Today's comment is by John Pugsley, Chairman of The Sovereign, long-time hard money advocate, and best-selling author.

Dear A-Letter Reader,

In 1962, when Warren Buffett started Berkshire Hathaway, he lived across the street from Donald Keough, the future president of Coca-Cola.

One day Buffett walked across the street and suggested that Keough invest $10,000 in Buffett's new partnership, Berkshire Hathaway. Buffett said it would be a good way to start a college fund for Keough's young children. Keough passed on the offer. Had he only listened, Keough could have sent his kids to the best Ivy League schools, for as long as they wanted. His $10,000 investment would have grown to over $400,000,000! That's at an annual growth rate of about 26%.

Buffett's annual rate of return over four decades is legendary. But even higher rates have been achieved over shorter periods. One of my close friends manages a private investment partnership. Over the last nine years, this partnership's assets have grown at a compounded rate of better than 50% a year, net of fees.

This proves high rates of return are possible. And swayed by such stories, masses of investors are convinced that steady, high rates of compound growth on invested capital are even easy to achieve.

In the late 1960s, mutual funds were advertising that the average mutual fund had grown at a rate of 12% over the prior three decades. Even Joe Lunchbucket could retire rich through simple dollar-cost-averaging investment plans. Today there is a veritable armada of experts who suggest that you don't have to be satisfied with 12%, when compounded annual growth rates of 20% to 40% are out there.

But are 25%, 50% and even 100% compound returns realistic goals? Sadly, not for most. Five minutes spent using simple arithmetic proves that it's literally impossible for wealth to compound at high rates over extended periods.

Imagine the best investor ever born. In fact, imagine for a moment that God, knowing His son would be coming back to earth at some distant point in the future, decided to set up a trust fund to provide for that future event. Now suppose He placed one cent, a single penny, in that fund on the day Jesus was born.

Keep in mind, we're assuming that God is an omniscient trader. He carefully switches from asset to asset, never losing and always gaining. Could Jesus' trust fund have grown at 12%? 10%? 5%? Or even 3%?

Do the arithmetic. One cent compounded at 3% per year since the birth of Christ would have grown to $564 quintillion dollars. That's $564 billion trillion dollars. Put another way, this is the equivalent of 85 billion times the current gross domestic product of the United States! Even at 2% per annum compounded, the penny would have grown to $1.8 quadrillion, which itself is equal to 147 times the current GDP of the most prosperous nation on earth.

Obviously, not one cent of wealth has compounded at even 2% over two millennia. But wait, you say. Maybe 2,000 years is unrealistic. What about a simple century of growth? We've already seen that Buffett's fund grew at 26% over 44 years.

Not Even for a Century

Let's assume that in 1906, 100 years ago, J. P. Morgan, one of the richest men in the world, left a tiny fraction of his wealth, say just $100,000, with an investment firm that was able to compound the money at 20% per year. What would that trust fund be worth today? If the investment firm succeeded, today the trust fund would be worth $8.3 trillion. That's enough wealth to buy up every share of every company on every exchange in the United States, with money to spare.

The point? Not one paltry $100,000 portfolio on earth achieved a 20% compounded return over the past century.

Buffett's portfolio did even better over 44 years, but even Warren Buffett won't be able to continue to achieve those rates. With a current market cap of approximately $164 billion, to continue to grow at even 20% a year for the next 40 years, Berkshire Hathaway would be worth $220 trillion. It can't happen.

What lesson should we take from this lesson in compounding? First, over shorter periods, higher returns are possible. But second, long-term investment success is much harder to achieve than most investors realize.

There are no guarantees that you or I can beat the market, but there are a half-dozen key investment rules that are known to those who do. Join me here again in the A-Letter on December 21, and I'll reveal the rules of the super-investors, along with the three silent traps that decimate investment returns of those who fail.

JOHN PUGSLEY, Chairman
On behalf of The Sovereign Society