Howard Marks: There is Nothing Intelligent to be Said About Gold

I found this quote by Howard Marks rather appropriate given the fact that gold is getting hammered in recent weeks and it’s only fair that I pile on.  In a February 2nd interview Marks said:

“There is nothing intelligent to be said about gold. Nobody can tell you the right price for an ounce of gold. People will tell you it should go up or go down. To make any intelligent statements about investments you have to know what the right price is. You can’t do that with an asset like gold, which doesn’t produce any cash flow. So you can buy it out of superstition or ignore it because you are an atheist but you cannot buy it with an analytical foundation.”

Gold is a hedge.  Insurance.  Not a core piece of a portfolio and certainly not something you should construct your monetary life around.  I am probably less pessimistic about the role of gold in a portfolio than Marks is, but I do think this is a crucial understanding.  Assets without cash flows cannot be the centerpiece of a portfolio not only because they are difficult to value, but because they cannot be relied upon to protect one’s portfolio against the risk of permanent loss.

At the end of the day, the primary goal of a savings portfolio is allocating that savings in a manner that protects against the risk of permanent loss and the loss of purchasing power in a manner that is consistent with generating reasonable risk adjusted returns.  See here for more on “the myth of investing” and proper portfolio construction.


Got a comment or question about this post? Feel free to use the Ask Cullen section, leave a comment in the forum or send me a message on Twitter.

Cullen Roche

Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services.

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  1. I think lots of bottoms up guys spend so much time trying to find a discrepancy between price and value that they ignore macro based diversification. Gold has plenty of drivers that can explain its returns, most notably real interests for the world’s reserve currency.

  2. In theory Mr. Roche is right here but 1) the insurance premium to pay is particularly difficult or impossibile to evaluete in this case; there are no statistics that can help like when buying/selling a car or life insurance 2) I’ve spent a respectable part of my life in evalueting cash flows and I can assure you that there is nothing more uncertain than that, expecially now and for big firms. Their balance sheets are overly complex and full of tricks (a nice name for “frauds”). So cash flow of what ? The only one cash flow you can predict is from treasuries. This is a link to one of the many stories (and certainly not the bigger one) that shows my point:

  3. first, ditto to what alberto said on the predictability of cash flows.

    now, regarding Howard’s comment:

    “you cannot buy it with an analytical foundation”

    i would beg to differ.

    a) if you view gold as a monetary alternative and b) you believe in economic concepts like scarcity, and supply and demand, then you can certainly apply an analytical framework to buying gold.

    as the supply of paper money and credit increases its price falls vis-a-vis other real assets which it can be used to acquire, such as gold, real estate, etc.

    and this increase in supply can be measured quantitatively, meaning it is possible to use an analytical framework.

  4. How about this–

    Whatever role analyzing inflation plays in fundamental analysis of cash flow based investments– how that impacts one’s investing in stocks and bonds, what kind you want, how much of each, etc.

    Gold, is just another way to express a view on inflation by which I mean expansion of the money supply as much as I mean price inflation.

    Lastly, gold is just a substitute for currency or cash. Can something intelligently be said about the role of cash in a portfolio? I am certain Mr. Marks, like Mr. Buffett have said several intelligent things about the role of non-cash flowing assets in a portfolio– which makes their aversion to gold all the more curious.

  5. I like the analogy that it is like owning homeowners insurance in Florida even if you have paid off your mortgage. Sending an insurance company thousands in premiums every year seems like wasted money as catastrophic hurricanes rarely ever hit. However, if a category 5 barrels right into my front door I will be glad I paid up all those years to protect my most valuable asset. Gold is same type of insurance but against our currency.

  6. So you can buy it out of superstition or ignore it because you are an atheist but you cannot buy it with an analytical foundation.”

    This is completely false. It is true you cannot build a DCF model to calculate an “intrinsic value” of gold, but there are plenty of analytical models for the price of gold. I’m too lazy to dig up the links but both Eddie Elfenbein and David Merkel have built models of gold prices based on real interest rates with tight fits. The models make sense theoretically and fit the empirical data. Hussman on his site has a fundamental model of gold prices based on some macro variables. Over on the Big Picture, Ritholtz posts a lot of stuff from I think Paul Brodksky??? who has models of gold prices based on total base money. So there are plenty of various analytical models out there. We can debate which ones are robust or valid, but it is mistake to say no fundamental analyis can take place.

  7. Why don’t you run a fund any more? I know you probably like the current consulting arrangement at Orcam, but you’d be a lot more use to the world if you actually gave people access to your management skills as opposed to trying to teach everyone to do it on their own. To be honest with you, I can’t conceptualize all of this stuff the same way you can. Just a thought going forward.

  8. Ideally, I’d like to be able to teach people to do it on their own. So you answered the question right there. Unfortunately, it’s hard to get people to want to take responsibility and control over their savings. That’s why most people outsource it. They don’t want to be responsible for making tough decisions about it and they don’t want to be overwhelmed by the stress that comes with having to manage it. I think more people need to overcome that fear. That’s largely what Orcam is all about…

  9. I read today that 29% of the US public have never even heard of “sequestration” and 40% think it sounds like a good idea (I don’t know what the overlap between these two groups is, if any).

    It would be nice if people learned about the system and took responsibility, but I think you might be fighting “Honey Boo Boo” here.

    Personally, I’d like to see the old standard Monopoly board game updated with some useful factual information to teach kids how the system actually works. I didn’t start learning any of this till my Mid-40s, which is a real shame. This should AT LEAST be part of civics classes in high school… but at least when I was there, if the Fed was mentioned (which I doubt), it was only in the briefest sentence or two.

