Buffett tells a parable about a wealthy family -- the Gotrocks -- and the “frictions” they encounter in trying to manage their riches. They keep hiring costly helpers; then they need consultants to manage all of those helpers. Eventually, the Gotrocks become the Hadrocks. Their expensive activity cost them dearly, leading Buffett to muse about Sir Isaac Newton’s fourth undiscovered law of motion: “For investors as a whole, returns decrease as motion increases.”
At the risk of projecting too much of my own belief system onto Buffett’s parable, I read this as a stern warning to institutional investors, foundations, pensions, endowments and wealthy families: You are probably wasting your money on expensive advisers.
The rise of low-cost indexing during the past few years has been credited -- or blamed, depending upon who pays your salary -- on a variety of factors: the great financial crisis, the dot-com crash and high-frequency trading, to name the usual suspects.
Now, we have one more to add to the list: Buffett himself. I suspect that many who have been considering why indexing has become as popular as it has may be underestimating the impact his repeated advice to buy low-cost indexes has had on his many loyal followers. I know I have underestimated it. Bogle’s Folly, as the first index fund was derisively described, seems to have morphed into Buffett’s Revenge.
This is more than a mere dis of hedge-fund managers by Berkshire’s chairman -- he again trashed high fees at this year’s annual meeting. Bloomberg News reported he even compared money spent on plumbers as “more value added” than the fees paid to hedge-fund managers.
Which leads us to Buffett’s motivation in making the bet. The world’s fourth-richest person doesn’t need the money. Nor does he need any further bragging rights about his investing prowess.
Here’s my best guess: Buffett is trying to teach the rest of the world of investing and money management a very simple yet elusive lesson. Costs matter. Although the dumb money seems to have figured this out, many of those working in finance either have yet to do so or don’t want to recognize it.
Warren Buffett made a bet and won. Which side of it do you want to be on?
This column was provided by Bloomberg News.