Why I Lost My Bet With Warren Buffett

[stahleyp]

Seides point of view:

 

https://www.bloomberg.com/view/articles/2017-05-03/why-i-lost-my-bet-with-warren-buffett

 

If hedge funds couldn't have predicted the turn of events 10 years ago, why assume they could do it over the next 10 years?  Also, it wasn't like they barely lost to the S&P 500 - they were crushed.

[TwoCitiesCapital]

Seides point of view:

 

https://www.bloomberg.com/view/articles/2017-05-03/why-i-lost-my-bet-with-warren-buffett

 

If hedge funds couldn't have predicted the turn of events 10 years ago, why assume they could do it over the next 10 years?  Also, it wasn't like they barely lost to the S&P 500 - they were crushed.

 

While I generally think Buffett is right about high fees, I'm willing to concede a lot of his points as to why the relative performance was SO dismal.

 

Had you told me in 2008 that we'd be trading at a 28-29 P/E in 2017 following two years of corporate profit contraction and that the U.S. economy wouldn't experience a recession despite having the lowest post-recession growth/recovery while facing a double-dip recession by the E.U., a rapidly strengthening dollar, a potential fracturing of the E.U. due to populism, and a near credit crisis in China, and the election of a T.V. personality as president, then I would have told you that you were crazy. That's exactly what happened though.

 

Sometimes, the truth is stranger than fiction.

 

[Ballinvarosig Investors]

You do have to feel some sympathy for him here. The wager was constructed in such a way that the hedges almost certainly couldn't win. I think when Buffett placed his bet, he knew the S&P 500 would generate out-sized returns (actually, he came out and publicly said the S&P was cheap around the time). Considering he had a 100% weighting to the best performing asset class in the world over the 10 year period, it's hardly surprising that he beat the pants of the hedge funds.

 

As Alice Schroeder would probably say, this bet was like Buffett playing the role of the class handicapper when at the races. Because he picked what was by far the best horse in the race, he was almost certain to win.

[stahleyp]

Ball,

 

Do you have any links to Buffett saying the market was cheap in late 2007 or early 2008 (the bet started on Jan 1st 2008)?

 

If anything he said he was 100% in bonds in 2008.

[LC]

I remember something about being unable to dive into equities due to insurance restrictions.

[Guest longinvestor]

Cut the bullshit. Buffett bet that outrageous fees will make sure that the returns would trail. Go back and watch last year's sermon by Buffett at the AGM. The truth about fees is ugly. Fred Shwed said this in 1940 in Where are the Customers Yachts, true then true now, true forever. Fees on top of 2&20? That's ugly

[Ballinvarosig Investors]

Ball,

 

Do you have any links to Buffett saying the market was cheap in late 2007 or early 2008 (the bet started on Jan 1st 2008)?

 

If anything he said he was 100% in bonds in 2008.

Close enough, frrom the NY Times in October 2008 - http://www.nytimes.com/2008/10/17/opinion/17buffett.html

Equities will almost certainly outperform cash over the next decade, probably by a substantial degree.

[John Hjorth]

Cut the bullshit. Buffett bet that outrageous fees will make sure that the returns would trail. Go back and watch last year's sermon by Buffett at the AGM. The truth about fees is ugly. Fred Shwed said this in 1940 in Where are the Customers Yachts, true then true now, true forever. Fees on top of 2&20? That's ugly

 

+1 , the bet was a calamity, this article is simply even worse - it's a marketing disaster for a manager of OPM - plain and simple.

[stahleyp]

Ball,

 

That was after the market collapsed (though not the bottom). The bet was started in Jan of 2008 (and agreed to in 2007, I'd assume).

[Ballinvarosig Investors]

Cut the bullshit. Buffett bet that outrageous fees will make sure that the returns would trail. Go back and watch last year's sermon by Buffett at the AGM. The truth about fees is ugly. Fred Shwed said this in 1940 in Where are the Customers Yachts, true then true now, true forever. Fees on top of 2&20? That's ugly

I am not arguing that the traditional hedge fund structure isn't a disaster. It's definitely very, very bad for investors. What I am saying, is that the bet wasn't even remotely fair. Buffett is an absolute genius who picked the right index to put a 100% weighting into at the right time. This was not luck, he did it because he is smarter than nearly everyone else out there and knew it'd be impossible to beat. Looking at the performance of the opposition, their returns weren't even mediocre, they were diabolical before the ridiculously high fee structure was considered.

 

I take umbrage with his comment the fact that indexing is always great and that active is always bad (except presumably for himself and the 10 other people he talked about as being able to outperform).

[stahleyp]

I don't think anyone says indexing is always great and active is always bad. The math is simple though - the vast majority of time indexing is better (a big reason for this the high fees). If fees were lowered, the argument is harder. If you can find a solid manager with lower fees, active management can do well (look at the Primecap guys).

[LongHaul]

I thought Mr. Seides argument was generally nonsense.

More about denial than facing reality.  He could of picked US funds and maybe he did.

