Warren Buffett has long been a proponent of passive investing for the average person, and he just won a million dollar bet to prove his views.
Ten years ago the billionaire investor wagered a bet with fund manager Protege Partners that a passive index fund would outperform a basket of hedge funds over one decade. Buffett will be donating the million dollars to the non-profit organization Girls Inc in his hometown of Omaha, Nebraska.
An index fund that matches the S&P 500 showed compounded annual returns of 7.1% whereas the basket of hedge funds picked by Protege Partners saw only 2.2% returns in the same 10 year period. This is a fairly decisive blow to the active vs passive investing rivalry, and it comes at a time where people seem to be heeding Buffett’s simple advice. The rise of the entire ETF industry is worrying some as investors are flocking into these types of funds. The ETF industry saw a record breaking amount of inflows of $475 billion in 2017, mostly into passively managed funds.
I am generally in agreement with Buffett on this issue. For the average American, the simplest way for them invest in the stock market for the long run is to max out their Roth IRA with a single, high quality dividend paying ETF such as SCHD or VIG. The current contribution limit is $5500 per year, so that gives an American couple $11,000 to find each year to put into long-term investments for retirement. If a couple both have a 30 year working career, that adds up to $330,000 merely in principle. All dividends and capital gains are tax free once inside the Roth, so this gives compound interest a chance to really do it’s work and grow that number to well over a million dollars if the investments are made and not touched for the 30 years.
One of the drawbacks is that the Roth stays tax free ONLY if you can wait until age 59 and a half. A second consideration is that Roth accounts are not even allowed for those earning into the six figure range each year. Also, the holdings in the Roth can NOT be used as collateral for a loan. All of these issues are coincidentally not found in the Canadian equivalent of the Roth, known as the TFSA or Tax Free Savings Account. So for Canadian citizens, they can enjoy a bit more financial freedom when compared to their American counterparts in this specific case.
*This post is not intended as financial advice. It is for informational purposes only.
Sources:
https://www.usatoday.com/story/money/markets/2018/01/02/warren-buffett-bet-against-hedge-funds-girls-charity/996993001/
https://marketrealist.com/2018/01/etf-inflows-hit-record-highs-2017