Warren Buffett’s View on Inflation

I read a lot on a daily basis. Nothing gets me more excited than to see a new editorial by great investors such as Bill Gross of PIMCO and Warren Buffett of Berkshire Hathaway. I've learn a great deal from these investors on many subjects but nothing confuse me more than the subject of deflation and inflation. We are hearing these terms on a regular basis because of the recent turn of events in our economy. Misunderstand the two and how to invest during such time can be costly.

I turned to one of the greatest investor of our time, Warren Buffett, for advice on how to invest during inflationary period. What I found confused me rather than enlightened me. Back in 1977, Buffett wrote an article titled "How Inflation Swindles the Equity Investor" (Fortune, May, 1977) which implicitly suggest that investors stay away from stock (equity) during inflationary time. The quote below was taken from the context of that article.

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.

He stated that the problem is that the return on capital hasn't risen with inflation and seems to be stuck at 12 percents. He wasn't too excited about stock during inflation. Fast forward to our current bear market. On October 16, 2008, Buffett wrote an op-ed piece in NY Times titled "Buy American. I Am." The except below was taken from the context of that article.

Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value. Indeed, the policies that government will follow in its efforts to alleviate the current crisis will probably prove inflationary and therefore accelerate declines in the real value of cash accounts.

Equities will almost certainly outperform cash over the next decade, probably by a substantial degree. Those investors who cling now to cash are betting they can efficiently time their move away from it later.

Interesting! It appears that Buffett now favors stocks as a hedge against inflation.

My personal view is that any tangible assets, whether it be gold, silver, corn, sugar, or beans, will do just fine during inflation. Equity holder also is protected by having exposure to the underlying assets that company hold. You can find this under the balance sheet in current assets or inventory.

I had an investment in Heinz not long ago and wrote that "We were told to have gold in our portfolio for inflation hedge. The good news is that can of beans will do just that." Things were probably different in 1977 or maybe I misinterpret his article, but any investors who took his advice without educating himself may have missed the greatest bull run from 1982 to 2000. Please see the chart below. Related article.