about what the market will do between now and year end – something you can’t possibly know and has nothing to do with what your portfolio will be worth five or 10 years from now – focus on:

• Saving more,
• Leaving it alone longer,
• Getting your asset allocation right,
• Lowering your expenses
• And keeping a close eye on taxes.

Get these big questions right and you’ll find the details will take care of themselves.

Better still, in your golden years, your portfolio will take care of you.

Good investing,

Alex

P.S. I tackle all these factors – and much more – in my book The Gone Fishin’ Portfolio: Get Wise, Get Wealthy… and Get On With Your Life. And we’re giving the book away free to new Oxford Club members.

PR: wait… I: wait… L: wait… LD: wait… I: wait… wait… Rank: wait… Traffic: wait… Price: wait… C: wait…

by Louis Basenese, Advisory Panelist
Tuesday, August 18, 2009: Issue #1069

Editor’s Note: Earlier this summer, Louis Basenese gave Oxford Club members another reason why investing in small caps is so profitable. With the markets pulling back, the opportunities for small-cap stocks are opening up again. We felt it was time for another look at small caps and one of the masters of contrarian investing, David Dreman.

Having a contrarian view of the markets can be wildly profitable.

In the last two years, I’ve:

• Gone long the dollar when it was in the tank…
• Shorted oil near its peak…
• Shorted the big move to Treasuries on the heels of the credit crisis…
• And, most recently, shorted gold at $918 an ounce.

At the time of recommendation, each trade was extraordinarily unpopular, prompting some folks to flat out question my sanity. And yet, taking the dissenting opinion made money each time (the jury’s still out on the shorting gold trade.)

How’d I find the wherewithal – and nerve – to do it?

David Dreman – The Father of Contrarian Investing

I’ve been under the tutelage of David Dreman, known as “The Father of Contrarian Investing,” for many years.

Dreman literally wrote the book on contrarian investing. (If you don’t own a copy of his latest work – “Contrarian Investment Strategies: The Next Generation” – get one!)

In the book, he lays out his straightforward, time-tested investment philosophy to consistently outperform the markets: choose cheap investments that other investors hate.

Sounds too simple to be true, I know. But like any trading genius, Dreman’s track record underpins his investment philosophy…

• Since inception in 1988, his flagship large-cap value fund’s average annual return of 9.2% beats both the S&P 500 and Russell 1000 Value index by a full percentage point. His small-cap value fund has performed even better.
• Since inception in 2003, it has trounced the Russell 2000 Index (the benchmark for small-cap investments) and the S&P 500 index by more than seven percentage points.

Investing in Small Caps Predictions Ring True…

Recall, in January I predicted small cap investing would shine this year because they always do coming out of recessions. And this time has been no exception.

• From the March 9 bottom, small-cap stocks are up 50%, compared to 40% for large-caps stocks.
• And using history as our guide, we can expect more of the same ahead – small caps to trump the gains of their larger-cap peers for at least three more years.
• Thus, not capitalizing on this disparity would be foolish.
• Furthermore, the recent rally has increased stock valuations virtually across the board, so finding winning stocks will require increasingly more investment skill.

And that’s where Dreman comes in… No one on earth is better at unearthing small-cap value investments than he has been.

So how does he do it?

• First, he exploits the fact that the U.S. stocks with the lowest 20% of price-to-earnings ratios returned 16.8% per year from 1920 to 2004 – four percentage points better than the market as a whole. He buys nothing but such undervalued stocks.
• That said, he doesn’t just focus on the “cheapness” of a stock to determine its worthiness. “We don’t like dogs,” says Dreman, adding that, “All our stocks are financially strong, have high yields and earnings growth faster than the market.”
• He pays great attention to the stock filtering process, as well. Specifically, Dreman looks for companies with market caps between $300 million and $2.5 billion. Those are then screened based on their respective P/Es.
• Stocks with P/E ratios greater than the market get discarded, immediately (Dreman is innately opposed to paying a premium for growth). And the remaining companies (those with P/E ratios below the industry median) must possess an above average dividend yield, low leverage, low price-to-book and price-to-cash flow ratios, strong management teams and a catalyst that could spur future growth.

The result is typically three to four stocks in each industry group, with only one or two making the final cut.

Collectively, Dreman uses this investment process to construct a portfolio of 95 to 100 stocks from 50 different industry groups, with a 1% weighting to each. Such a small position size means that a single security can’t sour the overall portfolio performance. Which adds another layer of downside protection. (Deep-value stocks are inherently less risky than high-flying, high P/E growth stocks, anyway).

So clearly, Dreman does much more than simply buy small cap companies that investors have discarded, or ones in the midst of tough times. As he puts it, “We look for reasonably strong companies on the whole.”

But to really put his words into perspective, let’s consider a recent purchase…

Dreman Invests In Small-Caps With Aaron’s Inc.

Last year, Dreman added Aaron’s Inc. (NYSE: AAN) – a small-cap company that allows consumers to rent-to-own plasma TVs, household and office furniture and computers, without any credit checks.

Most investors looked at that business model, cringed and sold the company’s stock, causing it to lose 33% in 2007. After all, could you get any riskier than catering to consumers with poor or no credit during a credit crunch?

Dreman, of course, is too smart to fall for that. This guy can sniff out his prey from a mile away. He knew the current credit freeze was about to push previously credit-worthy buyers away from Best Buy and right through Aaron’s front doors. And with the stock trading at a historically low valuation below 11 times earnings, it was a no-brainer.

Sure enough, with an uptick in demand, Aaron’s earnings jumped a solid 19% last year alone.

And the stock defied the market, rallying 39% in 2008 while everything else took a bath. This year, it’s tacked on another 25%, thanks to a 55% jump in earnings in the first quarter.

Bottom line, small cap stocks can be some of the most profitable investments in any market. Should this market pull-back continue, consider this another great opportunity to pick up some attractive small caps.

But like Dreman, I recommend you stay away from dogs at any price.

Good investing,

Louis Basenese

Editor’s Note: If you’re looking for more hot small caps, ones dominating billion-dollar industries, take a look at The White Cap Report.

by Alexander Green, Advisory Panelist
Friday, August 14, 2009: Issue #1066

Early in my 16-year career on Wall Street, I made an astonishing discovery: The overwhelming majority of my colleagues – bright, educated, experienced, and articulate – didn’t have the foggiest idea what they were talking about.

This only became obvious in retrospect, when I saw how their carefully constructed financial theories, forecasts and investment systems turned to dust rather than generating any significant profits.

(You’d be surprised to learn, for example, how many investment “pros” lose a substantial percentage of their own money in the market each year.)

The truth is that there are virtually limitless ways to take a beating in stocks – and only a few methods that work well over time. These methods are generally codified into widely accepted investment principles, something we try to emphasize here at Investment U.

I was fortunate to realize this early in my career, although it still stings to remember the chunk of change I lost 25 years ago buying my own firm’s “Strong Buy” recommendations.

Investment Systems & Harry Browne

However, things finally began to turn around for me the day I read a book  – now sadly out of print – by Harry Browne called “Why the Best Laid Investment Plans Usually Go Wrong.”

(I loved the title, but Harry, who ran for President twice on the Libertarian ticket, once told me he regretted the choice. “Too negative,” his publisher told him.)

