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.