Sunday, 8 July 2012

Warren Buffet and his Gold Delusions.

By now almost everyone has heard Warren Buffets speal on gold. He goes on his predictable mantra about nominal gains. The value of all that gold at today's prices, Buffett observes, would be about $10 trillion.
As for its merit as an investment, Buffett observes the following:

"That cube of gold will not pay you interest or dividends, and it won't grow earnings."

If you had $10 trillion sitting around(in what, US treasuries?), Buffett further observes, instead of buying the cube of gold, you could buy all the cropland in America ($400 billion-worth) and 16 Exxon-Mobils. And you would still have $1 trillion of "walking-around money".

Ok Wawwen, lets see how that works out for you...

Here is the fatal flaw in his thinking. In a world where there is no wealth consolidator(now), interest and  dividends and earnings growth are nominal gains which are progressively self diminishing. The more nominal gains you make, the more medium of exchange you pile up which has to be reinvested again for even more nominal gains. Not only is your new nominal gains competing with other savers nominal gains but your very own present nominal gains will be competing with your future nominal gains. This can only lead to ever higher asset prices and ever lower yields on everything until it reaches its mathematical limit and explodes. 

FOFOA explains..

"Most people are savers, not investors or traders. Yet today we are all forced to be investors chasing nominal gains because there is no such thing as a perfect inflation hedge. If there were such a thing, a large portion of the "investing public" would not be anywhere near stocks and bonds. Even the most "risk free" bonds, US Treasuries, have the greatest risk of all, currency risk. "

"Furthermore, a saver must look deeper than the CPI, or even its shadow-equivalent, for the real inflation that must be protected against. And that is the inflating VOLUME of savings with which one must compete. A perfect inflation hedge would not only keep up with the shadow-CPI but it would also rise in VALUE (as opposed to volume) relative to changes in aggregate monetary savings (nominal gains). "

Lets use a simplified version of Warrens own example.

All the farmland in the US is a cool 400 billion. Lets just count that as another Exxon mobile. Plus we will count his 1 trillion in "walk around money" as 2 more Exxons. That leaves us with 19 Exxon Mobiles with around a 390 billion in market cap each. Remember Warren Buffets claim to fame is to buy stocks with hefty dividends to make money and or store value.
Exxon's current dividend yield is  2.74%.
2.74% of 390 billion is $10,660,134,000. (Ten billion) We have 19 Exxons so we can multiply this number by 19 and that gets us $202,542,546 (Two hundred billion) in nominal gains annually.

2.74% is not Buffets thing though, he would rather have a 6% divvy. So lets go with 6%.

Exxons dividend is 6%

6% of 390 billion is $23,400,000,000 (Twenty three billion) Multiply this by 19 and we get $444,600,000,000 (Four hundered+ Billion) in nominal gains annually.

Now  what the hell do you do with the 444 billion you just made in 12 months ? Buy another Exxon ? So you have an even bigger problem next year ? What will that do to the price and the yield ? What about the other savers who want another Exxon that year too ? Prices to infinity, yield to zero.

Can you see the fatal flaw in Warren Buffets claim to fame that chasing nominal gains as a means to store wealth or investing is completely self defeating ? And his fatal flaw in declaring gold useless ? This is why nothing is cheap anymore relative to yield. Price out condos in Bangkok or farm land in Canada or industrial real estate in Australia or stocks or bonds in any stable part of the world and you will notice that nothing is cheap relative to the nominal gains it can produce. Simply because  of the inflating VOLUME of savings with which one must compete.
A perfect store of value would not only keep up with the shadow-CPI but it would also rise in VALUE (as opposed to volume) relative to changes in aggregate monetary savings. Putting that 444 billion nominal gain into physical gold WILL NOT diminish gold's ability to be a store of value. Putting it back into Exxon mobile WILL diminish Exxons ability to be a store of value or even a nominal gain generator.

So while most cannot understand the significance of this slow motion trend today, the explosive "rock meets hard place" encounter that is overdue at this point will be sure to wake even the sleepiest sheep. And at that point gold's best and highest function—being a physical-only wealth reserve asset—will be known by all. And the meeting of such a wide (awake) demand with a newly physical and stable supply in the absence of external (paper) influences will reveal a gold price that is multiples of any that has ever left Peter Schiff's lips.

