The hedge fund industry manages $5 trillion dollars. That money is managed so poorly you could do better throwing darts at a board.

From a Financial Times report out over the holiday weekend:

Using backtested data for the HFRI 500, hedge funds continue to be a clear laggard on a long view, returning 61 per cent in the 10 years to December 2022, versus 227 per cent for the S&P 500. Even that Vanguard 60/40 portfolio beat the hedge fund index seven years out of the 10 and returned 79 per cent over the decade.

How is 2023 shaping up? As of May 31, hedge funds were flat, year to date. US bonds were up 2.5 per cent. The S&P 500 had returned 9.6 per cent.

In 2008, Warren Buffett bet that the S&P 500 would outperform the best hedge funds in the world over the next decade. He won the bet.

It Gets Worse

But the deeper you dig, the worse the picture gets.

Hedge fund performance over the last 30 years has been abysmal. The Credit Suisse Hedge Fund Index has delivered a 7% annual return since January 1994, versus 9.8% for the S&P 500.

The Missing Million

That might sound similar, but it isn’t.

Let’s take the example of a $100,000 investment made in January 1994. Here’s what you’d get in hedge funds:

And here’s how you’d do in an S&P 500 index fund, like the ones I own through Vanguard:

Congratulations, you made an extra $953,000! In total, you came away with more than twice as much money as the hedge fund portfolio.

Fees Galore

Despite their miserable performance, hedge funds also layer the fees on thick. Most funds charge 2% of assets and 20% of gains.

To make things even worse, many investors go through a “fund of hedge funds.” You give a firm money, they pool it with other investors’ money, and then allocate it to a portfolio of different hedge funds.

That usually adds another 1% of assets and 10% of gains. You’re up to a 3% management fee and 30% of assets, every year!

No wonder hedge fund investors can’t make money.

And this, my friends, is what hedge funds are really about.

They’re vehicles for charging you fees. Nothing more.

But What About…?

There is the rare hedge fund that massively outperforms the market over the long haul. Jim Simons’ Medallion Fund is one.

Tellingly, Medallion is closed to all but the firm’s own employees.

Perhaps you can find another Medallion. But the odds are against it.

The Illusion of Success

So why do hedge funds continue to manage trillions? Because they look successful.

The managers drive sleek sports cars. They went to the right schools.

An ETF just isn’t as sexy.

Do you invest in hedge funds? Why or why not?

Leave a comment and let us know!

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