Wachovia Corp. (WB:NYSE), one of the largest banks in America, reported a large “unexpected loss” recently. And the main problem? Bad California home loans.

I hope they were joking when they used the word “unexpected.” Unless you’ve been living under a rock, you know that the housing earthquake is still sending out pockets of seismic activity.

As Soon As Possible

Like a post-modern movie plot, America’s economic big picture is deeper and darker than most realize. It’s only going to get worse.

The IMF (International Monetary Fund) thinks the credit crisis could cost up to $1 trillion. Banks have already written down nearly $250 billion in assets to date.

The IMF bluntly cautions banks to keep taking write-downs “as soon as reasonable estimates of their size can be established.”

In other words: Nip it in the bud ASAP.

The Consumer’s Movie Role

The bank write-downs include lots of consumer debt gone bad. You can blame the banks for giving out frivolous loans, or you can blame individuals for biting off more than they can chew. But regardless of who’s to blame, the American Bankers Association reports that the bad consumer debt problem is the worst it’s been since 1992.

Overdue bank-card accounts have increased 20 basis points to 4.38% in the recent quarter. Late payments for car loans (which count for two-thirds of fixed balance consumer loans) are on the top of the list. And exposed firms, like American Express Company (AXP:NYSE) and Capital One Financial Corp. (COF:NYSE), have doubled their cash reserves for bad debt.

Paying credit card bills is taking a back seat to necessities like gas and food and heat. While wages have increased 3.6%, prices have jumped more than 4% over the past year.

Unemployment isn’t helping, either. In March, 80,000 jobs were cut, continuing a trend of consecutive job losses.

According to Merrill Lynch, U.S. families now spend more on debt service than they spend on food (even as food is getting more expensive).

Unemployment, credit crunch, housing crisis, inflation, high gas prices… These all lead to one dirty little word: recession. The evidence is hard to dispute.

Resisting Temptation

Consumers are now faced with the challenge of saving as much as possible and spending more frugally. As a result, they are visiting thrift and discount stores more often, and generally looking for ways to cut back.

Starbucks, for example, is aware that people won’t keep paying $4 for a specialty cup of joe. Instead they are switching to lower cost competitors like McDonald’s and Dunkin Donuts. So Starbucks is focusing on making its regular brew better, and has even talked about bringing out a $1 cup of coffee to compete.

Meanwhile, discount store Family Dollar (FDO:NYSE) is “adjusting to its shoppers’ greater reliance on basics during an economic downturn” by focusing on foodstuffs and getting rid of some of its fashion merchandise.

The bottom line is, monetary constraint is here to stay, at least for a while… including resisting the temptation to make frivolous purchases.

Building a Recession-Proof Portfolio

At Diligent Investor, we’re well aware of the perils of the current market. Many investors’ hopes have been dashed. And some even think it might be worth just pulling out all their money and waiting.

In our opinion, the downturn is far from over. All these factors are affecting the market. The credit crunch and the dollar crisis have yet to reach their apex.

At Diligent, our top strategy is to build a recession-proof portfolio — one full of companies that have solutions to the country’s economic woes. For instance, last month we looked at a low-priced discount retailer that made it through the last recession with triple-digit gains, even as the rest of the market tanked.

Holding a position in a rainy-day retailer is one way we’re combating the credit and cash flow crunch. Now I’d like to tell you about another…

From Consumers to Banks

Individual credit defaults add up to countless billions. If consumers can’t pay back the loans, the banks lose money. So who is going to help the banks?

When banks announce write-downs, they are admitting they don’t plan on receiving any payment for the loans gone bad. Banks are shrugging their shoulders, claiming the losses on taxes and getting them out of sight.

So where do all those writed-owns go? What happens to all that bad debt?

A big chunk of it goes straight into the hands of a company I’ve profiled in the latest Diligent Investor issue.

This company is a sort of life preserver for the banks. The company buys debt portfolios at a serious discount — often pennies on the dollar — to take them off the banks’ hands. Then they use an elite force of call centers to try to collect full or partial payments on the debts over the course of seven years. The company often earns up to three times what it paid for the defaulted debt. (Not a bad rate of return.)

Saving the Banks’ Hides

With this recommendation, we’re giving credit where credit is truly due: to a company that will safely and quietly absorb the banks’ big problems, and profit nicely while doing so.

This debt company is an integral building block for a recession-proof portfolio… and will end up a very good long-term investment. It will carve more and more profits from more and more bad debt over time.

I just released this new recommendation to Diligent Investor subscribers. So if you choose to join us now, you’ll be on the road to having your own recession-proof portfolio with this rock-solid debt solutions company.

The U.S. lost 80,000 jobs in March — the biggest monthly loss in five years .

