Index Funds vs Hedge Funds
Imagine the world’s best investor walks into a horse track with a million dollars and a very strange bet.
On one side, you have the "experts." These are the Ivy League guys in expensive suits. They spend all day studying the horses, checking their diet, and looking at the dirt on the track. They claim they are so smart they can pick the single winning horse every time. Because they are "experts," they charge you huge fees just to listen to them.
In 2007, Warren Buffett challenged these guys.
He didn't want to pick a horse. Instead, Buffett decided to buy the entire track.
He picked a simple Index Fund called the Vanguard Admiral Shares S&P 500. This fund doesn't try to be a genius. It just buys a piece of the 500 largest companies in America. If the companies grow, you grow.
A firm called Protégé Partners accepted the bet. They hand picked five elite hedge funds to compete against Buffett. The bet started on January 1, 2008, and was set to last for ten years.
By the nine year mark, the "experts" were embarrassed.
The group of elite hedge funds was up only 22 percent total. That is a tiny return of about 2.2 percent per year. Three of those five expert funds actually made less than 1 percent per year. After nine years of "smart" picking, they had almost nothing to show for it.
Meanwhile, Buffett’s "buy the whole track" strategy was up 85.4 percent. That is an average of 7.1 percent every single year.
The Brutal Scoreboard
Hedge Fund A: 8.7 percent total return
Hedge Fund B: 28.3 percent total return
Hedge Fund C: 62.8 percent total return
Hedge Fund D: 2.9 percent total return
Hedge Fund E: 7.5 percent total return
The Expert Average: 22.0 percent Buffett’s Index Fund: 85.4 percent
The math is clear. While the experts were busy moving money around and charging big fees, the simple basket of the 500 largest companies just kept running. Not a single one of the expert funds even came close to beating the simple index.
The lesson for you is that you do not need to be a genius to win at investing. You just need to stop trying to pick the "winning horse" and start owning the track.
The winner of this bet got to send the money to charity. Since Buffett won by a landslide, Girls Incorporated of Omaha received a massive check for over 1.8 million dollars in 2017.
If the smartest guys on Wall Street cannot beat a simple basket of stocks, why are you still trying to outsmart the market on your own?
