"The Oracle" comes down from on high this month to deliver his annual wisdom to the shareholders of Berksrhire Hathaway, and naturally people want to know: Where does Warren Buffett put his money? Buffett gave a sneak peak of his annual shareholders letter to Fortune, and the advice — once you cut through the econo-speak — is pretty simple: Invest in things that make other things.
Buffett begins by explaining that the goal of his company isn't to make money. It's to make more money then you will have to pay out in taxes and inflation, so that you can buy more things later than you can with the same money right now. He argues that many of the "safest" investments actually contain the biggest "risk," because while some investments are very stable over time, when all is said and done, you're going to end up with less purchasing power than when you started.
He then goes on to break down investments into three broad categories:
Currency-based Assets: These are bonds, Treasury bills, money-market funds, mortages, savings. These are often held up as the most stable of investment strategies, because they don't fluctuate wildly the way stock markets can. And their returns (5.7 percent annually on U.S. Treasury bills) look impressive. But because the value of the dollar has fallen 86 percent since 1965 (cue Federal Reserve haters), even someone who doesn't pay any taxes would have lost purchasing power investing in them. Buffett still owns them, for liquidity's sake, but he doesn't expect to make much if any profit off them.
“In God We Trust” may be imprinted on our currency, but the hand that activates our government’s printing press has been all too human.
Gold: This is the main crutch of the category he calls "assets that will never produce anything." Because gold doesn't multiply and there's very little you can make with it, the only way to make money investing in it is if someone else comes along who thinks it's more valuable than you did. These days that isn't so hard, but most gold buying is done out of fear that other assets are going to let you down. That's hardly a sound foundation for your money.
Buffett imagines a giant cube made of all the gold in the world — it would be 68 square feet and would fit inside a baseball diamond. It would also be worth $9.6 trillion. Now imagine what else you could buy with $9.6 trillion: All the cropland in the entire United States, plus 16 ExxonMobils. So you can feed and heat the world for the next 100 years ... or you can have a cube.
You can fondle the cube, but it will not respond.
Productive Assets: This means businesses, farms, and real estate. Buying stock in companies that make things means you will always be able to make more things. And that's good, because other people will always be willing to buy them. Buffett calls these companies "commercial cows" whose value is determined "not by the medium of exchange, but rather by their capacity to deliver milk." Folks may not need a giant cube of gold, but they will always want to drink Coke.
Naturally, Buffett argues for the third class as the most attractive and the "safest" assets to be invested in. It may be more volatile over time, and it's not always easy picking the businesses that people will most want to buy from, but investing in those "stable" categories is just chasing after the wind. Once you break it down, Buffett's advice may seem like common sense to a lot of people, but then common sense never had much to do with investing.
You can read the whole letter at Fortune.com, but the complete and official shareholders letter for Berkshire Hathaway won't come out until February 24.