Buffett Says Random Laymen Just As Effective As Financial Professionals

Warren Buffett has said itbefore: He does not like the structure of financial helper fees.

Buffett reiterated at the annual Berkshire Hathaway Inc. (NYSE: BRK-A) (NYSE: BRK-B) shareholder meeting the compensation package of “two and twenty,” in which hedge fund managers charge 20-percent of profits on top of 2-percent of asset values, generally does not work well for investors.

So his managers really earn it.

“We pay them a million per year plus the amount by which they beat the S&P,” he said of two Berkshire managers overseeing $20 billion. “They have to actually do something to get contingent compensation, which is much more reasonable than 20 percent.”

The Anomaly Of Finance

Common payment strategies award managers inordinate sums for average performance, and Buffett said passive investors could often do just as well on their own.

“If you go to a dentist, if you hire a plumber, in all the professions, there is value added by the professionals as a group compared to doing it yourself or just randomly picking laymen,” he said. “In the investment world, that isn’t true. The active group, the people that are professionals in aggregate, are not, cannot do better than the aggregate of the people that just sit tight.”

Buffett said he’s only known about a dozen people whose investments he trusted to do better than average long term, and even they wouldn’t outdo the S&P 500 working with $100 billion. Those who secure major accounts are generally superior — but as salesmen, not necessarily as managers.

“The huge money is in selling people the idea that you can do something magical for them,” he said. “If you have even a billion-dollar fund and get 2 percent of it for terrible performance, that’s $20 million. In any other field, it would just blow your mind, but people get so used to it in the field of investment that it just sort of passes along.”

The Ethical Quandary

Buffett questioned how managers can press their compensation model “in good conscience” but foresaw no slowdown in their efforts.

“But how many hedge fund managers in the last 40 years have said, ‘I only want to get paid if I do something for you? Unless I actually deliver something beyond what you can get yourself, I don’t want to get paid,’” he said. “It just doesn’t happen.”

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