Warren Buffett’s track record is unmatched. His recent bullishness on stocks has been unmatched as well. Over the past few weeks, the market has made him pay for being bullish in a bear market.

Whether it’s justified or not, Berkshire Hathaway (NYSE:BRK-A) has finally started to get hit by the sell-off. Yesterday, shares of Buffett’s holding company slid 11% and fell another 12% in early morning trading this morning. The most cited reason from the slide was nervousness over Buffett’s recent $40 billion gamble.

You see, Buffett’s not just buying stocks he likes when they’re undervalued. He’s doing quite a bit more. He’s taking advantage of what the market is offering up investors with the capital and the time to make an absolute killing here. In fact,

So far, Berkshire cut a deal with Goldman Sachs (NYSE:GS) that will likely go down as one of the greatest deals cut during the financial crisis. Whether Warren Buffett’s Goldman Sachs deal it works out or not, the risk/reward ratio was, and still is, stacked in Berkshires favor. It has done a similar deal with General Electric (NYSE:GE) and took some big stakes in a few more companies.

In addition to that, he’s taking full advantage of the Bull Market in Volatility we talked about a month ago. Many investors have used the S&P 500 Volatility Index (VIX) as a gauge of the amount of fear built into the market. In early October, when fear was at unprecedented levels, the VIX was setting new all-time highs.

But the VIX doesn’t necessarily mean it’s time to buy stocks or there’s no more downside left to go. It’s a direct measure of the cost of portfolio insurance. If the big institutional investors, which are the primary buyers and sellers of the S&P 500 Index options, are all demanding insurance against a market panic, insurance premiums are going to be pretty high. That’s what the VIX measures, the cost of insurance.

So what would someone like Buffett who has been in the insurance business for decades do when the cost of insurance is high? He would sell insurance. And that’s what he recently did that has so many investors worried about Berkshire Hathaway.

About a month ago Buffett was sold about $40 billion worth of insurance against the four major indices in the world. The European-style options (which can only be exercised on their expiration dates) were written (sold) are against four major international indices including the S&P 500. The options will expire between 2019 and 2027.

It’s reported Berkshire received $4.5 billion cash for writing these contracts. Considering the contracts don’t start expiring until 2019, Berkshire is free to do with what it sees fit with the cash.

The short-term impact of being on the wrong side of the put options has caused investors to flee Berkshire shares. After all, they got the $4 billion cash, but if the markets crash, it could be on the hook for as much as $40 billion.

As a result, creditors are getting very worried. Forbes reports in Betting Against Buffett, the credit default swaps (the cost to ensure $10 million against a Berkshire default) is now $440,000. That puts the cost of insuring against a default of Berkshire’s top-rated debt right up there with GE, Goldman Sachs, and Citigroup.

In the long run, this all just shows the absolute short-sightedness of Wall Street. It’s a fantastic move over the long run. Berkshire just collected a $4 billion cash infusion which is can use to buy up great stocks very low prices and wait out the next decade.

It may seem like an exotic move to some, but once you actually look at the numbers and risk, it’s actually much more prudent than investors are willing to give Berkshire credit for over the short-term.

As usual, it looks like Buffett scores another big score in this turbulent market and it’s only a matter of time until the investment community realizes it. At this time, if you’ve got a multi-year time horizon and are using a conservative investing strategy that always keeps cash on hand for the enticing opportunity to buy lower, I’d consider starting to look at shares of Berkshire Hathaway.

Over the past decade they have routinely traded at a 40% premium to net asset value. That is a very high premium to pay. It’s much lower now. The fear and uncertainty over Berkshire and the world’s greatest investor’s moves is unwarranted. Either the U.S. is headed for a decade-long depression or we these are going to pay off well.

Good investing,

Andrew Mickey, Q1 Publishing

“Buy One, Get One Free” - That was the offer last week in the United Kingdom. But the two-for-one sale wasn’t for bags of potato chips or loaves of bread at the supermarket, it was for cars.

U.K. newspaper The Guardian reports car dealers across the country were doing the unthinkable to unload excess inventory. They were selling Dodge Avengers at 2-for-1. The gas-guzzling Avenger, made by Chrysler, has been one of the worst-selling cars in the country where gas will run you $5 a gallon (even with oil at $50 a barrel.)

Dealers were so hard up to unload the “Yank Tanks” they were literally giving them away. That’s how bad demand has gotten in the U.K. and it could be a sign of what’s to come for the United States.

American car dealers are already starting to offer extreme deals as the 2009 models roll in, which is normally the best time of the year to be selling cars.