Browne argued that the odds are stacked against the typical investor who is overwhelmed by Wall Street’s technical jargon, market volatility and the business of money management. (Read the investment classic “Where Are the Customers’ Yachts?” for details.)

There are exceptions, of course, but the nation’s brokerage firms are filled with well-dressed, smart-sounding individuals spouting a lot of self-serving nonsense. As Vanguard founder John Bogle once remarked, “It’s amazing what a man doesn’t understand when he’s paid a small fortune not to understand it.”

The overwhelming majority of economic theories, market forecasts, trading strategies, investment systems, hot tips and sure-fire speculations never pan out.

Following the Wisdom of History’s Greatest Investors

Fortunately, we have the accumulated wisdom of the history’s greatest investors to guide us. I’m talking about people like Warren Buffett, Peter Lynch and John Templeton, men whose audited track records speak for themselves.

Even though these individuals used very different approaches, they agreed that in the end there is only one thing that dictates where a stock will go: earnings.

Earnings are the net profits of a business. They are what drive share prices.

• I challenge you to find a single company that increased its earnings quarter after quarter, year after year, and the stock didn’t tag along.
• Conversely, try to identify a single company whose earnings declined quarter after quarter, year after year, and the stock advanced anyway. It just doesn’t happen, even in a rip-roaring bull market.

The reason is simple. A share of stock is not a lottery ticket. It’s part ownership of a business.  And profits (earnings) determine what a company is worth.

The Correlation of Earnings vs. Stock Movement

Although there are always bumps along the way, you’ll find there is a near perfect correlation between a company’s growth in earnings per share and the movement of its stock from year to year.

So forget all the mumbo-jumbo about market breadth, trading volume, put-to-call ratios, short interest, mutual fund inflows, advance/decline numbers and other market trivia.

And instead remember: share prices follow earnings. Period.

Stamp that on your forehead – act on it – and you’ll be using the one tried and true investment system that has always paid off in the end.

True, the earnings at most companies are poor right now due to the severity of the recession. But there are plenty of companies in food, pharmaceuticals, health care services, medical technology, defense contracting, gold mining and other recession-resistant industries that are still making money hand over fist.

Those are exactly the companies you ought to be buying now.

Good investing,

Alex

Alexander Green is the Investment Director of The Oxford Club, and The Insider Alert, a premium service that takes advantage of the best buy signals in the markets today. Research shows that sound companies with widespread insider buying tend to outperform the market by a substantial margin. If you’d like to find out more, you can read on here.

Today’s Investment U Crib Sheet

The Oxford Club has been following time-tested investment strategies – like following earnings -and giving Investment U readers actionable advice like this for years.

Recently Alex highlighted these advantages and “The Best, Low-Cost, Tax Efficient Investment System,” and while we’re on the topic of earnings announcements. We’ve also touched on “Understanding Earnings Surprises,”  and what investors should be looking for – and looking out for – when earnings are announced.

Take a look at some of our other recent articles:

• Add This Powerful Option Trading Strategy to Your Investment Arsenal

• The M&A Market: When This Number Falls, Expect the Takeovers to Heat Up

Here are some of the last few articles only found on InvestmentU.com:

• Financials Surge After Paulson Buys

• Economic Data: What Can You Believe?

• The Apple-Google Rivalry Goes Global

• Adding Iron for a Healthy Portfolio

• Fred’s, Inc. (Nasdaq: FRED): Stock of the Day

by Louis Basenese, Advisory Panelist
Wednesday, August 12, 2009: Issue #1064

When the credit markets froze solid last year, equities hit the skids, the economy tanked and so did the number of announced mergers and acquisitions (M&A).

But now the stock market’s on the mend. In my book, a 49% rally off the bottom for the S&P 500 qualifies as healing.

The economy’s showing signs of improvement. First-time jobless claims have dropped more than 15% since peaking in April.

As for the M&A market, well, it’s still suffering…

Through the second quarter, volume dropped 40.2% worldwide. Deals involving U.S. companies fared worse, dropping 57.5%, according to Thomson Reuters. And July marked the first month in over a decade when not a single deal worth $5 billion or more was announced.

But if you’re serious about investing, you need to know when the M&A market is on the upswing and should be tracking it religiously.

Why?

Because nothing causes stock prices to rise faster and further than an unsolicited takeover offer.

In fact, if we invest in a company before a deal is announced, we stand to pocket an average gain of 43.5% to 53.7%, according to the numbers crunchers at FactSet MergerStat. In a single day! No other investment strategy can boast the same lightning fast rewards.

Tracking M&A Market Activity With High Credit Spreads

If you’re looking for one number to predict a full-blown rebound in M&A market activity – and signal the best time to invest in takeover targets – try high-yield credit spreads. The spread is simply the difference in interest rates between junk bonds (the typical vehicle used to finance M&A) and comparable U.S. Treasuries.

• When the spread is high – above the historical average of 590 basis points – it means banks consider the risk of lending to suitors to be above average. In turn, they compensate for the higher risk by charging higher interest rates, thereby choking off M&A market activity by making financing too expensive.
• On other hand, when the spread is below the historical average, it means banks consider the risk of lending to be low. In turn, they charge lower interest rates, which encourages M&A activity as companies capitalize on the cheap financing to go on buying sprees.

Right now the spread stands at 857 basis points. At first blush that seems terrible, until you look at this chart.

http://www.investmentu.com/images/iu081209chart.gif

Following the collapse of Lehman Brothers, spreads hit a high of 2,180 basis points! So we’re actually down 61% from that level, with momentum squarely on our side.

As this trend continues, financing will become more affordable. In turn, I expect M&A market activity to come roaring back.

The markets remained littered with historic values. More importantly, there’s a mountain of cash waiting to be leveraged and put to work.

Private equity funds alone are sitting on $1.02 trillion in dry powder, according to London-based research house Preqin. Almost half of that – $472 billion – resides in buyout funds. If they don’t find it a home (i.e. – start buying companies), they’ll be forced to return it to investors.

How to Play The Imminent M&A Market Rebound

In previous columns on the takeover boom, I explained my strategy for uncovering the market’s most promising takeover targets and highlighted sectors and companies ripe for the picking.

However, if you’re looking for a more conservative way to play the imminent M&A market rebound, and the acquisitive nature of private equity funds, consider The Blackstone Group (NYSE: BX).

Here’s why…

• Private equity firms typically enjoy the best returns from investments made in a down market. And Blackstone’s sitting on a $26 billion cash pile to take advantage of all the bargains and practice its expertise in distressed investing, deal making and restructuring.
• Sure, other options exist to get exposure to the private equity space and the M&A market, namely Fortress Investment Group, LLC (NYSE: FIG) and Och-Ziff Capital Management Group (NYSE: OZM). But neither stack up to Blackstone in terms of experience, expertise or financial resources.
• Plus, by investing in Blackstone you get a portfolio of companies that are much healthier than the market. Roughly two-thirds of the companies will report positive or flat earnings, compared to just 35% for the S&P 500. And almost no debt is coming due until 2013, eliminating the refinancing risk plaguing countless other businesses.

Tack on an annual stock dividend of $1.20 (equivalent to an 8.4% yield) and this is a no brainer. You’ll get paid to wait for the M&A activity to rebound and the Buyout King to get back to buying.

