The Power of Compounding; or How Good is Warren Buffett's Record Anyway?

Newbie investors often don't realize how much return an outperformance of 4% or 5% produces in the long run. Compounding is so powerful that, over a long period of time, the outperformance will be massive.

To illustrate, consider the returns of, arguably, the best investor of all time, Warren Buffett, versus the market (say, S&P 500). Warren Buffett has produced around 20% annual return whereas the market has returned around 10% per year (rough numbers, off the top-of-my-head). This is only a 10% outperformance but given how Buffett has outperformed for more than 40 years, the results are staggering.

Let me quote Jeff Matthews, from his well-written overview of the 2013 Berkshire Hathaway Shareholder Meeting. If you want a perceptive recap of the annual meeting, I recommend reading the entire blog post ("“We Want to Win”: The Berkshire Hathaway Annual Meeting, 2013 Edition").
...Berkshire’s stock is at a new all-time high—$162,904 per share for the A shares on the close Friday.

And considering that those same “A” shares were trading at $16 the day Buffett took control on May 10, 1965, well, it’s no surprise the crowd is feeling upbeat.

How Good Is Warren Buffett’s Track Record, Really?

But how good is Warren Buffett’s track record, really?

Well, Berkshire’s stock has appreciated—this is appreciation only, no dividends, mind you—981,150% since May 10, 1965.

And if you’d put $16 into the S&P 500 instead of into one share of Berkshire on that same day, your share of the S&P 500 wouldn’t be worth $162,905 today from appreciation (we’re leaving out the dividends for now.)

In fact, your S&P 500 share wouldn’t be worth $100,000 today.

It wouldn’t even be worth $10,000 today.

It would be worth about $600.

Throw in dividends and you’re north of $1,000 but south of $2,000 on your $16 investment. The Berkshire shareholder has $162,904.

That’s how good Warren Buffet’s track record really is.
Think about that! Just an outperformance of around 10% has resulted in approx. $160,000 vs $2000!

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