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You've Never Considered This 20% Income OpportunityBy
Monday, June 14, 2010
A friend has some spare money and wants to generate a little income...
"Just give me 5% income and I'll be happy. I don't need any more than that," he said.
My friend was talking as if 5% was a modest interest rate and anyone with cash should be entitled to a minimum 5% without taking risk.
"Whoa, whoa, whoa," I told him. "This isn't the 1980s."
Back in the 1980s, the Fed set interest rates anywhere from 7% to 19%. Even in the 1990s, rates still averaged around 6%. You didn't have to go far for big income.
But today, the Fed has set interest rates at zero percent. With the Fed's interest rates at zero, it's not possible for the average retail investor to earn more than 1% or 2% on his "safe" money.
But that doesn't mean YOU have to settle for 1% or 2%.
This year in DailyWealth, Steve Sjuggerud and I have already presented you with dozens of safe, big-income ideas. We've covered virtual banks paying 17%. We explained tax lien investing, which can pay 18%. We've covered "cash boxes," exchange-traded fixed income securities, pipelines, timberland, and utility stocks.
Today I'm going to tell you about a new income opportunity. This strategy can consistently generate income of more than 20% a year... and will keep cranking out gains whether we're in a recession, a depression, a boom, inflation, or deflation.
Even though these companies are the favorite income investments of professional investors, most retail investors have never considered them...
Warren Buffett is the world's second-richest individual and the world's most successful investor. When people think of Buffett's best investments, they think of See's Candies, Coke, or Wells Fargo. But which industry should take the most credit for Buffett's success?
Insurance. Buffett's holding company, Berkshire Hathaway, is an insurance company.
Insurance may or may not be a great business... but it provides the perfect platform for a skilled professional money manager like Buffett to generate income. Let me explain...
Policyholders pay premiums every year for insurance coverage. These premiums create a massive river of cash flowing into the insurance company, day after day. It doesn't matter if you're in a boom or a bust. People always need insurance. Until the claims come due, the insurance company can invest this cash.
In the business, they call this money the "float." Because there's no way to predict when a policyholder might make a claim, the insurance company must invest the cash in liquid investments... stocks, bonds, and other marketable securities.
A well-run insurance business will bring in more cash from premiums than it pays out in claims. So the amount of cash under management grows all the time. When you let a world-class investor like Warren Buffett manage this pile of growing money over a period of 30 or 40 years, billion-dollar fortunes result.
It comes back to compounding. The insurance business is adding money into the pot every year. The money-management business is reinvesting its interest and dividends every year. Now two sources of income are earning interest. The pile slowly but surely grows into a fortune.
This steady increase in value is what makes insurance the perfect vehicle for income investors. I'll show you why in a minute. But before we start talking income, we need to know if insurance is a safe investment...
There are hundreds of insurance companies trading in the public markets... and most of them are garbage. They are not safe for income investing. They expand aggressively by undercutting their competitors on price. Then they invest their profits in the highest yielding, most risky corporate, municipal, and mortgage bonds. Because they don't collect enough money to cover their potential liabilities, when catastrophe strikes, it wipes them out.
The first trick to investing successfully for income from insurance companies is to invest in the contrarian companies. These companies shrink their businesses when insurance prices are low and everyone else is expanding. Then they expand aggressively when there's little competition and prices are high.
The second trick is to buy the companies that marry well-run insurance businesses with great investment managers. Without the well-run insurance business, you don't get the fantastic cash flow. Without the fantastic money manager, you don't get great investment returns from that cash.
The easiest way to earn income from the insurance industry is to buy the company I mentioned above, Berkshire Hathaway.
It operates a contrarian insurance business, and you have the world's best investor managing the float. Berkshire Hathaway doesn't pay dividends. So to generate income, you'll have to sell your shares as book value increases. That way, the value of your investment stays the same. It's like a bond, throwing off payments every year.
Berkshire Hathaway has increased its book value an average 20.3% a year since 1965. If you use this unique income strategy, you can pocket that gain every year in "dividend" payments. That beats the 5% gain my friend was hoping for.
Good investing,
Tom
Further Reading:
If you read Saturday's essay, then you know there's an incredible opportunity for big, super-safe income setting up in the oil patch. You don't get chances like this every day. As trading guru Jeff Clark wrote, all you need to do is "lean over and pick up the cash." If you missed his report, you can find it here: We Just Got a Buy Signal from My Favorite Oil Indicator.
If you don't mind doing a little extra work to earn big income – and get a potentially huge real estate kicker – you've got to check out tax lien certificates. Get the details here: An Oceanfront Florida Condo... for $4,600.
Market NotesNEW HIGHS OF NOTE LAST WEEK
San Juan Basin Trust (SJT)... natural gas royalties
Hugoton Royalty Trust (HGT)... natural gas royalties
Netflix (NFLX)... movies at home
Hershey (HSY)... Porter's chocolate inflation hedge
Akamai (AKAM)... super Internet
Pioneer Natural Resources (PXD)... oil & gas
Venoco (VQ)... oil & gas
DIRECTV (DTV)... satellite television
Boston Beer (SAM)... beer from Boston
Harry Winston Diamond (HWD)... diamonds
NEW LOWS OF NOTE LAST WEEK
British Petroleum (BP)... Gulf of Mexico disaster
Transocean (RIG)... world's largest offshore drillship operator
National Bank of Greece (NBG)... debacle
Corinthian Colleges (COCO)... secondary education
Apollo Group (APOL)... secondary education
Perfect World (PWRD)... Chinese gaming
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