It is very difficult to pick managers who will outperform in the next 10 years.

 

The S&P  WAS at a very high multiple on 1/1/2008 and it is high now. 

http://www.multpl.com/shiller-pe/

 

Buffett bets when the odds are way in his favor and in this case there were 3 major drags on the hedge fund/FOF  side.

 

1.  Ripoff fees of the hedge funds themselves.  2% and 20% is a joke

2.  Ripoff fees of the funds of funds. 

3.  Shorting - a negative drag for 99% of funds.

 

Add all those up and even if someone is a great long investor the fees are likely eliminate the outperformance.

 

A lot of people in finance are like a sleazy used car salesman but at least with a used car salesman you get a car.

 

Let the tomatoes fly

 

 

 

[John Hjorth]

... A lot of people in finance are like a sleazy used car salesman but at least with a used car salesman you get a car.

 

Let the tomatoes fly.

 

LongHaul,

 

You just made a day of mine below average to a day well above average! lol - You could be Danish!

 

Your points still stand. - So +1.

[Guest longinvestor]

Cut the bullshit. Buffett bet that outrageous fees will make sure that the returns would trail. Go back and watch last year's sermon by Buffett at the AGM. The truth about fees is ugly. Fred Shwed said this in 1940 in Where are the Customers Yachts, true then true now, true forever. Fees on top of 2&20? That's ugly

I am not arguing that the traditional hedge fund structure isn't a disaster. It's definitely very, very bad for investors. What I am saying, is that the bet wasn't even remotely fair. Buffett is an absolute genius who picked the right index to put a 100% weighting into at the right time. This was not luck, he did it because he is smarter than nearly everyone else out there and knew it'd be impossible to beat. Looking at the performance of the opposition, their returns weren't even mediocre, they were diabolical before the ridiculously high fee structure was considered.

 

I take umbrage with his comment the fact that indexing is always great and that active is always bad (except presumably for himself and the 10 other people he talked about as being able to outperform).

I'll tell you what's not fair.

 

That no hedge fund manager wanted to stand behind the fees they charge. We know why too.  They have no intention ever to beat anything. Seides obviously didn't know wth he was getting into.

 

The 10 guys who Buffett was speaking about have returned something in excess of the index over the long term. Why? Because that's what they intended to do.  Using Buffett 's threshold for earning his keep as the proxy, the fee was after performing.

 

That's fair.

 

This was not about picking this versus that. Go to longbets.org and listen to Buffett's sermon last year or in the annual letter.It was about the ripoff called fees for nothing. Long haul's used car analogy captures the issue perfectly. At least you get a car. The hedge fund managers did quite ok over the period of the bet.

[cubsfan]

Seides' letter is a real crock of sh*t.

 

Like my French wife says: "With all those 'if's - you could fit Paris in a bottle".

[Parsad]

Cut the bullshit. Buffett bet that outrageous fees will make sure that the returns would trail. Go back and watch last year's sermon by Buffett at the AGM. The truth about fees is ugly. Fred Shwed said this in 1940 in Where are the Customers Yachts, true then true now, true forever. Fees on top of 2&20? That's ugly

I am not arguing that the traditional hedge fund structure isn't a disaster. It's definitely very, very bad for investors. What I am saying, is that the bet wasn't even remotely fair. Buffett is an absolute genius who picked the right index to put a 100% weighting into at the right time. This was not luck, he did it because he is smarter than nearly everyone else out there and knew it'd be impossible to beat. Looking at the performance of the opposition, their returns weren't even mediocre, they were diabolical before the ridiculously high fee structure was considered.

 

I take umbrage with his comment the fact that indexing is always great and that active is always bad (except presumably for himself and the 10 other people he talked about as being able to outperform).

I'll tell you what's not fair.

 

That no hedge fund manager wanted to stand behind the fees they charge. We know why too? They have no intention ever to beat anything. Seides obviously didn't know wth he was getting into.

 

The 10 guys who Buffett was speaking about have returned something in excess of the index over the long term. Why? Because that's what they intended to do so.  Using Buffett 's threshold for earning his keep as the proxy, the fee was after performing.

 

That's fair.

 

This was not about picking this versus that. Go to longbets.org and listen to Buffett's sermon last year or in the annual letter.It was about the ripoff called fees for nothing. Long haul's used car analogy captures the issue perfectly. At least you get a car. The hedge fund managers did quite ok over the period of the bet.

 

We stand behind our fees...we don't have any, so there isn't much to stand behind!  ;D

 

I think if all managers used the model we use (Buffett's original partnership model), long-term you would only be left with those managers that can actually beat the S&P500.  Not many...only handfuls!  And those that just like reaping large fees would be actually working used car lots where they belong.  Cheers!

[AzCactus]

Incentives are very powerful :)

[WneverLOSE]

All I see is excuses.

