The 4 WORST Investments You Can Make Today

I believe wholeheartedly in teamwork.

So much so, that I spend a lot of my personal time coaching my daughter’s and son’s basketball teams.

Keiko is in 6th grade and Kenji in 7th. So keeping each team focused on the same page is not always an easy goal.

At Money and Markets, Larry, Martin, Mike Larson, and I also are part of a single team.

But we don’t always think alike.

For example, when Martin first asked me to work for him in the late 1990s, I turned him down. I said: You’re a bear. I’m a bull. We can be good friends. But how can I write what I don’t believe in?

That was then. In contrast, now …

In All My 30 Years in This Industry
I’ve Rarely Been More Bearish

That doesn’t mean I hate every stock. As I’ll show you in a moment, there are exceptions.

But my bearish view is not because of the company I keep. It’s because of what I see out here in Montana, on my travels around the country, in all the stuff I read every day on the Internet, even on TV.

I have a small TV set next to my desk, and I keep half an eye on CNBC during the day. Most often, though, I feel like I’m watching the financial version of Hee-Haw.

On Monday, for example, I saw something most people probably missed two floor traders giving each other high-fives when the Dow Jones had just zoomed 169 points. The bulls were obviously pretty darn proud of the rally they manufactured that day to celebrate the nomination of Ben Bernanke as the next chairman of the Fed.

And CNBC had no trouble finding a small troop of bulls willing to pound the table about stocks, even proclaiming a return of a new, raging bull market.

But the celebration was premature.

After hitting 10,385 on Monday, the Dow Jones surrendered almost all those gains and dropped all the way to 10,229 on Thursday.

The Nasdaq fared even worse. The now-infamous Bernanke rally took it to 2,115. But yesterday all of those gains and more were wiped out, with the index sinking all the way back to 2,063.

The markets are up this morning. But the downward trend is decisive, and it’s not going away.

Of course you never know when the bulls will pull a rabbit like Monday’s rally out of the hat. So predicting each up-and-down jigger in the market can be a tricky game.

Picking out which sectors of the market are the most vulnerable is a different story. I feel that’s something I can do with a relatively high level of confidence …

Four Money Traps I Wouldn’t
Touch With a 10-foot Pole

Money Trap #1. Long-term bonds

Interest rates have surged since President Bush announced the nomination of Ben Bernanke to replace Alan Greenspan as the Chairman of the Federal Reserve Bank. The yield on the 30-year Treasury bond was 4.61% last Friday. This week, it’s been as high as 4.80%.

That may not sound like a huge move, but long-term bond funds have taken it on the chin.

Just since Monday, the Rydex US Government Bond fund (RYGBX) is down 3.5%. The American Century Target Maturity 2025 (BTTRX) is down 3.4%. And PIMCO Long-Term US Government (PGOVX) has fallen 2.1%.

Those are pretty hefty declines for just four trading days, especially in an investment class that most people would consider defensive.

But these kinds of losses will pale in comparison to what’s likely as inflation gets worse … as more investors begin to recognize the worsening inflation … and as the Fed finally takes action to jack up rates more aggressively.

Last week, the Labor Department reported that inflation at the wholesale level the Producer Price Index or PPI jumped by 1.9% in September. Heck, that’s the biggest single-month jump in the Producer Price Index in 31 years. On an annualized basis, you’re looking at over a 22% inflation rate!

The last time inflation was running this rampant, interest rates took off like a rocket. In 1980, it took less than six months for the Treasury-bill rate to soar from 6.3% to 16.7%.

Will rates go up that far that fast right now? I agree with Martin that the answer is probably not. But even if they surge only half as much, I see nothing but pain ahead for bond investors.

Meanwhile, according to Freddie Mac, the average rate on a 30-year fixed mortgage jumped AGAIN to 6.15%. Among the first to get clobbered by rising rates …

Money Trap #2. Real Estate-Related Stocks

On Thursday, the Commerce Department reported a 2.1% increase in new home sales in September. Hooray, shouted the real estate bulls on my little TV screen.

Hah! I said in response.

A little digging below the headlines shows that the real estate market is not just cooling off it’s turning stone cold and doing so at a rapid pace. The facts …

• The median price of a new home dropped $13,000 in the last month to $215,700, the lowest since September 2004.

• On a seasonally-adjusted basis, the inventory of unsold homes increased to a new record of 493,000 in September. That amounts to a 4.9-month supply, the worst since late 1996.

