Practical analysis for investment professionals
05 May 2016

Does the Buffett Bet Signal the End of Active Management?

I bet you’ve heard about the 10-year wager Warren Buffett made against a hedge fund manager. If not, you are about to.

What did Buffett bet against?

Buffett has long been wary of hedge fund fees and has been on the case rather consistently over the years. Here’s Jack Bogle’s account. Basically, after fees Buffett believes hedge funds will underperform index funds. So at the outset of 2008, he bet Ted Seides, CFA, of Protégé Partners $1 million that an S&P index fund would outperform a portfolio of funds over 10 years. Eight years into that bet, Buffett looks to be running away with it.

Last weekend at the 2016 Berkshire Hathaway Shareholders Meeting, he once again came out swinging, offering a harsh assessment of hedge funds and their fees. His principal criticism: Fees are often just too high. And his point was not missed on readers of CFA Institute Financial NewsBrief when we polled them for their take on the bet and what the Oracle of Omaha’s potential victory says about active management. Almost 40% of the 1258 respondents agreed with Buffett, that hedge fund fees sabotaged their overall performance.

On 1 January 2008, Warren Buffett and Protégé Partners entered into a 10-year bet on which would perform better: an S&P 500 index fund or a portfolio of hedge funds. As of the end of 2015, the S&P was up 65.7% since the bet began, versus 21.9% for the hedge fund portfolio. If Buffett prevails in 2018, what would best describe your view on the active vs. passive management debate?
Buffett Bet Active Management Poll

Buffett had no faith in the hedge fund managers’ skills either. Although he considers himself a long-term investor, he is seen as a great stock picker. Yet he showed more confidence in passive investing when he suggested that his wife place her retirement assets in an index fund.

According to Bogle, Buffett believes funds of hedge funds dilute the individual manager’s bets and end up as just another way for consultants to charge their clients fees. One in 10 poll participants felt similarly about the outcome of the Buffett-Seides bet, reasoning that the results would be different had a better active portfolio been constructed.

Why did Seides decide to challenge Buffett and does he still stand a chance of winning?

Now let’s step back to when the story began. As Seides recalls in his new book, So You Want to Start a Hedge Fund:

“On a slow summer day in 2007, I heard Warren had suggested that a group of hedge funds couldn’t beat the market over time. I suspected the timing of his proclamation was poor, since the market traded near peak valuations in 2007, and hedge funds can have a salutary effect on institutional portfolios in bear markets. I decided to call him out with a challenge and see what would happen from there. which seemed the perfect point in time to short the market. Everything seemed to be doing well in the market.”

The second largest cohort of  poll respondents (29%) thought the time period chosen for evaluation plays a critical role in determining results. I could not agree more. Although it’s not clear what type of hedge funds went into the portfolio, the fact remains that the performance of different styles of investing varies over time. Seides’s argument is a valid one though. Hedge funds tend to do better when the broader market goes down. But this begs the question: If the hedge fund portfolio fell dramatically during a time when it should have outperformed, aren’t the odds stacked against it in a “normal” time period as well?

As for the final result in two years, with no information on the hedge fund portfolio itself, anything is possible, although Buffett is exactly right when he says that the fund of hedge funds structure dampens the chance of outperformance as well as Seides’s chance of winning the bet.

What does a Buffett win mean for the business of investing?

This is the ultimate question. If Buffett’s ends up winning, does that mean active management is dead? Of the readers who responded to the poll, 17% said no, the bet is just a bet and nothing more. In comparison, only one in 20 said yes.

Buffett’s bet on indexing says a lot about what he thinks of the investment profession today. Effective active management is a rare talent and identifying that talent is a challenge too. To those who believe otherwise, Buffett’s winning streak is yet further evidence that they may be far off the mark.

My colleagues Rebecca Fender, CFA, Julie Hammond, CFA, and Sloane Ortel contributed to developing the poll question and the analysis.

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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.

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About the Author(s)
Larry Cao, CFA

Larry Cao, CFA, senior director of industry research, CFA Institute, conducts original research with a focus on the investment industry trends and investment expertise. His current research interests include multi-asset strategies and FinTech (including AI, big data, and blockchain). He has led the development of such popular publications as FinTech 2017: China, Asia and Beyond, FinTech 2018: The Asia Pacific Edition, Multi-Asset Strategies: The Future of Investment Management and AI Pioneers in Investment management. He is also a frequent speaker at industry conferences on these topics. During his time in Boston pursuing graduate studies at Harvard and as a visiting scholar at MIT, he also co-authored a research paper with Nobel laureate Franco Modigliani that was published in the Journal of Economic Literature by American Economic Association. Larry has more than 20 years of experience in the investment industry. Prior to joining CFA Institute, Larry worked at HSBC as senior manager for the Asia Pacific region. He started his career at the People’s Bank of China as a USD fixed-income portfolio manager. He also worked for US asset managers Munder Capital Management, managing US and international equity portfolios, and Morningstar/Ibbotson Associates, managing multi-asset investment programs for a global financial institution clientele. Larry has been interviewed by a wide range of business media, such as Bloomberg, CNN, the Financial Times, South China Morning Post and the Wall Street Journal.

