No Silver Bullet for This Market

01/02/2012 8:05 am EST

Focus: MARKETS

Richard Young

Editor, Young's Intelligence Report

We've been wading through some fast-moving black water for some time now, and there's not much on the horizon that's signaling we can relax any time soon, writes Richard Young of Intelligence Report.

During the research for this issue's initial silver feature, I came across the story of the silver bullet and The Lone Ranger. You may remember, as I so fondly do, The Lone Ranger's silver mine connection.

As the story went, the Lone Ranger and his brother (later killed by Butch Cavendish) owned a silver mine. Former Texas Ranger Jim Blaine ran the mine from which Blaine made the famous silver bullets. Jim and Tonto were the only ones who knew the Ranger's true identity. What great fun it's been for me remembering those radio days while I was developing a lead to what is fast becoming a most interesting story on silver.

I have followed the silver market since the Hunt brothers piled up a 100-million-ounce horde in an attempt to corner the market back in the early 1970s. Along the same line, you may remember Warren Buffett's 130-million-ounce position in 1997 and 1998.

In 2006, Buffett announced that he was out of silver. I don't know at what price Buffett dumped, but it may well have been below $8 per ounce, or just a tad early in that, as recently as this spring, silver looked ready to explode through the $50 an ounce level, as it almost did in 1980. Since spring, silver has collapsed by about 40%, generating some serious interest from me for the first time in a long while.

Buffett Now Buys Tech
During a CNBC interview in November, Warren Buffett announced that Berkshire made an $11 billion investment in IBM (IBM). Berkshire now owns about 5.5% of IBM.

The IBM purchase is uncharacteristic of Buffett. He has avoided technology companies for decades because it is so difficult to figure out the industry's future. Buffett said he has followed IBM for years, but after another hard look at the company, he came away with a different impression. Among other reasons for purchasing IBM, W.B. pointed to IBM's management, the company's reputation and brand value, and the board's shareholder-friendly focus.

IBM is no doubt a formidable competitor, but could there be more to Buffett's purchase than meets the eye? Is IBM really the best that the stock market has to offer?

At the end of the third quarter, Berkshire had over $150 billion in cash and investments ($35 billion of which was cash). To move the needle at the insurance giant, Buffett has to invest billions. Unless Buffett wants to take a controlling stake in a company, he has to focus on the big fish.

To keep his investment passive, Buffett likely has to look at companies that have a market capitalization of more than $100 billion. In the US, only 22 companies (not counting Berkshire) meet that criteria. Of those 22, Buffett already owns shares in five, and Microsoft is off limits according to Buffett because he is close with cofounder Bill Gates.

That leaves a grand total of 16 stocks for Buffett to choose from. He doesn't exactly have the pick of the litter. I am sure he has conviction in his IBM investment, but one has to wonder if IBM would have been at the top of Buffett's buy list if Berkshire was managing a smaller portfolio.

Reaching for Return
I also found it interesting that Buffett cited Bernanke's 0% interest-rate policy in the CNBC interview as a reason for buying IBM. To wit:

<blockquote>
"…I mean, in the end, you know, you're sitting with money in your pocket. Do you leave it in your pocket, you get zero on it, do you put it in a money market fund, and still get zero on it, do you buy ten-year Treasuries and get 2%, or do you buy American businesses that are earning very good money, that have high returns on equity, have high returns on incremental capital, are buying in their stock at a rapid rate so that your ownership in the business increases significantly?

"I love all those things. Now, you measure one vs. the other. But in the end, you have—you know, you do something. Doing nothing is doing something."
</blockquote>

Is it just me or is Buffett saying that he bought IBM not because stocks offer such a compelling value, but because the alternative to stocks (bonds and cash) is so unpleasant? It would appear as though Bernanke has distorted financial markets to such an extent that even the value-conscious Oracle of Omaha sees no choice but to reach for return in the stock market.

Give Me Cash
So the investment environment today is cloudy and laced with sinkholes and other entrapments. Your mandate is armadillo-like self-protection both on the portfolio front and the personal security front.

I invest a substantial portion of my personal wealth in liquid portfolio assets I can jockey around at a moment's notice. I have, what are for me, huge positions in blue-chip stocks, fixed income, gold, and foreign currencies. I will continue to add to these positions.

I care about asset protection and purchasing power protection—period. If some pleasing capital appreciation comes my way, great, but I do not invest with price appreciation as anything but an afterthought. Give me my interest and dividends and protect my capital and leave me alone. That's my investment creed.

Read Up on Calvin Coolidge
Sound too conservative for you? No doubt it is, but I take a hard line. I stick to my convictions through thick and thin.

I hold the majority of the industrial/military complex, income-redistribution crowd in Washington with maximum disdain, as I do the secular inflationist insiders at the Fed. Since 1913, both crowds have guided the US on an increasingly perilous course with few exceptions (Calvin Coolidge).

Our country's foundation is fast crumbling beneath us. I am not optimistic that Americans will do what is necessary in 2012 to begin righting the ship.

Related Reading:

The Rollercoaster Investing Year that Was
Things Are Looking Up
From Russia with Fear

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