Will Bartleet, CIO and Portfolio Manager of Pacific Multi-Asset
Buffett’s bet on fees
I spent Sunday morning reading Berkshire Hathaway’s shareholder letter. Berkshire is no ordinary company, and its letter written by CEO Warren Buffett is no ordinary annual report. Its packed with wit and wisdom, covering a wide range of subjects from share buybacks to accounting standards. Remarkably he makes these subjects entertaining, which goes some way to explain why I’ve been reading his annual letters for almost 20 years.
This year he updates readers on the bet he made with a fund of hedge fund manager in 2007 that his selection – an S&P500 tracker – would outperform five fund of hedge funds over a ten-year period. The loser would have to donate $500,000 to charity. His bet was not about the collective skills of hedge fund managers, simply about the fees they collect.
Despite starting on the eve of the financial crisis and ending the first year down 37%, to date his S&P Index fund is up 85% whilst the average fund of hedge fund is up 22%. He estimates that an eye watering 60% of all gains achieved were paid to hedge fund (and fund of hedge fund) managers in the form of fees; “fees never sleep” as he says. He goes on to estimate that the total collective cost of investors paying excessive fees to managers over the past decade exceeds $100 billion.
Here at Pacific we scrutinise fees obsessively
We hope that Buffett would approve of our extensive use of passive funds at exceptionally low fees. We also allocate directly to government bonds, cutting out a layer of fees altogether. We are extremely selective in our allocation to active managers: to allocate to an active fund, we need to have high conviction that:
a) the market in which they operate provides the opportunity for outperformance and
b) that the managers have the skills to outperform after they have taken their fees.
Finally, we use factor funds, sometimes called smart beta, to invest in specific areas of the market, such as value or quality companies, that we have identified as presenting an opportunity. In some ways, these offer the best of both worlds: the opportunity to outperform in a low-cost investment vehicle.
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