The NY Times reports in Automakers Office Big Incentives to Spur Sales desperate offers are already being made to help move new cars off the lot. A dealership in Minneapolis is offering $15,000 off a GMC Yukon. Other reported discounts include $14,000 off a Ford F-150 pickup, $12,000 off a Jeep, and $2,500 off a Ford Focus.

With those kinds of discounts, they might as well be 2-for-1. In some cases, the discount is half the list price. Worst of all, the discounting will only continue for the next few months as 2008 models have to be moved out to make room for 2009s. It could get even worse if the auto industry gets its $25 billion bailout.

Inventory Piles Up

Take a look at General Motors (NYSE:GM).GM is in the worst shape of all the U.S. automakers and it’s only going to get worse.

Earlier this week we saw how truly week the retail market really is. Of course, most of investors have been expecting the worst consumer shopping seasons in decades, but GM hasn’t been able to get prepared in time.

At the end of October, GM North America reported it has 799,000 vehicles in stock – consisting of both cars and light trucks. That’s about five months worth of inventory (when measured against the 166,000 sold in October), which 15% below last year’s inventory, but it’s only getting worse.

At current sales rates, inventory will start to grow. GM expects to produce an additional 567,000 (875,000 total for Q4 minus 318,000 October production) over the next two months. If October sales rate holds up, despite rising unemployment and falling consumer disposable incomes, GM’s total inventory will increase to 1,234,000 vehicles.

Considering the growing lot of unsold cars and trucks, it’s no wonder the Associated Press warns, “[GM is] practically running on empty already, and analysts and others warn that it might be out of business by the time Obama is sworn in on January 20^th.”

Ballooning inventories are the biggest problem the automakers are facing. Insufficient demand and oversupply will always show up in inventories. And, frankly, a $25 billion bailout will exacerbate the problem and will only delay the inevitable; one of the major U.S. automakers is doomed to go out of business before this recession is over.

Coming and Going

If GM is allowed to go under, the consequences will be harsh. More than 3 million jobs associated with the automaker would be lost. The federal government would also lose an additional $150 billion in annual tax revenues associated with GM. That will certainly make the $25 billion price tag (although probably only $15 billion will go to GM) much more palatable.

On the plus side, when a major automaker moves out of a factory, there will certainly be someone willing to move in. The solar industry has already started to set up shop in the Rust Belt. For example:

First Solar (NASDAQ:FSLR) has been one of the first to start tapping into the rust belt. The $22 billion solar panel manufacturer recently announced the expansion plans for its Ohio factory.

Flaberg is slated to build a new solar panel-making facility in Pittsburgh, Pennsylvania.

Energy Conversion Devices (NASDAQ:ENER) operates three manufacturing facilities in Michigan. On top of that, Energy Conversion Devices has also laid out a plan to almost double production and double capacity in one of them

Replacing all of the auto factory buildings with solar panel manufacturing isn’t going to happen overnight. Also, all the blue collar jobs will not be replaced by green collar jobs in the foreseeable future either.

One of these major employers going under would certainly spell another disastrous day for the markets and a bailout probably isn’t going to be well-received either. It’s a lose/lose situation over the short-term.

Letting one of the Big Three automakers go bankrupt will be the equivalent of ripping the Band-Aid off. And it will hurt. But it would probably help the foundation of a recovery start to form much quicker.

Until this story plays out, I’d still recommend using a very conservative investing strategy. To try and find something positive here, the sooner a direction is chosen, one of the many uncertainties hanging over the markets would be out of the way.

Good investing,

Andrew Mickey
Chief Investment Strategist, Q1 Publishing

The global markets are finally catching on. The only thing that matters is the economy. Sure, the markets get excited about a new President or another bailout/stimulus package, but it always comes back to the economy.

Right now, the economy is in bad shape and getting worse. And the markets are just realizing it…again. The worst part is, two of the three sources of consumer spending power, housing and stock market wealth, have dried up.

Housing Wealth

The drop in housing prices is already starting to have an impact on equity extractions as well. The “your house is an ATM period” is over. Equity extractions are when consumers tap home equity lines of credit, second mortgages, or any other type of borrowed money against the equity value a homeowner has built up.

Net equity extractions from U.S. homeowners fell to about $10 billion last quarter. This is down tremendously from 2004 through 2006 when homeowners would extract about $160 billion in equity value each quarter. And it’s not going to change anytime soon.

If we consider the stock market as a bellwether of expectations, we can see the real estate market won’t be coming back anytime soon. Just look at how rough it has been for over-leveraged REITs over the past year. The housing wealth source has all but dried up.

Stock Market Wealth

Dow, S&P, Nasdaq, commodities, emerging markets…everything is way down. Trillions of dollars in wealth have been eliminated. When your average consumer pulls up their brokerage or 401K statement and sees nothing but red, they’re not thinking this is the time to upgrade washing machines, TVs, or get a new car.