Good investing,

Louis Basenese

P.S. – You can track the spread between junk bonds (represented by the Merrill Lynch High Yield Master Index II) and U.S. Treasuries in a few clicks at www.mlindex.ml.com. First, sign up for a free membership. Then, in the “Index Charts & Data” box on the upper right hand side of the page, enter the symbol H0A0 (those are zeroes). Next, in the drop down box titled “Item,” select OAS. Finally, click on the Quick Chart button.

Today’s Investment U Crib Sheet

Here are some of this week’s hot articles.

• In Investment U issue #1063, David Fessler discusses the stark reality that taxes will soon be increasing & gives investors three sectors that will profit in the near future. For more on this check out, “Taxes Are Going Up… Here’s Three Ways to Play the Coming Tax Increase.”

• Karim Rahemtulla answers questions about options investing with examples – specifically deep in the money calls & what to do at options expiration, in Investment U issue #1062 – Options Investing: Readers’ Questions Answered
• Last week, our most viewed article was Investment U issue #1054 in which David Fessler realizes that solar energy may not be considered alternative for long & gives two investments for renewable resource investors. Don’t forget to let us know what you think about “Solar Energy: A Bright Spot In The Alternative Energy Sector.”

by Louis Basenese, Advisory Panelist
Friday, August 7, 2009: Issue #1060

Editor’s Note: We apologize for anyone who tried to reach our website  over the last few days. One of the perils of our globally interconnected web is that we – like many high profile companies – are constantly under invasion from malicious web attacks.

To say emerging markets are hot right now is an understatement.

The benchmark MSCI Emerging Markets index is up 52% this year, rendering the S&P 500’s 11% uptick completely insignificant.

Thanks to the strong performance, investors’ love affair with emerging markets keeps getting steamier. Case in point – investors poured $10.6 billion into emerging markets mutual funds so far this year, a whopping 34 times the total invested in U.S. funds.

Yet, while most pundits shout from the rooftops that emerging markets are the place to invest right now, let me offer a dissenting opinion.

Three Reasons Emerging Market Investors Are Getting Dumped

Emerging markets investors – and their hard-earned capital – are about to get dumped on their derrieres. Here are three reasons why…

• Growth Doesn’t Pay

The justification for investing in emerging market stocks has always been the same – growth in emerging markets will far outstrip growth in the developed world and therefore, the profits will be greater.

After all, doesn’t it make sense that a company doing business in a country with GDP expanding at a 7% annual clip will earn way more than a company doing business in a country with GDP contracting?

Seems logical and if that’s the case, emerging markets are definitely the place to be right now. Barclays estimates developing Asian economies will grow by 5.2% this year, compared to a 2.3% contraction for the United States.

Here’s the rub: the classic justification is flawed. High economic growth does lead to higher profits for individual companies. But it doesn’t translate into higher stock returns for investors.

Based on decades of data from 53 countries, London Business School professor Elroy Dimson recently proved countries with the highest growth produce the lowest returns (6% per year), while countries with slowest growth produced the highest returns (12% per year).

How can this be? It’s simple, really. Attracted to higher growth, investors end up paying higher prices for emerging markets stocks, which cuts into returns.

Emerging Market Investors Violating Primary Rule of Investing

In other words, when it comes to emerging markets, investors lose their senses and consistently violate the primary rule of investing to buy low and sell high. And that’s certainly happening now…

• Valuations Hardly in Bargain Territory

If success in emerging markets boils down to buying in at the right price, now is not the right time.

The MSCI Emerging Markets Index trades at 17.8 times earnings, the highest level since the index peaked in late 2007. In comparison, the S&P 500 trades at 17.2 times earnings.

Moreover, the historical average for the MSCI index is roughly 14 times earnings, making current prices seem a bit stretched.

• No Safe Haven… Nasty Corrections Are the Norm

While emerging markets stocks can make you a fortune in a hurry, they can just as easily ruin you. Just consider:

• In the six weeks following Lehman’s collapse, emerging markets shed 47%, slightly more than the S&P 500 index, proving higher economic growth provides absolutely no buffer.

• After advancing more than 20% for five straight years through 2007, emerging markets cratered 53.3% in 2008. Remember, the S&P 500 “only” dropped 37.6% last year.

• In 2000, when the U.S. market slid 9.1%, emerging markets tanked 30.8%.

Emerging Markets Headed For Short-Term Profit Correction

Bottom line, I’m convinced emerging markets are headed for a short-term profit taking correction.

• Historical data proves these markets are susceptible to such sell offs.
• Valuations are getting stretched.
• And investors have never been more enamored with such stocks.
• Even the financial press can’t resist the euphoria. Yesterday, Bloomberg ran a feature entitled, “Emerging-Market Stocks to Gain Further After 52% Rally This Year.”

But make no mistake. This is a classic case of investors chasing performance. Such a strategy always fails. Or as Humphrey Neill put it in The Art of Contrary Thinking, “When everyone thinks alike, everyone is likely to be wrong.”

Don’t be everyone.

Instead, consider selling short the MSCI Emerging Markets Index Fund (NSYE: EEM).

Or at the very least, check your asset allocation.

If you’ve got more than 20% of your portfolio in emerging markets, you could be in store for a nasty setback. To avoid it, I recommend you take some profits off the table while you still can.

Good investing,

Lou Basenese

P.S. I just revealed the one emerging market destined to fall the hardest to my subscribers of The Long and Short Alert. The average stock in this country trades at 36 times earnings, up from a low of 12 times last fall. To find out the identity of this country and how to profit as its market tumbles, consider signing up for a no-risk trial to The Long & Short Alert.

by Alexander Green, Advisory Panelist
Wednesday, August 5, 2009: Issue #1059

Over the past five months, world stock markets have put on a historic rally.

Since March 9, the S&P 500 is up 48%. The small-cap index, the Russell 2000, is up 65%. The EAFE international index is up 67%. And the MSCI Emerging Markets index is up 79%.

Yet five months ago, investor sentiment was black as Halloween night and equity mutual funds were experiencing massive outflows.

How did millions of investors get it so wrong?

The short answer is they didn’t know what they didn’t know. They didn’t know that the economy can’t be reliably forecast and the stock market can’t be consistently timed. They didn’t know that abject pessimism is the long-term investor’s best friend.

Why We Were Never Heading Into Another Great Depression

And, perhaps most importantly, they didn’t know that it was never likely that we were heading into another Great Depression.

Read your history. The Depression was caused by policy errors: tight money, higher taxes and protectionist legislation.

The Federal government has done a lot of things wrong since this economic crisis began. But it hasn’t been so foolish as to make the same mistakes it did almost 80 years ago.

• The Fed has taken short-term rates to zero, a powerful tonic.
• Bernanke is flooding the system with money.
• Plus, Uncle Sam is spending money like there’s no tomorrow. (Too much, in fact.)
• And there have been no trade wars with foreign nations.

Bear in mind, economic knowledge in the 1930s was like medical knowledge in the Victorian era. We’ve come a long ways since then. No one is going to bleed the economy with leeches.

The Gloom-&-Doomers See Clouds in Every Silver Lining…

Yet the gloom-and-doomers, the folks who see the cloud in every silver lining, have never understood this.

