Two articles were recently published that took contrary views on investing in gold and silver. Both articles, which I’ll discuss in a minute, offer important insight into buying precious metals. Although not in large quantities, I’ve purchased silver American Eagles over the past two years and plan to buy gold American Eagles this year.
Given the price of gold, however, buying the precious metal right now seems about as crazy as investing in Amazon (p/e ratio of 131). I still believe that there is a place in most portfolios for these commodities. Let’s look at two contrasting points of view, and then I’ll describe my investing approach to gold and silver.
Buffett Says No to Gold
The first article is from Warren Buffett–Why Stocks Beat Gold and Bonds. I highly recommend this article. The best part actually has nothing to do with gold at all. In the article Buffett talks about the risk of an investment and why today bonds are riskier assets to hold than equities. It’s a must read.
But then he turns to gold. And as only Buffett can, he uses imagery to drive home his view that gold is a terrible asset to hold:
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.
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?
Initially, I found Buffett’s argument persuasive. After all, he is right that gold is a non-productive asset. It doesn’t have earnings, pay dividends, or even interest. Even cash in a certificate of deposit pays interest, albeit in very small quantities today. Gold just sits there. It’s eye-candy at best.
Still, there was something bothering me about Buffett’s analysis. Much like his now famous claim that his secretary pays more in taxes than he does, I couldn’t help feeling like I was being swindled. And then I came across the second article I want to share with you.
Roy Sebag Says Yes to Gold
The second article comes from somebody you’ve probably never heard of, Roy Sebag. He was the Managing Partner of Essentia Equity, Ltd. a value oriented investment partnership from 2004-2010. Today, he is the founder and CEO of Natural Resource Holdings, Ltd. The article was published on Seeking Alpha–Respectfully Disagreeing With Buffett’s Recent Views On Gold – Seeking Alpha.
In my view, Sebag completely dismantles Buffett’s arguments. He points out, for example, that comparing gold to equities is like comparing apples to oranges. In Sebag’s view, gold is not an “investment.” Instead, it is an alternative to holding cash. And unlike cash, over the long term, gold does not lose its purchasing power.
He also points out that in 1998, Buffett bought 130 million ounces of silver. He also notes that over the last decade, gold has outperformed Buffett’s company, Berkshire Hathaway.
If you’re thinking of buying gold or silver, Sebag’s article is definitely worth reading.
My Take on Gold
The big question for those considering an investment in gold or silver is why. Why do you want to invest in precious metals? If you are buying gold or silver in hopes of making a quick buck as prices rise, you’re taking on an unjustified risk. It is impossible to consistently predict the short-term price movements of commodities, or anything else for that matter.
On the other hand, owning gold or silver is a good alternative to holding cash. I’m not suggesting that you take all of your cash reserves and pour them into gold. But holding some small percentage of a portfolio in precious metals does give a degree of diversity that is otherwise becoming harder and harder to achieve.
And as countries run extremely large deficits, there tends to be a risk of default as it pertains to the country’s outstanding obligations. This risk drives people from the nation’s currency into gold, triggering a surge in demand. Further, during times of political unrest and war, countries implement expansionist monetary policy which also causes the nation’s citizens to lose faith in the value of their currency, further increasing the demand for gold. Although there are other factors which lead to increased demand for gold and silver such as inflation, the above are significant drivers.
As I noted above, I’ll continue to buy a small amount of silver and gold American Eagles. With gold Eagles, you can buy coins ranging from 1 oz. down to 1/10 of an oz. The smaller coins make the cost a bit more doable for some. And in a post-apocalypse world some like to fear, they’d be easier to spend, too.
Published or updated April 6, 2013.