Warren Buffett and the New Calculus of Gold



  • Warren Buffett rejects gold because it provides neither steady income nor systematic growth
  • However, gold represents a new product with growing sales potential — as the ultimate store of value for wealth preservation

There has long been a disconnect between gold and institutional investors. The instincts of these managers of large sums are typically tied to the generation of cash flows to feed the monster — that is, the institution’s cash flow needs. Alternative emphasis is given to growth, especially if obligations are long-duration and not fixed. This is usually true for pension funds, endowments, some insurance companies or individuals investing for retirement.

For these investors, the preferred investment habitat tends to be a blend of income-generating fixed income and equity type investments that are thought to contain the potential for growth. Because gold, as an investment class, provides neither steady income nor systematic growth, it succeeds in only providing emotional discomfort for these investors.

Warren Buffett’s recent article in Fortune is a reflection of this sentiment. First on the list of asset categories to consider are bonds or, more generally, fixed income. His analysis is instructive.

From his point of view, over the 47 years he has been at the helm of Berkshire Hathaway, continuous rolling short-term Treasuries bills would have averaged 5.7% annually. But if an investor paid income taxes at a rate averaging 25%, the return is reduced by 1.4 points. Buffett then goes on to point out that the return is then further reduced in real terms by the invisible inflation “tax” which would have devoured the remaining 4.3%. Hence rolling short-term Treasuries would have yielded nothing in real terms.

If one held long maturity Treasuries over this period — which included 30 years of general Treasury bond price appreciation — the investment outcome is questionable if you take into account the declining purchasing power of goods in U.S. dollar terms.  It is even worse when compared to a market basket of goods from around the world.

In Buffett’s terms, fixed-dollar investments have fallen a staggering 86% in real dollar value since 1965 during his tenure at Berkshire Hathaway. He points out that today it takes no less than $7 to buy what $1 did when he arrived in Omaha.

He concludes with the recommendation that fixed dollar income investments should come with warning labels advising you that they’re bad for your financial health.

What if contractual steady income doesn’t perform well? Asset categories outside the normal preferred habitat need to be examined. That’s where gold comes in, especially considering that for the first time in our monetary history the central bank has adopted positive inflation as a policy goal. Nonetheless, the institutional sale is a hard one, not just because it has not been a member of the preferred habitat, but according to Buffett, it has other fatal defects.

After conceding in a backhanded way that gold has performed well, with reference to its near $10 trillion in market capitalization, he argues that it doesn’t qualify to be in his preferred investment habitat because it doesn’t produce a growing revenue stream — and if it doesn’t grow, it doesn’t compound.

Rather, he states that his preference would be to employ his capital with growth commodities such as farmland or businesses that will continue to grow its bread-and-butter capacity that can be sold in real terms. That is to say, he rejects gold because it doesn’t produce gold sprouts. Gold is just inert, lying in neatly stacked bars in a subterranean vault. It has but limited use in electronics, jewelry, dentistry and few other applications.

Instead, Buffett prefers investments such as Coca-Cola or See’s Candy, which have the ability to sell more candy in the future at the prevailing price level as a means to produce real growth.

That’s where I depart from the Sage of Omaha. While not arguing with the ability of See’s Candy to deliver and the American sweet tooth to be unaffected by the growing concerns for obesity, I believe he fails to see the new product that gold represents and its growing sales potential.

In a wealth-accumulating economy there is always demand for an ultimate store of value for wealth preservation. In finance terms, there is always a demand for some asset for which an investor takes no default risk, nor inflation risk, and can be obtained and sold on liquid markets.

This is “the new calculus of gold.”

Read the full version of this article on Professor Spellman’s blog, The Spellman Report.


The views expressed are those of the author and not necessarily The University of Texas at Austin.

About The Author

Lew Spellman

Professor, Department of Finance, McCombs School of Business, The University of Texas at Austin

Lewis Spellman received his BBA and MBA from the University of Michigan and his MA and Ph.D. from Stanford University. His research interests include...


#1 Hello Michael, I think the

Hello Michael, I think the global fiat economy is way to fluid and way to big for us ever to move to a gold standard again. I dont know if that is good or bad. Could you expand on your final history comment? Best, Ryan www.utexasentrepreneurs.com

#2 Ryan, My point was simple. If

Ryan, My point was simple. If a country has a history of expropriation, do markets and market participants forget and forgive, or do they remember for a long time? Germany, for example, has a history of expropriating real estate owners through high taxation (after the hyperinflation of Weimar, and again after WWII), hence a rational investor should always remember that it can happen again (though I wouldn't lose sleep over it currently) Same with gold in the US - since FDR took it away in the 1930s under the threat of prison terms for violators, and possession was outlawed for many decades, maybe fund managers today, even 80 years later, are just history conscious by storing the physical stuff in other countries. Just a wild guess on my part. Or indeed it's just pure coincidence. Best Michael

#3 Gold definitely has had and

Gold definitely has had and will continue to have a great amount of value as a store of wealth. At todays prices, and with so many discussing the metal, I think every ones bubble warning light should be flashing. There is still a lot of uncertainty in the mkts do to many a factor(political, economic, etc.), hence why we are seeing some good stretches for gold, and then some good stretches for equities. If, when, the global economy stabilizes I think we will see another run into equities and a run out of gold(which will be a good time to buy). The cash producing ability of equities(business) should never be underestimated however. The needs of Berkshire are completely different than the needs of an individual investor. Neither the pro gold people or Buffett are really wrong with their analysis of the situations. Timing is huge with gold though imo. Gold had a big run down from its 1900 level highs to todays 1650 level do to people warming up to equities. Europe has thrown another wrench into the system that pushed gold up, but if the world market stabilizes I am not so sure gold can maintain its 1650 level. Best, Ryan Sovelius www.utexasentrepreneurs.com

#4 If we are moving towards a

If we are moving towards a new gold standard, by default or by design, then one question would be whether gold will be confiscated again, like under FDR, in order to allow governments to have a monopoly on this store of value. If there were such a fear in the market, could that put a cap on the gold price? Of course, nobody knows. It is interesting to note, though, that all physical gold backed exchange traded commodity funds have their physical gold stored outside the US (e.g., in London, Canada, Switzerland, Singapore), not a single one, to the best of my knowledge, in the US. Pure coincidence or remembering history?

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