Unemployment jumped 0.3% as well, to 5.1%, a three-year high. A host of economists had predicted a net job loss, but today’s numbers far exceeded their expectations. The Bureau of Much Belabored Statistics has now reported three consecutive months of job losses.

At the same time, loan delinquencies among U.S. consumers are at a 16-year high. Go figure.

According to an American Bankers Association report published today, 2.6% of all bank loans are at least 30 days past due during the first quarter, the highest delinquency rate since 1992. Loans involving homes got it the worst. Home equity loan delinquencies rose to a two-year high. Delinquencies on “lines of credit” hit levels unseen since 1997.

Indirect auto loans, those made through dealerships, are experiencing all-time high delinquencies and defaults, too.

The fall of the loan-backed securities market has caused the student loan industry to grind to a halt. Not a single muni bond backed by a bundle of student loans was bought or sold during the first quarter, says Thomson Financial. That hasn’t happened in 40 years.

Since lenders generate capital by securitizing loans in their portfolio, the collapse of the loan-backed securities market has crushed their ability to make new loans. Bloomberg reports that the two largest originators of these tranches, Brazos Higher Education Authority of Waco and the Pennsylvania Higher Education Assistance Agency, have simply stopped making new loans.

So chalk this up to another knockoff effect of the subprime bust: Kids in need are going to have a harder time financing higher education.

Oddly enough, 81% of Americans believe the country is on “the wrong track,” reports The New York Times this morning. That’s remarkably up from a 69% from last year — and a record high. The N.Y. Times and CBS have been harassing people over the phone with this question every year since 1990. Here’s a record of their responses:

Of course, what’s “wrong” or “right” with the country’s track is “seriously” ill defined.

Ben Bernanke spent another day on Capital Hill yesterday, this time surrounded by his co-conspirators in the Bear Stearns bailout: J.P. Morgan’s Jamie Dimon, Bear Stearns’ Alan Schwartz, Chris Cox of the SEC and Tim Geithner of the N.Y. Fed. Robert Steel from the Treasury was there, too.

Congress is, apparently, curious how these men came to the decision they could squander $30 billion of taxpayer cash… funds that they surely had plans to squander themselves. Here’s what they said:

– The government-sponsored bailout was quite necessary, as a BSC failure would mean “a greater probability of widespread insolvencies, severe and protracted damage to the financial system and, ultimately, to the economy as a whole,” said Geithner

- “A complete evaporation of confidence from counterparties with Bear Stearns” caused the company to lose $10 billion in one day… the Thursday before its famous $2 bailout, admitted the SEC’s Cox. By the end of the day, the belabored broker had less than $2 billion in liquid assets. By Friday night, Bear’s representatives told the government they had nothing left… they’d either be bought on Monday or declare bankruptcy

- Testimony revealed that Hank Paulson wanted a low-ball offer for Bear, but had nothing to do with setting the exact price. Treasury reps said the shockingly low price was designed to send out a message that the guv’ment wasn’t interested in bailing out other firms.

“We’ve heard other financial institutions say that they, in fact, can’t truly verify the full value of their securities,” said Sen. Robert Menendez (D-N.J.). “So if we don’t have a valuation of these securities, how are we so confident?”

Heh… that’s the multibillion-dollar question, isn’t it?

Senators were reassured that J.P. Morgan would bear up to $1 billion in losses before tapping the government’s $30 billion backstop, and that the Treasury would be paid back before JPM makes any money off Bear.

Down the hall, lawmakers were busy constructing their own $15 billion bailout plan for the other side of these bad loans: homeowners. The Senate began debating these points yesterday:

– $4 billion for state governments to buy and refurbish foreclosed homes
- Raise the FHA loan limit from 95% of an area’s median home price to 110% and increase the FHA cap on maximum loan amount, effectively starting a new form of subprime lending
- $10 billion in tax-free muni bonds to subsidize mortgage refis for subprime borrowers trying to get out of their ARMs
- $7,000 tax credit for anyone willing to buy a foreclosed property
- $100 million for “housing counselors” to work with homeowners at risk of foreclosure.

As a final measure, Congress is proposing to expand the net operating loss carryback law. Essentially, companies and businesses could use 2008 and 2009 losses to offset capital gains from as many as four years ago, instead of the two years currently allowed.

In other words, Citigroup and the like can now deduct their multibillion-dollar losses from this year to offset multibillion-dollar gains from 2004-2005. Not that the government needs those tax revenues or anything.

The U.S. stock market appears to be in a holding pattern. Traders must be transfixed by the drama on C-SPAN, covering these Washington hearings.

Meanwhile, the subprime contagion continues to spread globally. German bank BayernLB announced a $6.7 billion write-down this morning, thanks entirely to U.S. mortgage investments gone bad. Because of these losses, the German bank was just barely able to make a profit in 2007, Bayern reps said.