13 thoughts on “Does the Buffett Bet Signal the End of Active Management?”

  1. >If Buffett’s ends up winning, does that mean active management is dead?

    No, it means that the price-oriented and excessive risk-taking approach proved to be unsustainable and unscalable.

    The tide is turning.

  2. Joe Blow says:

    No, it means that the hedge fund of funds which made the bet underperformed the S&P.

    Hedge Fund of funds are typically horrible investors. In addition to the additional layer of fees, they love funds that have been performing well. It is pretty much unheard of for them to invest in a fund that has had a rough time…for example a gold stock fund as of Dec 31, 2015. How many hedge fund of funds do you think invested in gold stock funds then? Their 5 year track record was horrendous and when the FOF has to put their “model portfolio” which they show to prospective investors, they would have to include the crappy performance which which drag down the hypothetical portfolio returns.

  3. Tyrone Mguni says:

    We cannot mark conclusions based on these past 7years that hedge funds are performing poor in comparison with the index, instead lets look beyond 7years, maybe 20 or even 30 years

  4. Tom says:

    No and a CFA should know this answer.

    Hedge funds are not the only method by which investors can obtain active management. Though they likely are the most expensive way to get active management.

    Shouldn’t a CFA also understand that an investor, say like Warren Buffet, should only invest in the stocks of high quality companies whose profits are expected to grow over time? Is that the case with every stock in the S&P 500? How many quality companies does one buy in the S&P 500 and how many lousy ones?

    Aren’t you failing in your responsibility as an “investor” by simply buying an index fund?

    A CFA should understand that different market conditions will favor different management styles and that a single narrow event such as the one described in this article is insufficient from which to derive a broad based conclusion such has been made.

  5. Sachin Santuka says:

    Hi, Sir!
    As you must know, Indian fund managers have constantly beaten the index in terms on returns.
    Why is this phenomenon opposite to that of in the US?
    Will it last long?

    1. Larry Cao, CFA says:

      Thanks all for visiting our blog and leaving your comments. This week’s poll seems to be particularly popular with our readers and generated a much higher response rate than usual. As usual though, our polls generally do not have right or wrong answers. They serve the purpose of gauging opinions of our readers, who hail from practically all major markets in the world. If we all agree with other, there won’t be a need for markets.

      Warm regards,

    2. Larry Cao, CFA says:

      Hi Sachin,

      Thanks for visiting our blog. I have not seen conclusive evidence either way about whether active management works in India. It would be consistent with investors’ experiences in many other parts of the world though, i.e. when markets are less mature, there is a better chance for good investors to outperform. That said, active management is a skill that is not easy to master and an important trait of successful investors is to have always have a health dose of skepticism when you are presented with an investment option.

      Warm regards

    3. Aziz says:

      Hi Sachin,

      Not many funds in India survive for five years, few who survive do outperform the index but not with great margin.

      1. Larry Cao, CFA says:


        Thanks for visiting our blog share your thoughts.

        Warm regards,

    4. Jaswant Aditya Singh says:

      Hi sachin
      The reality in india is we are not comparing an apple with an apple. Most of the funds portfolio do not stick with their benchmark constituents and some of them even have multiple benchmarks, then how come they proclaim that they are constantly beating the index.
      They even do not report the index return including the dividends.
      Its misleading and unfair comparison.

      they are outperforming the

      secondly, they never publish index returns inclusive of dividends.
      Its biased as well as ccunn

  6. Ilir Shkurti, CFA says:

    The less an investor pays in fees, the more return there is left to the investor. That is arithmetic. On the other hand, there will be some active strategies – call them factors – that will be favored over time. One’s ability to pick (1) the correct factors (2) at the correct point in time is not an arithmetic proposition, but a probabilistic one. Given the amount of skilled professionals out there, those probabilities have gotten slim that a strategy will consistently outperform, or that an investor will consistently pick it at the right time. So, it makes sense most of the time, for most of the investors (including, honestly, many so-called professionals) to simply take the arithmetic bet rather than a probabilistic one where the expected return is less than a draw (due to fees and other frictions).

    One thing we can be reasonably sure of, however! If indexing becomes the majority of invested assets, it will again create profitable opportunities for activist investors, at which point active strategies may again come back in favor.

    This hedge fund guy can lament all he wants about the timing, but the fact is no one forced his hand, and it was the luck of the draw – hence the probabilities and the less-than-a-draw expected return.

    1. Larry Cao, CFA says:


      Thank you for visiting our blog and sharing your thoughts. I like your “arithmetic” vs. “probabilistic” distinction. It’s the latter that makes the investment business both a fascinating career for successful investors and an easy way for “so-called professionals” to make a living – because it’s so hard to tell which is which.

      Warm regards,

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