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If You Think You're Safe Holding Cash, Read This Immediately

By Dan Ferris, editor, Extreme Value
Thursday, November 20, 2008

In an October 16 New York Times editorial, the most famous investor in history, Warren Buffett, told the world now is the time to buy U.S. stocks.

If stock prices stay cheap, Buffett said his "non-Berkshire net worth will soon be 100 percent in United States equities." When the greatest investor in the world says it's time to buy U.S. stocks and that he could be 100% fully invested soon... well... 

It's time to buy U.S. stocks.

Am I "calling a bottom" in U.S. stocks? Never. Frankly, I don't think bottoms feel this good. There's usually even more panic and gloom than we're currently seeing at true market bottoms.

But as a value investor, I don't care about tops and bottoms. I care about risk and value. Cash is too risky with Treasuries yielding less than inflation. And stocks are way too cheap, with profitable, growing companies trading for less than net cash.

If you think it's safe to hold cash right now, Mr. Buffett expressed a clear
opinion about that, too (one I obviously share):

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.

I've said the same thing in my Extreme Value advisory.

Of course, unlike Buffett, I advocate holding physical gold. But even I must acknowledge the very best inflation-fighting investment over the long term is not gold. It's stocks in the highest-quality companies, purchased at prices cheap enough to produce large long-term returns.

You read that right: Gold is not the best inflation-fighting investment. It's equity in high-quality companies.

The world's best companies – like Procter & Gamble, Campbell's Soup, and Coca-Cola – enjoy outstanding brand recognition. They're the best in the world at keeping costs low.

These companies can fend off new competition. They can get financing (or not need it) when other companies are finance-starved (like right now). They're large and well-managed enough that you can count on fewer (if any) bad surprises. And they can raise prices to keep ahead of inflation.

Check out Triumph of the Optimists: 101 Years of Global Investment Returns, by Elroy Dimson, Paul Marsh, and Mike Staunton. The authors found that, from 1900-2000, U.S. equities with dividends reinvested grew approximately 10.1% per year. After adjusting for inflation, stocks gained 6.7% per year.

Compare that to bonds, which only made an inflation-adjusted 1.6% a year, and short-term debt instruments, which netted less than 1% annually. Over the long term, stocks rule. And I think you can do much better than 6.7% if you focus on the highest-quality businesses.

So... here's my advice (and Warren Buffett's advice) if you're concerned about inflation: The first thing you should do right now is make sure you own a large core position in the world-dominating franchises, like the ones I've listed above and in past essays.

At times like this, you must focus on value available per dollar invested. Right now, there's more value available per investment dollar than at any time since I was born. There are literally dozens of choices ranging from very good to superior. Never be afraid to buy when the odds are in your favor, no matter what your past performance has been.

The big danger at a time like this is that one is seduced into fear by a desire never again to see one's track record sullied by the market's caprice. Big mistake. Look forward, and don't be afraid to buy.

Good investing,

Dan Ferris

Market Notes


Freeport has failed.

Two weeks ago, we featured a chart of Freeport-McMoran (FCX), one of the "bell cows" of the natural resource business. When fund managers want exposure to mining and metals, FCX is a "go to" stock.

FCX was a huge winner from mid-2005 to mid-2008. Copper and gold – its two main products – were soaring. Plus, everyone wanted to own mining stocks. Nowadays, the opposite is true. By early November, FCX had declined 81% from its 2008 high to its October low around $25 a share. We called this low a "make or break" level for mining stocks. If FCX remained above it, great news for mining. If FCX broke it, bad news for mining.

Now here's the bad news: FCX breezed through the "make or break" level to close at $21.68 on Tuesday. Folks still can't stand the thought of owning a mining stock. Until Freeport starts "behaving" and climbs above $25 per share, expect more misery for miners.

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