Do you want to bet with or against Warren Buffett?
That is a simple question. Yet it has surprisingly complex meanings and ramifications. It comes up today because of several seemingly unrelated news items that are actually deeply entwined.
The first is a New York Post article with the headline, “Warren Buffett wins $1M bet made with hedgie a decade ago” (which came out several days ago while I was away on vacation). The second was the Wall Street Journal’s report about Harvard’s endowment with the headline, “Harvard Endowment Chief: 8% Return Is ‘Disappointing.’”
By now, you have surely heard about “The Bet,” especially if you work in money management. A decade ago, Buffett endorsed inexpensive passive-index investing over expensive and active hedge-fund management. He put up a million dollars to prove it, and challenged all comers:
Ted Seides of Protege Partners LLC took up the wager. The bet doesn’t end for another three months, but given how far behind he is Seides has already conceded. As Buffett explained in his annual letter this year, the Standard & Poor’s 500 Index during that time period is up (including, as the bet specified, reinvested dividends) about 85 percent, or about 7 percent a year. Meanwhile, the best of the five funds selected by Seides was up 63 percent during the same period; the second best was up 28 percent, and the rest were up by less than 10 percent each. Not annually, mind you, but during the entire decade.
Although Seides has admitted defeat, he said he thinks that “doubling down on a bet with Warren Buffett for the next 10 years would hold greater-than-even odds of victory.” Thus, despite spending $1 million in tuition at the University of Buffett, he failed to learn the expensive lesson that Buffett has offered up to all of us.
It is very easy to look at the wager as a simple passive-versus-active challenge. Some Wall Street guys make noise about their investing prowess, and a testosterone-fueled contest ensues.
But that isn’t the case here. First, Buffett himself is an active investor, with an emphasis on finding undervalued assets. He bet on an entirely different style than his own -- indexing -- albeit one he has repeatedly endorsed over the years.
Second, this debate isn’t, as some others have described it, about active versus passive; rather, it is about cheap versus expensive.
How do we know this? Buffett told us as much in the Berkshire’s 2005 annual letter to investors (page 18). It’s one and a half pages out of 23, but readers can easily see his thinking.