Credit Card Wealth

We’ve known all that for a while and the impacts on consumer spending have been expected. Now, the third source of consumer spending power, credit cards, is collapsing as well.

As we warned in mid-October in Why Market Rallies Won’t Last, credit cards are the last great source of consumer spending power. But they won’t be for long:

“The last hope for keeping consumers temporarily afloat is credit cards. All signs point to this source being completely dried up.

“Over the past few weeks credit card companies have slashed the amounts they are willing to lend to risky customers. Most of them won’t even open up new accounts for high-risk individuals. And they cut their marketing budgets too. According to CBS News, HSBC sent out 54% less direct mail advertisements and Citibank has sent out 45% less.

“The credit card issuers have become risk averse and are finally limiting the total credit available and the amount of customers they’re willing to take on. Credit card spending, the third leg of American ‘wealth’ is going away too”.

Yesterday, we got the worst news of all. The private sector is no longer willing to lend to credit card issuers.

For the first time in 14 years no one has been willing to buy bonds backed by credit card loans. This is absolutely huge news that is just one sign of the continuing decline in credit card lending.

You see, credit card issuers like Bank of America (NYSE:BAC), JP Morgan Chase (NYSE:JPM), and American Express (NYSE:AXP) lend money on credit cards. Then they bundle those loans up and sell them off to institutional investors like insurance companies, hedge funds, and mutual funds looking for income. That way they can lend more and more without taking on much of the consumer debt or the risk themselves.

The institutional investors like the debt because they would get a greater rate of interest in exchange for the greater risk. Now, they consider the risk isn’t justifying the reward of a few extra bucks in interest payments.

Now that no one is willing to buy it, the banks and credit card issuers will be forced to curtail lending even more. It’s all part of the downward spiral of credit contractions. This is a just a sign the last great source of American consumer spending power is drying up.

It’s Not Just an American Problem

India is facing similar problems with its formerly debt-loving middle class. Livemint.com reports:

“[Indian] Bankers said the trend has intensified in recent months and the portfolio may have shrunk by about 10% this fiscal year so far. This is significant as the industry has seen growth at an average 30% in each of the past four years.

“The percentage of non-performing assets, or NPAs, in banks’ credit card portfolios has almost tripled, going up from 5-8% in fiscal 2008 to 15-20% in the current fiscal. NPAs are the portion of the credit card portfolio where a customer has not paid dues for at least 90 days.”

It’s getting pretty bad in India and leading Indian banks like ICICI (NYSE:ICB) are going to have a lot of problems to deal with. But its’ not just India, Mexico is having its own issues with consumer credit as well.

Wal-Marts in Mexico, which extend credit to their customers, are starting to take measures to limit the risks associated with consumer lending. Last week, Mexico’s Wal-Marts upped the interest rate on the credit it extends to customers to 70% per year.

It’s tough to imagine too many consumers willing to pay that kind of interest rate to buy anything other than absolute essentials.

The Impact

Credit cards are the final source of U.S. consumer spending power growth. We both know that is not an option. 

This spells even more bad news for an ailing U.S. economy. Nothing will get turned around for good until the employment situation starts to improve. Until then, there are plenty of trading opportunities for a volatile market but cash is still probably the safest place to be for the short-term.

Good investing,

Andrew Mickey
Chief Investment Strategist, Q1 Publishing

It’s getting tough for everyone. Consumers have led the way downward with a new zest for thriftiness that has plunged retail sales into its first decline in years. And all signs point to we’re still on the downtrend of consumer spending activity.

It’s not just consumers though; corporations are taking their licks too. They’re being forced to pass out more pink slips in a few months than most have in the past decade, advertising budgets have been sharply curtailed, and business investment is dropping as well.

But here’s the thing, all of the corporate fat which has built up in a lot of businesses will, help make them leaner and more efficient. Of course, it takes years for this process to work through an entire economy the size of the United States’, but it should be worth it in the long run. Corporations will be forced to run more smoothly...do more with less. It’s going to be a great learning experience and companies that can survive (on their own...not the ones getting bailouts) will be even stronger when the recession subsides.

Now is the time to start finding companies that will allow other businesses to run leaner and meaner. Its survival time and more rounds of corporate belt tightening should be expected. And the companies that can help its customers become more efficient and reduce costs without requiring significant upfront cash outlays should hold up very well in a market like this. We’ve been looking for cost cutting companies for a while because a long and deep recession will be the perfect opportunity to pick a few up.

