Inflation is in the news every day, and investors are getting worried. I know, because clients are calling me at home now and asking me if I am going to add agriculture ETFs and gold miners to their accounts to help protect them against the collapse of the U.S. dollar. I will look at this concept to see if we need to worry, and also will look at the wealth-creating ability of a boring company in the face of a currency (ours) that has gone down.
"The dollar will collapse and there will be blood in the streets, so go buy food and guns."
Does this sound familiar? Porter Stansberry is the king of doom and gloom today. His new video has been seen by over 7 million people, which has allowed him to rise up to guru status. Should we sell our stocks and use some of the money we don't spend on gold bullion to subscribe to his newsletter so he can save us?
Not so fast. Things aren't nearly as bas as that which is being sold by the media, as we shall soon see. We will also look at a company, Clorox (NYSE:CLX), which has cleaned up (pun intended) the past 13 years for shareholders.
Doom and gloomers rant that the U.S. dollar has lost 95% of its purchasing power, and will be worthless soon. In fact, a quick Google (NASDAQ:GOOG) search shows 278,000 results for the term "U.S. dollar has lost 95% of its purchasing power."
Something these sellers of doom and gloom conveniently forget to mention is the wage side of the equation when educating all of us on how worthless the U.S. dollar becoming. It's tough to sell newsletter subscriptions if things aren't so gloomy and doomy.
Before we look at debunking the skyrocketing commodity and gold myth, I find it apropos to look at a quote from a wise dead guy, who was able to describe men like Stansberry hundreds of years before they were born.
Adam Smith in The Wealth of Nations says:
Every man is rich or poor according to the degree in which he can afford to enjoy the necessaries, conveniences, and amusements of human life .... The value of any commodity, therefore, to the person who possesses it, and who means not to use or consume it himself, but to exchange it for other commodities, is equal to the quantity of labour which it enables him to purchase or command. Labour, therefore, is the real measure of the exchangeable value of all commodities.
The real price of every thing, what every thing really costs to the man who wants to acquire it, is the toil and trouble of acquiring it.
So in a nutshell, how much time a man is required to work is the true cost to him of obtaining any commodity. Rather than try to value commodities and gold in dollars, which people say has lost 95% of its purchasing power, why not stick with something that is constant throughout the ages -- time? An hour today is still worth 60 minutes, just as it was back in 1980, whether you are Bill Gates or pump gas. Therefore, why not measure the value of one ounce of gold in hours of labor, rather than dollars?
Okay, I'll take myself up on the challenge. I will use the lowest paid person in our country, the minimum wage worker, for our example.
In 1980, gold hit a peak of $850. In 1980, the minimum wage was $3.10 per hour. In order to afford one ounce of gold, a minimum wage worker would have to put in 274 hours of work ... just under seven weeks of labor to afford a shiny new coin.
How does that compare today with gold at $1378 per ounce? Well, with the minimum wage set at $7.25 per hour, the lowest paid worker would need to work only 190 hours.
2.1 weeks less of work. American productivity has allowed this modern day worker the wealth of a two-week vacation to go along with his 1-ounce gold coin. Some will argue our quality of life has gone down over the past 30 years. I would bet you that the 1980 worker would trade with the 2011 worker in a heartbeat. Based on a price for one ounce that is 62% higher today, gold is actually more affordable now than it was 30 years ago.
Lest any of you be tempted to bring up a conspiracy theory about gold prices being held down by something as the reason gold is not at $3000 already, let's look at more examples. Back in 1980, a gallon of gas cost $1.40 at the peak. It would have taken our worker 0.45 hours of labor to buy a gallon of gas so he could get to work. Today, at $3.00 per gallon, the minimum wage worker only needs to work 0.41 hours to get himself to the job.
What about commodities as a whole? Today the CRB Index stands at around 659. For a minimum wage earner today who wants to afford one CRB Index unit, it would take just under 91 hours of work to afford it. Back in 1980, the CRB index peaked at over 330, thus costing the worker over 100 hours of labor to afford a basket of commodities.
Prices are and will always be more volatile than wages. There will be short periods of time, like now, where prices go up faster than wages. These times usually cause people to get all caught up in emotion and make calls for the end of the dollar as we know it. I realize that I am comparing peak prices in 1980, but it's important to realize we are better off today than we were then, and the economy still didn't collapse after the pain of 1980 prices. In fact, the economy went into one of the strongest periods of growth this country has ever seen, starting a few years later.
The answer to all of our worry about the value of the dollar going down against a basket of currencies is to remember that over time, as the price of the dollar has gone down, the amount of dollars you receive per hour of labor has gone up.
