When Warren Buffett was on CNBC last year, he mentioned that although he had his "elephant gun loaded", he was unable to close a $20 billion deal because it would have taken Berkshire Hathaway's (NYSE:BRK.B) cash reserves below a level that he desired to maintain at the time. I mention all of this for one reason: it illustrates the point that we are all working with a fixed amount of investment dollars, no matter what level in the wealth creation process we reach. In other words, every investment that we choose to make comes with the opportunity cost of not doing something else. That seems straightforward enough.
Today, let us take a look at two options facing an investor with $15,000 to invest over a ten-year horizon.
One option he considers is the purchase of Coca-Cola (NYSE:KO) stock. Coca-Cola might be the biggest no-brainer stock that one can own. You can look at a chart of the company's ten-year past, and see relentless growth of roughly 9%. Most impressively, the earnings march upward has been remarkably linear. Other than a small hiccup from 2008 to 2009 when Coca-Cola's earnings modestly declined from $1.51 to $1.47 per share, you could definitively say on January 1st of each year, "Coca-Cola is making me more money this year than last year."
Not only has Coca-Cola been making more money essentially every year, but it has definitively been returning more and more money to shareholders each year. Coca-Cola has been giving investors 10% raises for the past ten years, and there were no bumps in the road: the dividend increase came every year. Heck, investors can even pinpoint February as the month that the Coca-Cola Board of Directors grant shareholders with an income raise. On average over the past decade, Coca-Cola has managed to give their investors a dividend increase that outstrips inflation by 7% in real purchasing power terms. In order to benefit from this, you only have to do two things: (1) stay alive, and (2) not sell your shares.
Remarkably, the projections for Coca-Cola's business over the coming years appear quite similar to Coca-Cola's performance over the past decade: expected earnings growth and dividend growth in the range of 8-10% annually. As long as Coca-Cola can hold volume shipments steady and continue to ward off competition from Dr. Pepper (NYSE:DPS) and PepsiCo (NYSE:PEP) while continuing to earn 25-30% returns on shareholder equity, the soft drink giant appears reasonably likely to replicate its 2003-2013 success from 2013-2023.
Considering that Coca-Cola has a spot on the very short list of companies that deliver such predictable growth, our investor decides to log on to his computershare.com account and buys $15,000 worth of Coca-Cola stock at the prevailing market prices. This should net our investor 360 shares if purchased at $41.67. Deciding that he wants to treat this investment like the ownership stake that it is, he orders a physical receipt of the stock certificate (pictured below) and places it in a safety deposit box for safekeeping.
Let us see what happens to this investor over the course of the next ten years, taking us from 2013 to 2023 (assuming that earnings and dividends continue to grow at 9%).
Right off the bat, our investor's ownership stake in Coca-Cola will entitle him to receive $403 in annualized dividends as his share of the soft drink giant's current profits.
In 2014, he will receive $440 in dividends.
In 2015, he will receive $482 in dividends.
In 2016, he will receive $527 in dividends.
In 2017, he will receive $576 in dividends.
In 2018, he will receive $630 in dividends.
In 2019, he will receive $690 in dividends.
In 2020, he will receive $755 in dividends.
In 2021, he will receive $826 in dividends.
In 2022, he will receive $903 in dividends.
And in 2023, he will receive $987 in dividends.
When 2023 comes around, our investor takes his 360 Coca-Cola shares out of his safety deposit box, and checks to see what his investment has become over time. In 2013, those 360 shares represented $684 in earnings that paid out $403 in dividends. Come 2023, those same shares now represent $1,676 in annual earnings that are spitting out $987 in dividends. If Coca-Cola trades at the same valuation in 2023 that it trades at today, those 360 shares will be worth $37,223. Oh, and our investor would have collected $7,219 in cash dividends along the way to support his lifestyle or make other investments. In short, our investor would have turned a $15,000 investment today into $44,442 in 2023. That's what an excellent productive business can do for you.
Now, of course, our investor has other choices here in 2013 about what he could do with his investments. He could, for example, buy $15,000 worth of gold. If you go to a mainstream dealer like www.apmex.com and click on the selection of gold bars, you will see that you can buy a 10 oz. Credit Suisse gold bar for $15,046. How can anybody resist something that looks like this? We're about to find out.
Once the chunk of metal arrives in your mailbox, you decide to carry it off to your safety deposit box where it will remain for the ten-year duration of your investment.
In 2013, did you receive any dividends, rent, or interest from your gold investment? Heck no.
2015? Still nothing.
2016? Come on, you know the answer.
2017? Yeah, that gold is still not doing anything.
2018? No income generated.
2019? Nope, no gold profits coming your way.
2020? Maybe the dividend check got lost in the mail…
2022? Dang, I really thought this would be the year…
When 2023 comes around, our investor is anxious to check his safety deposit box. While the Coca-Cola investor kept receiving checks in the mail that went up each year, our gold investor received nothing to accompany the passage of time. Hopefully that gold grew into something really big! When our investor checks his safety deposit box in 2023, he sees that exact same gold bar that he put in there ten years earlier. Nothing happened! What gives?
Suddenly, our gold investor is hit by the implications of the often bandied-about term "non-productive asset." When there is no business growth, no profit, no dividends, no interest, and no rent, your only hope is that someone is willing to pay more money for that chunk of metal than you paid in 2013. The piece of gold cannot do anything. Your only hope is that you find something willing to pay more for that piece of metal than you did.
When people discuss gold as a potential investment, they often cite the American deficit or the policies of the Fed that will stimulate long-term inflation. While gold has traditionally done well as a store of value, it is speculative to hope that gold will increase at a rate greater than inflation. After all, gold has no fundamentals; the only hope is that you sell during a time of (1) particularly high inflation, or (2) extreme pessimism, as these are usually the two catalysts that prompt investors to pay more for gold.
But I hope investors train themselves not to compare gold to the long-term performance of cash, but rather, the long-term performance of excellent businesses. If Coca-Cola keeps doing what it has always been doing, investors will be receiving dividend increases of 8-10%. If we have 3-4% annual inflation, that means that an excellent business such as Coca-Cola will give you annual raises that beat inflation by 4-7% each year. If you are considering making an investment in gold, you should at least ask yourself: Why would you expect other folks to be willing to pay 4-7% more than the inflation rate over the long-term to own your bar of metal? If you do not find that prospect likely, you may want to consider owning excellent businesses like Coca-Cola for the long-term instead.
Disclosure: I am long DPS. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.