Today gold is traded like a volatile commodity by gamblers who like to call themselves traders. Or else it is held as a small percentage of one's wealth for the expressed purpose of "insurance." Gold is actually a pretty poor inflation hedge as long as it is under external influences such as the inflatable supply of paper gold BB liabilities. So the only way it can even hope to perform as prescribed is as insurance in physical form only. Yet so many investors still hold "paper gold" as the insurance portion of their portfolio. This alone really highlights the confusion in Western "professional" investment Thought.

Got gold ?


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  4. Great work M! Objectivity is valuable, very valuable thing! Unfortunately only those who are in constant search for the truth (on how things evolve around them) will find your blog, but there are not enough of those around, not yet at least.

  5. Let us not forget that nominal gains will be taxed into oblivion, leaving you with less real dollars than you had initially started out with. There is nothing more permanent than a temporary tax hike. As FOFOA explained to me... "With political pressure to tax private physical gold trading as low as possible, expect enormous taxing and windfall profit rules to impact all other forms of gold ownership."

  6. "In a world where there is no wealth consolidator(now), interest and dividends and earnings growth are nominal gains which are progressively self diminishing."

    Perfectly explained. Now you just need to explain, why you think that gold is this consolidator? I mean without any wishful thinking and without FG bias.
    Greets, AD

  7. Hi M,

    good piece, this Buffet one. Thx!

    Regarding the animated € gif at the top of your blog:

    If you are choosing during production a black background for the €, instead of a transparent one, it would look much more realistic.
    In this case choose

    R = 20
    G = 20
    B = 20

    That’s the color of your header area.


  8. Ah, and this one:
    Since the € has a black background (20-20-20), there can’t be any shadow! Because dark + dark = dark. Try to create a shine around instead, by this lightening up the background a bit. I think that’s what you’ve intended to get.

    1. Thanks man. I'll give that a try. I never really liked how the spinning Euro turned out.

  9. @AD

    Gold is the right choice for the consolidator in my opinion, but my opinion doesn't really matter. The vast majority of the world's population sees gold as a store of value (or wealth consolidator) but maybe the majorities opinion doesn't matter on this on either...However, I think it is significant that every central bank in the world has also chosen to stock pile this worthless relic. I wonder why? Are they preparing for something?

  10. @ AD

    If you read up on the stock to flow of gold, you will realize that it is the wealth consolidator. This isn't a matter of opinion. It is a matter of fact.

  11. "that it is the wealth consolidator"

    yes, no doubt about that. But to what percentage is it THE consolidator? You say, "worldwide sees gold as SOV", seriously, arent you biased with such statements?
    Just look at the small flow in terms of nominal market cap. And when we are talking about the concept of consolidator, it is only the "investment" part. Is jewelry part of it hmmmm, not sure about it looking at the Cash4gold dishoarding part, but even if being generous and include that, it is so small, even world wide toilett paper flow turnover is bigger than this "consolidator".

  12. @ AD

    If you deduce everything down, gold is the wealth consolidator. Its not USD. Its not US debt. Its not anything that produces nominal gains. What is left ?

  13. @M
    Apparently, Balloon Dogs and other crap ;)

    "The vast majority of the world's population sees gold as a store of value"
    Oh really? So why are all sale shelves filled with plenty of useless yellow stones, at prices around mining costs? BTW since decades!!!1111

    Any kind of explanation for that, relies only on some conspiracy BS, PERIOD.

  14. BTW, to get back to the OT, why I like gold and why I am sceptical on stocks:

    Old Europe has a long and famous fascist socialist tradition up until today (IMHO and growing). So what governments tend to do in tough situations: Look out of the window, trying to figure out whom to rob next, of cause in the name of "social justice".
    In Germany we have about ~27% CGT on stocks for private holders (CGT after the companies themself have already been robbed ~25% of their profits (except maybe Google, Starbucks....), making it roughly >=50% in total). THAT is the next potential target I see, taxation through the nose and private holders are an easy target. Remember the public celebration of "Pikettys Capital in the 21 st century" and IMFs "Taxing times"?
    And somehow, I just dont wanna be in this "social justice ripoff", call me selfish if you want.
    If I would be living in any other non-EU countries, probably I would be invested in stocks much more than I am right now. So gold is the only hedge outside socialism I can have :(
    And other PM are heavily VAT taxed (19%), so my Platinum&Paladium stashes are minimal.

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