Here’s a slam-dunk financial literacy lesson to share with kids and adults alike: keep it simple. That’s what Warren Buffett does. The strategy has made him one of the wealthiest individuals in the world—and to make a point, recently Buffett shamed the complicated, high-fee $3 trillion hedge fund industry.
Buffett recently released his annual letter to shareholders of Berkshire Hathaway, the investment company he runs. In the letter, he declared early victory in a $1 million bet (for charity) he made nine years ago with Protégé Partners, an asset manager that invests heavily in hedge funds.
The bet was, well, simple: Buffett wagered that over 10 years a basic S&P 500 index fund would earn a higher return than a portfolio of actively managed hedge funds. At the heart of the bet: low fees and simple design will outperform a high-fee and complicated strategy almost every time.
The fees make all the difference. The high costs of a hedge fund overwhelm any benefit from their more complicated strategy.
The annual fee on a typical S&P 500 index fund is a miniscule .2% or less. Hedge funds, which do things like day-trade and sell stocks short, may charge 10 times more—or 2%—and take 20% of annual gains on top of that.
With less than a year before the bet ends, here’s the degree to which keeping it simple has paid off: a $1 million investment in hedge funds has generated paper gains of $220,000, vs. index fund paper gains of $854,000.
That’s financial education you can understand. What more does a student or retirement-minded adult putting away money each pay period need to see?
Buffett’s bottom line: “When trillions of dollars are managed by Wall Streeters charging high fees, it will usually be the managers who reap outsized profits, not the clients,” he writes. “Both large and small investors should stick with low-cost index funds.”
You can’t say it any clearer than that. But my bottom line is a little different. I hear all the time, and often from young adults, that a reason they do not save is it is too complicated. They don’t know how to get started or where to put their money. They don’t trust banks or the stock market. So they leave their cash in low-yielding savings accounts, or maybe they just spend it all on a trip to Iceland’s Blue Lagoon.
So here’s my bottom line: saving and investing is easy, if you keep it simple—like The Master from Omaha. Save 10% to 15% of every dime that comes your way—in a 401(k) plan if available. Put it on auto-pilot so you never miss a beat. Stick to low-cost index funds or target-date mutual funds, and go live your life.
Teachers, parents, benefits advisers and financial planners can help individuals immeasurably with that simple direction.
As originally seen in the media platform, Right About Money.