Warren Buffett isn't going to buy gold as an investment, and neither should you, writes Kevin McElroy ofResource Prospector Pro.
I'm not going to bash Warren Buffett—and I'm not going to go through all of his tedious points about why he doesn't like gold. I'm also not going to disagree with him!
I'd like to use the press and notoriety that Buffett brings to this discussion to highlight a huge misconception about the role of gold in anyone's portfolio. Before I do, I'd like to point out something that should make you think twice about taking Buffett's remarks about gold at face value.
Buffett bought 130 million ounces of silver back in 1998. He sold all of it by the end of 2006. Why did he own it in the first place? Well, his reason back then: "equilibrium between supply and demand was only likely to be established by a somewhat higher price."
In other words, Buffett bought silver back then for much the same reason that many investors buy it today: he was convinced that higher prices were on the way. This kind of price speculation certainly has a part in anyone's portfolio.
But I still think it's asking the wrong question about why anyone should own gold or silver.
It seems like Buffett is being asked, "Would you own gold as an investment?" Which opens the door for him to talk about the nature of his best investments, and how they crush gold in a number of ways.
It's the wrong question to ask, and I think Buffett realizes it. Because gold is not an investment.
I've written that statement many times, and I know some of my colleagues are tired of arguing with me about it—but if you can't make a distinction between the idea of "money" and the idea of an "investment," you will likely make the wrong decision about gold ownership—or stock ownership for that matter.
For instance, you wouldn't ever confuse a stock certificate with a paper dollar bill, and try to pay your bar tab with shares of Exxon Mobil.
But for some reason, Buffett wants to confuse the issue—and compare shares of Exxon with physical gold. Money serves an entirely different purpose than shares of a publicly traded company.
They each have their own drawbacks. For instance, shares of publicly traded companies regularly go to zero. It happens every day. But gold has never gone to zero.
I could go on...but the point is that gold is money. It should be compared to other forms of money if you want to make a reasonable comparison. There are times to hold some large portion of your net worth in stocks, and times to own different forms of money.
Warren Buffett knows that—and the fact that he chooses to own most of his liquid money in Treasuries and dollars tells me more about his preference for stock ownership. He's a stock expert—not a metals expert.
I own gold and silver because they're a reliable form of money. I believe that the United States government and Federal Reserve are either incapable of or unwilling to prevent the devaluation of the dollar. Their actions tell me that the dollar is in big trouble. So I prefer to hold some portion of my cash in gold and silver.
Buffett likes the dollar—but even he says the dollar is in trouble, as he said last year "No question that the purchasing power of US dollar will decline over time. Only question is at what rate it will happen."
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Warren Buffett is a great investor, says Christopher Goolgasian, a portfolio manager at State Street Global Advisors Inc. who helps oversee a $74 billion gold fund. The Oracle of Omaha just has it wrong when it comes to the metal.
“While he won’t own gold, he also never owned Apple (up around 1,500% since January of 2000) or Google (up 530% since August of 2004),” Goolgasian said of Buffett in a March 2 regulatory filing for SPDR Gold Trust, an exchange-traded fund managed by Boston-based State Street Corp.
In the filing, Goolgasian wrote that while Buffett’s Berkshire Hathaway Inc (BRK\A). has risen 105 percent since January of 2000, gold has climbed nearly fivefold during the same period.
Buffett, in his annual letter to shareholders last month, said investors should avoid gold because its uses are limited and it doesn’t have the potential of farmland or companies to produce new wealth. Achieving a long-term gain on the metal requires an “expanding pool of buyers” who believe the group will increase further, he said.
“What motivates most gold purchasers is their belief that the ranks of the fearful will grow,” Buffett wrote in the letter, posted Feb. 25 on the company’s website. “During the past decade that belief has proved correct. Beyond that, the rising price has on its own generated additional buying enthusiasm, attracting purchasers who see the rise as validating an investment thesis. As bandwagon investors join any party, they create their own truth -- for a while.”
In his letter, Buffett estimated the world’s stock of gold if melded together would form a cube of about 68 feet per side and, when valued at $1,750 an ounce, amount to about $9.6 trillion.
‘Fondle the Cube’
For the same amount of money, an investor could acquire all the cropland in the U.S. and buy Exxon Mobil Corp. 16 times, while still having $1 trillion left over, Buffett wrote.
“You can fondle the cube, but it will not respond,” he said.
Gold futures for April delivery settled at $1,709.80 an ounce March 2 on the Comex in New York.
Buffett, 81, built Omaha, Nebraska-based Berkshire from a failing textile maker into a firm selling insurance, energy, and jewelry through acquisitions and stock picks. The company has a market value of $194 billion, according to data compiled by Bloomberg.
In his note, Goolgasian, called Buffett “the greatest investor of our time.” Still, that didn’t stop him from questioning Buffett’s take on gold.
“It strikes us that Buffett believes that only asset classes and investments that fit his specific investment beliefs can be sensible investments,” Goolgasian wrote. “We, however, are agnostic about how to beat the market. We just want to do it.”
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Where we part company with Warren Buffett...
The Sage of Omaha explained in Fortune magazine why bonds are dangerous.
He went on to explain why he doesn’t like gold either. He points out that since 1965, the total return on gold (not adjusted for inflation) was 4,455%. But the total return on stocks was higher, at 6,072%.
The difference between the two is that gold is a ‘sterile’ investment, says Buffett. Stocks are not.
He’s right. Gold is only useful at protecting purchasing power when the monetary system is in danger. At almost all other times, you’re better off with stocks, businesses, farmland or another productive asset.
That’s why Buffett now prefers stocks. And it is why we now prefer gold.
Buffett willingly gives up the protection of gold in order to the get the upside from stocks. We willingly give up the upside from stocks in order to get the protection from gold.
Only time will tell. Our guess is that time will tell us that Buffett is right in the near term. But we’re still not going to switch to stocks. Because the risk is too high that time will be on our side.
In other words, the most likely outcome, as far as we can tell, is that the financial world will stumble along more or less in the same direction it is going now. Perhaps for many years. Gold, already expensive in terms of purchasing power, may go nowhere or even down. After all, we’re still in a Great Correction. As long as we follow in Japan’s footsteps there’s no particular reason for gold to rise.
But we do not bet on the most likely outcome. We bet on the outcome that is underpriced. The outcome that is most likely to pay off or blow us up. In our view, investors do not yet fully appreciate the risks of a financial catastrophe, a war or a revolution.
In yesterday’s news, we learned that hundreds of thousands of Greeks had taken to the streets.
Meanwhile, hardly a day passes that we don’t hear of an impending attack on Iran.
The developed economies are borrowing money at two to five times the rate of GDP growth.
And the world’s major central banks eagerly print money.
Maybe Buffett will be right. Maybe the next 47 years will be like the last. But it seems like a bad bet to us. All the key circumstances are completely different – even opposite.
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