The Bet

Hey team,

Warren Buffet is one of the most famous investors in the history of, well the world. He is a self-made billionaire and has, most likely, helped a few other people tick that goal off their bucket list too. Had you invested just 100 US dollars in Berkshire Hathaway when Buffet assumed control of the company in 1965, you’d be sitting on an investment portfolio currently worth ~1.6 million. Had you instead invested at least 62,500, today you’d be counting yourself a billionaire. Anyway, I’ll let him do the showing off. What I want you to know about is a million dollar bet he recently won.

Long Bets
Of the many reasons Jeff Bezos is a doucheLong Bets is not one of them. A while back he started this not-for-profit website which encourages people to make predictions that won’t have their outcomes determined for a very long time. The reason? To encourage and improve long term thinking. Kind of a cool idea. You go on the website, post a prediction (including your rationale for making it) and then wait for someone to take the other side. Once someone does, it becomes a bet with the winners proceeds going to a charity of their choice.

For example, a guy called Jim Keane posted a prediction that the Large Hadron Collider will destroy earth. Nick Damiano disagreed, placed a 1,000 wager and so Jim Keane’s prediction became a bet. So far there have been 755 predictions made, many of which have become bets and some, including Warren Buffets have been resolved.

The Bet
If you asked Warren Buffet, the single most successful investor in the history of the human race, how you should invest your money, he would tell you this. “Invest in a passivelymanaged, low cost managed fund. Invest only what you can afford to lose. And start early.”. Key to his advice are the passive and low cost parts.

Essentially his view is that there are a lot of “professional” investment managers out there who want you to pay them money to invest your money on your behalf. These “professionals” think they are better than average investors, and can, over time invest better than most people. These investors are known as “active” investors and they charge a pretty penny to do so.

The opposite of these kind of investors, are “passive” investment managers. They just want to do as well as the market does on average. Passive investors are just trying to replicate the returns of an index. Like the Dow Jones, or NASDAQ or ASX200. That’s it. It’s a relatively simple job and therefore they (should) charge a very low fee for doing so.

We are nearly there.

Now, if passive investors and active investors represent the entire investor base in the stock market, and passive investors get the average returns of the stock market, it therefore HAS TO FOLLOW that active investors in aggregate must also receive the average returns of the stock market.  Therefore the difference becomes one of fees.And because active managers charge higher fees, Warren Buffet believes that active managers, net of fees, will underperform passive managers, net of fees.

And that is exactly what he bet. Specifically:

“Over a ten-year period commencing on January 1, 2008, and ending on December 31, 2017, the S&P 500 will outperform a portfolio of funds of hedge funds, when performance is measured on a basis net of fees, costs and expenses.”
Anyway, I’ve gone way over my 5 Minute allocation, so will be picking this up again later in the week. For now, you should know this. He won. In fact he absolutely smashed it. Go to page 11 of his annual report to read what he has to say about it. I really recommend you doing so.

As discussed, that’s a bit more than 5 Minute. Hope it helped.

Categories: General Finance, Investing

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