Not only have they completely missed out on the stock market’s big gains, but the highest-yielding money market in the nation yields less than 1%. Gold is stuck in neutral. And many with the strength of their convictions are holding double-short funds that have lost most – or nearly all – of their value.

These investors never seem to realize that the media delivers the world through a highly distorted lens.

When you hear five times a day that…

• The economy is in contraction
• Unemployment claims are increasing by more than 400,000 a month
• The U.S. housing market is spiraling down
• Consumer spending is anemic
• Business investment is down and credit is tight

…It’s tough to muster much confidence to buy stocks.

The Greatest Buying Opportunities of Our Lifetimes

But as I wrote in this space just one week before the market bottomed:

“Irrational exuberance is as dead as Che Guevara. And while true contrarianism is by definition a lonely business, 10 years from now this market is likely to be viewed as one of the great buying opportunities of our lifetimes. Many investors will disagree, of course. And that’s fine. As George Santayana famously said, ‘Those who cannot learn from history are condemned to repeat it.’”

It hasn’t take 10 years, of course. Or even 10 months. (Although it’s unlikely that we’ll see this bull market reach much higher levels without a few interruptions.)

Two of our core principles are:

• Number one, owning a diversified portfolio of profitable businesses is the best way to protect and enhance long-term wealth.
• And number two, the best time to buy will always be when the majority of investors are despondently selling.

Yes, these principles have served us in good stead.

That’s why we call them principles.

Good investing,

Alex

Alexander Green is the Investment Director of The Oxford Club, and The Insider Alert, a premium service that takes advantage of one of the best buy signals in the markets today. Research shows that sound companies with widespread insider buying tend to outperform the market by a substantial margin. If you’d like to find out more, you can read on here.

Today’s Investment U Crib Sheet

Here are some of this week’s hot stocks.

• DreamWorks Animation SKG, Inc. (Nasdaq: DWA)

• DeVry, Inc. (NYSE: DV)

• Veolia Environnement SA (NYSE: VE)

In addition, if you haven’t already, take a look at our daily IU Blackboard, or Related Articles. Here are the last four:

• Semiconductor Industry Trying to Survive

• Stocks Returning to Normal?

• U.S. Consumers Come Out for CARS

• Cash for Clunkers Follows Stronger Economic Figures

Just last week, Alexander Green showed readers why it pays to stick with principles and strategies, including his Gone Fishin’ Portfolio. You can find out more about his Gone Fishin’ Portfolio & The Oxford Club.

by Louis Basenese, Advisory Panelist
Tuesday, August 3, 2009: Issue #1058

Editor’s Note: Yesterday we heard from Martin Denholm, the managing editor at Smart Profits, one of our affiliate publications which will be joining us over the next few weeks. We’ll be adding their experts to our esteemed panelists to give you the best investing ideas and advice out there. Today we follow Martin with outspoken favorite, Louis Basenese, who also gives us his take and concern for investors, on the housing market.

If ever an off-the-wall indicator existed to predict the fate of the U.S. housing market, I found it… You see, business is booming in one particular niche of the real estate industry – shrink-wrap.

That’s right. Contractors and developers are wrapping mothballed building projects in plastic, literally – from single-family homes to 25,000 square foot commercial properties.

The beneficiary? Privately-held Fast Wrap – a leader in shrink-wrap protection and weatherization. Traditionally its products are used to protect lawn furniture, cars, boats, motor homes or industrial vehicles from the elements. But now, the bulk of its new business comes from the real estate industry…

In recent months, the company has inked deals to shrink-wrap 240 homes in the Northeast, prompting management to double its sales expectations on the surging demand.

Sorry folks. If “shrink-wrapping” homes to preserve them for future use is suddenly a worthwhile idea, then there’s no end in sight to the demand destruction. It’s akin to airlines “grounding” aircraft during tough operating conditions… or oil drillers “cold-stacking” rigs when exploration plummets.

So if you’re thinking of diving into the real estate market to capitalize on the “unbelievable bargains” – via the stock market or your local neighborhood – think again. The outlook for the U.S. housing market remains grim. And the bargains will only get more compelling.

First, let me prove it. Then I’ll reveal a few ways to play the enduring housing market downturn…

Housing Market Showing Signs of Stability? Puh-lease!

The mainstream press would have us to believe a real estate market rebound is imminent. They keep glomming onto any data that shows the slightest sign of stability.

• For instance, Bloomberg jumped all over the July 1 report from the National Association of Realtors that showed pending sales for previously owned homes rose for the fourth consecutive month.
• Other outlets had a field day with the news out of the Mortgage Bankers Association that refinancings hit a three-month high in early July.
• And ditto for the news that foreclosures dropped 11% in the second quarter.

But these “signs of stabilization” are bogus. Or to beg, borrow and steal from value-investing legend, Whitney Tilson, they are the “mother of all head fakes.”

Fact is, these short-term improvements were fabricated. They materialized because of temporary factors like the $8,000 first time homebuyer tax credit (set to expire November 30), artificially low interest rates (remember the Fed’s been buying Treasuries, en masse, since March to suppress rates) and government and bank moratoriums on foreclosures.

In the end, all this massive intervention is doing is propping up short-term results and prolonging the inevitable. Furthermore, to turn a blind eye to all this government meddling and pretend it’s not artificially influencing demand and prolonging foreclosures, would be irresponsible.

Don’t get me wrong. I’m happy to see an improvement in the market from bad to less bad. But overall, the numbers are still crap.

Three Obstacles to a Housing Market Rebound

Over half of the homeowners who took advantage of loan modification programs, are delinquent again. They weren’t paying before they got interest rate and/or principal reductions. And go figure? They’re not paying now. Great idea Washington!

On top of that, housing prices are still too high to attract buyers yet too low for sellers who are underwater on their mortgages. Such out-of-whack supply/demand dynamics will only foster more uncertainty.

In my opinion, before any meaningful recovery in real estate prices can take root, we need to overcome three major obstacles…

• Rebound Obstacle #1: Inventory Glut. Nearly 10% of all homes built this decade are sitting vacant, compared to a historical average of 2.2%. In total, we’re sitting on almost 10 months worth of inventory versus a historical average of four months. If we factor in the “shadow inventory” – the roughly 600,000 homes that banks are withholding from the market – the problem worsens. Excess supply always erodes prices.
• Rebound Obstacle #2: Loan Resets. Forget subprime. We’ve already worked through 80% of those resets and written down $1.47 trillion in the process. Now we’re facing a $2.5 trillion mountain of Alt-A loan resets. The first big wave hits mid-2011, with the peak expected to come in early 2013. So we’ve still got time, but the early stats hardly instill confidence.More than 20% of Alt-A loans are already 60-plus days late, up from an average of about 3% for the last decade. If interest rates creep up even modestly in the next two years – a near cinch given the likelihood of inflation – payments will increase notably. In turn, so too will default rates.

  Bottom line, another wave of massive writedowns looms on the horizon.

