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Bearish advice from an investor who is making money

This bearish analyst has been encouraging investors to treat the market with extreme caution — and make money while they do it.

It would take a relatively short time to count the number of North American investment portfolios that have made money in the past year.

But they do exist. In this sea of red ink, some portfolios have remained in the black. We have one for you today.

It belongs to a man who saw trouble coming long before this crisis burst upon the scene. First, he made money by staying out of the stock market when it looked too good to be true (as indeed it was).

Now, he has added a few stocks to his portfolio and is thinking of adding a few more.

But this should not be mistaken for an outburst of optimism. Mr. Irwin T. Yamamoto, one of America’s pre-eminent bears, thinks that even in this climate investors haven’t fully faced reality yet.

In the latest edition of The Yamamoto Forecast, this editor warns that things will get worse before they get better.

So if you get the best results by preparing for the worst, we might as well line up to take our medicine.

One of the few

Mr. Yamamoto begins his latest report by telling his readers that he is among the top five investment advisories in the nation as ranked by the reigning authority in the field, Hulbert Financial Digest.

Hulbert stacks advisories against the benchmark of the Dow Jones Wilshire 5000 (which tracks the whole U.S. stock market). Over the past year, the index lost 38 per cent. Mr. Yamamoto gained 7.13 per cent. Over three years, the index is down 12 per cent, while this advisory is up 5.64 per cent.

Same difference over five years — Wilshire down 3.78 per cent, Yamamoto up 8.15 per cent. The editor adds laconically that his was one of the few market advisories that made money.

But we are not here simply to ring the bells for Mr. Yamamoto. We are here to see how this was achieved.

It was achieved first with a good hard look at reality.

Check your local mall

Mr. Yamamoto has three helpings of bad news to serve to his readers. One, the consumer is down and out.

Unemployment in the U.S. has reached its highest level in 16 years. The country is losing jobs at the rate of 600,000 a month. Credit-card issuers will wipe out more than $2 trillion in available credit in the next 18 months, according to one industry source.

“Yes, the consumer is on life-support,” says the editor. “Just check your local shopping malls, restaurants, bars and hotels.”

And then there is housing. The chief economist of the National Association of Home Builders claims the market will bottom out a few months from now. He goes not get a sympathetic hearing. “Yeah, right. What do you expect from a person who is paid by the industry to say this?”

But the third may be the most unpalatable of all.

Investors are spoiled

“In spite of the crushing sell-off in equities,” says Mr. Yamamoto, “investors are spoiled. They continue to hold to the premise that the market goes up each and every year.”

But the very actions governments are taking to stimulate the economy are the main reasons this bear market could stretch on. At the first hint of a recovery, inflation will raise its head.

Now look closely at President Obama’s economic advisers, says the editor. There you will see Mr. Paul Volcker (now 81), the “legendary central banker” who battled inflation in 1980 by pushing prime lending rates up to an unheard-of 21.5 per cent.

“Visualize weak economic conditions being hit with rising interest rates,” says the editor. You have the same deadly formula that sent Japan into an economic trough for a decade. It can happen here, he adds.

With this gloomy scenario in mind, here’s how you stay afloat.

A bit bullish

For several years, Mr. Yamamoto’s portfolio consisted of 90 per cent in cash in money market funds and 10 per cent in the Rydex Ursa Fund (NYSE-RYX), which shorts the S&P 500. He sold the bear fund after it had gained 51 per cent for his portfolio.

And now he has 85 per cent in cash and 15 per cent in equities. “Some of you may think we are getting a bit bullish,” he comments dryly.

He is bullish only on select opportunities that may arise in a continuing bear market with its inevitable rallies (as seen earlier this week). The following three stocks each take up 5 per cent of his portfolio. At this point you should add them only on a dip, he says.

Alexander & Baldwin (NYSE-AXB) has transportation, agribusiness and real estate interests in Hawaii, Mr. Yamamoto’s home. Buy at $17.75 or below, he says. It’s well above that now, at $29.48.

Discount broker Charles Schwab (NASDQ-SCHW) should be bought at $10.50 or below. It’s at $13.75.

Schlumberger (TSX-SLB), the world’s largest oilfield services company, is a buy at $33.75 or less. It stands at $39.20.

The editor also has a standing buy recommendation on iShares FTSE/Xinhua China 25 Index (NYSE-FXI), which represents the 25 largest companies in China. A buy at $24.75 or below, it trades at $26.19.

This month, he has added two more recommendations. One is a stock that’s in the same field as Schlumberger. Helmerich & Payne (NYSE-HP) is an oil and gas well driller. A buy at $21.25 or less, it’s at $22.33.

The second is a fund that goes in the opposite direction to U.S. 30-year Treasury Bonds, the Rydex Inverse Government Long Bond Strategy (RYJUX). Trading at $13.96 it’s not far above its buy price of $13.25.

Mr. Warren Buffett famously said that the first rule of investing is not to lose money. This bearish investor stuck firmly to that rule long before many others realized just how much money was going to be lost. And so far, he has been winning.