Tap Dancing to Work: Warren Buffett on Practically Everything, 1966-2013

by Carol J. Loomis

As the table shows, expectations in 1975 were modest: 7% for Exxon, 6% for GE and GM, and under 5% for IBM. The oddity of these assumptions is that investors could then buy long-term government noncallable bonds that paid 8%. In other words, these companies could have loaded up their entire portfolio with 8% no-risk bonds, but they nevertheless used lower assumptions. By 1982, as you can see, they had moved up their assumptions a little bit, most to around 7%. But now you could buy long-term governments at 10.4%. You could in fact have locked in that yield for decades by buying so-called strips that guaranteed you a 10.4% reinvestment rate. In effect, your idiot nephew could have managed the fund and achieved returns far higher than the investment assumptions corporations were using. Why in the world would a company be assuming 7.5% when it could get nearly 10.5% on government bonds? The answer is that rear-view mirror again: Investors who’d been through the collapse of the Nifty Fifty in the early 1970s were still feeling the pain of the period and were out of date in their thinking about returns. They couldn’t make the necessary mental adjustment. Now fast-forward to 2000, when we had long-term governments at 5.4%. And what were the four companies saying in their 2000 annual reports about expectations for their pension funds? They were using assumptions of 9.5% and even 10%.