  10. I did read “Bogel on Mutual Funds” in my mid-20s… so I guess I wasn’t totally clueless… however, I would have been really hard pressed to say what was meant by, or what the implications were of a news flash saying “Today the Fed announced another round of Treasury purchases.” … I don’t think I would have been able to explain that to anybody up till a couple of years ago.

  11. “… gold is most definitely a form of money”

    And don’t discount the cheap thrills of throwing coins into the air and letting them rain down, in Scrooge McDuck mode. -g-

  12. You need to pay attention to how gold acts within a portfolio. Turns out it has a rather high sensitivity and correlation to unexpected bouts of inflation, better than stocks and T-Bills, and its risk adjusted return is quite high. Like most alternative assets, its not a cornerstone but very useful as a 10-15% allocation.

    Also, with respect to valuing assets on DCF – your valuation may turn out to be terribly wrong if your discount rate was inappropriate, so why place any confidence on being able to value anything at all?

  13. I think it can go without saying at this point either you believe in gold as an investment or you don’t. There’s great investors on both sides of the argument and we could spend weeks/days debating the relative merits and value (no pun intended) of gold as an investment.

  14. But if you go back a few hundred years, it’s return is terrible isn’t it? Risk adjusted or not… it seems like in the long term you just end up having to pay to store it somewhere and keep it from being stolen… I don’t see how in the VERY long term gold can be anything but a drain on resources. I’m not saying it doesn’t make sense in some circumstances to own it… it’s just that its fundamental value as a money making investment is really zilch. Below zilch actually.

  15. With the wide under-performance of the major gold miners versus the underlying metal, the case for investing in the equity of producers, with their cash-flow and analyzable business models appears a more prudent way of getting exposed to gold. I don’t see how this is much different from investing in much of the basic materials universe – oil, copper, agriculture, etc. The primary difference being a concentration on precious metals versus other commodities. I don’t ever hear the same rumblings about how best to value a Rio Tinto or Exxon Mobile, when in reality Oil and Iron/Copper share the same non-yielding characteristics of gold (admittedly, the demand characteristics are somewhat different)

  16. “Gold is money. Everything else is credit.” -J.P. Morgan, testifying to Congress in 1912.

  17. Well, yeah basically Ill agree with you on that point. However, the rules of the game have changed most recently and in this environment I think it can play an important role in a portfolio. I would never want to commit to hold any asset forever.

  18. By the way, I’m agreeing with Tom not Iluvatar. I have no idea what Iluvatar’s rant was about.

  19. I think you can value gold using an DCF model – Terminal Value / (r+1) ^n. Where gold turns out to be useful is when the “r” goes higher than expected due to inflation. In this case the terminal value will automatically adjust to make you PV constant. Not so with all other “producing” assets. Look, lets just stay diversified and stop bashing gold.

  20. By saying gold cant be truly valued arent you saying the same for others assets like art, collectable cars, stamp collections, baseball card collections?the fact is, gold has value, why should it be any different than anything else. Some love it and buy it at a price that seems fair and others buy other things they love to look at, play with, or think will protect them in certain environments. Having buffets view is worthless because gold will hold value long after we are all dead so idvrather own the miners of things that will always ave value, at least i get a dividend as well as exposure to the asset i deem valuable

  21. The problem with the gold miners is that pre-GLD they used to be valued based on their gold production and reserves. Not cashflow, or earnings or dividend yield, etc. Now gold bugs have a better alternative and these gold miners have to completely revamp their businesses and capital allocation policies to interest investors again…

  22. for those interested in safety and security of gold at the cheapest price:

  23. This reminds me of an article by Tim Harford from last year:

    “Because the value of gold is almost entirely tied to future investors’ willingness to buy it, strictly speaking, gold has been in an investment bubble for the past 3,000 or 4,000 years. But there’s the rub: if the bubble has lasted as long as civilisation itself, “bubble” is hardly a derogatory term.”

  24. …and it’s dense, and doesn’t corrode, and it’s malleable: you can easily flatten it out into a VERY thin sheet (a few — perhaps just one! — molecules thick: which is translucent and looks green when you shine a white light through it, BTW).

  25. Gold is for Black Swan events — the unknown unknowns. A out-out-out of the money call option (with infinite time expiration). It is also the cheapest call option.

    Anything more than 2% Gold in your portfolio is stupidity.

  26. Just to add, just like you don’t construct your portfolio with 100% Out of the Money Call options, you don’t do with Gold.

    I’m also pro lottery ticket, say <$10 / week. A black swan event with an incredible reward / risk ratio

  27. Bingo, it is slightly better than insurance because it doesn’t expire. i.e this insurance doesn’t decay like others and may even go higher in value (but that’s just a bonus, shouldn’t rely on that)

  28. Finding the winning lottery ticket lying on the ground is only slightly less probable than buying winning ticket, and it’s free!

  29. In the same article, Mr. Marks answers the following question:

    “The S&P is at a five-year high. Will that have no trickle-down effect?

    The five-year high is like a statistical trick. That means it is not as high as it was six years ago and not as high as it was 12 years ago. So if people have had money in the stock market for 12 years they haven’t made any money. They lost a lot and they got most of it back. That doesn’t make you feel rich. If you had $100 million in the stock market 12 years ago and today it’s worth $95 million, I don’t think you would feel that rich. You might tend to say, “I haven’t made any money in 12 years so I can’t spend that freely.”

    What in the world is he talking about? How can you put any stock in the opinion of a guy who doesn’t understand that the S&P 500 is higher than it was in 2000 and that reinvested divs over that time have added to gains (granted small gains…but gains nonetheless)??