Buffett: High fees for actively managed funds ‘eat up capital like crazy’
May 19, 2016
Warren Buffett appears to think investment advisers do more harm than good. The sad reality is that in most cases he is correct.
The “Oracle of Omaha” went on a verbal rampage at the recently held Brookshire Hathaway annual meeting.
His target: hedge fund managers and investment advisers.
This is not a new opinion for the investment industry icon. Buffett has been preaching this for years, and this time he referred to his comments as a “sermon”.
The Brookshire Hathaway Chairman has a long history of recommending individual investors diversify their portfolio by investing in low-cost, widely diversified, index funds.
Buffett backed up his opinion with hard evidence.
Comparing returns
He compared the returns of Vanguard s&P 500 Index fund with the returns of five funds chosen by a New York hedge fund company.
In 2008, Protege Partners, with their hedge fund investment strategy, entered in a bet with Buffett. They bet that five fund-of-funds they picked would outperform the Vanguard S&P 500 Index fund, after fees.
Buffett is winning the bet.
From 2008 to the end of 2015, the S&P index fund had a return of 66 per cent. The actively managed funds Protege Partners chose had a return of just 22 per cent.
Buffett’s message was simple – investment managers who attempt to generate returns higher than market returns, with a strategy of actively managing portfolios while charging high fees, fail miserably.
Fees the culprit
The culprit is ‘fees’.
Buffett said, “Supposedly sophisticated people, generally richer people, hire consultants. And no consultant in the world is going to tell you, ‘Just buy an S&P index fund and sit for the next 50 years.’ You don’t get to be a consultant that way, and you certainly don’t get an annual fee that way.”
The underlying message is investment consultants advising actively managed funds charge high fees and deliver significantly lower returns than market returns.
Backwards system
This is absolutely backwards, makes no sense, and it happens all the time.
Because it happens all the time, it is most likely happening in your own portfolio. Big fees with lousy returns. And for some reason individuals become patient with constant under performing.
Strange but true.
It is happening to you, your family, friends and neighbours. It is pretty much universal.
Buffett referred to one of the books he recommends, Where Are the Customers’ Yachts? by Fred Schwed.
A visitor to the New York harbour admired all the nice boats and was told they were owned by Wall Street bankers. The visitor then asked where the bankers’ clients kept their boats.
The answer: they could not afford them.
My recommendation is to pursue a strategy of evidence-based investing over high cost actively managed funds.
Use what is known about investing to your own advantage.
There is overwhelming evidence based on decades of facts and figures and academic research that support the strategy of investing in low cost diversified funds.
We strongly believe that evidence-based investing will enhance your investment returns.