The Only Asset Worth Owning Today

The following is not just a trivia question: Picture the total volume of all the gold ever mined -- how many Olympic swimming pools would it fill? The answer, which is at the end of this paragraph, sums up the powerful investment case for gold in this Neverland financial environment. The total supply of gold worldwide is small; if central banks, institutional investors and individuals reallocate even a small percentage of their assets toward this precious metal to hedge against inflation, we could witness a significant rise in its price. (Answer: Approximately three-and-a-half swimming pools.)

Gold -- A small piece of global assets
Here's another, more relevant, way to think about gold's scarcity. At the end of 2008, the total value of all mined gold was $4.56 trillion. While that number may appear large on its face, it represents just 2.6% of the stock of financial assets worldwide ($178 trillion).

Investors have held gold as a store of value since antiquity. In a world in which the governments of industrialized nations (including, most prominently, the U.S.) are doing everything in their power to debase the value of their currencies, it would hardly be surprising to witness some shift into gold.

Looking back
Perhaps you think I'm jumping on the bandwagon at a time when gold is repeatedly achieving new highs, but back in February, with gold trading around $1000 per ounce, I wrote that "gold is an attractive choice for a portion of one's investable assets ... conditions look very favorable for gold to outperform the U.S. stock market in 2009 and over the next three to five years." But don't take my word for it; listen to John Paulson instead.

A master investor on gold
Paulson is the hedge fund manager who made a huge bet against subprime mortgages in the run-up to the crisis, producing a 590% return for his Credit Fund I in 2007 and netting himself $3.7 billion. This year, noting the Fed's massive expansion in the supply of dollars outstanding, Paulson is betting on gold: "What's the only asset that will hold value? It's got to be gold," he argues.

His company, Paulson & Co., owns $3.1 billion worth of the SPDR Gold Trust ETF (NYSE: GLD  ) -- more than 15% of the value of his share portfolio. Not to mention the fact that Paulson & Co. is also a large shareholder in a number of gold miners, such as AngloGold Ashanti (NYSE: AU  ) .

"Three or four years from now, people will ask why they didn't buy gold earlier," Paulson concludes.

The trouble with gold
Still, investing in gold is not without its challenges. These are the two major problems I have with this asset:

  • There is no cash yield on gold. It doesn't pay a coupon or dividend, nor does it even provide its owner with an economic interest in a stream of profits. The only return one can expect is a capital gain at the time of resale.
  • That, in turn, means that gold can't be properly valued. For a value-focused investor, that's a fundamental shortcoming: I can construct a thesis according to which the price of gold will increase from its current level, but I don't know how to assign the "fair value" to the precious metal, which turns the selling decision into a bit of a guessing game, rather than a discipline.

An inflation hedge without the drawbacks
Which brings me to another asset class, which, like gold, offers an effective hedge against inflation, but has neither of gold's two disadvantages: dividend stocks.

  • Dividends provide investors with a direct return of income, which can be spent or reinvested. In the latter case, reinvesting dividends boosts the compounding function of wealth creation -- the key to staying ahead of inflation.
  • All stocks, whether they pay a dividend or not, can be valued on the basis of the cash flows the underlying businesses generate on behalf of their shareholders. However, high-quality dividend stocks tend to be relatively easier to value because they often belong to stable industries. That's useful: Being able to determine fair value with greater certainty reduces the risk of taking a capital loss on a stock.

The following table contains five dividend stocks in companies that are well-financed:

Company

Dividend Yield

Total Debt/Equity

AT&T (NYSE: T  )

6.2%

73%

Valero Energy (NYSE: VLO  )

3.6%

46%

Home Depot (NYSE: HD  )

3.3%

60%

Johnson & Johnson (NYSE: JNJ  )

3.2%

23%

Coca-Cola (NYSE: KO  )

2.9%

47%

Source: Capital IQ, a division of Standard & Poor's. Data as of Nov. 19.

I continue to think that gold is an attractive option for part of one's investable assets. If I had to choose between the two, however, I'd be rather more comfortable owning a portfolio of high-quality dividend stocks, purchased at reasonable valuations (for the reasons I have indicated above). These are the stocks the team of analysts at Motley Fool Income Investor is constantly seeking out for its members.

If you're concerned that the Fed is creating a new set of risks and fear that inflation could take a savage toll on your wealth in the next few years, you should consider owning one or more of Income Investor's "Buy First" stocks. These seven stocks are the foundation on which investors can start to build a solid dividend portfolio and grow the purchasing power of their assets. To get started with those seven names, sign up for a 30-day free trial now.