• Rebound Obstacle #3: Foreclosures. One in four homeowners are now underwater. If we break it out by loan type the picture gets worse – 25% of prime loans, 45% of Alt-A loans, 50% of subprime loans are severely underwater. Add in the 6.5 million Americans out of work since the recession began and it doesn’t take an Einstein to predict where foreclosures are heading. Credit Suisse estimates that we’re in store for a total of 6.5 million by 2012.Even the Mortgage Bankers Association (MBA) concedes the obvious in its first quarter update, saying, “Looking forward, it does not appear the level of mortgage defaults will begin to fall until after the employment situation begins to improve.” Since the rosiest prediction doesn’t expect unemployment to peak until early 2010, as the MBA acknowledges, “…It is unlikely we will see much of an improvement [in foreclosure rates] until after that.”

  The fact that the social stigma attached with “walking away” has been severely (and sadly) diminished over the past decade only adds to the foreclosure heap. And more foreclosures will inevitably push prices lower.

The Housing Market’s Reality Bites… But We Can Still Profit

As I’ve said, a simple supply and demand equation underpins the housing market. Right now, there’s way too much supply. Thus, prices can only go lower. And in my opinion, they’ll go significantly lower.

Since the peak, home prices have dropped 34%, based on the Case Shiller Index. However, prices still rest roughly 10% above the long-term trend line.

But given the supply imbalance is so dramatic, and the fact that markets consistently overshoot resistance and support levels, I’m convinced that prices will crash right through the trend line, falling another 20% to 30% before we see a legitimate turnaround in 2011.

I’m not alone, either. Mortgage insurer PMI Group estimates that a 75% chance exists that the majority of our metropolitan areas will experience price declines through the first quarter of 2011. And if we experience a double-dip recession, all bets are off on how low prices will go.

The brave at heart can look to profit from the decline by shorting any of the major homebuilders like:

• Pulte Homes (NYSE: PHM)
• KB Home (NYSE: KBH)
• DR Horton (NYSE: DHI)
• Toll Brothers (NYSE: TOL)
• Or Lennar (NYSE: LEN)

Be warned, though. The ride will be volatile.

Otherwise, the newly launched MacroShares Major Metro Down ETF (NYSE: DMM) is an option. The exchange traded fund is benchmarked to the S&P/Case-Shiller Composite-10 Home Price Index and features three times (300%) leverage. For every 1% decline in the index (i.e. real estate prices), the ETF should increase in value by 3%.

For the truly conservative investor, I recommend the “nothing ventured, nothing lost” approach. In other words, wait to go long when buying real estate because we’re nowhere close to a bottom. At the very least, wait for the prevailing shrink-wrap frenzy to end.

Good investing,

Louis Basenese

Editor’s Note: Louis Basenese is the Chief Investment strategist of The White Cap Report, a service that identifies companies that have the most aggressive growth profiles and have dominant positions within billion dollar markets. You can find out more about The White Cap Report.

by Alexander Green, Advisory Panelist
Friday, July 31, 2009: Issue #1055

Seven years ago, I created The Gone Fishin’ Portfolio for The Oxford Club.

The goal was to develop a low-cost, tax-efficient investment system based on the only strategy to ever win the Nobel Prize in Economics.

The portfolio has generated high returns with low risk while doing a complete end run around Wall Street’s high-priced products, self-serving advice and mountain of fees. Yet it is so simple to implement that you can do it yourself in less than 20 minutes a year.

Still, a lot of investors just don’t get it.

A prime example is a Mr. Talmadge O’Neill. Posting a customer review of my book “The Gone Fishin’ Portfolio” on Amazon, he writes that the portfolio “is only going to give you the basic market return. Nothing fancy. We’re not talking endowment returns.”

It’s true that the portfolio is nothing fancy. But he couldn’t be more wrong about the returns…

The Gone Fishin’ Portfolio Beats The S&P 500 Each Year

With far less risk than being fully invested in stocks, The Gone Fishin’ Portfolio has beaten the S&P 500 each year, gaining more than the market when it was up and declining less when it was down – even though the strategy requires no economic forecasting or market timing.

We even back-tested the portfolio through the previous bear market and back to January 1, 1998. (We can’t go back before then because one investment in the portfolio – inflation-adjusted Treasuries – were only created by the U.S. government in 1997.)

The annual results can be verified easily and independently. The Gone Fishin’ Portfolio has beaten the market, not just over the entire period but every year.

Is there any guarantee that this will continue to be the case in the future? Of course not. No strategy could possibly guarantee that.

Yet I know no other investment system that offers a higher probability of long-term investment success.

As for the Ivy League endowments, The Gone Fishin’ Portfolio has left them in the dust lately, too. And for one simple reason…

As Barron’s wrote recently, “For years, top university endowments at Harvard, Yale and Princeton were the envy of the investment world, thanks to the outsized returns they generated from significant investments in nontraditional assets such as private equity, real estate, hedge funds and commodities, and low exposure to U.S. stocks and bonds.”

• Yet now the Harvard and Princeton endowments are down 30% for the fiscal year ended June 30, while Yale’s is down approximately 25%.
• What’s more, their real-world returns are probably much worse. Why? Many of their investments are in illiquid assets whose “estimated values” may not reflect today’s steeply discounted market prices.
• Yale and Princeton both have roughly half their endowment assets in these types of investments. Without a liquid market, it’s virtually impossible to value their portfolios accurately, especially in this market.

The Gone Fishin’ Portfolio Never Strays Into Illiquid Assets

However, The Gone Fishin’ Portfolio never strayed into illiquid assets like these. Although it is designed to generate superior long-term capital appreciation, there is nothing in the portfolio that can’t be liquidated at the close of any business day.

And while the market has had its ups and downs this year, The Gone Fishin’ Portfolio has gone on doing what it does best: In the first half of 2009, the S&P 500 declined 1.5%. The Gone Fishin’ Portfolio rose 11.3%.

We’re on track for yet another record year.

So, no, The Gone Fishin’ Portfolio hasn’t generated endowment-type returns lately.

But we can all be grateful for that.

Good investing,

Alex

P.S. Get a free copy of “The Gone Fishin’ Portfolio” with a new Oxford Club subscription. Or read more about The Gone Fishin’ Portfolio.

by Alexander Green, Advisory Panelist
Tuesday, July 28, 2009: Issue #1052

For more than a decade, author and academic Dr. Jeremy Siegel had the Midas touch.

His book “Stocks For the Long Run,” first published in October 1996, surveyed more than 200 years of stock market history both in the United States and abroad and made a compelling case that common stocks are the very best long-term investment vehicle. Better than cash. Better than bonds. Better than real estate. Better than gold.

In the roaring bull market of the 90s – and since – his book was required reading. Millions of investors were strongly influenced by his research.

In the process, Siegel became a celebrity, appearing regularly on network and cable investment shows. He is also now an advisor to WisdomTree Investments, a sponsor of exchange-traded funds.

But while history once buttressed Siegel’s grand conclusions, current events haven’t been so kind…

More specifically, as of June 30, U.S. stocks have underperformed long-term Treasury bonds over the past five, 10, 15, 20 and 25 years.

Zweig Argues Against Siegel’s Methodology

To add insult to injury, Jason Zweig recently argued in The Wall Street Journal that Jeremy Siegel’s methodology was flawed from the beginning. It turns out that Siegel’s chosen stock market indexes and dividend calculations from the 1800s were not representative of the period, skewing returns upward.

“Another emperor of the late bull market,” Zweig concludes, “has turned out to have no clothes.”

