B , Buffett explained:. If you go to a dentist, if you hire a plumber, in all the professions, there is value added by the professionals as a group compared to doing it yourself or just randomly picking laymen. In the investment world it isn't true. The active group, the people that are professionals in aggregate, are not, cannot, do better than the aggregate of the people who just sit tight. At a annual meeting of Munger's own company, Wesco, he cracked:. You ask a hedge fund operator why they charge 2 and 20, and they say 'because I can't get 3 and In any other field, it would just blow your mind.
In Berkshire's annual report, I argued that active investment management by professionals -- in aggregate -- would over a period of years underperform the returns achieved by rank amateurs who simply sat still. I explained that the massive fees levied by a variety of "helpers" would leave their clients -- again in aggregate -- worse off than if the amateurs simply invested in an unmanaged low-cost index fund.
I then sat back and waited expectantly for a parade of fund managers -- who could include their own fund as one of the five -- to come forth and defend their occupation. After all, these managers urged others to bet billions on their abilities. Why should they fear putting a little of their own money on the line? What followed was the sound of silence. Though there are thousands of professional investment managers who have amassed staggering fortunes by touting their stock-selecting prowess, only one man -- Ted Seides -- stepped up to my challenge.
It has been clear for years that Buffett seemed likely to win the bet, and as of the end of , he officially did. Hedge funds' returns are not publicly available, but in his letter to shareholders, Buffett shared the results of the bet over its first nine years. In every year except , when the U. Check it out:. How about this last year? It wasn't exactly a nailbiter of a finish.
Buffett didn't win the bet purely due to chance. Hedge funds face many challenges that managed mutual funds do: Their managers often feel pressure to outperform in the short term in order to please their shareholders and attract more shareholders, so they jump in and out of investments in the pursuit of quick profits. This activity alone generates costs through commissions and capital gains taxes.
By contrast, an index fund simply holds the same securities that are in the index. It has no need to research other investments or to buy and sell securities except in those rare instances when the underlying index adds or drops some components. Most investors cannot resist the temptation to constantly buy and sell. Buffett has also said that "lethargy, bordering on sloth should remain the cornerstone of an investment style.
That's because, mid-bet, the wagerers changed the rules a bit. However, interest rates dropped in the bet's early years, boosting the value of their investments. That switch turned out to be a great move for Girls Inc. Finally, note that Buffett loves to share his investing wisdom with others, offering educational letters to shareholders each year, answering shareholders' questions for many hours during his annual meetings, and welcoming classes of students to Omaha regularly.
Buffett doesn't necessarily have anything against stock picking if you have the time, knowledge, desire, and discipline to do it properly. However, the majority of people don't, which is why Buffett has said that index funds are the best investment most Americans can make.
Buffett's issue isn't with individual stocks. Rather, it's with actively managed funds , particularly those that charge high fees , like hedge funds. Buffett acknowledges that in any given year, some fund managers will certainly beat the market. On the other hand, some will lose to the market. And since all of these funds charge fees, investors are at an inherent disadvantage, especially over the long run. In fairness, Buffett was helped tremendously by the fact that during most of the bet, one of the longest bull markets in history had been playing out.
Hedge funds are better suited to outperform the market during tough times. After all, their name comes from their ability to employ hedging strategies, one of their key advantages over passive index funds, and one that matters far less when stocks seem to do nothing but rise. And hedge-fund fees can be dramatically lower when the market is declining. This is illustrated by the bet's outcome over its first year, Still, Buffett's logic holds true in any market.
Some funds will win, some funds will lose, but the fee structure puts investors at an inherent disadvantage. Investing Best Accounts. Stock Market Basics. Stock Market. Industries to Invest In. Getting Started. Planning for Retirement. Retired: What Now? Personal Finance. Credit Cards.
May 3, 2 Comments. Photo by SMW. Warren Buffett is the CEO of Berkshire Hathaway and widely regarded as one of the most successful investors in the world. Protege Partners took a smart strategy of diversification into the bet. To do all the research, investing, trading, and tracking, these groups charge significant fees. Depending on their fee schedule you may have to take a significant portion of your earnings off the top and hand it over to them.
One huge benefit of Index funds is that they have famously low fees. That number varies year-to-year, but a large portion of investors fall short every year. The bet has about 1. Thanks for reading! We would also love it if you subscribed to the blog so that every new post comes straight to your inbox. Do you have a question or comment? Let us know by commenting on the post or emailing Mike. Thanks again and talk soon! Join Over 2, Other Team Members!
But many investors "experienced a lost decade," he said. Fees never falter. Buffett also acknowledged a lesson learned from an interesting plot twist over the course of the bet. Treasury bonds, widely considered a safe investment. Related: Warren Buffett is retiring from Kraft Heinz board. In short, he summarized, the "purportedly 'risk-free' long-term bonds" ended up being a "far riskier investment" than common stocks.
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Then the roof fell in," Buffett said. Making money on the stock market "does not require great intelligence, a degree in economics or a familiarity with Wall Street jargon," he wrote. That's essentially the cornerstone of Buffett's investment philosophy, and proving that point is part of the reason he took the bet in the first place, he said.
Another reason was raising money for Girls Inc. Buffett also sought to make it loud and clear that he doesn't think the exorbitant fees that hedge funds charge are worth it. But many investors "experienced a lost decade," he said. Fees never falter. Buffett also acknowledged a lesson learned from an interesting plot twist over the course of the bet.
Treasury bonds, widely considered a safe investment. Related: Warren Buffett is retiring from Kraft Heinz board. Rather, rely on Warren Buffett's endorsement of index funds to guide your decision. His track record is far more impressive than mine, and when he talks, it pays to listen. I know I do.
Investing Best Accounts. Stock Market Basics. Stock Market. Industries to Invest In. Getting Started. Planning for Retirement. Retired: What Now? Personal Finance. Credit Cards. About Us. Who Is the Motley Fool? Fool Podcasts. New Ventures. Search Search:. Oct 10, at AM. Author Bio Maurie Backman is a personal finance writer who's passionate about educating others. Her goal is to make financial topics interesting because they often aren't and she believes that a healthy dose of sarcasm never hurt anyone.
In her somewhat limited spare time, she enjoys playing in nature, watching hockey, and curling up with a good book.