Alex Dumortier, CFA, has no beneficial interest in any of the companies mentioned in this article. Home Depot and Coke are Motley Fool Inside Value recommendations. Johnson & Johnson and Coke are Motley Fool Income Investor picks. Fool has a disclosure policy.


Read/Post Comments (8) | Recommend This Article (34)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 19, 2009, at 6:39 PM, Stocklovr wrote:

    "Perhaps you think I'm jumping on the bandwagon at a time when gold..."

    Reminds me of a time when "investors" thought that the price/value of a house will always appreciate. Hmmm... everyone is flocking to gold as the next investment that will increase forever... perhaps, but I prefer investments backed by products and services sold over and over - especially ones that pay a dividend.

    - Slvr

  • Report this Comment On November 19, 2009, at 7:15 PM, xetn wrote:

    There is a basic error in your analysis regarding gold. Gold is not really an investment; it is real money, and as such, is subject to the laws of supply and demand. Just like every other economic good. This also holds true for fiat money like the US dollar (and every other currency) and its value (purchasing power) fluctuates based on its supply and demand.

    Since the supply of dollars (mostly as a result of the Fed's actions) has been massively increased in the the last 1.5 years, to the extent that it has lost over 95% of its value since 1913, the year the Fed was created. It has lost over 60% of its value since 1990.

  • Report this Comment On November 19, 2009, at 10:05 PM, 1sweet1 wrote:

    Sorry, I don't understand your Debt/Equity percentages. I'm accustomed to reading ratios. e.g. AT&T-debt is 73% of equity? That can't be right. msirkin@mindspring.com

  • Report this Comment On November 19, 2009, at 10:36 PM, Stocklovr wrote:

    I did not say that gold was an investment, nor was what I said an analysis. I said that the current buying craze reminds me of the housing bubble when nobody thought home prices could go down - for whatever reasons.

    I like the Gordon Liddy commercial where he said that he bought 10 years ago and is glad he did... yep, 10 years ago might well have been the time to buy it. Still, with spending gone wild in Washington, if inflation is on the horizon, gold might have a long way to go.

    That said, I think gold is currently being purchased, not for use as real money but as an investment.

    I'll just defer to someone who called the last bubble and understands this environment much better than I.

    Doug Kass, hedge fund manager and columnist (from "The Quant Bubble" on TheStreet.com):

    "A bubble has already likely formed in the fixed-income market, gold and in non-dollar assets, and many appear to be anticipating that stocks will continue to benefit from the loose Fed. The lesson learned from the last few years, however, is that a bubble in one class can impact valuations of other asset classes, even if those classes have not gained bubble status. For example, in 2007-2008, a bubble in credit and in home prices hurt stock prices, even though equities weren't bubbly or wildly priced. Similarly, today, a bubble forming in bonds, gold and in non-dollar assets could affect stock prices adversely. ..."

    Of course, opinions vary.

    Slvr

  • Report this Comment On November 19, 2009, at 10:53 PM, PsycheDaddy wrote:

    I bought gold. My supplier requires testing at trade. Does this mean that if it got that bad. Are we going to need home test kits or certified testers. That was a new problem I thought of. How could use it besides trading for currencies after a total collapse of currencies?

  • Report this Comment On November 20, 2009, at 3:40 AM, thisislabor wrote:

    I'm sorry gold is not a currency I dont care what the monetary board says.

    I can't go down to the grocery store and buy a loaf of bread with my paper share of ownership of a piece of gold in some vault in western europe. nope they wont accept it. sorry. not buying that currency theory. don't care how many times you sell it to me.

  • Report this Comment On November 20, 2009, at 7:38 AM, henryking54 wrote:

    <<nor does it even provide its owner with an economic interest in a stream of profits. The only return one can expect is a capital gain at the time of resale.>>

    This statement by the author makes no sense. Gold is no different from a non-dividend paying stock. Company A sells widgets in exchange for cash. The holder of gold sells gold bars in exchange for cash. Both are modeled in the same way.

    The author also entitles the article "the only asset worth owning" (referring to gold) and then contradicts himself later on by saying that both gold and dividend stocks are worth owning. What gobbledygook!

    I hate articles that make false, contrived distinctions in a desperate attempt to sell newsletters!

  • Report this Comment On November 22, 2009, at 10:47 AM, Othello4U wrote:

    Stocklvr, how can gold be in a bubble if it is below its inflation adjusted price, $2,500? Please answer this question.

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