Gold Is for Fools, Invest in Stocks - Buffett
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Warren Buffett simply defines investing as: "the transfer to others of purchasing power now with the reasoned expectation of receiving more purchasing power -- after taxes have been paid on nominal gains -- in the future." A.k.a. - sacrifice buying power now for more buying power later.
Thursday, Buffett did an article for CNN Money ahead of his annual shareholder letter. He took the time to explain why equities beat alternatives over a longer time horizon.
He starts by noting his investment thesis isn't based around beta, which is a risk measure, but rather reasoned probability of why the investment is causing the owner a loss of purchasing power.
Investments that initially appear safe may include such items as money-market funds, bonds, bank deposits, and other instruments. Despite investors believing in the safety of those investments, Buffett says the investments are "the most dangerous of assets." Beta might be zero, but risk is huge.
Investments like those, Buffett argues, have destroyed the purchasing power of investors. Governments ultimately have control over the value of money, with systemic forces leading them to gravitate toward policies which produce inflation. But, those policies can spin out of control from time to time, leaving investors in the dust.
For example, Buffett notes the U.S. dollar has lost about 86 percent of its value since 1965. This means something that could be bought for $1 back then now costs over $7 to purchase. Investors would have needed a "safe" investment return of 4.3 percent over the same span just to keep pace.
Further, T-Bills produced a rolling interest rate of about 5.7 percent since 1965, which initially outpaces inflation and the declining dollar. However, people need to pay taxes on those gains, reducing the overall investment income to zero (at a 25 percent tax rate, the rate would have fallen to 4.3 percent).
Though he doesn't like currency-based investments, Buffett notes that Berkshire (NYSE: BRK-A)(NYSE: BRK-B) holds them -- mostly short-term notes -- for diversification purposes. Mostly, Berkshire holds U.S. T-Bills, which fit the picture for liquidity.
Next, Buffett took a look at gold and other investments which won't produce anything, but buyers' hope is placed in the idea that future buyers will pay more for the asset. Like a Ponzi scheme, this type of investment needs an ever-expanding pool of buyers.
Two shortcomings of investments like gold are: 1) limited production use and decorative quality, and 2) if you own one ounce at that start, you'll have one ounce at the end. Gold doesn't multiply itself (though that would be amazing if it did).
So, Buffett says all the gold in the world is about 170,000 metric tons, or a cube of about 68 feet square. With gold at $1,750 per ounce, that's a total value of $9.6 trillion.
He then creates a "pile" of equally-valued investments. He picks all of the cropland in the U.S. and 16 Exxon Mobils (NYSE: XOM). Cropland produces about $200 billion of output annually, while Exxon currently generates $40 billion of earnings each year. You'd also have $1 billion leftover, probably for an investment in Bank of America (NYSE: BAC) or something.
Who would choose gold over the second pile?
Further, current production of gold is about $160 annually at current prices. Investors and speculators are providing enough demand to absorb the excess and keep prices at an equilibrium. The next part comes directly from the CNN article because it's too good to simplify: "A century from now the 400 million acres of farmland will have produced staggering amounts of corn, wheat, cotton, and other crops -- and will continue to produce that valuable bounty, whatever the currency may be. Exxon Mobil (XOM) will probably have delivered trillions of dollars in dividends to its owners and will also hold assets worth many more trillions (and, remember, you get 16 Exxons). The 170,000 tons of gold will be unchanged in size and still incapable of producing anything. You can fondle the cube, but it will not respond" [emphasis ours].
Why, what does Buffett prefer? If you couldn't guess from the preceding argument, it's equities. They meet the double-barreled test of retaining minimum purchasing power while requiring minimal new capital investment. Buffett also states that people -- no matter from what background, race, or religion -- will continue to work and consume food items like corn, Coca-Cola (NYSE: KO), milk, and non-food items like lumber, steel, electronics and more. With the growth in population, there will be a continuous demand for corporations to expand and meet demand. Consequently, values of equities will not be derived from a medium of exchange, but rather of their capacity to deliver.
