Weekend reading has picked up some notes from a speech from subprime winner John Paulson. He seems to be sounding similar warnings about bonds and about liking high quality equities that other well know investors are:
Doug Kass – Trade of the Decade is to Short Bonds
http://www.gurufocus.com/news.php?id=107966
Jeremy Siegel – Bond Bust Coming
http://www.gurufocus.com/news.php?id=105081
Tom Gayner – Warns on Bond Bubble
http://www.gurufocus.com/news.php?id=104316
Jim Grant – Long blue chips, avoid bonds
http://www.gurufocus.com/news.php?id=104083
Jeremy Grantham – Large quality is cheap http://www.gurufocus.com/news.php?id=100763
First an article from Forbes on the Paulson speech:
“It could be time to sell your low-yielding bonds and replace them with higher-yielding common stocks.
Multibillionaire hedge fund operator John Paulson, the investment genius who made a killing going short subprime mortgages a few years ago, told a standing room only crowd at New York’s University Club that double-digit inflation is about to rear its ugly head by 2012, killing the bond market, and restoring strength to equities and gold.
Paulson’s warning to sell U.S. government bonds is one of the latest signs that the most successful investors of this generation believe the run up in bonds is over. Paulson especially underscored the attraction of equities with earnings yields of 7%-8% compared to the 2.6% pittance available on 10-year Treasuries.
Paulson listed his favorite blue-chip stocks; JNJ (Johnson& Johnson) at a 3.8% yield; KO(Coca Cola);PFE, 4% yield., as well as C (Citigroup), BAC (BankofAmerica) and STI (Suntrust Banks) and RF (Regions Financial).
Paulson is a pro at buying the distressed bonds of bankrupt companies, and then converting the debt to equity in reorganization and benefiting from the potential run up. He mentioned one of his greatest plays — K-Mart, which emerged from bankruptcy at $10 a share and then skyrocketed to $190 a share.
His crystal ball is for 2% GDP growth for 2011 and 2012 and he warns that the Fed’s promise of quantitative easing should contribute to double-digit inflation over the next few years.
As this is the best time in 50 years to buy homes, Paulson advised his listeners, crowded into 3 separate dining rooms, to issue 30 year mortgages to buy a home as “your debt and interest payments get locked in at record lows, while the price of your home will rise.”
“If you don’t own a home buy one,” Paulson recommended; ” if you own one home, buy another one, and if you own two homes buy a third and lend your relatives the money to buy a home.”
And some notes on the speech from zero hedge:
1. What Happened – We all know what happened in 2006, 2007, and 2008. By end of 2008 they had completely covered their mortgage CDS and had started to buy high-yield Corporates into 2009. They averaged in at under 55c on the dollar for most of those bonds and sold most over par. There is not much opportunity in high-yield at this point.
2. Equities – They are now think one of the best places to be is equities, with a strong focus on distressed equities. Paulson’s case for equities in general focused on the discrepancy between equity earnings yields of about 7% to 8% now compared to the 10-year yield at 3.6%. This is one of the highest dislocations since they started tracking these numbers. As such, some equities he owns offer superior returns to long-dated bonds: JNJ: 3.8% yield, 7% earnings growth; KO: 3% yield, 8% growth, PFE: 4% yield, 3% growth. On distressed equities, they look at bankruptcies and major restructurings. The most well known examples are his holdings in financials like C and BAC. They also own STI and RF. They follow every bankruptcy and will buy the debt in interested. As the companies come out of bankruptcy, they’ll convert the debt to common stock. He gave the example of K-Mart, which went into bankruptcy with billions in debt, emerged at $10 a share and debt-free, then eventually went to $190. Paulson thinks he’ll find more of these over the next few years.
3. Bonds – The purchase of long-dated bonds, either treasuries or Corporates, should turn out to be a horrible trade. Rates are at record lows and the economy is turning should continue to churn higher. Paulson expects roughly 2% GDP growth for both 2011 and 2012. Quantitative easing should contribute to significant inflation over the next few years, with inflation possibly hitting low-double digits by 2012. This is bad for the 10- and 30-year and bad for the USD. The USD should fall and the yields on long-dated US Treasuries should rise. Paulson has been buying 5 and 7 year calls on the 30-year bond yield.
4. Homes – This is the best time 50 years to buy a home. This thesis is the exact opposite of his thoughts on bonds. You don’t want to own long-dated debt, you want to issue it. Buying a home (an asset) with a 30-year mortgage (issuing debt) is exactly that. Home prices will rise with a better economy and with inflation. Your debt and interest payments get locked in at record lows. The price of your home will rise.
5. Gold – The price of gold has moved in correlation to the monetary base for as long as they have tracked the two data items. As the Fed prints more money, gold should rise. If the Fed were to increase the monetary base by 100% over the next 3 years, Gold should increase by that same amount. Additionally, as inflation accelerates, investors tend to push gold higher than its correlation, like in 1980 when it increased an additional 100% above the correlation. So if gold is at $1,200 now, it should hit $2,400 on the monetary expansion alone, then $4,000 as investors flee inflation. Additionally, he has offered his investors the ability to hold their investment in his fund in either US Dollars denominated or in gold denominated. Paulson himself has 80% of his assets gold denominated.