But what’s the real story here: Are stocks not the best long-term vehicle? Are bonds – or something else – better? Is Siegel just plain wrong?

The answer to each of these questions, it seems, is yes and no.

Bonds have outperformed stocks over the last 25 years in part because yields at the starting point – during the hyper-inflationary early 80s – were sky high. From current low levels, outsized returns like these are impossible.

(That doesn’t mean, of course, that equity returns couldn’t still lag them.)

And we can quibble about how equity returns were calculated in the 1800s, but let’s be serious. What difference does it make exactly what “stocks” returned when investors were swapping certificates – along with fox and beaver pelts – under a shade tree beside a dirt road.

That scenario bears little resemblance to modern financial markets.

The Real Reason To Invest In Stocks

No, the real reason to invest in stocks is because it allows the average investor to hold a liquid, diversified portfolio of profitable businesses, something that would otherwise be cost prohibitive for most.

Granted, the economy is tough right now. But businesses can always respond to adverse circumstances.

• During recessions, a business can cut costs, lay off unnecessary personnel and refinance debt at lower levels. During inflationary times, businesses can pass on higher costs to customers. Even the burden of higher taxes and greater regulation – both underway – are ultimately passed along to consumers.

In short, we will always have economic needs. Yet it is not government that provides us with food, clothing, shelter, health care and other essential goods and services. It is business.

• Businesses exist to meet our needs and, in the process, maximize profits for shareholders.
• Business ownership has always been the most reliable route to financial independence. And owning a diversified portfolio of fine companies should continue build and safeguard capital.

Just don’t make the mistake of believing that anything is guaranteed or that the future will look just like the past.

As the late, great Peter Bernstein said in the Preface to the first edition of “Stock for the Long Run“:

“When all is said and done, the future will always remain hidden from us. The past, no matter how instructive, is always the past… Professor Siegel so rightly warns readers of this when he writes that ‘the returns derived from the past are not hard constants, like the speed of light or gravitation force, waiting to be discovered in the natural world. Historical values must be tempered with an appreciation of how investors, attempting to take advantage of the returns from the past, may alter those very returns in the future.’ Although the advice set forth in this book very likely will yield positive results for investors, the odds are higher that uncertainty will forever be your inseparable companion.”

Good investing,

Alexander Green

by Louis Basenese, Advisory Panelist
Tuesday, July 21, 2009: Issue #1047

MarketWatch columnist Paul B. Farrell loves to tout the performance of his eight Lazy Portfolios.

They earn their name by being comprised of nothing but low-cost, passively managed index funds – properly diversified – that require nothing but an annual rebalance.

In his latest column, he gushes about how his lazy strategy “keeps beating the S&P 500, as well as popular actively managed funds.”

Here’s my rub: Mr. Farrell doesn’t have a corner on slothful investing.

We’re Going Fishing & Beating the Market, Too!

We’ve got our own version of a lazy portfolio at The Oxford Club. We call it the Gone Fishin’ Portfolio.

And guess what?

It’s outperforming the S&P 500, too. It has ever since we created it six years ago.

It’s trouncing the most popular actively managed funds. That includes the wildly popular Fidelity Magellan, Dodge & Cox Stock, Legg Mason Value, Janus Fund, Baron Growth and American Funds’ Washington Mutual.

It also outperforms all but one of Mr. Farrell’s (overly) self-promoted portfolios and it ties with his top performing one. But I’m not writing today to convince you to adopt our lazy portfolio over one of Mr. Farrell’s. The long-term numbers should always guide your decision there.

Understanding the Secret Behind Slothful Investing

It’s more important you understand the secret behind this type of lazy, slothful investing.

Every mutual fund manager dreams of beating the S&P 500 every year. Yet, less than 5% ever do. In fact, over any given period, you can count on 70% falling short.

Even the Joe DiMaggios of Wall Street eventually succumb to the averages.

Legg Mason’s Bill Miller serves as the most recent example. He beat the market 15 years in a row. Then he fell short… very short. In 2008, his Legg Mason Value Trust Fund (LMVFX) dropped 55%, about 18% more than the market.

• Thus, the first reason laziness works is because it keeps us from fighting a losing battle – trying to predict the handful of actively managed mutual funds that will outperform the market in any given year.
• The second reason laziness pays is because it forces us to use asset allocation – the only Nobel Prize winning investment strategy, responsible for 90% of any investment portfolio’s return.
• And the last reason is that it keeps a lid on our expenses.

Mutual Funds vs. The Gone Fishin’ Portfolio

The average actively managed mutual fund charges a 1.3% annual expense ratio. In comparison, the average expense ratio of the funds in our Gone Fishin’ Portfolio is about 0.30%.

At face value, a 1% difference seems minor. But, trust me. It can make a huge difference.

Just consider…

• Without fees, a $100,000 portfolio earning 10% a year grows to $11.7 million after 50 years.
• Add in a 1% fee and the ending value shrinks by $4.6 million.
• The kicker? Only $794,000 of that difference is actually fees. The rest comes from the lost gains associated with those fees compounding over time.

Obviously, we can’t invest for free. Lazy portfolios and slothful investing, though, get us pretty darn close.

Why Slothful Investing Is So Compelling

Add it all up – better performance, strict asset allocation, lower fees – and the argument in favor of slothful investing is pretty darn compelling.

So much so, institutional money managers are now giving slothful investing a try. A new survey by Greenwich Associates reveals that one in five institutional managers recently sold their actively managed mutual funds in favor of passively managed ones.

Of course, don’t expect Wall Street to recommend you make the same switch. Brokers can’t increase their wealth selling no-commission index funds without excessive management fees.

But that’s what we’re here for – to give you investment advice, devoid of conflicts of interest.

So if you’re frustrated with investing and coming up short, we encourage you to relax… and be lazy!

You’ll beat the market. Even better, you’ll have time for more important things in life like family, friends and fishing.

Good investing,

Louis Basenese

P.S. You’ll recall our Alexander Green penned a best-selling book on our lazy approach called The Gone Fishin’ Portfolio: Get Wise, Get Wealthy… and Get on With Your Life. I’m happy to report his latest book, The Secret of Shelter Island, is achieving similar notoriety. If you haven’t read either, I encourage you to do so.

You can buy both at a reduced price at Amazon.com here and here. Or, you can get a copy of The Gone Fishing Portfolio with your new subscription to The Oxford Club.

by Alexander Green, Advisory Panelist
Monday, July 20, 2009: Issue #1045

Last week I had a chance to speak with hundreds of investors at FreedomFest in Las Vegas.

I can tell you that the mood out there right now is unremittingly bleak. And when it comes to value investing, that’s cause for celebration. Here’s why…

Analysts will tell you that stocks only reach bargain levels when they are cheap relative to sales, earnings and book value. But here’s how to know when stocks are cheap without looking at a single number:

• It’s when people are apoplectic about their stock portfolios.
• It’s when they are gloomiest about the prospects for the economy.
• It’s when they wish they had never met their stockbroker.

That’s when stocks are truly cheap. So that’s when it pays to buy them…

Sir John Templeton – Value Investing Through Maximum Pessimism

Sir John Templeton, the man who almost single-handedly pioneered global investing – and was one of the world’s great value investors – knew this. When it came to value investing, he swore that the best bargains could only be found “at the point of maximum pessimism.”

