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The Truth Behind Buffett's Big Bet
By Adam J. Wiederman June 26, 2008 Comments (2)
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Ten years. Two contenders. One winner of a $1 million prize.
On one side, legendary investor Warren Buffett; on the other, fund of hedge funds operator Protege Partners. The battle? Whose net returns will be higher over the next decade: five of the world's most successful hedge funds ... or the passive Vanguard 500 Index Fund?
If it's not obvious by now ...
Buffett believes the index fund will win. It might seem shocking that he'd put so little confidence in such bright investors, but a judgment of investing prowess isn't the reason behind Buffett's bearish bet.
Instead, as he explained in a recent Fortune article, the hedge fund managers' efforts "are self-neutralizing, and their IQ will not overcome the costs they impose on investors." [Emphasis mine.]
Buffett's not insulting the investing acumen of hedge fund managers. But he is making a pretty bold statement about the fees they're charging, and how quickly they destroy investors' wealth.
It all comes down to the price you pay
Every year, the typical hedge fund collects 2% of the amount invested, as well as 20% of any profits made. It's not difficult for any student of mathematics to understand that, over time, this seemingly small amount can become quite significant.
And although you might not invest in hedge funds, odds are you have a mutual fund or two -- maybe even more -- in your portfolio. Those funds might charge similar fees that could prevent you from cashing in on gains made with your money.
Compare these two seemingly identical index funds:
Fund Name
Vanguard 500 Index
MainStay S&P 500 Index A
Front Load
None
3.00%
Expense Ratio
0.15%
0.60%
Top 5 Holdings
ExxonMobil (NYSE: XOM), General Electric, AT&T, Microsoft (Nasdaq: MSFT), Procter & Gamble (NYSE: PG)
ExxonMobil, General Electric, AT&T, Microsoft, Procter & Gamble
3-Year Annualized Returns
5.20%
4.70%
Morningstar data as of 6/24/2008. Vanguard holdings as of 3/31/2008; MainStay holdings as of 4/30/2008.
fool.com |