In Spain, mortgage lending has fallen 28% year over year as of January. And house prices rose at their slowest pace in almost a decade.

The slowdown has brought about an innovative auction first developed after the tulip bubble collapsed over 300 years ago.

“The Dutch auction,” explains Ariadna Carbonell, reporting on the phenomenon for Bloomberg, “was developed in 17th century Amsterdam after the collapse of the tulip bubble and used today to sell fish in Spanish ports, starts with the seller’s asking price and then moves down until the property finds a buyer.”

“Of 216 lots,” she goes on to say, “194 were withdrawn when they weren’t purchased at the reserve price. One investor, Manuel Sainz, bought almost half of everything sold at discounts of as much 30%.” The company hosting the auction plans similar events in Malaga, Barcelona and London later this year.

Down south, our favorite rebel leader is combating the economy the best way he knows how… again.

“Nationalize it,” Hugo Chavez and his funky parrot said of the cement industry this morning. By his logic, booting out international cement conglomerates like Holcim, Cemex and Lafarge will help “modernize the [nation’s] cement plants.”

Don’t you love this clown?

Judging by his attempts to bring the Venezuelan telecom, electricity, natural gas and oil industries into modernity, umn… yeah.

Chavez promised to pay the cement companies fair compensation for the hostile takeover.

“Cemex is — or should I say ‘was’ — the largest domestic supplier of cement and ready-mix concrete in Venezuela,” notes Christopher Hancock, who holds Cemex in his Free Market Investor portfolio. “But losing Venezuela isn’t a crushing blow. In fact, Venezuela’s construction companies typically prefer to install their own ready-mix concrete plants on-site. Furthermore, South/Central America and the Caribbean combined make up only 8% of Cemex’s net sales. The U.S., Mexico and Spain account for 70%.

“The acute worldwide need for infrastructure combined with the company’s truly global position places the company in great position, with or without Hugo Chavez’s blessing.” Check out the Free Market Investor here.

In international trading, this morning’s jobs number helped mark the end of the dollar rally we’ve been ogling. The dollar index blipped back down to 71. The euro regained $1.57, up 2 cents in the last 24 hours. The pound found some new strength too, back to $1.99. The yen trades at 101 this morning.

Crude is back on the rise. Whispers that OPEC is happy with current output pushed the price back to $105 per barrel.

China’s sovereign wealth fund scooped up a big stake in one of the world’s biggest oil companies this morning. The Chinese State Administration of Foreign Exchange bought 1.6% of Total, the world’s fourth largest oil conglomerate, for about $3 billion. China’s SWF manages some $1.6 trillion.

Corn reached $6 per bushel today for the first time in the history of the Chicago Board of Trade. The toxic mix of biofuel demand and mandates, decreased 2008 planting expectations and the lousy weather we told you about yesterday has created a prefect storm — excuse the pun — for skyrocketing corn prices. Futures in Chicago have risen 30% this year already.

“Now it is clear to everyone,” said UN Food Program chief Josette Sheeran today, “that we are not facing just a short-term problem, but a structural change in the price of food. There is no such thing as normal prices anymore.”

While speaking at a conference in Africa this week, Sheeran told attendees to brace for a “new face of hunger” that plagues urban and rural communities alike.

“Regarding food costs skyrocketing all over the world,” writes an Argentine reader, “I suggest you keep an eye on events in Argentina. The 21-day farmers’ strike that was suspended yesterday is a sample of things to come. Our ‘progressive’ government is taxing farmers dry — 44.1% off the international price of soybeans, for example — to finance populist politics.

“In the medium term, if this policy continues, food production will be damaged — in particular soybeans, wheat and beef exports are already banned.”

“I’m willing to grant the argument that maybe Bear and others were and are too big to fail,” writes a reader. “I’m also willing to grant that there is an argument that the Fed needs to keep printing green to keep the credit markets moving. I’ll grant that it might make sense that opening up a direct spigot to more people is needed.

“But a lot of banks are taking it up on the cheap money and a lot of responsible citizens are rightfully angry.

“So here’s an idea — let’s bail it out because it needs it, but let’s hold the companies and CEOs responsible by building in a return on taxpayer money from both the companies and the CEOs. I’d be happy with, say, 23%, which is cheap money compared with what credit card companies are getting for cash advances.

“Any chance of this happening? Not in a world where accountability and responsibility are only words.”

The 5 Responds: You’re much more forgiving than we are.

Cheers,

Addison Wiggin
The 5 Min. Forecast

P.S. This might be a little nuts. We’re considering offering you a very special invitation this weekend, and this weekend only… something we’ve never done before. Keep an eye on your inbox around lunchtime on Saturday. We’ll give you the details then.