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Friday, January 25, 2013

Are You With Buffett or With the Hedge Funds?

If you like high stakes poker, you'll like this.

Back in 2008 (great timing!), Buffett made a $1 million performance bet with Protégé Partners LLC, a fund of hedge funds.  Buffett took the Vanguard S&P 500 Index fund and Protégé chose 5 funds comprised of hedge funds to see which would have the best performance over 10 years.  At the half-way point, Buffett is up +8.69%, Protégé's picks are up + 0.13%.

Worth emphasizing and keeping in mind:
  • the difference (not unexpectedly) seems to be in the costs.  As most observers know, hedge funds have notoriously high fees, typically north of 2%, along with a percentage of profits.  This contest is turning out to be a real-life demonstration that even brilliant strategists have difficulty overcoming those kinds of costs over the long run. 
  • Secondly, although I can't say I am familiar with Protégé, I believe I can safely assert that they are considerably better positioned to pick fund managers than, say, the typical advisory firm for individuals purporting to be able to select superior active mutual fund managers. 
  • Thirdly, an investor building a nest egg would face a difficult decision at this point even though the experiment is only half way over - can he or she take another 5 years of similar results? 
  • Finally, if Buffett had a portion invested in a bond index fund over this difficult period, his returns would be considerably higher than +8.69%.  In fact, the zero coupon bond each participant put the payout funds in increased in value so much that they already have the $1 million to be paid out!  The charity receiving the loser's funds will likely get considerably more than $1 million.  This speaks to the value of sticking with an allocation.

What is the bottom line?  Low-cost index funds are not easy to beat.  Maybe the market isn't efficient, but it sure acts like it is!


On another topic, I have to say that I've immensely enjoyed watching CNBC over the past few months. On a daily basis, they have tried their hardest to convince viewers that apocalypse was around the corner whether it was an apoplectic Simon Hobbs or a ranting Rick Santelli.  They paraded on  politicians who exhibited their talents for playing up the fiscal cliff and avoiding specifically answering questions.

Viewers were poised for a huge air pocket over the last weeks of 2012.

Obviously it didn't happen.  The question is why?  I have to offer one theory I haven't seen bandied about.  Markets emphasize recent experience and put great weight on mistakes.  Indeed, 2008 is a recent example that has kept many would-be investors on the sidelines.  Even more recently, however, many investors sold out in 2011 in the midst of the hoopla surrounding the debt ceiling talks and missed the strong rally at the end of that year.  This time around they made up their minds they wouldn't be spooked.  The widely-anticipated down draft failed to materialize.  Investors held on to a greater degree as the fiscal cliff approached at the beginning of 2013.  As this happens, it seems a sort of immunity builds up.  Keep saying there is a boogey man behind the bush and eventually it loses its scare factor - especially when believing it costs money and performance rankings.


  1. Scare mongering has been there since the Mayan times! I'm glad I survived 2012! ;)

  2. Thanks for sharing this information. And I’ll love to read your next post too.
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