As they've delivered when the Dow Jones was a 66, and continue to deliver when the Dow is north of 11,400.
U.S. indices are higher Thursday.
Thursday, Buffett did an article for CNN Money ahead of his annual shareholder letter. He took the time to explain why equities beat alternatives over a longer time horizon.
He starts by noting his investment thesis isn't based around beta, which is a risk measure, but rather reasoned probability of why the investment is causing the owner a loss of purchasing power.
Investments that initially appear safe may include such items as money-market funds, bonds, bank deposits, and other instruments. Despite investors believing in the safety of those investments, Buffett says the investments are "the most dangerous of assets." Beta might be zero, but risk is huge.
Investments like those, Buffett argues, have destroyed the purchasing power of investors. Governments ultimately have control over the value of money, with systemic forces leading them to gravitate toward policies which produce inflation. But, those policies can spin out of control from time to time, leaving investors in the dust.
For example, Buffett notes the U.S. dollar has lost about 86 percent of its value since 1965. This means something that could be bought for $1 back then now costs over $7 to purchase. Investors would have needed a "safe" investment return of 4.3 percent over the same span just to keep pace.
Further, T-Bills produced a rolling interest rate of about 5.7 percent since 1965, which initially outpaces inflation and the declining dollar. However, people need to pay taxes on those gains, reducing the overall investment income to zero (at a 25 percent tax rate, the rate would have fallen to 4.3 percent).
Though he doesn't like currency-based investments, Buffett notes that Berkshire (NYSE: BRK-A)(NYSE: BRK-B) holds them -- mostly short-term notes -- for diversification purposes. Mostly, Berkshire holds U.S. T-Bills, which fit the picture for liquidity.
Next, Buffett took a look at gold and other investments which won't produce anything, but buyers' hope is placed in the idea that future buyers will pay more for the asset. Like a Ponzi scheme, this type of investment needs an ever-expanding pool of buyers.
Two shortcomings of investments like gold are: 1) limited production use and decorative quality, and 2) if you own one ounce at that start, you'll have one ounce at the end. Gold doesn't multiply itself (though that would be amazing if it did).
So, Buffett says all the gold in the world is about 170,000 metric tons, or a cube of about 68 feet square. With gold at $1,750 per ounce, that's a total value of $9.6 trillion.
He then creates a "pile" of equally-valued investments. He picks all of the cropland in the U.S. and 16 Exxon Mobils (NYSE: XOM). Cropland produces about $200 billion of output annually, while Exxon currently generates $40 billion of earnings each year. You'd also have $1 billion leftover, probably for an investment in Bank of America (NYSE: BAC) or something.
Who would choose gold over the second pile?
Further, current production of gold is about $160 annually at current prices. Investors and speculators are providing enough demand to absorb the excess and keep prices at an equilibrium. The next part comes directly from the CNN article because it's too good to simplify: "A century from now the 400 million acres of farmland will have produced staggering amounts of corn, wheat, cotton, and other crops -- and will continue to produce that valuable bounty, whatever the currency may be. Exxon Mobil (XOM) will probably have delivered trillions of dollars in dividends to its owners and will also hold assets worth many more trillions (and, remember, you get 16 Exxons). The 170,000 tons of gold will be unchanged in size and still incapable of producing anything. You can fondle the cube, but it will not respond" [emphasis ours].
Why, what does Buffett prefer? If you couldn't guess from the preceding argument, it's equities. They meet the double-barreled test of retaining minimum purchasing power while requiring minimal new capital investment. Buffett also states that people -- no matter from what background, race, or religion -- will continue to work and consume food items like corn, Coca-Cola (NYSE: KO), milk, and non-food items like lumber, steel, electronics and more. With the growth in population, there will be a continuous demand for corporations to expand and meet demand. Consequently, values of equities will not be derived from a medium of exchange, but rather of their capacity to deliver.
As they've delivered when the Dow Jones was a 66, and continue to deliver when the Dow is north of 11,400.
U.S. indices are higher Thursday.
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