Yesterday, The Wall Street Journal’s Spencer Jakab reminded me of a wager that I had forgotten: the performance of the S&P 500 against that of five hedge funds of funds, or HFOFs. The bet occurred in late 2007, with hedge fund manager Protege Partners selecting five HFOFs to compete against Warren Buffett's selection of Vanguard 500 Index (VFIAX) portfolio. On Dec. 31, 2018, the 10-year results will be tallied. The loser must pay $1 million to charity.
At the time, Buffett's decision appeared odd. Hedge funds were regarded as one of the ways that the rich became richer. Index funds, in contrast, were a sound way of investing in mutual funds--but they were only mutual funds. How good could they be if anybody could own them?
Indeed, hedge funds had thrashed the stock market over the previous 10 years. Hedge funds had profited nicely during the decade's seven feast years and had also finished in the black during the famine of 2000-02, when stocks were thrashed. Over that period, HFOFs had trailed hedge funds themselves because of the cost of their extra layer of fees, but they were still well ahead of the S&P 500. From 1998 through 2007, HFOFs had gained an average of 9% per year*, with the S&P 500 at 6%.