Buffett’s “Going to Hell” Warning [5 Stocks to Buy Before It Gets Worse] transcript

In one of his last warnings to shareholders, Warren Buffett said this part of the market was going to hell. Now we're starting to see exactly what he was worried about. Interest rates are surging to levels we haven't seen in more than 20 years, and it could set off a chain reaction through stocks. I'm going to explain exactly why rates are exploding, how much higher they could go, the five stocks that could get crushed versus the five stocks that actually profit from what's coming.

And before we get into why rates are surging, and the stocks to buy, understand why this matters so much. The 10-year Treasury yields just hit its highest level in more than 20 years, while the 30-year reached levels we haven't seen since 2000. That pushes up the cost of money across the economy. Mortgage rates are back above 7%. Businesses pay more to borrow and refinance debt. Even the government pays more just to service its massive debt load.

For investors, higher rates mean lower stock valuations, more pressure on companies with debt, and potentially a bigger sell-off when all this flows through to the economy. And those interest rates are surging because it's not just one factor, but four forces. And the problem is none of them are going away anytime soon. And first off, inflation is not dead. The Fed just raised its rate up to as high as 4%, saying inflation remains too high.

While it has come down from a few years ago, inflation is back again with the price of gas driving prices up 3.4% over the last year. Even with some good news on Iran, those higher oil prices are starting to push up the cost of other items. So, this factor is only getting worse for now. Second is Uncle Sam's borrowing problem. I mean, this guy is a degenerate with the credit card. The government is spending $2 trillion more than it has this year, a full 7% of the economy and the biggest deficit outside of major economic crisis.

In the last 50 years, the US has only spent less than it made in four of those years. Instead, relying on more and more borrowed money. More borrowing means investors start wanting a higher interest rates on those US treasuries. And this is definitely one factor that is only getting worse. One of the surprise factors though, the AI boom is becoming the AI debt boom. Building those massive data centers takes enormous amounts of capital and Goldman Sachs estimates that hyperscaler debt issuance could reach a record $420 billion next year.

That's 60% higher than this year. Not only are those AI related companies having to offer higher rates for their investors to swallow all that debt, but it's also competing with the government's debt. Investors now have a choice between lending Meta and Google money versus Uncle Sam. And it's that competition that is pushing all rates higher. Before I show you the stocks that get hit and the ones to buy, the fourth factor is actually a good one.

The economy is doing surprisingly well. We would normally expect higher interest rates, especially as the Fed is raising rates to slow down the economy. Instead, we saw last week in the flash PMI report on US business activity growing at its fastest pace in more than 5 years. Now, that sounds great, but the bond market hated it, sending the 10-year Treasury to a 24-year high. Strong economic growth means the Fed is going to have to raise rates even more to slow that inflation.

So until the Fed can better manage that growth and inflation, expect more rate hikes and for all of this to get much worse. And more important than the five stocks that we want to avoid are going to be the broader groups that feel the most pain on these higher rates. At first here are companies carrying a mountain of debt. US companies took advantage of those low rates after the pandemic to binge on borrowed money. Now with over 11.5 trillion dollars owed.

Now as some of that debt needs to be refinanced, companies face a huge increase in their interest payments. PIMCO estimates that debt heavy companies will see the rate on their debt increase from about 4 and a.5% now to as high as 12% over the next two years and that is going to be a big problem for companies like JetBlue and Carnival where debt is already high compared to the cash those businesses generate. JetBlue ticker JBLU has a debt to equity ratio of 591% more than $9 billion in debt on a stock investors say is only worth about 1.6 billion market cap operating cash flow.

So that core cash flow generated by the business was negative $128 million over the last year. Besides the hundreds of millions in higher interest expense, company is also struggling with a weaker consumer. And Carnival tick tocker CCL is also struggling under its own debt with a stock down 26% this year looking like a dip opportunity but more likely a falling knife. More than $26 billion in debt is more than 200% debt to equity ratio.

Though the company has managed to return their revenue and cash flow growth. It's also still facing that weakening consumer and the debt is about to get very expensive. Housing stocks are also getting demolished as mortgage rates head past 7% and monthly payments become out of reach for most buyers. Home builder stocks got a brief jump last week when Birkshshire Hathway reported a 10% stake in LAR to her LEN. But all the housing related stocks are still down over the past month.

And I don't think the pain is over now. The homebuilders have more control over the rates they can offer their customers. So Dr. Horton ticker DHI and PY ticker PHM are down only from 5 to 8%. But others in that housing supply chain like Builder First Source, ticker BLDR, and Zillow, ticker Z, show the real picture here, down as much as 23% over the last month. Now, I'm going to show you the stocks to buy in this next.

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Now, where can investors actually benefit from this interest rate story? Just by flipping that debt problem around. If higher rates are bad for companies with high debt, then it's great for companies that have a lot of cash. Birkshshire Hathaway to grow BRK, the Bshares may be the best example of two points in which the stocks that benefit. First, at midyear, Birkshshire was sitting on a roughly $360 billion in cash and short-term treasury bills.

Instead of paying interest, it's collecting tens of billions of dollars on higher rates. Another upside here for Birkshshire, its biggest holdings are financials and insurance companies. And while I did warn in this week's update that these financial stocks could be in danger long-term on those AI threats, right now companies like Ally Financial, Bank of America, and Chub Limited will make higher interest income on their loans and cash.

And two of the biggest opportunities are in the exchanges that benefit from the chaos around interest rates. The CME Group to grow CME and the SIBO Global Markets to grow CBOE. Both stocks are down hard over the last month, as much as 17% on fears of competition from those prediction markets for those future products. But there's a near-term bounce coming. Both of these companies operate exchanges where investors can trade and hedge against moves in interest rates, stocks, and other markets.

Where they benefit is in that uncertainty and the volatility that comes with these huge market moves. Another area where I would watch is the gold miners with the VANC gold miners ETF ticker GDX. And this actually brings us back to that Buffett warning. If investors become more concerned about inflation, massive government deficits, and the purchasing power of the US dollar, gold can become very attractive. Instead of picking the winners of this group though, I'd spread my bet across all of them with this gold miners fund.

The most surprising opportunity though could be developing in bonds themselves and something like the Vanguard long-term bond ETF, the ticker BLV, which already pays almost a 5% dividend. Now, the value is down this year because as rates increase, bond prices do fall. But once rates do level out, this one could be your best investments for a safe cash returns. More than half of this fund is in risk-free US Treasury debt. and the rest.

It's all in the highly rated companies with an A or a B rating by the credit agencies. Companies that will have no trouble making those interest payments. The catch on this one is the timing though as interest rates continue higher and I think they will for a little while at least. Bond funds are going to continue to fall lower. The opportunity though gets really interesting as those rates level off. Here is an investment that is going to keep your money safe in a crash holding steady when the rest of the market crashed 30% plus in the 2008 crisis and during the pandemic.

It already pays you almost a 5% cash return while you hold it. And while that 10% drop over the last year looks bad, when interest rates do come down in the next recession, bounce back to even $70 a share would add another 10% return on top of the dividend. Now, it may be a little early to start thinking about a bond investment. But I'm definitely filling up the other three buckets here. This cashrich companies, businesses that benefit from market volatility, and gold that becomes a safety asset on dollar weakness.

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