As Vernon opened the door there a sternness showed on his face. He didn’t come for a social visit, it was all business.
The Chinese had just devalued their currency and the Dow was down 250 points. Wherever you turn, currency crisis.
Making Vernon’s tension worse, he had seen a partial clip of Ron Paul talking about a future currency crisis in the U.S. and that the dollar would soon be worthless.
Sitting in the conference room, Vernon looked up from his coffee and said, “Do you realize that since the creation of Federal Reserve in 1913 the U.S. dollar has lost more than 90% of its purchasing power?”
Vernon added that since 2008 the U.S. money supply has increased by 400%.
Both true statements, and held in isolation it is easy to see how it would be concerning to anyone. Either way, Vernon knew his purchasing power had fallen under attack.
Since 1913 gold has increased from $20 per ounce to more than $1,100 today, Vernon added. After making this statement he wanted to know if he should liquidate his portfolio and load up on gold.
After a few minutes of venting, he relaxed a bit. We went on to have a productive conversation based on fact and not just salesmanship.
Much of Vernon’s information came from Stansberry Research—a company that Ron Paul now works for as a paid spokesman. Stansberry Research is effective in drumming up concern in order to get people to subscribe to their service. As such, Ron Paul should not be viewed as a kindly public servant. He is paid to share his thoughts and therefore may have conflicts of interest.
We agreed with Vernon on the devaluation of the U.S. dollar, but pointed out that this phenomenon is not unique to just U.S. currency.
After making this distinction, I took the opportunity to point out that although cash gives us flexibility, it is a horrible investment. The saying “Cash Is King” is true to an extent. It offers liquidity to buy goods and services now. However, over long periods of time, cash currency from any nation generally loses value.
Vernon smiled as it confirmed his theories on the dollar.
Unfortunately, just because the dollar is a bad long-term investment does not mean gold is a good long-term investment. As we discussed this, Vernon seemed puzzled. He reminded me that I agreed with his analysis. His did the correct math. Gold had increased from $20 to more than $1,100 today.
However, I asked Vernon a thought provoking question: “What is the inflation adjusted rate of return for gold?”
Vernon processed the question but didn’t answer.
Since 1913, inflation has caused goods and services to increase in price by more than 2,300%. I brought this up to show that although gold increased, it produced less than a 1% annual return, when adjusted for inflation.
We also pointed out that gold does not produce any cash flow, it has to be securely stored, must be authenticated, and cannot be used as money.
Vernon leaned back in his chair and said, “Okay, so cash is trash and gold is a big paperweight. What suggestions do you have, smart guy?”
I replied that if we are long-term investors, we prefer stock market assets—especially multi-national companies—for a couple of reasons.
Since 1913, the stock market has produced total returns of 8.5% per year—but 6.6% per year adjusted for inflation. Although stocks offer a bumpy ride they offer the best long-term inflation adjusted returns.
Furthermore, 40% of the profits earned by the companies in the S&P 500 are derived outside the U.S. As such, this serves as a hedge against devaluation of the U.S. dollar, or any other single currency.
At a time when interest rates remain at generational lows, well-established companies usually pay dividends. Dividends help many investors manage cash flow needs. Historically, about 40% of the total return of the stock market has come from dividends.
So which is the best way to invest money? As Vernon finished his coffee, he recognized there is no perfect investment—they all have their trade-offs and periods of scary headlines. Instead, he recognized the need for managing investments with intention.
When should you invest with cash? When should you invest in stocks? Vernon plans to use cash for short-term liquidity while embracing the volatility associated with stocks in an attempt to maintain purchasing power and produce cash flow during his retirement.