2011: Why hasn't Berkshire invested in commodities like gold?

ANDREW ROSS SORKIN: This question who comes from Neil Steinhoff (PH) who writes, “The commodity market, and particularly gold, have appreciated astronomically over the last few years.

“My Berkshire Hathaway stock is only slightly better — doing better — than it was in 2006. It’s barely kept up with inflation,” he says.

“Please explain why you have not invested more heavily in commodities. As long as Ben Bernanke continues to print money and there’s no indication he’s going to stop any time soon, isn’t it right that commodities, and particularly gold, will continue to appreciate?”

WARREN BUFFETT: Well, I would point out that when we started with Berkshire, it was about 3/4 of an ounce of gold, and gold was $20 an ounce then, and it was 15.

So gold, even at 1500, has a ways to go, and the — (Laughter and applause)

I think he’s right about inflation. But if you think about it, there are three major categories of investment. And you ought to think very hard about which category you want to be in before you start thinking about the choices available within that category.

Now, the first category is anything denominated in a currency. It could be bonds, it could be deposits in a bank, it can be a money market fund, it can be cash in your pocket.

And the — if you will reach in your pocket — I don’t like to do this, but — and pull out your wallet — you’re watching an historic event. (Laughter)

If you look at this — and I might point out this is a one. Charlie carries a — on the back of it, it says, “In God We Trust.” And that’s really false advertising.

The — if Elizabeth Warren were here, she would say, quite properly, it should say, “In Government We Trust,” because God isn’t going to do anything about that dollar bill, you know, if government does the wrong things, in terms of keeping it as valuable as it was when you parted with it to buy a bond or put it in a bank.

Any currency-related investment is a bet on how government now, and in the future, will behave. And if you happen to be unfortunate to live — fortunate to live in Zimbabwe and you decided to make currency-related investments, you know, you — family would have left you by now, and it was not a good decision.

Almost all currencies have declined in value over time. I mean, it may be built into almost any economic system that it will be easier to work with a value of currency that declines in value than a currency that appreciates in value, and the Japanese might reaffirm that here with their experience.

So as a class, currency-related investments, whether they are in the UK, or the United States, or anyplace else, unless we’re getting paid extremely well for having them, we do not think make much sense.

The second category of investments regard items that you buy that don’t produce anything but that you hope someone will pay you more for later on. And the classic case of that is gold.

And I’ve used this illustration before, but if you take all of the gold in the world — don’t get too excited now — and put it into a cube, it will be a cube that’s about 67 feet on a side. That would be 165,000 or 170,000 metric tons.

So you could have a cube — if you owned all the gold in the world — you could have a cube that would be 67 or 68 feet on a side, and you could get a ladder and you could climb up on top of it, and you could say, you know I’m sitting on top of the world, and think you’re king of the world.

You could, you know, you could fondle it, you could polish it, you could do all these things with it. Stare at it. But it isn’t going to do anything.

All you are doing when you buy that is that you’re hoping that somebody else a year from now, or five years from now, will pay you more to own something that, again, can’t do anything, but you’re hoping that the person then thinks that somebody else will buy something five years later from him.

In other words, you’re betting on not just how scared people are now of paper money, you’re betting on how much they think a year from now people will be scared two years from then on.

Keynes described all of this. I think it was in Chapter 12 of “The General Theory,” when he talked about this famous beauty contest where the game was not to pick out the most beautiful woman among the group, but the one that other people would think was the most beautiful woman, and then he carried it on to second and third degrees of reasoning.

Any time you buy an asset that can’t do anything, produce anything, you’re simply betting on whether somebody else will pay more for, again, an asset that can’t do anything.

And actually, we did that with silver, but silver had an industrial use, and we — about 13 years ago I bought a whole lot of silver. And if you’ll notice, silver has moved recently, so my timing was only about 13 years off, but, you know, who’s perfect?

The third category of asset is something that you value based on its — what it will produce, what it will deliver. You buy a farm because you expect a certain amount of corn or soybeans or cotton or whatever it may be, to come your way every year. And you decide how much you pay based on how much you think the asset itself will deliver over time. And those are the assets that appeal to me and Charlie.

Now, there’s some logical follow-on to that. If you buy that farm, and you really think about how many bushels of corn, how much bushels of soybeans will it produce, how much do I have to pay the tenant farmer, how much do I have to pay in taxes and so on, you can make a rational calculation, and the success of that investment will be determined in your own mind by whether it meets your expectations as to what it delivers.

Logically, you should not care whether you get a quote on that farm a day later, or a week later, or a month later, or a year later. We feel the same way about businesses.

When we buy ISCAR, or we buy Lubrizol, or whatever, we don’t run around getting a quote on it every week and say, you know, “Is it up or down or anything like that?” We look to the business.

We feel the same way about securities. When we buy a marketable security, we don’t care if the stock exchange closes for a few years.

So when we look at Berkshire, we are looking at what we think can be delivered from the productive assets that we own, and how we can utilize that capital in acquiring more productive assets.

And there will be times, you know, cotton doubled in price, much to our chagrin at Fruit of the Loom, but, you know, if you own cotton for the right six or eight months in the past year, you came close to doubling your money.

But if you go back a century and try to make money owning cotton over time, it has not been a very good investment.

So to pick a product, crude oil, cotton, gold, silver, anything that — and, of course, cotton has utility. Gold really doesn’t have utility.

I would bet on good-producing businesses to outperform something that doesn’t do anything over any period of time.

But there’s no question that rising prices create their own excitement. So when people see gold go up a lot — I mean, if your neighbor owns some gold, and you think you’re smarter than he is, and you didn’t own any, and your wife says to you, you know, “How come that jerk next door is making money, you know, and you’re just sitting here?” It can start affecting behavior.

And people like to get in on things that have been rising in price and all of that. But over time, that has not been the way to get rich.

Charlie?

CHARLIE MUNGER: Well, I certainly agree with that. And besides, something peculiar to buy an asset which only will really go up if the world really goes to hell. (Laughter)

It doesn’t strike to me as an entirely rational thing to do.

I think you can figure on leaving the country because the country is going to kill you. And all the countries you might go to will also be thoroughly screwed up.

I think all those people should buy a little gold, but I think the rest of us would be better off with Berkshire Hathaway stock. (Laughter and applause)

And, of course, there’s another class of people that think they can protect themselves by buying paintings of soup cans. (Laughter)

I don’t recommend that, either. (Laughter)

WARREN BUFFETT: One thing about gold, also, is that in addition to this 67-foot cube, more gold is being produced every year.

So you have to have buyers not only to offset sellers in the natural course of events, but you have to absorb something like a hundred billion dollars’ worth of added items of no utility.

I mean, it’s really interesting. I mean, they dig it up out of the ground in South Africa, and then they ship it to the Federal Reserve in New York and they put it back in the ground.

I mean, if you were watching this from Mars you might think it was a little peculiar. But think of how many people it makes happy.

I might mention that the value of that cube, all the gold in the world, is now about — valued at 1500-plus — it’s about $8 trillion. And there are a billion acres, roughly, of farmland in the United States. That’s a little a million-and-a-half square miles. And that’s valued at something over 2 trillion.

And if you take ten Exxon Mobils, you get up, maybe, another 4 trillion and — maybe not that much even — and so you could own all the farmland in the United States, every bit of it, and you could own ten Exxon Mobiles and you could stick a trillion or so in your pocket for walking around money, and you could have your choice of that or this 67-foot piece of gold that you could fondle and — (Laughter)

That may seem like a close choice to some people, but not to me. (Laughter)

CHARLIE MUNGER: Well, you would also need an army to defend the gold. And it’s really not a very good spot.