On July 5, 2017, we reported on the ten-year “long bet” between Warren Buffett, CEO of Berkshire Hathaway, and Ted Seides, a hedge fund manager who was formerly president of Protégé Partners LLC and now managing partner at Hidden Brook LLC. The bet’s premise, as registered on LongBets.org, website of the Long Now Foundation, the wager’s “trustee,” reads, “Over a ten-year period commencing on January 1, 2008, and ending on December 31, 2017, the S&P 500 will outperform a portfolio of funds of hedge funds, when performance is measured on a basis net of fees, costs, and expenses.”
On the last day of 2017, Buffett was so far ahead that only a market meltdown could have caused him to lose the bet on December 31st. But no such meltdown occurred and Buffett won the bet. In fact, Seides conceded the bet back in the spring of 2017. He even wrote an opinion piece on Bloomberg.com, “Why I Lost My Bet with Warren Buffett,” both explaining why he lost the bet and offering some lessons for investors.
What should investors make of all this? Actually, Seides’s own article offers some good points to consider. First, he correctly points out that the equity markets have had an extraordinary run, starting with the disastrous drop that helped initiate the recent Great Recession. In fact, for a time, Buffett’s position lagged Seides’s, since the active trading of hedge funds is designed, among other things, to mitigate downside risk, which can be an effective tactic in a bear market. Related to this, however, Seides also points out the impact of the long-term view, coupled with the inability of most investors to stay the course when the waters are especially choppy. He wrote:
“Studies of human behavior repeatedly point to the inability of investors to stay the course through tough times. The S&P 500 had a harrowing start to the bet in 2008. In October of that year, Warren publicly made a prescient market call, reminding us to be greedy when others were fearful.”
“The S&P 500 index fund fell 50 percent in the first 14 months of the bet. Many investors lacked Warren’s unparalleled fortitude, and bailed out of the markets when the pain became too severe. An investor who panicked and only later re-entered the market would have found that his bank account at the end of the bet was a lot smaller than a hypothetical account in which he earned the index-fund returns for the whole period.”
Though he lost the bet, Seides’s analysis is spot-on. Indeed, Buffett makes the same point in his 2017 letter to Berkshire Hathaway shareholders, when he wrote:
“During such scary periods, you should never forget two things: First, widespread fear is your friend as an investor, because it serves up bargain purchases. Second, personal fear is your enemy. It will also be unwarranted. Investors who avoid high and unnecessary costs and simply sit for an extended period with a collection of large, conservatively financed American businesses will almost certainly do well.”
As Buffett mentions, the other important point to consider, in addition to the importance of holding firmly to the long-term view, is that managing fees, transaction costs, and other investment expenses is essential for investors who want to maximize the value of their portfolios over the long haul. It’s important to remember that Seides’s portfolio for the bet generated positive returns, albeit less than Buffett’s. But once all fees and transaction costs were subtracted, the gap between first and second place only widened.