The great gold debate has been going on now for some time. Ever since the country altered (and eventually abandoned) the gold standard back in 1933. And the question is: “Is it an investment or not?”

In my mind, the two main voices in this debate are Richard Russell of “The Dow Theory Letters” fame and Warren Buffett, one of the richest men in the world. Russell has been a proponent of gold for many years and Buffett has argued against its ownership as an investment.

Russell argues:

Gold is the only item that elicits both greed and fear. The greed factor is so well known that I don’t have to explain it here. But the fear factor only arises when men (and women) see the “value” of their money disappearing. Nothing concentrates the mind as dramatically as seeing the purchasing power of one’s hard-earned income and savings being ruthlessly destroyed.

As I write, Ben Bernanke’s Federal Reserve is systematically shaving off the purchasing power of the dollar in the same way that you can peel the layers off an onion. The US has been in the process of constructing the greatest credit bubble in history. The world has never seen anything like it.

This enormous bubble is now being attacked by the worldwide forces of deflation. Fed Chairman Bernanke is terrified by the mere thought of deflation. Bernanke will not stand for deflation. He has said as much. And he will attack deflation and crumbling asset prices with all the inflationary power at his command.

As the ocean of new dollars pours out of the computers of the Federal Reserve, the purchasing power of the dollar erodes. It erodes slowly at first, but as the river of dollars turn into an ocean, slowly-rising inflation segues into a monster. Finally, the crowd recognizes what is happening to their money.

The loaf of bread that cost a dollar last year suddenly costs four dollars. The cup of coffee that cost a dollar last week goes on special today for two fifty. The college tuition that cost four thousand dollars now costs sixteen thousand and there’s the extra for a dorm. You’re suddenly paralyzed. A light bulb in your head starts to glow. And just as suddenly, the mad, frantic rush for gold is on.

And Buffett responds:

You could take all the gold that’s ever been mined, and it would fill a cube 67 feet in each direction. For what that’s worth at current gold prices, you could buy all — not some — all of the farmland in the United States. Plus, you could buy 10 Exxon Mobils, plus have $1 trillion of walking-around money. Or you could have a big cube of metal. Which would you take? Which is going to produce more value?

When we took over Berkshire, it was selling at $15 a share and gold was selling at $20 an ounce. Gold is now $1600 and Berkshire is $120,000. Or you can take a broader example. If you buy an ounce of gold today and you hold it at hundred years, you can go to it every day and you could coo to it and fondle it and a hundred years from now, you’ll have one ounce of gold and it won’t have done anything for you in between. You buy 100 acres of farm land and it will produce for you every year. You can buy more farmland, and all kinds of things, and you still have 100 acres of farmland at the end of 100 years. You could you buy the Dow Jones Industrial Average for 66 at the start of 1900. Gold was then $20. At the end of the century, it was 11,400, and you would also have gotten dividends for a hundred years. So a decent productive asset will kill an unproductive asset.

“Why do you think gold bugs get so irate? Because they really do come out. If you go on CNBC and say that bonds are kind of a poor investment, people don’t get mad at you. You don’t hear from the Treasury. You can knock almost any investment and nothing happens. But when you talk about gold it’s different. Of course that says something about their motivation for ownership. They want people to agree with them. They want everybody to get so scared they run to a cave with gold. Caves might be a better investment than gold. At least they’re not producing more caves all the time. So they want people to be as afraid as they are. Incidentally, they’re right to be afraid of paper money. Their basic premise that paper money around the world is going to be worth less and less over time is absolutely correct. They have the correct basic premise. They should run from paper money. But where they run to is the mistake.

I think it’s important to note that they are not really arguing against one another. If this were an actual debate presidential-style with both guys on stage together I’m pretty sure they would find a lot of common ground. Russell argues that gold is better to own than any fiat currency. It can’t be manipulated or devalued the way dollars, euro or yen are.

Buffett concedes this point but makes the further point that if you’re going to put your money into something besides dollars why not put it into something productive? Gold does not produce any value nor is it capable of doing so. There are plenty of other, more attractive opportunities to put your money to work.

By definition an investment “promises safety of principal and adequate return.” There is no evidence that gold is capable of promising either “safety of principal” or “adequate return” so we can’t call it an “investment.” And I think Russell would concede this point.

Ultimately, they have different goals. Russell wants to hedge his exposure to dollars and inflation. He finds gold to be better to own than any alternative currency. Buffett wants to put his capital to its most productive use therefore he favors stocks over all other asset classes. I think most people can see both sides of this trade and there’s probably room for both in their portfolios. How they do this all depends on how strongly they feel about each argument.

Chart of the Day

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Gold is desperately trying to hold onto this uptrend line. The markets are tricky, though. You can see it has broken below it along with both moving averages. Sometimes markets like to throw a little head fake like this. They break below a support line or trend line let all the “weak hands” sell and then quickly rebound back above it. This can setup some of the best opportunities to trade opposite the crowd and this may be what is going on in gold right now. We shall see.

Hit the Links

  • Do You Still Own The Biggest Ripoff In America? (Jesse’s Blog)
  • A Word About Portfolio Rebalancing. Good stuff from (The Big Picture)
  • When Felix Zulauf Speaks I Listen (FusionIQ)
  • A Bold Dissenter at the Fed, Hoping His Doubts Are Wrong (NY Times)
  • Another Slap on the Wrist For Big Banks (NY Times)
  • A Financial Service for People Fed Up With Banks (NY Times)
  • 22 Bills Being Considered By Congress That Will Blow Your Mind (BuzzFeed)