It is useless to only look at the price of things we buy and come to the conclusion that somehow we are losing our purchasing power. The next time you hear someone say this, remember they're missing the fact that an hour of work is still 60 minutes. The man who gives an hour of labor gets many more dollars per hour than he did 30 years ago, thus offsetting this supposed disaster that the dollar has lost purchasing power.
The bottom line is that an hour of labor buys more commodities and ounces of gold today than it did 30 years ago. Ah, productivity. How refreshing.
Fear-mongering, like that spewed by Stansberry, shows these folks are cynical in the true sense of the word. Oscar Wilde pegged these types 119 years ago when he stated: "What is a cynic? A man that knows the price of everything, but the value of nothing."
Hopefully this article will help calm some fears out there that unaffordable commodity prices, and calls for hyper-inflation, are and will continue to be premature.
So now that we know there is no need to go and sell every stock we own for fear it is a paper asset and will go to $0 with the collapse of America, how can we go about finding good stocks that should do well over time, as inflation changes how many dollars we will receive per hour?
As my readers are aware, I prefer to live life invested in strong, boring companies that sell products people have to buy and pay out a healthy dividend for owning. I like to focus most intently on Free Cash Flow, as this is the money left over for any company after paying all its expenses and investing in new capital expenditures to maintain and grow the business. The free cash flow left over can be paid out fully in the form of a dividend, left on the balance sheet to accumulate, used to buy back shares, or a combination. I consider it shareholder cash.
That said, let's dive in to a boring company that doesn't get much media coverage on CNBC because the story is not sexy: Clorox (CLX). The Clorox company engages in the production, marketing, and sales of consumer products in the United States and internationally. The company operates through four segments: Cleaning, Lifestyle, Household, and International.
I can hear the haters already who just looked at a chart and saw that Clorox traded back in 1999 at about the same price it is today. So they will shout, "Clorox is dead money! With the collapse of the value of the dollar, if someone bought back then, they haven't been able to keep up with inflation!" As we learned above, there is more than meets the eye than just price.
If Clorox today is at the same price it was in 1999, does that make it a bad investment today? Hardly.
Let's look under the hood and see if CLX is the same value today as it was back then.
First, using our value per hour of labor, CLX is much more affordable today for the minimum wage earner. In 1999, minimum wage was $5.15. If Clorox traded for $65 then, it would take our wage earner 12.62 hours of labor to pick up a share of the bleach maker. Today, at the same price per share, it takes our wage earner only 8.96 hours of labor at $7.25 per hour. So an investor who has been buying the past 12 years has been able to buy more shares per hour, meaning CLX has become cheaper over this time, even though it trades at the same price.
Cheap does not mean valuable, though. Let's look to see if Clorox is any more valuable today as a company compared to 1999.
In 1999, Clorox had 235.31 million shares floating around. At the end of 2010, it showed only 138.76 million shares outstanding. During this time, a share of Clorox became more rare, as there are 41% less of them available in the world today. Like an animal heading to extinction, or a Mickey Mantle rookie card, when there is less of something over time it becomes more valuable. As can be seen, Clorox has been using some of its free cash flow, about 3.4% per year, to make shareholders' remaining shares more valuable.
It doesn't stop there. Back in 1999, the company paid out 0.72 cents per share in the form f oa dividend, which equates to a yield of 1.1% based on a $65 share price. This 0.72 cents per share makes up 13.9% of the minimum wage earner's hour of work. Had he gone into 1999 owning one share for each hour of labor he would have ended up working for the year, the dividend would have replaced 13.9% of his hours. This would allow the worker to take 33.36 days of work off in 1999 (assuming 240 work days) and not have to worry about taking a pay cut.
Today, the company pays a dividend of $2.20 per share. This equates to 30.3% of an hour's work at minimum wage. Assuming again that the worker continued to own one share for every hour of work he plans to do for 2011, he would be able to take 72.82 days off from work without have to worry about a pay cut. Imagine that! 118% more days off, even though the stock price has gone nowhere. More time spent with his family and doing that which he wants. That is true wealth creation. That, as Adam Smith says, makes a man rich.
In conclusion, I hope the reader of this article will remember to not be a cynic. I trust there are plenty of examples above that educate the reader to not stop at the price history of a stock to determine if it is valuable and worth investing in, nor look at the price of commodities and hunker down in fear over the collapse of America. There is more to analysis in both cases than price alone.
Don't get me wrong. While I agree with the stimulus idea from the government, I think it is focusing on the misallocation of capital when it tries to lift asset prices higher than they otherwise would be. I am a full believer in the Fed-induced rally in stocks and commodites, and think they will end badly as all bubbles do. But there are plenty of good individual stocks that provide attractive valuations at the current prices, while other stocks are looking a bit like 1999 all over again.
Disclosure: I and my clients are long CLX.