After all, that’s what it looks like what Warren Buffett’s Berkshire Hathaway (NYSE:BRK-A) is doing. Last week, Berkshire Hathaway’s CORT subsidiary completed its takeover of Aaron Rents (NYSE:RNT) Corporate Furnishing Division.

CORT has grown over the years into a business service provider. It can move a business lock, stock, and barrel including employees and their families. CORT also provides temporary living facilities in new cities.

CORT does a lot more too to helps businesses deal with major changes. Adding the office furniture rental division from Aaron Rents will just help further CORT’s expansion into new markets.

Although the $73 million takeover was small compared to recent moves made by Berkshire, it proves there are plenty of values out there for investors with an eye to the future. Finding ways to play the upcoming rounds of corporate belt-tightening should be a worthwhile venture.

When times are tough, everyone will be looking for ways to grow the bottom line while top line revenues flat line. The only way to do that is by cutting costs. Any company that specializes in that will surely be welcomed with open arms.

We’ve been eyeing technology companies that are cost cutters for their customers. Cutting cost technology companies will be able to get a strong foothold in a market like this.

For example, I stock I’ve like for about two years now is Concur Technologies (NASDAQ:CNQR). Concur’s core business is making its customers’ lives easier. Concur provides software which connects a network of major credit card companies like American Express (NYSE:AXP) and Visa (NYSE:V), banks, and corporate accounting departments.

Its software allows companies’ entire travel expense management process to be completely automated. An expense is tracked from credit card swiped at a business dinner in New York directly to an accounting department in Houston. There are no expense forms to fill out and no time consuming calculation of receipts after a trip.

Concur’s technology saves companies a lot of time and money. In fact, Concur states it can reduce the cost of processing travel by as much as 37%. It really is a fairly easy set-up and the initial capital outlay is quite small (Concur makes most of its money by processing the transactions and ongoing support). No wonder companies like Airbus, Eaton, and Texas Instruments.

Is now the exact best time to buy companies that can reduce their customers costs? In a market like this it’s impossible to tell over the short-term. However, if you’ve got a decent time frame and are willing to use a conservative investment strategy, you should find plenty of winners among these beaten down group of companies.

Good investing,

Andrew Mickey, Q1 Publishing

It’s looking like a case of too little, too late in China.

The country which bet on becoming the world’s manufacturer is in very bad shape. The manufacturing sector is in decline, thousands of factories are closing each month, and millions of people are facing unemployment for the first time. As the situation worsens China’s government is doing everything in its power to get things turned around.

We are so used to China growing that we’ve forgotten it needs to be fed. China’s economy cannot thrive without the rest of the world buying its manufactured goods.

The rest of the world has been catching on to China’s manufacturing crisis in the past few weeks, but China’s government is starting to figure it out. In the past two months China has (in no particular order):

1.      Cut interest rates three times

2.      Reduced export taxes

3.      Announced an additional $425 billion in road construction

4.      Supported the U.S. dollar, making Chinese-made goods cheaper in the U.S.

5.      Lifted restrictions on bank lending

Clearly, things in China aren’t as great as they seemed just a few months ago. These are not the types of measures taken by a country whose GDP growth is dipping from 9% to 6%. They are aggressive moves that mask a deteriorating situation behind the “official” numbers.

And the analyst community is finally starting to catch on and reducing expectations for China’s GDP growth rate. The range is now expected to come in somewhere between 3% and 8% growth.

That’s just not enough to keep the lights on at most factories when you combine the slow growth with a worldwide downturn in consumption.

What does all this mean?

Over the short-term, it means there will be quite a bit change in the global manufacturing sector. After 30 years of near double-digit economic growth, China’s workers have become accustomed to prosperity and opportunity. The current economic downturn, however, has put the continuous prosperity in jeopardy.

To counteract this, China will be very aggressive in keeping the lights on at factories and keep people working. Also, China will really ramp up infrastructure spending. The $425 billion in new road projects recently announced will only be a small part of the eventual investment in infrastructure there.

It also means the U.S. dollar will continue to be supported by the exporting country. The U.S. may be bankrupt, but China will still lend to it in order to help its manufacturing based economy get back on its feet.

Over the long-term, it means China will continue to grow even stronger. It’s keeping their people at work, taking the lull in the economy as an opportunity to allow its infrastructure to catch up to the rest of the economy, and will have all the groundwork laid for a smoother-functioning world-leading economy.

We’ll probably be looking back in a couple years and realize lower oil, cement, and commodity prices made the building blocks of society extremely cheap and helped lay a foundation to accelerate China’s growth.

Basically, if you’ve got the time and are willing to use a fairly conservative investing strategy, it’d be tough to go wrong buying almost anything China related.

Good investing,

Andrew Mickey

Chief Investment Strategist, Q1 Publishing