U.S. stocks vs. gold prices: Which is the better investment?
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Bill Bonner Guest blogger
Where we part company with Warren Buffet鈥�
Here鈥檚 the Sage of Omaha, explaining, in聽Fortune Magazine, why bonds are dangerous:
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 鈥渟afe.鈥� In truth they are among the most dangerous of assets. Their beta may be zero, but their risk is huge.
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 US, 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 鈥渋ncome.鈥�
For taxpaying investors like you and me, the picture has been far worse. During the same 47-year period, continuous rolling of US 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鈥檚 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鈥檚 noteworthy that the implicit inflation 鈥渢ax鈥� was more than triple the explicit income tax that our investor probably thought of as his main burden. 鈥淚n God We Trust鈥� may be imprinted on our currency, but the hand that activates our government鈥檚 printing press has been all too human.
High interest rates, of course, can compensate purchasers for the inflation risk they face with currency-based investments 鈥� and indeed, rates in the early 1980s did that job nicely. Current rates, however, do not come close to offsetting the purchasing-power risk that investors assume. Right now bonds should come with a warning label.
Under today鈥檚 conditions, therefore, I do not like currency-based investments.
Buffet goes on to explain why he doesn鈥檛 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 鈥榮terile鈥� investment, says Buffet. Stocks are not.
He鈥檚 right. Gold is only useful at protecting purchasing power when the monetary system is in danger. At almost all other times, you鈥檙e better off with stocks鈥usinesses鈥armland or another productive asset.
That鈥檚 why Buffet now prefers stocks. And it is why we now prefer gold.
Buffet 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.
Who鈥檚 right?
Only time will tell. Our guess is that time will tell us that Buffet is right鈥n the near term. But we鈥檙e 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鈥s far as we can tell鈥s 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鈥r even down. After all, we鈥檙e still in a Great Correction. As long as we follow in Japan鈥檚 footsteps there鈥檚 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鈥r 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鈥檚 news, we learned that 100,000s of Greeks had taken to the streets. 鈥淩ioters burn buildings鈥︹�� reports聽Bloomberg:
Feb. 12 (Bloomberg) 鈥� Rioters set fire to buildings and battled police in downtown Athens as the Greek Parliament prepared to vote on Prime Minister Lucas Papademos鈥檚 austerity package to avert the nation鈥檚 collapse.
Ten fires were burning in central Athens including buildings housing a Starbucks Corp. cafe, a bank and a movie theater, a fire department spokesman said, speaking on the condition of anonymity in line with official policy. The blazes were near a bank that was set on fire in May 2010, killing three bank employees, during a general strike against Greece鈥檚 first bailout package.
鈥淭oday at midnight, before markets open, the Greek Parliament must send a message,鈥� Finance Minister Evangelos Venizelos told lawmakers in Athens today as the final debate on the accord to secure a 130 billion-euro ($171 billion) second aid package got under way. 鈥淲e must show that Greeks, when they are called on to choose between the bad and the worst, choose the bad to avoid the worst.鈥�
鈥淲e are seeing Athens go up in flames again,鈥� Mayor George Kaminis, said in an interview on ANT1 television. 鈥淭his must stop. What they are trying to do to Athens is what they are trying to do to the entire country.鈥�
Meanwhile, hardly a day passes that we don鈥檛 hear of an impending attack on Iran.
The developed economies are borrowing money at 2 to 5 times the rate of GDP growth.
And the world鈥檚 major central banks eagerly print money.
Maybe Buffet 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 鈥� even opposite.
You remember the years from 鈥�65 to 2012. They weren鈥檛 perfect. But they weren鈥檛 bad. The US was on top of the world鈥nd headed higher. It was owed more money by more people than any nation ever had been. It was the leading energy exporter. It was the world鈥檚 leading capital investor. Its people were earning more and more money 鈥� in real terms. Total consumer and government debt, as a percentage of GDP, was barely a fifth of today鈥檚 level.
Of course, it wasn鈥檛 all good. The US was getting deeper and deeper into a costly and losing war. This would lead to some big bills to pay in the 鈥�70s鈥nd to some tough times. But, overall, America鈥檚 best days were still ahead.
And today?
Now, the emerging markets are growing much faster鈥aking more and more market share from the US. America is deep in debt鈥nd adding more debt every day. Major industries have been zombified. More than half the voters depend on money from the government. America鈥檚 degenerate capitalism鈥nd its geriatric democracy cannot adapt to the challenges it faces. And the typical working man hasn鈥檛 had a real increase in wages since the Johnson administration.
In 鈥�65, the US was heady for glory. In 鈥�12, it may be going to Hell.
But who knows? Maybe Buffet will be right.
Still鈥e鈥檒l stick to our formula.
Buy gold on dips. Sell stocks on rallies.
鈥淲anna lose some money?鈥�
Easy. Buy Facebook. It鈥檚 said to be going public at 150 times earnings.
In order to justify the price, says our colleague,聽Chris Mayer, Facebook would have to sign up every human being on the planet鈥nd a few extraterrestrials too.
The whole Internet complex is a 鈥渂ubble that鈥檚 about to pop,鈥� he says.
鈥淚t鈥檚 rumored that Facebook鈥檚 IPO will value the company somewhere between $75 and $100 billion 鈥� about 150 times 2011 net income, 212 times free cash flow, and just shy of 27 times last year鈥檚 sales. Facebook鈥檚 sales have grown 77-fold since 2006, and its valuation based on private secondary markets has soared 92-fold during the same time.鈥�
Wow! How do you beat that?
We tried to use Facebook. It just seemed like too much trouble. And what do you get out of it? Another way to keep up with your friends? That is, another way, in addition to phone, mail, SMS, email鈥nd carrier pigeon. Seems like more than enough ways already.
We also tried LinkedIn. We signed up. But we could never figure out what the point is.
So鈥e apologize to all the many people who offered to make us a 鈥榝riend鈥� or a 鈥榗ontact.鈥� I鈥檓 afraid we had to ignore them all. Not because we don鈥檛 want them as friends and contacts. But simply because we can鈥檛 keep up with the volume of contacts we have already.
Our advice to Dear Readers: Sell Facebook and LinkedIn鈥s soon as you get a chance. Turn off Facebook. Unplug yourself from LinkedIn.
Tune out. Turn off. Buy gold. Be happy.
Regards,
Bill Bonner
蹿辞谤听The Daily Reckoning
