Hedge Funds, Index Funds, and Buffet’s $1,000,000 Bet

Warren Buffet has bet  with one million dollars going to charity that the S&P 500 will beat the top five hedge funds (picked by Protege, a hedge fund to fund) net of fees over a ten year period.  We are currently in year two.  Read full article here

Hedge funds are known for their daring bets, secretive (proprietary) strategies, and the 2 and 20 fee (2% of assets and 20% of profits).  It has come to many people’s attention that hedge funds have not been hedging market risk for their clients since several have shut down this year during the bear market.  Hedge funds are not required to report earnings, investments they hold, or strategy.  During booming markets many hedge funds publish their unbelievable returns and attract many high net worth clients looking for above ordinary returns.

It was reported today in the WSJ that some of these hedge funds are being forced out of business because in some cases 50% of their entire portfolios consisted of one company.  The idea is to take big bets proving their excelent forecasting skills, but one unforeseen mistake have cost many managers their funds and businesses.  Also other hedge funds have been unable to find ways around the temporary ban on short selling stocks. Here’s a quote from this morning’s WSJ article, “Big Bets Come Back to Bite Fund Managers”

To wit, a basket of stocks most popular among hedge funds tumbled 19% in September, more than the 9% drop for the Standard and Poor’s 500, according to Goldman Sachs.

Who would have thought that an S&P 500 ETF would have beaten hedge funds who have always attracted the best analyst and have the ability to side step companies who are plummeting?  Warren Buffet does.    Investment strategies must be able to weather all economic conditions because all economic conditions happen.  Again, diversification wins and the lower the cost, the more money you keep.

By Published On: October 6, 2008

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