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The Little Book of Common Sense Investing, Updated and Revised by John C. Bogle

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Chapter TwoRational Exuberance

Shareholder Gains Must Match Business Gains.

THAT WONDERFUL PARABLE ABOUT the Gotrocks family in Chapter 1 brings home the central reality of investing: “The most that owners in aggregate can earn between now and Judgment Day is what their businesses in aggregate earn,” in the words of Warren Buffett. Illustrating the point with Berkshire Hathaway, the publicly owned corporation that he has run for 46 years, please heed carefully Mr. Buffett’s statement:

When the stock temporarily overperforms or underperforms the business, a limited number of shareholders— either sellers or buyers—receive outsized benefits at the expense of those they trade with. . . . Over time, the aggregate gains made by Berkshire shareholders must of necessity match the business gains of the company.

“Over time, the aggregate gains made by . . . shareholders must of necessity match the business gains of the company.”

How often investors lose sight of that eternal principle! Yet the record is clear. History, if only we would take the trouble to examine it, reveals the remarkable, if essential, linkage between the cumulative long-term returns earned by U.S. business—the annual dividend yield plus the annual rate of earnings growth—and the cumulative returns earned by the stock market. Think about that certainty for a moment. Can you see that it is simple common sense?

Need proof? Just look at the record since the beginning of the twentieth century (Exhibit 2.1). The average ...

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