Considering Gold Or Guns? Modern History Shows Gun Manufacturers Beat Gold

Includes: AOBC, GLD, RGR
by: Robert Wagner

I write many articles on many topics, and to differentiate myself from other writers I always try to work in economic and political analysis with my financial analysis. To me, you really can't give a comprehensive analysis of many industries unless you put the analysis within a geo-political framework, especially if you are a long-term investor. When I was a student of economics we always analyzed political policies, but we didn't analyze them in terms of left and right -- we analyzed them in terms of policies that would work and policies that wouldn't work. I'll leave it to the reader to decide which side of the political spectrum the policies that didn't work usually fell.

The most important thing I learned, however, was that there is a method to all the madness, and that political fiscal policy was likely to create identifiable and actionable outcomes that could translate into successful investment ideas. Energy policy is a great example of how politics can directly impact the earnings of energy companies. Ignoring the politics of the energy industry can be disastrous to your portfolio returns. Currently, regulatory instruments called renewable identification numbers, or RINs, are driving the earnings of biofuels companies. That dynamic can change in an instant with the stroke of a pen. Recently, hearings is Washington likely played a role in the sharp decline in RIN prices. Anytime one entity can move the price of a critical component of a valuation model by 30% in a day, it should not be ignored.

Besides energy, however, there are some clearly politically driven investments. The most obvious one I've found is gun sales. It is undeniable that the tremendous surge in gun sales is due to the fear some Americans have of the government, and the current administration scares the living daylights out of the political right in America. This is one topic the financial press doesn't shy away from mixing financial reporting with politics. Recently, Strum Ruger (NYSE:RGR) and Smith and Wesson (SWHC) both reported surges in earnings, and the headlines make it clear that is was all due to politics:

Sturm Ruger Jumps as 'Political Environment' Keeps Demand High

The article had no problem reporting that if you want to understand why gun sales are surging, you have to understand the politics driving them.

Sturm Ruger & Co. shares were on the rise Thursday after the gun maker said demand has remained intense for pistols and rifles, in part because of the threat that stricter legislation could still pose to the firearms industry.

I think it is safe to say that the "in part" in the above quote should be replaced with "largely in part." Gun sales are hitting record levels never seen before in modern history. That isn't a coincidence, exogenous events, mostly political, are driving gun sales.

Following the close of trading Wednesday, the Southport, Conn.-based company reported sales of $179.5 million in the second quarter, a 50% increase from the same period a year ago when revenue totaled $119.6 million. The showing on the top line indicated stout product sales -- Bloomberg data that go back to 1990 turned up no quarters in which sales were higher. Sturm Ruger earned $1.63 a share, up from 91 cents a year prior.

People investing in gun manufacturers simply can not ignore and underestimate the impact politics has on gun sales, it is by far the most significant variable in any valuation model. When President Obama won his first presidential election, a group of my Tea Party buddies and I rushed out to buy AR-15 lower receivers anticipating a shortage to develop. My buddies bought them because they wanted to actually build out the guns, I bought them because they struck me as a solid investment. Back in mid-2009 I bought two lower receivers for $100 each, and today they sell for about $129 -- but have traded much higher at times. I figured that if the decision was down to owning gold or guns, I'd own guns. Gold is up a little over 30% since mid-2009, so I'm about at break even with that decision.

I would have been far better off, however, had I simply bought shares in RGR and SWHC. Shares in those companies have exploded, especially since President Obama won his second term. RGR peaked at a return of 800% since President Obama won his first election, and SWHC is up almost 400%. SWHC has had a particularly sharp increase after President Obama won his second term. This is pretty clear evidence that when the decision comes down to owning gold or guns, investors should own the gun manufacturers.

Click to enlarge images.

Only for a short period of time did SPDR Gold Trust (NYSEARCA:GLD) (green line) outperform RGR (blue line) since President Obama won his first election in late 2008. GLD never really outperformed SWHC.

Clearly, politics have played a tremendous role in driving gun manufactures higher. That, however, is a double-edged sword. Congressional elections occur every two years, and presidential elections every four years, so the political dynamics change rather frequently. With the multiple scandals brewing in Washington, and the president's support eroding with swing vote independents, this next election may be a victory for the Second Amendment, but a defeat for gun manufacture stock holders. If the House goes more Republican and the Senate turns Republican, I would imagine that will signal the peak in gun sales has past, and looking forward, gun manufactures will have some pretty tough comps to beat.

In conclusion, the answer to buying gold or guns is buy gun manufacturers. Since President Obama won his first election, gun manufacturers have easily outperformed GLD and even the broader market SPDR S&P 500 (NYSEARCA:SPY) (green line). That, however, is past performance. I would imagine that, going forward, gun manufactures will have a difficult time maintaining the momentum, and the momentum will almost certainly die if Republicans pick up seats in the House and win control of the Senate. Investors in gun manufactures should pay close attention to the politics of gun control and the 2014 congressional election for clues as to where their investment may be headed.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.

Disclaimer: This article is not an investment recommendation. Any analysis presented in this article is illustrative in nature, is based on an incomplete set of information and has limitations to its accuracy, and is not meant to be relied upon for investment decisions. Please consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author's best judgment as of the date of publication, and are subject to change without notice.