These weren’t just words …

In 1980, a Maoist guerilla organization in Peru called the Shining Path took over the country, imposing what it called “a dictatorship of the proletariat.” The country reeled from the violence and brutality. The United States, Canada and the European Union branded the Shining Path a terrorist group and curtailed economic activity.

The Peruvian stock market, understandably, collapsed.

Templeton wanted desperately to buy Peruvian stocks while they were dirt cheap. He knew that things would get better – and so would the performance of the Peruvian market.

Unfortunately, foreigners were not allowed to buy Peruvian shares.

Templeton was undeterred. He formed a Peruvian corporation and used it as a holding company to buy up the nation’s leading companies.

And, sure enough, the Shining Path, at one time a populist group, fell out of favor with Peruvian citizens. Political bonds were restored. Economic activity picked up again. The Peruvian stock market soared.

And, of course, Sir John Templeton made another fortune for his shareholders.

Ignore the Stale Statistics & Stick to Value Investing

Things in the United States right now are not as bad as they were in Peru in 1980; yet everywhere I go I keep hearing the same stale statistics:

• We are in the sixth consecutive quarter recession, making this the longest economic contraction since the Great Depression.
• Unemployment is at a 26-year high – and we’re still losing 500,000 jobs a month.
• Business investment is down.
• Spending – and consumer confidence – is anemic.
• Credit is tight.
• Home prices are still falling.
• Corporate profits are weak.

These things are true, of course. But ask yourself this: Which of these well-known facts are not already factored into stock prices? What here hasn’t already been trumpeted in the media hundreds of times before?

It sounds paradoxical, but rampant pessimism about the economic and investment outlook is the stock market investor’s best friend.

Or as resource analyst Rick Rule likes to say, “You can be a contrarian. Or you can be a victim.”

Know this. Act on it. And buy healthy companies while they’re on sale.

If history is any guide, a year from now you’ll be glad you did.

Good investing,

Alexander Green

by Louis Basenese, Advisory Panelist
Thursday, July 16, 2009: Issue #1042

Last week, I provided my six-step strategy to avoid the dividend investing trap and find stable, high-yield dividends. Today, the rubber hits the road…

If you’re looking for a dividend paying stock to bolster your income – one ideally suited to weather the current economic mess – look no further than Philip Morris International, Inc. (NYSE: PM).

10 Reasons This Dividend Won’t Go Up in Smoke

When it comes to evaluating the safety of a dividend paying stock, the first thing we need to verify – given the current economic slowdown – is demand for a company’s products. After all, a company needs a steady stream of cash coming in to afford to pay it out to shareholders. So, the first three reasons, understandably, pertain to Philip Morris’ rock-solid demand…

1. Recessions don’t matter. As you might suspect, addictive products tend to enjoy the steadiest demand. In fact, based on empirical evidence out of Citi Investment Research, the last two recessions “had no material effect on [cigarette] demand.” This go round should be no different.

2. Higher taxes are offset by population growth. As world governments contend with sagging economies, they continue to turn to tax increases on cigarettes to meet budget obligations. And obviously demand is not inelastic – consumers are sensitive to price changes. The World Health Organization estimates for every 10% increase in price, demand slips 4% in mature markets and 8% in developing markets. However, when you factor in population growth, the impact is almost cut in half. More importantly for Philip Morris, its highest margin markets (accounting for 60% of revenues) come from the less impacted mature markets. In other words, the company’s profits are extremely durable.

3. Emerging markets. The WHO estimates that 80% of the world’s 1.3 billion smokers live in developing countries. Sales in emerging markets are increasing modestly compared to declining volumes in developed markets. Philip Morris is uniquely positioned to capture the lion’s share of this growth. It owns seven of the leading 15 international brands, including the hands down leader, Marlboro. It operates in 160 countries and already derives over 60% of sales from emerging markets. So it’s no surprise that total volumes increased a steady 2.5% in 2008. And total sales, net of excise taxes, increased by 12.7% to $25.7 billion. As management acknowledges, there’s no mistaking that, “This strong performance was driven by emerging markets.”

Show Me the Money… to Pay the Dividend

Beyond steady demand, we also need to verify that cash isn’t being misspent and jeopardizing the stock dividend payment. The next three reasons pertain to Philip Morris’ ability to pay its dividend indefinitely…

4. Ample free cash flow. In 2008, the company generated $6.8 billion in free cash flow, a year-over-year increase of 52.7% thanks to solid sales growth, supply-chain optimization and other cost-cutting initiatives. Best of all, this figure should keep climbing, as the company is only about halfway through its three-year, $1.5 billion cost-reduction program.

5. Solid cash buffer. With $2.4 billion in the bank, Philip Morris is sitting on enough cash to cover two quarters worth of dividends.

6. Minimal litigation and regulation risk. The 2008 spin-off from Altria eliminated the legal and regulatory risks facing the domestic operations. In other words, we don’t have to worry about the possibility of any adverse judgments requiring the company to pay enormous settlements, thereby hindering its ability to pay the dividend in the short to intermediate term. Same goes for the newly passed legislation granting the FDA regulatory control over the industry.

7. Credit is no concern. The bulk of the company’s debt was issued before the credit markets soured. And it’s well laddered at “attractive interest rates,” so there’s no concern about interest costs skyrocketing and cutting into dividend payments due to untimely refinancing. Should any emergencies arise, the company can tap into its $6 billion in unused bank credit lines.

8. The payout ratio is conservative. Even after increasing the dividend by 17.4% in August, to $0.54 per quarter, the company’s still only paying out 61% of profits. So profits would need to drop dramatically to pose an immediate threat to the current payout. The low ratio also leaves plenty of room to increase the dividend.

A Good Measure of Subjective Value, Too

The final two reasons the company’s dividend is safe pertain to subjective factors, like management and market predictions. As a result, they’re not significant on a standalone basis. But they do contribute positively to the overall outlook for the stock…

9. Management pedigree and commitment. Remember, Philip Morris spun-off from Altria, which increased its dividend in 39 out of the last 41 years. That history and “commitment to reward our shareholders generously” is ingrained in Philip Morris’ management. And as the CFO reveals, if maintaining that commitment “means that the payout ratio overshoots 65% [occasionally], so be it.”

10. Currency tailwinds. A strong dollar hurts results because the company is based in the United States, yet records almost all of its sales in foreign markets. However, many experts (and yours truly) believe the dollar is doomed, which will only magnify the company’s profitability.

In the end, the fundamentals above prove the most important thing as an income investor – the dividend’s safe.

They also point to the prospects for steady share appreciation. After all, the stock’s trading cheaply, at just 12 times earnings and management expects to increase earnings by 14% next year.

As CFO Hermann Waldemer explains, “We have excellent momentum going into 2009. Our market shares are growing overall… And our share growth is accelerating [too].”

We’ll get proof when the company reports earnings July 23. But if we wait for the results, I’m afraid shares will get away from us and diminish the yield.

At current prices, the stock pays a reliable 5% with strong prospects for prospects for appreciation. So don’t miss out.

