Everybody says dumb things, and I highly respect Warren Buffett's opinion (how could you not?), but I was astounded when I read
this Forbes article yesterday. The article summarizes highlights from Buffett's latest annual shareholder letter. Not off-hand comments mind you...this was apparently from his annual letter--his ivory tower!
Here's the real downer.
You're unlikely to make anything like 5.3% for the next 92 years.
Swallow hard and read on. To achieve 5.3% this century would mean a Dow
climbing from roughly 13,000 today to (gulp!) 2 million. As Warren
opines: "We are now eight years into this century, and we have racked
up less than 2,000 of the 1,988,000 Dow points the market needed to
travel in this hundred years to equal the 5.3% of the last." Don't
expect 5.3% in the 21st century. That's the bottom line.
I was so incredulous that I went straight to the source. The following is from page 19 in the
2007 letter.
Let's revisit some data I mentioned two years ago: During the 20th Century, the Dow advanced from 66 to 11,497. This gain, though it appears huge, shrinks to 5.3% when compounded annually...Think now about this century. For investors to merely match that 5.3% market-value gain, the Dow - recently below 13,000 - would need to close at about 2,000,000 on December 31, 2099. We are now eight years into this century, and we have racked up less than 2,000 of the 1,988,000 Dow points the market needed to travel in this hundred years to equal the 5.3% of the last.
It's amusing that commentators regularly hyperventilate at the prospect of the Dow crossing an even number of thousands, such as 14,000 or 15,000. If they keep reacting that way, a 5.3% annual gain for the century will mean they experience at least 1,986 seizures during the next 92 years. While anything is possible, does anyone really believe this is the most likely outcome?
I should mention that people who expect to earn 10% annually from equities during this century - envisioning that 2% of that will come from dividends and 8% from price appreciation - are implicitly forecasting a level of about 24,000,000 on the Dow by 2100. If your adviser talks to you about double digit returns from equities, explain this math to him - not that it will faze him. Many helpers are apparently direct descendants of the queen in Alice in Wonderland, who said: "Why, sometimes I've believed as many as six impossible things before breakfast." Beware the glib helper who fills your head with fantasies while he fills his pockets with fees.
Now there may be reasons not to expect similar returns in this century as compared to the last, but this is certainly not one of them. I think this is a completely nonsensical (or at best a circular) argument. Let's parse it.
The argument seems to go like this:
- Suppose we had similar 5.3% price appreciation in this century like the last.
- Then the Dow would have to close at 2M by end century.
- This number is too high to believe.
- Therefore, there can not be 5.3% price appreciation in this century.
- And if you believe in even higher returns, the 2M is even higher, so your belief is even crazier.
Yet, he opens the whole argument with this: "During the 20th Century, the Dow advanced from 66 to 11,497. This
gain, though it appears huge, shrinks to 5.3% when compounded annually.
"Now fast forward to 2107. Buffett's descendant writes "During the 21th Century, the Dow advanced from 11,497 to 2,000,000. This
gain, though it appears huge, shrinks to 5.3% when compounded annually."
Don't you think that 11,497 seemed as crazy to the people in 1900 who were looking at a 66 point Dow as a 2M point Dow now seems to us? You should because it is the same % growth! The absolute #s are meaningless, and if people have a problem with the index # getting too high, they can reset it. Problem solved.
This is not a discussion about whether we are actually in for similar, higher, or lower returns. Let's leave that for another day. This is just to say that this argument for lower returns is ridiculous!
Lame! (cut from South Park's AWESOM-O)
Update: additional comments can be found
here.