• If you take out the seasonal hanky-panky and just look at the raw numbers, the inventory of unsold homes is the worst since they began keeping records in 1963.

Given the rise in mortgage rates, these types of numbers shouldn’t surprise you. But they certainly are catching the Wall Street crowd by surprise.

That’s why the Amex Housing Sector Index (HGX) dropped by more than 3% on Thursday, a continuation of its 19% plunge since late July.

Now, with the cost of a home loan continuing to rise … with American households feeling the pinch of surging energy costs … and with consumer confidence falling sharply, this housing index (along with the stocks it represents) could fall another 24% or so before touching a possible bottom.

The stocks to avoid: Not just homebuilders like D.R. Horton (DHI), Centex (CTX), Lennar (LENB), and Pulte (PHM), but also the rest of the construction food chain, including companies making cement, lumber, fixtures, cabinets, and sheetrock.

When to sell if you own them: When they enjoy a nice one- or two-day rally like today’s, for example.

Money Trap #3. Consumer Lending Stocks

Americans everywhere are getting bombarded with price increases gasoline, heating, property taxes, insurance premiums, interest rates, food, construction materials, clothes, you name it.

You can tell because the companies that make a living lending to consumers are reporting an alarming increase in late payments and default rates. Three examples:

1. Capital One Financial (COF), one of the largest credit card lenders in the world, reported worse-than-expected Q3 results last week and warned that its full-year 2005 earnings would be at the low end of its previous guidance.

The problem? Capital One reported that its delinquency rate on loans more than 30 days past due rose to 3.73% in Q3 compared to 3.49% in Q2. So it was forced to raise its expected credit card default rate to 5%, increasing its Q3 loss reserves to $42 million. That’s a big hit to profits right there!

2. Auto lender AmeriCredit (ACF) reported Q3 results that were 10 cents per share short of Wall Street forecasts.

Some of the problem was Hurricane Katrina, but the main issue, like the situation at Capital One Financial, was a surge in the number of deadbeat loans.

Result: AmeriCredit also had to bump up its loan loss reserves from $98.7 million to a whopping $165.9 million. Previously, the company thought it would make $1.95 per share next year. Now, it’s saying the results are going to be more likely in the $1.67 – $1.85 range.

Sure enough, its shares have just plunged cleanly below all of the lows it made earlier this year, foreshadowing a bigger plunge now on the way.

3. Countrywide Financial (CFC), one of the largest mortgage lenders in the country, also joined this club yesterday, trimming the top end of its 2005 earnings forecast from $4.60 to $4.40.

Its shares are behaving much like AmeriCredit’s. They broke down to new, 2-year lows last week and did it AGAIN this week, confirming, in my view, the ominous outlook for this company and its shareholders.

Overall, from its high of almost 40 in June, it’s now suffered a decline of almost 25%. And with the fundamentals continuing to turn sour in this industry, don’t be surprised if the stock falls still another 20% or so from here.

Also don’t try to find a needle in this deadbeat haystack. Whether you’re talking about companies making auto loans, issuing credit cards, or in the mortgage business, steer clear.

Money Trap #4. Leisure Stocks

When times get tough, one of the first things Americans cut back on are the extras and luxuries that make life enjoyable. I’m talking about things like travel, eating out, and recreation.

Some prime examples:

• One of my favorite restaurants in the world is P.F. Chang’s China Bistro (PFCB). I especially love their spicy Sichuan Calamari.

  Business, however, isn’t as good as their food: P.F. Chang’s missed its Q3 targets and lowered the boom for Q4 expectations. They now expect fourth-quarter earnings of 33 cents per share on $214 million in sales. Their previous forecast was 38 cents on $219 million of sales. Big difference.

  The problem: Lower traffic expectations, fewer unit sales weeks, and the closure of one restaurant in Louisiana all of which are fancy ways of saying the obvious: Business stinks.

• You know times are tough when people start cutting back on spending for loyal family pets. PetSmart (PETM) warned that its Q3 and full-year 2005 results would be below expectations. Why? The company is using the standard, dog-ate-my-homework excuse that everybody else is using: Hurricane Katrina.

  But I think the real cause is both deeper and more permanent. I’m talking about the impact of sky-high energy prices on consumers’ pocketbooks . We believe, admits the company, sticker shock at the gas pump, high home interest rates and general uncertainty mean the consumer is simply shopping less often and we’re losing trips to the car staying in the garage.

