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When Picking the Average In Investing Is Better Than Trying To Pick the Best

In 2006, Warren Buffett made a statement about the importance of keeping track of the fees that investors pay for people to manage their investments. In his Berkshire Hathaway annual shareholder’s meeting, Buffett said (emphasis mine):

“I will bet you that if you name any 10 partnerships with over [US]$500 million in assets and put them up against the S&P 500, they will trail the S&P, after fees, over time.”

Well, there was a hedge fund management firm, Protégé Partners, who appeared to have thought otherwise and made a bet with Buffett that commenced on 1 January 2008.

Protégé Partners had bet that its hand-picked collection of five different hedge funds will generate an average after-fee return that beats that of a low-cost fund that tracks the S&P 500, one of the U.S. stock market’s most well-known benchmarks.

The bet would last for 10 years and whoever that picked the losing investment will have to donate a sum of money to a charity of the winner’s choice (Buffett had bet with his own money, not that of his firm Berkshire Hathaway). Buffett had picked the Vanguard 500 Index Fund Admiral Shares as the S&P 500 tracker.

Now that you have a brief background of what the bet is about, let’s see who is currently leading.

Protégé Partners’ basket of hedge funds have generated a return of 21.9% in the first eight years of the bet (2008 to 2015) whereas Buffett’s pick is up by 65.7%. That’s a staggering 43.8% difference. What is also important to realize is that both Buffett’s and Protégé Partners’ picks had ‘invested’ in similar market conditions. So, it wouldn’t be fair to say that one had it easier than the other.

One key lesson I learnt from this bet is that sometimes being average pays off. In fact, average can even be better than trying to the pick the best especially if there are high investment management fees involved.

Now, some of you might be wondering: Well what options do I have here in Singapore that can allow me to be average, so to speak?

One fund which tracks Singapore’s main stock market barometer, the Straits Times Index (SGX: ^STI), is the SPDR STI ETF (SGX: ES3), an exchange-traded fund.

As at 29 February 2016, the SPDR STI ETF has a cumulative total return of 133% (inclusive of dividends) since its inception in April 2002. On an annualised basis, the ETF has delivered a return of 6.28% since inception.

it’s up to investors to decide for themselves if they would rather be average or still pick the best when it comes to their money. But in gunning for the latter, it may be worth keeping a close watch on the associated fees, as Buffett’s bet has demonstrated thus far.

In 2015, Ted Seides, the co-founder of Protégé Partners, had penned an article describing his firm’s losing bet with Buffett. It can be found here if you’re interested in hearing his side of the story.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Esjay owns units in the SPDR STI ETF.