Cicero or Voltaire he isn't. But as live and influential letter writers go, this is the week to read a master of the genre--Warren Buffet's 2008 letter to shareholders.
The Pope of Investment Management and Common Sense will be in his pulpit at the Quest Center for the Berkshire annual meeting Saturday, May 2, in case you didn't know. And undoubtedly, he'll have a pile of Mars bars and Wrigley's
The theme of The Buffett Epistle might be subtitled "An era of lowered expectations," as in the gains from the stock market over the entire 20th century are unlikely to be repeated in the 21st. A not very pleasant reminder from the master that will probably fall on deaf ears. But it is most instructive and necessarily chilling.
Here's the bad news. No martial music. No bulls trampling the fields. The Dow Jones industrial average made a marvelous ascent in the 20th century from the impossible to recall level of 66 in 1900 to 11,497 at the eve of the new century--a compound rate of return of only 5.3%. Not 8%. Not 10%. Not 15%, that magic target many professional money managers believe they can hit. Croesus repeats--your return in the 20th century was 5.3% annualized before dividends and before inflation.
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.
Indeed, in the first seven years of this new century, we've made just 1,366 points--or less than 12%--about 1.7% per year.
And for those of you who think you'll make 10%--or 8% from price appreciation and 2% from dividends, dream on. Because as Buffett puts it so succinctly, you "are implicitly forecasting a level of about 24,000,000 on the Dow by 2100." He likens investment advisers who promise such a performance to the Queen in Alice in Wonderland--and warns, "Beware the glib helper who fills your head with fantasies while he fills his pockets with fees."
The purpose of Buffett's Investment 101 course is to throw doubt on the premises of pension funds to assume they can make 8% a year. He attacks with cynicism those CEOs who present themselves as able to report higher earnings per share and thus promote their stock prices if they assume an 8% return on the corporate pension plan. In other words, it's another make-believe game by corporate executives whose concern is to "juice earnings."
All this could be read as an argument for
Of course it won't matter one jot to the standing-room-only crowd of holders this Saturday that the nation's wealthiest man is clear about how "Berkshire's past record can't be duplicated or even approached. Our base of assets and earnings is now far too large for us to make outsized gains in the future."
Everyone will be delighted to hear the details of the minority interest in the Mars-Wrigley candy giant that was made public this week. They will hang on to every hint of the future for Berkshire's huge position in railroad stocks (already profitable) and its staged acquisition of Marmon Group, which owns and leases 94,000 rail cars that must be used to carry the increasingly valuable coal from coast to coast. Think replay of 19th century railroad magnate here without the watered down stock and internecine battles with ruthless competitors.
For ordinary investors, all this represents uncommon advice from an active investor to put your money in passive indexes as they have the smallest management fees.
Berkshire has put its own money where its mouth is. It has sold puts--in effect betting on market rises--in four stock indexes (the S&P 500 and three unidentified foreign indexes), which will be outstanding until 2019 to 2027. Listen up! Buffett writes in his letter: "I believe these contracts, in aggregate, will be profitable and that we will, in addition, receive substantial income from our investment of the premiums we hold during the 15- or 20-year period."
Croesus will do his best to find out the identity of those three other indexes.