• One of the best examples of how tough the environment is right now for leisure stocks is the profit warning from Cabelas (CAB), a paradise for hunters and fishermen. I may be showing my humble country roots, but I can tell you that fishing and hunting is more than just a hobby for many men. For most of my outdoors pals, it’s the closest you can get to a religion.

  But Cabelas warned today that its Q3 profits would fall short of expectations. The problem? Good, ol’-fashioned, weak demand: During the quarter, the company said, both our direct and retail businesses were impacted by higher fuel prices that resulted in both lower consumer spending and lower gross margins.

  To me, this profit warning from Cabelas carries more significance than any of the other retail profit warnings I’ve heard so far (and I’ve heard dozens and dozens of them). Reason: When hunters and fisherman stop spending money, economic times have to be really, really tough.

Frankly, I think there are a lot more land mines out there than just these four sectors, but I think they are the most dangerous places to have your money invested in today.

More importantly, you need to do a heck of a lot more than just avoiding these four investments.

Here’s What I Think You
Should Do Immediately

1. If you own stocks in the sectors I just told you about, whether I mentioned them by name or not, get out now.

No, you won’t be getting peak prices. But you will be protecting the bulk of you capital.

2. For the balance of your portfolio, run a hypothetical stress-test. Ask yourself: How will each of my stocks or bonds hold up with …

• Another 20% decline in the S&P 500?
• A new surge in interest rates?
• More jumps in the cost of energy and raw materials?
• A slump in key sectors of the economy?

If your answer is more pain than you can handle, you need to implement a defensive strategy, which leads me to …

3. The best defensive strategy: Sell on any strength. This may take some courage on your part, especially if you’re recognizing losses or incurring a tax liability. But it’s the cleanest, simplest approach.

4. Another alternative is to give your broker instructions to sell your stock on a stop. If your stock is selling for $50 per share, what will you do if it falls to $40? What about $35 or $30? Decide ahead of time the level of pain you’re willing to take and place a good-till-cancel stop order. Your goal: To help prevent a tolerable loss from turning into an intolerable one.

5. Keep plenty of cash-equivalent assets in reserve. When it comes to investing, one size does not fit all, but I think that, no matter what your situation may be, a big cash balance makes sense in this market.

6. Learn to zig as well as zag. The biggest mistake I see investors making is to focus too much on just U.S. stocks. Your portfolio should hold assets that can do well even when the stock market is doing poorly. I’m talking about:

• Natural resource companies. While the stock market has been going mostly sideways for the past two years, these have been going through the roof. (Did you see the huge appreciation in Larry’s favorite gold stocks yesterday? Wow!)
• Foreign stocks. Sure, they can come down with the U.S. market. But in recent years, many foreign markets have been following their own track and should continue to do so.
• Contra-market investments. Martin has told you about the Rydex Ursa Fund (RYURX), which is designed to automatically appreciate about 10% for every 10% decline in the S&P. In addition, I also like the Prudent Bear Fund. The goals are similar. But the main difference is that Prudent Bear is actively managed and does not automatically go up or down tied to an index.

Naturally, with any investment, timing is critical. So not all of these are buys right at this moment. For market timing signals and regular follow-ups on precisely what to sell, when and where, make sure you sign up for Martins Safe Money Report AND for Larrys Real Wealth Report. All its going to cost you is 50 cents a day for both.

7. Learn to protect yourself and profit from rising interest rates. Indeed, one of the most exciting opportunities right now is to profit directly from the next big move in rates … and its consequences. Why? Because, from what I can see …

• You already have evidence of the most dramatic spurt in inflation in a quarter-century.

• But you still have close to the lowest interest rates in a half-century.

• That’s a huge discrepancy which is going to have to be corrected very quickly with a sudden surge in rates.

Martin and his team are helping their subscribers play this next surge with inexpensive but highly leveraged investments that are directly or indirectly tied to interest rates.

If he’s wrong and rates fail to go up as expected, the most they can lose is the amount they invest plus any commissions they pay their broker. If he’s right, the potential is virtually unlimited.

It’s not for your keep-safe money. But a little bit of risk money can be the tail that wags the dog of your entire portfolio.

Martin and his staff are planning a new recommendation to go out Monday, in time for subscribers to get in before the Fed announcement on Tuesday … which could be a shocker. Martin’s latest report, updated this morning, gives you the details.

All of us on the Money and Markets team contribute to the effort, and I think that’s why it’s been such a great success.

Best wishes,

Tony Sagami

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