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Warren Buffett’s “Blind Spot” on Gold
Gold “gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.” – Warren Buffett, speaking at Harvard in 1998
Warren Buffett is the most successful stock investor in the 20th century, but he freely admits that he only invests in businesses he understands. He has famously said that he doesn’t understand the latest forms of technology, so he does not invest in tech start-ups. He also admits he doesn’t understand gold, which is an odd statement considering that his father – Howard Buffett, a U.S. Congressman from Nebraska for eight of the 10 years between 1943 and 1953 – was a passionate advocate of the traditional gold standard.
Warren Buffett has lived a lifetime in which gold gained over 60-fold in value to the U.S. dollar. Gold traded at only $20.67 when Buffett was born in 1930. When Buffett was a lad of three, President Franklin Roosevelt revalued gold to $35 per ounce, where it stayed until 1971. During the 1970s, while stocks collapsed in real (after-inflation) terms, gold grew from $35 in 1970 to a peak of $850 in January, 1980.
For most of the 1980s and 1990s, gold travelled sideways while the stock market recovered, prompting Buffett to utter his Harvard harangue against gold in 1998 (quoted above). At the time, he sounded wise, since gold had traded below $500 for over 15 years, but after gold bottomed at $255 per ounce in 1999 and 2001, gold surpassed $1900 per ounce in 2011. Still, Buffett did not change his tune. In his 2011 shareholder letter, Buffett called gold an “unproductive asset” that “will never produce anything.”
In a 2012 article in Fortune and in his annual shareholder letter that year, Buffett shared several common misconceptions about gold. He said owning gold is based on fear of inflation, which is under control.
Buffett was mistaken to think gold is only a hedge against inflation. Actually, gold is a hedge against any form of currency manipulation – hyper-inflation, deflation, quantitative easing, negative income rates, devaluations or currency controls. Gold is a proven hedge against a wide array of currency manipulation.
Buffett Needs to Consult Aristotle on Gold
The way Buffett puts it, gold has no intrinsic merit or logical value, but the “father of logic,” Aristotle (384-322 BCE), laid out the case for gold 2300 years before gold started soaring in the 1970s.
Aristotle’s logic helped lift mankind out of a clumsy form of exchange based on barter. In commerce, it is far more efficient to create a universally respected medium of exchange, store of value and unit of account instead of finding a way to trade lumber for cattle. Aristotle proposed that such a money must fit these four characteristics, and he proposed gold as the single element which met all four criteria best:
1) It must be durable: It must not fade, corrode, or change through time.
2) It must be portable: One person should be able to carry high amount of wealth on his person.
3) It must be divisible – easy to separate and re-combine without affecting its fundamental characteristics.
4) It must have intrinsic value – independent of any other object, and contained within the money itself.
In addition to these characteristics, gold is uniquely malleable, strong, rare and resistant to corrosion. It displays uniform and distinct color. No other metal has come close to gold as a proven form of money.
Gold’s Performance During Buffett’s Investing Career
Warren Buffett made Berkshire Hathaway the vehicle for his stock market investments in 1965. In the 50 years since then, the S&P 500 has risen more than 20-fold and gold has risen more than 35-fold:
Warren Buffett’s Berkshire Hathaway has grown much faster than either the S&P 500 or gold, so he can be forgiven for dismissing gold for his own reasons, but his reasons do not apply to the average investor, who has trouble beating the S&P 500. What’s more important, gold tends to “zig” while stocks “zag.” The two most notable examples are the 1970s and 2000s, when gold soared and stocks were basically flat
These comparisons show that gold and stocks tend to move in opposite directions, making gold a hedge against long-term bear markets in stocks – or high inflation, which tends to hurt bonds. Asset allocation and portfolio management imply a balance between stocks, bonds, gold and cash – in that general order. Depending on one’s age, a frequently recommended percentage of allocation is 60% stocks, 30% bonds and 10% gold and cash. For that final 10%, gold is far superior to cash in performance, especially today, when short-term interest rates are near zero in the U.S. and below zero in Japan and most of Europe.
The decade of the 2010s is not complete, but in general stocks rose faster than gold in the first half of the decade. So far in 2016, however, gold is up 20%, from $1060 to a peak of $1280 (intraday), while stocks are down. Measuring since the year 2000, gold and silver are still leading the major stock market indexes:
Unlike most gold dealers, Navellier Gold does NOT advocate the sale of stocks in favor of an over-weighted (say 25% to 50%) position in gold. We recommend a 5% to 10% position in gold bullion for most investors, as a hedge against currency erosion, inflation, deflation or stock market reversals.
Warren Buffett is halfway home. He has reportedly invested $1 billion in silver. His reasoning is that gold doesn’t produce anything, while silver is an industrial metal. However, the industrial uses for silver have eroded over the last few decades, while global unrest and currency manipulation have continued to push the price of gold up faster than silver. Buffett is wrong. Gold produces real value – peace of mind.