Warren Buffett: Very Unlikely That Hedge Funds Will Outperform S&P 500 Index

Hedge fund vs. S&P 500 - Cartoon.Over the past number of decades, Warren Buffett has been very outspoken about his belief that hedge funds will very likely produce nothing but underperformance for its customers when compared to the S+P 500.

Buffett's beliefs translated into a well-publicized bet with Ted Seides of Protege Partners. Both men put up $500,000 and the terms of the bet looked like this:

Buffett bet that the S+P 500 would outperform a portfolio of funds of hedge funds, net of fees, costs and expenses, over a ten year period (January 1st, 2008 - December 31st, 2017)

Buffett is almost certain to win the bet, as his side was up 85.4% to 62.8% as of the end of 2016, with just one year remaining in the wager.


In recounting the bet in the 2016 Berkshire Hathaway annual letter, Buffett broadened the discussion to talking about the financial "elites" (wealthy individuals, pension funds, college endowments) and their pursuit of the "best" investment managers.

According to Buffett, these financial "elites" feel that they need the absolute best of everything and will pay through the nose for it. This leads these "elites" to the hedge fund industry and its typical 20/2 cost structure. These high fees lead to underperformance against the broader market in most cases - Buffett estimates this number to be $100 billion over the past 10 years, and he believes that this figure is conservative.

This "investment underperformance" is ruinous to pension funds, which are usually underfunded to start with.

The problem? These financial "elites" can't comprehend putting the money into something as "simple" as an index fund. Due to their perceived high standing in society, they believe that they can only utilize money managers that are not available to the average investor. As mentioned, this leads them into the hedge fund industry, which often leads to underperformance. The hedge funds make plenty of money, while the "elites" are left with underperformance relative to the S&P 500.


It's hard to argue with Warren Buffett's words, as the numbers clearly back him up.

Will that change anything? It's highly unlikely.

Filed under: General Knowledge

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