Inflation Wisdom From the Old-Timers

DRIGGS, IDAHO – Here’s a piece of important investment wisdom that’s been long forgotten…

“The stock market will never soar if it fears inflation.”

(More below.)

Winter Is Back

Greetings from our cabin in the mountains…

Winter came back. We got six inches of snow last night. This is the field behind our cabin this morning…

When the storms come, we hunker down in our cozy cabin and play board games, do puzzles, watch Heartland (we’re on the ninth season), and read books.

Last night, we started a new jigsaw puzzle…

Anxiety-Ridden Dreams

It’s lucky we all get along so well. We’ve been marooned together in this little apartment for five months straight.

Our time in Driggs is coming to an end, though, and Kate and I are stressing about our upcoming trip to London. We’re not sleeping well, and we’re both having anxiety-ridden dreams.

First, it’s going to be a lot of work to get ourselves there, with lots of potential for screw-ups.

Second, in London, we have to sell my dear mother’s house and all her things… scatter her ashes in the ocean (as she requested in her will)… say goodbye to Tessa (her orphaned black Labrador)… and then fly away for the last time.

Where will we go? Wherever the wind blows us, I suppose…

Gambled Our Life Savings on a Simple Bet

Kate and I have gambled our life savings on a decline in the Dow-to-Gold ratio. It’s a simple bet that gold will beat the Dow over the next 10 years or so.

Since we placed this bet near the end of 2018, gold has gone up 46% while the Dow has gone up 20%… so we’re winning.

But what’s going to keep us winning? That’s what I love about this bet: We can win with both inflation and deflation.

Deflation is the worst thing that could happen to stocks. It will crush the Dow Jones. Meanwhile, gold is a safe haven and no one else’s liability. In deflation, it’s clear gold easily wins in the gold-versus-Dow trade.

For examples of the damage deflation does to stock prices, just look at the Great Recession of 2007-2009, or the coronavirus crash of early 2020.

From October 2007 to March 2009, the Dow lost 52%. And from the peak in February 2020 to the bottom on March 2020, it plunged 38%.

Gold, on the other hand, gained nearly 25% from October 2007 to March 2009. And it stayed practically flat (up 0.3%) from February to March 2020.

That said, I don’t think the feds will allow deflation, so I don’t anticipate it being the main driver of our bet. Inflation is a little more complicated and much more likely…

Inflation Wisdom From the Old-Timers

While I’ve never experienced inflation personally (I started investing in 1987), I’m pretty sure inflation won’t be good for the Dow.

But I’ll defer to the old-timers for confirmation…

“Years ago,” my friend Chris Weber writes in his latest newsletter, “an older investor told me ‘if I’ve learned anything at all it is that the stock market will never soar if it fears inflation.’”

Or as superinvestor Warren Buffett (now 90 years old) explained in a 1977 edition of Fortune magazine:

It is no longer a secret that stocks, like bonds, do poorly in an inflationary environment. We have been in such an environment for most of the past decade, and it has indeed been a time of troubles for stocks. But the reasons for the stock market’s problems in this period are still imperfectly understood.

There is no mystery at all about the problems of bondholders in an era of inflation. When the value of the dollar deteriorates month after month, a security with income and principal payments denominated in those dollars isn’t going to be a big winner. You hardly need a Ph.D. in economics to figure that one out.

It was long assumed that stocks were something else. For many years, the conventional wisdom insisted that stocks were a hedge against inflation. The proposition was rooted in the fact that stocks are not claims against dollars, as bonds are, but represent ownership of companies with productive facilities. These, investors believed, would retain their value in real terms, let the politicians print money as they might.

But those investors were wrong. With inflation, Buffett writes…

…disappointing results will occur not because the market falls, but in spite of the fact that the market rises. At around 920 early last month, the Dow was up fifty-five points from where it was ten years ago. But adjusted for inflation, the Dow is down almost 345 points – from 865 to 520. And about half of the earnings of the Dow had to be withheld from their owners and reinvested in order to achieve even that result.

Meanwhile, gold loves inflation. For example, gold skyrocketed during record inflation in the ’70s and ’80s. From 1969 to 1980, gold went from $42 to $678 an ounce – a 1,529% gain.

Today, with the federal government and the economy at large so heavily indebted, there’s no way central banks can raise short-term interest rates.

That doesn’t guarantee inflation. But it does guarantee that the Federal Reserve won’t be able to stop inflation once it starts…

Bottom line: Heads we win, tails we win. Short of some economic miracle, it seems inevitable that gold should beat the Dow over the next 10 years.

Either that, or my family and I will be living down by the train tracks in a pop-up camper…

– Tom Dyson

Like what you’re reading? Send your thoughts to [email protected].

One reader says Tom’s copper theory might be better served with nickels than pennies… while others share their own experiences regarding children and saying goodbye to parents…

Reader comment: Pre-1983 pennies offer a great melt value premium over nominal price but are hard to find these days. You might want to look at current nickels. Their copper and nickel content currently offers a small melt value premium over nominal price, but they are easy to acquire at any bank (I have 10,000 of them) and may appreciate significantly with an explosion in battery sales.

Reader comment: I had funeral accounts set up at the local bank to pay for my folks’ eventual funeral expenses. Years before their deaths, I set up the accounts, one for mom and one for dad, with about $8,000 in each. At the time I did that, I think the bank was paying an amazing 4% interest.

When my folks eventually passed, there was more than enough money there in the accounts to pay for all the funeral expenses. With everything that’s going on when a family member passes, I was glad I had done that.

I should mention that I was an only child, so I didn’t have to worry about satisfying a sibling. You might want to do some planning to help keep your three kids happy and not feel they’re being cheated out of something when you pass. I have seen some ugly family feuds develop after the parents pass on. Take care and good luck with the work ahead in the UK.

Reader comment: My wife and I never thought about influencing our children’s futures once they left home. We prepared them with a strong moral compass and a good education, and showered them with love. We have seven children that are now middle-aged.

Low and behold, at one time, all seven families chose to move to be near us. Two families had to move away for employment purposes during the 2008 recession. That left us with five families. We account for 17 grandchildren and, so far, 1 great grandchild.

As far as we are concerned, the close proximity of our families is priceless. The bonding that you are establishing with your children will pay dividends. Allow them freedom and see where the chips fall.

Tom’s note: As always, thank you for writing in. Please keep your comments and questions coming to [email protected]. I’ll do my best to answer them in a future Friday mailbag edition.