He starts by addressing one of my pet peeves. Academics and the financial industry dumbly equate volatility with risk. Volatility is not risk! I don't give a rat's ass whether my favorite stock bounces up and down ten bucks every day; what I care about is whether it's going to keep paying (and increasing!) its dividends and what it's going to be worth in 20 years. Here's Warren:
The riskiness of an investment is not measured by beta (a Wall Street term encompassing volatility and often used in measuring risk) but rather by the probability -- the reasoned probability -- of that investment causing its owner a loss of purchasing power over his contemplated holding period. Assets can fluctuate greatly in price and not be risky as long as they are reasonably certain to deliver increased purchasing power over their holding period. And as we will see, a nonfluctuating asset can be laden with risk.Exactly. And then old Uncle Warren starts to sound like a certain radical Fedbashing blogger:
Investments that are denominated in a given currency include money-market funds, bonds, mortgages, bank deposits, and other instruments. Most of these currency-based investments are thought of as "safe." In truth they are among the most dangerous of assets. Their beta may be zero, but their risk is huge.So far so good. But then he reverts to the tired old goldbashing:
Over the past century these instruments have destroyed the purchasing power of investors in many countries, even as these holders continued to receive timely payments of interest and principal. This ugly result, moreover, will forever recur. Governments determine the ultimate value of money, and systemic forces will sometimes cause them to gravitate to policies that produce inflation. From time to time such policies spin out of control.
Even in the U.S., where the wish for a stable currency is strong, the dollar has fallen a staggering 86% in value since 1965, when I took over management of Berkshire. It takes no less than $7 today to buy what $1 did at that time. Consequently, a tax-free institution would have needed 4.3% interest annually from bond investments over that period to simply maintain its purchasing power. Its managers would have been kidding themselves if they thought of any portion of that interest as "income."
For taxpaying investors like you and me, the picture has been far worse. During the same 47-year period, continuous rolling of U.S. Treasury bills produced 5.7% annually. That sounds satisfactory. But if an individual investor paid personal income taxes at a rate averaging 25%, this 5.7% return would have yielded nothing in the way of real income. This investor's visible income tax would have stripped him of 1.4 points of the stated yield, and the invisible inflation tax would have devoured the remaining 4.3 points. It's noteworthy that the implicit inflation "tax" was more than triple the explicit income tax that our investor probably thought of as his main burden. "In God We Trust" may be imprinted on our currency, but the hand that activates our government's printing press has been all too human.
What motivates most gold purchasers is their belief that the ranks of the fearful will grow.Wrong. What motivates us is that the mountains of Fed-printed money and Treasury-borrowed debt will grow, and that we like to hold a store of value that the Fed and Treasury can't debase. All fiat currencies everywhere throughout history, including the U.S. dollar, have declined asymptotically toward zero, while gold has always held its value. Who the F is Warren Buffett to dismiss millenia of history?
And then it gets bizarre:
Today the world's gold stock is about 170,000 metric tons. If all of this gold were melded together, it would form a cube of about 68 feet per side. (Picture it fitting comfortably within a baseball infield.) At $1,750 per ounce -- gold's price as I write this -- its value would be about $9.6 trillion. Call this cube pile A.So now scarcity is a reason for gold not to be valuable? Au contraire! As we've said before, there's less than one ounce per person on the planet, and less than five ounces per developed world inhabitant. That would seem to be a reason to get your share now before the rising middle classes in the developing world want theirs.
Let's now create a pile B costing an equal amount. For that, we could buy all U.S. cropland (400 million acres with output of about $200 billion annually), plus 16 Exxon Mobils (the world's most profitable company, one earning more than $40 billion annually). After these purchases, we would have about $1 trillion left over for walking-around money (no sense feeling strapped after this buying binge). Can you imagine an investor with $9.6 trillion selecting pile A over pile B?
Aside from getting the scarcity argument backwards, Buffett erects a flaming strawman in making pile A and pile B an all-or-nothing choice. Most sane investors, realizing both the enduring value of gold and the risk-reducing benefits of diversification, would choose some of pile A and some of pile B. Certainly most would lean heavily toward more of the latter. Even goldbugs like your truly argue for very modest asset allocations to gold of 5% or 10%.
Most investors, however, unfortunately follow Buffett's dogmatic zero-gold weighting. Ask your friends and neighbors. How many of them have even 1% of their retirement savings in gold? Institutions are little different. Pensions and endowments have big allocations to stocks, bonds, hedge funds, real estate, and private equity, but even a 5% weight in gold is almost unheard of (which is near criminally negligent given gold's solid risk and return properties).
I'm with Buffett on real assets over paper, but on gold he's flat wrong. Which is surprising given that his father, Congressman Howard Buffett, was a champion of the gold standard. I guess Warren found crony capitalism in a fiat world was an easier way to get rich than hard work with honest money.
A few more considerations on gold vs. stocks:
- Gold doesn't commit accounting fraud
- Gold doesn't overpay its CEOs with your money
- Gold doesn't dilute itself by issuing stock options to executives
- Gold doesn't have to negotiate with labor unions