Warren Buffett’s Advice – Expect Less – For Next 20 Years!

Multi-billionaire Warren Buffett, the third wealthiest man in the country, has a flawless record of long term-market timing.

As a successful young money manager for wealthy investors in the mid-1960s bull market, he withdrew from the market entirely as the 1969 market peak approached, liquidated his partnerships, and returned the assets to his investors.

By doing so he avoided the 36% market plunge of 1969-1970, and the 45% bear market of 1973-1974.

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Then listen to what he had to say in August 1979. The Dow was at 848. After being mauled by several bear markets, the public had no interest in the stock market. Bonds were the popular investment.

In a 1979 magazine interview Buffett said, “Stocks are now selling at levels that should produce long-term returns far superior to bonds. Yet pension managers and investors are pouring their money in record proportions into bonds, while placing orders for stocks with an eye-dropper.”

“Dow type stocks can now be purchased at around their book value and their earnings are liable to be 13% per year.” He said. “If price/earnings ratios expand over the next twenty years then purchases made now at book value will result in even more than a 13% return.”

His prediction was on the button. From August 1979 to August 1999 the S&P 500 has had an unusual total annualized return of 17.2%.

Throughout the bull market he predicted, Buffet has remained steadfastly in the bullish camp. As a “value” investor he refused to chase the latest fad stocks, totally avoiding each craze as it came along, whether it was the rise and subsequent fall of the exciting biotech sector or early computer stocks, or his current avoidance of anything connected with the Internet.

Yet he amassed an incredible fortune, and investors in his holding company for the bull market, Berkshire Hathaway, have enjoyed exceptional returns.

However, Buffett recently revealed his expectations for the next twenty-year period. Investors should pay attention.

Speaking to a group of business leaders at a bash in Sun Valley, Idaho, and in a recent magazine article, Buffett said,

“First, let’s look at the last 34 years.”

“In 1964 the Dow was at 874. Seventeen years later, at the end of 1981, it was at 875. Now I’m known as a long-term investor and a patient guy, but that is not my idea of a worthwhile holding.”

“The problem was that from 1964 to 1981 there was a tremendous increase in interest rates, from 4% in 1964 to more than 15% by 1981. Stocks can’t handle rising interest rates, so even though the economy was strong, with Gross Domestic Product quintupling over the period, it was not a good time for stocks.”

He went on to say, “In the early 1980’s however, the situation reversed itself. Paul Volcker stepped in as Chairman of the Federal Reserve and broke the back of inflation. Interest rates began to fall, which was great for stocks. So over the last 17 years, through last year, the Dow’s annual return has averaged 19%. That beat any 17 year period in history.”

What should investors expect from here?

Buffett says, “Investors are expecting far too much of the next twenty years, following their unshakable habit of projecting the future by looking through the rear-view mirror at what has been happening, instead of looking through the windshield at what lies ahead.”

Buffet’s assessment is supported by a recent Gallup poll. Investors who have been investing less than five years expect annual returns over the next ten years of 22.6%. That pretty well parallels what they have seen through the rear view mirror, since the Dow has gained an average of 24% per year over the last five years.

According to the poll, those who have invested for the last twenty years, expect returns of 12.9% over the next twenty years, which has pretty well been their experience.

But Buffett says, “Given the current low interest rates, and high valuation levels being applied to the market, the exact opposite of conditions seventeen years ago, it’s very hard to come up with a persuasive case that the stock market over the next seventeen years will perform anything like – anything like – it performed over the last 17.”

“If I had to pick the most probable return”, he said, “If interest rates and inflation can remain constant, it would be 4%. And if 4% is wrong, I believe that percentage is just as likely to be less as more.”

Buffett has apparently acted on his cooled-off enthusiasm for the stock market. It’s been reported he raised as much as $40 billion in cash over the last 12 months or so. His comment to investors in his Berkshire Hathaway holding company on the subject, “I dislike cash. But I dislike being foolish even more.”

While the return of favorable seasonality, with its impressive history of producing market rallies, has me bullish on the market for the next few months, Buffett’s reputation and sobering words serve to cool-off any temptation toward irrational exuberance.