1) 10 years is a long time to clear out noise and crying about seeing only one poker hand out of many possibilities is such BS. The chance of being with the "winning hand" and still losing after 10 rounds is so remote he should go take a probability course in the nearest high school he can find.

2) Warren bet wasn't strictly about high fees. It was about active management and the implications of it such as extreme diversification, high turnaround and so on.

There is a reason why Warren chose the s&p 500, not because it's cool or because that's the only index he knows, because it is the index that represents the american businesses according to their size in the economy. Going on and on about the fact that he would lose by a smaller margin if you compared the funds performance to other business that don't represent the essence of Buffett thinking just shows how bad he didn't understand Buffett reasoning.

 

[Charlie]

"... A lot of people in finance are like a sleazy used car salesman but at least with a used car salesman you get a car.

 

Let the tomatoes fly."

 

+2  ;D

 

This reminds me of the saying, when people are very good at marketing or speaking, that´s the only thing they need to be good in.

 

 

[Aurelius]

Good interview and he seems like a great guy.

 

It's funny hearing him say he thought Buffett was the patsy. On a second thought, of course he did, why else would you bet $1 milllion?

 

There are a few interesting lessons:

Clearly he overestimated his own abilities to predict the outcome. Overconfidence. We all struggle with this at times.

 

But even if you thought you might have an edge there are so many red flags.

 

1) "Winners curse". Buffett "auctioned" out his bet. Among 1000s of money managers, there were no takers. Until he came along.

2) If he knew about Buffett, which he should if he is going to make a bet with him, he would know "betting/gambling" is so totally out of character for Buffett. This must mean Buffett is very confident he will win. Plus even more so, when this bet is public.

3) Taking the opposite site on business valuation vs Buffett. Not just shorting a bet of his, but actually making the opposite bet where Buffett "decides the terms".

4)  Buffett wanted to make the bet bigger. Such a huge red flag.

 

I could probably go on. The fact is these "red flags" or mental models should have kept you safe from entering this bet.

 

Nevertheless it's a great story.

[Uccmal]

Good interview and he seems like a great guy.

 

It's funny hearing him say he thought Buffett was the patsy. On a second thought, of course he did, why else would you bet $1 milllion?

 

There are a few interesting lessons:

Clearly he overestimated his own abilities to predict the outcome. Overconfidence. We all struggle with this at times.

 

But even if you thought you might have an edge there are so many red flags.

 

1) "Winners curse". Buffett "auctioned" out his bet. Among 1000s of money managers, there were no takers. Until he came along.

2) If he knew about Buffett, which he should if he is going to make a bet with him, he would know "betting/gambling" is so totally out of character for Buffett. This must mean Buffett is very confident he will win. Plus even more so, when this bet is public.

3) Taking the opposite site on business valuation vs Buffett. Not just shorting a bet of his, but actually making the opposite bet where Buffett "decides the terms".

4)  Buffett wanted to make the bet bigger. Such a huge red flag.

 

I could probably go on. The fact is these "red flags" or mental models should have kept you safe from entering this bet.

 

Nevertheless it's a great story.

 

Betting against someone who had 50 years of investing and  actuarial experience was probably not that smart.  The odds were so heavily in favour of Buffett, but of course Buffett wouldn't have made the bet otherwise. 

 

Dude got a huge amount of cheap marketing out of the deal. 

[Dynamic]

I'd love to see a world where the only kind of active managers are:

[*]those who can beat the index and earn their fees, and

[*]those who are managing for something other than total return (e.g. lower volatility/shorter time horizons)

 

But of course, that isn't going to happen. I'd imagine the guy is right that a lot of investors tend to jump ship and jump on the bandwagon at precisely the wrong times, but it all seems like a smokescreen to try to divert our attention from the brief mention of the exorbitant fees and the way those fees accumulate in favour of the people handling other people's money. This happens especially due to the natural volatility of equities that ensures that every so often they get large 'performance fees' for absolute return on the back of years when 'the rising tide lifts all boats' or conversely for relative return on the back of being partially short the market when the tide goes out, and when they get a good year in either sense, that attracts more suckers who are investing by looking at short-term performance in the rear-view mirror to put more assets under management to raise the amount on which their 2% AUM fee is charged. It's so very 'Heads I win, Tails you lose'.

[undervalued]

But the S&P 500 defied the odds and rewarded investors with a historically normal 7.1 percent nine-year annualized return. Part of that return came from investors’ willingness to pay more for a dollar’s worth of earnings, leaving the index trading at an adjusted 29 times its average earnings during the past decade. A high starting price didn’t translate to low returns during this period, but investors should be cautious extrapolating that outcome to the future.

 

And..

 

Warren and I have written during the past two years that he will win the bet absent a market crash. Hedge funds tend to significantly outperform in bear markets, as demonstrated in 2008 and 2000-2002. These same risk-mitigating properties tempered hedge-fund returns in the rally that began in March 2009.

 

So he already benefited from a great recession and was hoping for another recession..

 

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.

 

He is essentially saying if there were two recessions within the last 10 years, he would've won.