Good investing,

Louis Basenese

P.S. Remember, this is the last “freebie.” If you want any more safe dividend stock picks, you’ll have to join The Oxford Club. Our mid-month issue of The Communiqué is being revamped and will soon be exclusively dedicated to dividend-paying stocks and other safe ways to generate retirement income. Consider signing up today.

by Alexander Green, Advisory Panelist
Wednesday, July 15, 2009: Issue #1041

Last month the first ETF adhering to strict Islamic beliefs, Dow Jones Islamic Market International (NYSE: JVS), began trading.

Following Shariah law, the index excludes anything close to investing in “sin stocks” or firms that produce or market alcohol, tobacco, gambling, weapons, or pornography.

Investors are further assured that the stocks held in the index have nothing to do with borrowing or lending, women’s fashions, cosmetics, modern cinema, popular music, or pork.

Personally, I wouldn’t touch this fund with a barge pole. It is virtually guaranteed to earn sub-par returns.

Here’s why…

Investing in Sin Stocks vs. Socially Responsible Stocks

If you were given the choice six years ago between investing in the environmentally and socially responsible Sierra Club Stock Fund (Nasdaq: SCFSX) or investing in sin stocks with the Vice Fund (Nasdaq: VICEX), which invests primarily in tobacco, alcohol, defense and gambling, which would you have chosen?

I’ll give you a hint. Your profits would have been much bigger if your conscience weren’t your guide.

• The Sierra Fund has delivered negative returns over the past six years.
• The Vice Fund has delivered positive performance – and beaten the S&P 500 handily, too.

This is no aberration.

Merrill Lynch recently examined the performance of alcohol, tobacco and casino stocks in all recessions since 1970 and found that while the S&P 500 fell 1.5% on average, sin stocks rose an average 11%.

This downturn isn’t shaping up to be any different.

Sure, consumers are cutting their spending far more than in past recessions. But history shows that people do not drop their bad habits in hard times.

Rather many people feel an intense need to escape through alcohol, tobacco, or a trip to their local casino.

This is not too surprising.

If a citizen of ancient Greece or Rome were magically transported into the modern era, he would be astounded by the current state of agriculture, transportation, housing, medicine, architecture, technology and general living standards.

Humanity itself, however, would offer few surprises. We remain the flawed human beings we have always been, struggling with the same deadly sins our ancestors wrestled with millennia ago: greed, gluttony, sloth, pride, anger, envy and lust.

Investing in Sin Stocks Through The 7 Deadly Sins

Given this reality, when it comes to investing in sin stocks, four months ago The Oxford Club unveiled its new Seven Deadly Sins Portfolio.

It is already up 41%, more than 10 times as much as the S&P 500.

We locked in a 92% profit in the casino stock Wynn Resorts (Nasdaq: WYNN) in 64 days. Our shares of Smith & Wesson (Nasdaq: SWHC) have doubled in less than four months. All but one of our positions are up over 20%.

Why are these vice stocks outstripping the broad market by such a wide margin? One answer is careful security selection.

But two other studies out of Yale and Princeton offer a further rationale.

• One study attributes vice stock outperformance to the lack of attention pension and other institutional investors pay to these stocks in order “to maintain an aura of respectability.” (That creates opportunity.)
• The other believes it’s because companies in sin industries benefit from high barriers to entry, thanks to strict regulations and taxation.

These factors are not likely to change.

I’m not endorsing the sin industries, incidentally.

I don’t smoke and I hope my kids never do. I don’t gamble unless the stakes are negligible. And I don’t own a handgun, although I am a supporter of Second Amendment rights.

Why Would Anyone Invest in Sin Stocks?

So why would I consider investing in sin stocks and these types of companies?

• Because my investment portfolio is a vehicle for achieving and maintaining financial independence, not for making grand moral statements.
• Consumers and investors have every right to patronize or own any legal, publicly traded business that creates jobs, pays taxes and allows citizens to enjoy their many freedoms.
• Moreover, you only need look at Afghanistan under the Taliban to see what a society unleavened by political, religion and economic freedoms looks like.

Last month French President Sarkozy made news when he said the burqua – a symbol of the repression and subjugation of women – “is not welcome in France.”

Shariah law isn’t welcome in my portfolio either. And the returns have been superb because of it.

Good investing,

Alexander Green

Editor’s Note: Learn more about The Oxford Club and its Seven Deadly Sins Portfolio.

by Alexander Green, Advisory Panelist
Saturday, July 11, 2009: Issue #1038

Studies show that the average investor does far worse than the Dow Jones Industrial Average or the S&P 500.

It’s not just that they’re not getting good advice. Most of them aren’t even asking the right questions.

As a former money manager, I found my clients spent the majority of their time asking about – and fretting over – what lay just ahead for the economy and the stock market.

Nobody knows the answers to those questions.

So it’s far better to ask, “What companies are likely to thrive – and report enormous profit gains – in the current economic environment?” The answer to that question is where the big money lies.

Let me give you an example.

Cerner Corporation Recommendation

In early February, I recommended Cerner Corp. (Nasdaq: CERN) to subscribers of The Momentum Alert.

As you may recall, the vast majority of stocks were in a freefall at the time, one that wouldn’t end until the market bottomed on March 9.

But that didn’t matter. You see, Cerner is a company with a mission: to take the pen out of doctors’ hands.

Cerner makes systems that automate records in hospital and doctor offices. This is much more efficient than handwritten notes.

It’s also much safer.

Automation reduces errors. Doctors – famous for nearly illegible handwriting – can cause the wrong drug (or the wrong dosage) to be inadvertently dispensed at a hospital or pharmacy. And they can forget to renew old prescriptions.

That’s why Cerner’s scalable Millennium software is already installed in 6,000 hospitals, pharmacies and doctors’ offices. A new federal push for records automation will only increase that footprint.

Despite the severe recession, I pointed out that recent earnings at Cerner were up 24% on a 13% increase in revenue. Plus, the company had a $3.4 billion order backlog.

It didn’t matter that most companies were struggling. Cerner wasn’t.

Cerner Corporation: Health Information Technology

The health information technology leader operates in a recession-resistant industry. And spending on electronic recordkeeping will only grow in the near future.

Since February, Cerner has performed like a champ. The company’s bottom line is still fattening at double-digit rates. And the stock hit a new 52-week high last week.

Look at the chart below. While the Dow is only slightly higher than it was in early February, our shares of Cerner are up over 75% – and I see plenty more upside ahead.

What’s more, we’ve already locked in profits of 146.15%, 197.95% and 669.23% in our Cerner June $40 calls.

Ironically, if we had known that the economic news was about to get worse – and the market was still weeks away from hitting bottom – it might have prevented us from making a fabulous investment.

It’s often a good thing that you don’t know what lies just ahead for the Dow.

In sum, forget about the market and instead focus on companies that are primed for a sharp jump in profits in the months ahead. That’s where you’ll see the biggest gains.

True, the vast majority of publicly traded companies will not report good earnings in the weeks ahead. (Quite the opposite, in fact.)

But so what? You don’t need the vast majority of companies. Restrict your purchases instead to those exceptionally well-managed firms with the best near-term business prospects.

They may not be plentiful but they sure are profitable.

Good investing

Alexander Green

Editor’s Note: If you’d like to get all of Alexander Green’s latest momentum picks – before they go on a tear, take a look at his premium service, The Momentum Alert.