Buffett's Advice to the Berkshire Faithful: Buy Index Funds

By Murray Coleman

We've heard it before. Play the odds and buy the market rather than try to beat it all of the time.

But when the man who most personifies the exception to the rule reinforces those views, it's always nice to note.

Well, this weekend featured another annual meeting for Warren Buffett and his Berkshire Hathaway (BRK.A) (BRK.B) faithful. Thousands turned out, apparently spurred by mixed economic signals and an interest in hearing the latest from a money manager who truly breaks the mold.

Here's how Jason Zweig of Money magazine reported it on Saturday:

In the Q&A session Saturday morning at Berkshire Hathaway's annual meeting, CEO Warren Buffett and vice chairman Charlie Munger repeatedly warned investors to lower their expectations. When a shareholder asked whether Buffett's recent purchases of publicly traded stocks were likely to generate returns greater than 7% to 10% over time, Buffett promptly said no.

Zweig also quoted Buffett as saying:

We are happy to invest in businesses that earn their money in euros in France or Italy or sterling in the UK, because I don't have a feeling that those currencies are likely to depreciate against the dollar. Overall I think that the U.S. continues to follow policies that will make the dollar weaken against other major currencies.... I feel no need to hedge purchases of companies that earn profits in other currencies.

When asked about his predictions for the economy, Buffett said he didn't have a clue and doesn't care.

But here's the payoff for most of us average Joes with a taste for indexing:

When a shareholder asked for the single best specific investment idea Buffett could recommend to an individual in his 30s, Buffett said: "I would just have it all in a very low-cost index fund from a reputable firm, maybe Vanguard. Unless I bought during a strong bull market, I would feel confident that I would outperform ... and I could just go back and get on with my work."

So there you have it ... the dollar's slide isn't over, and buy index funds (does Warren realize exchange-traded funds are even cheaper and come in a wider assortment?) ...

Comments

[fatcat]

Buffett also said Sunday that he expected Wells Fargo to be profitable in 10 yrs....WTF ! 10 yrs!! we'll both be dead by then!!

[bearfund]

Notice that he didn't say what indexes he'd buy. This is either a classic case of "do as I say, not as I do" or he's expecting the savvy investor to choose his exposure wisely. After all, buying the broad indexes makes it impossible by definition to outperform, which he says he's confident he would. So, which sectors or geos would he like?

[mkreisel]

Outperform, outperform, outperform! Sometimes people forget the big picture, which is to keep up with inflation and make some extra money!

On the other hand, Buffett said VERY clearly that investment professionals should not try to diversify, something the author of this article conveniently left out. Index funds, in Buffett's own word, are for the ignorant masses.

[BruceJacko]

How can you outperform (the index) by buying an index fund? Unless Buffett means outperform cash by buying an index fund.

[Skip Savage]

Based on previous comments in the same vein, Warren meant the index outperforms managed money, like mutual funds, most of the time. And you don't have to fuss around trying to decide which fund to buy or worry that yours isn't measuring up.

As for which index, the S&P 500 would do the job for most investors. To complete the picture, you could add some S&P 400 Mid-Cap exposure. Any fancier and you're no longer listening to the man's advice.

[Skjellifetti]

Vanguard Total Bond Market Index Fund -- https://personal.vanguard.com/us/funds/s...

Vanguard Total Market Index Fund -- https://personal.vanguard.com/us/funds/s...

Vanguard Total International Stock Index -- https://personal.vanguard.com/us/funds/s...

And maybe a bit of

Vanguard REIT Index Fund -- https://personal.vanguard.com/us/funds/s...

You'll do fine.

[bearfund]

Skjellifetti, you may or may not "do fine" - each of us has his own goals and horizon when trading or investing, and those index funds may or may not generate the returns we need or want. More to the point, however, they are not going to "outperform" the market; in fact, they are going to underperform it by margins I would expect to be virtually identical to their expense ratios.

"Ordinary people" with no knowledge of finance or economics and no desire or ability to do even basic research should not be "investing" at all. 99.9% of such people would benefit far more from paying off their credit cards, learning to budget, and not spending more than they earn than they would by putting a few dollars here or there into index funds. If they have money left over, it should be put into an insured savings account or - depending on tax advice - a muni money market account. Any investment more complicated than those, including index funds, simply requires more knowledge and effort than most people will muster.

The S&P 500 is not just some number that goes up and down, mostly up, and over a long time goes up more than other equally mysterious numbers. It's shares in 500 separate companies. Some of those companies are good, most are garbage. Some are undervalued by the market relative to their value creation potential, most are overvalued. Except for spike tops at the height of manias like we had in 2000, it's likely that this is more true right now than at any time in living memory. Regardless of current economic conditions, though, if you're contemplating an index fund, you should be asking yourself whether you want to own each of that index's components. Do I want to own C? FNM? MBIA? Do I feel BNI is fairly valued right now? What about USB? GOOG? X? Am I comfortable with ADM's near-total reliance on a dubious subsidy regime? Do I believe in MOT's ability to turn things around? Does S have any future at all? Can I in good conscience own XOM (almost 4% of the index!)? When you buy an S&P 500 index fund, you're buying all of those and 489 other companies. Are you so sure that you can't pick at least one winner and one loser out of those? Really?

Index investors are supporting a lot of losers and damaging their portfolios in the process. As even Buffett admits under duress, broad diversification of this type is really useful only to help people who don't have a clue avoid being manipulated by "advisors" with agendas, following bogus tips, chasing hot money, or picking obvious losers out of sheer ignorance. It necessarily entails diluting the gains from your winners with losses from obvious stinkers, securities you knew or certainly would have known in advance had you done even cursory research that you did not want to own. If you simply must index, you should at least hedge some of the junk to avoid unwanted risk. But frankly, most investors with less than a million dollars don't need more than a couple dozen positions open at any one time. It's hard enough to find that many winners and wait for the right entry points, and I see little reason to buy anything that's not a sure winner. If you just want to gamble, visit a casino. But please, don't just blindly buy broad indexes. The tide does not always rise, and while it may float all boats when it does, it will surely ground some when it inevitably goes out. Avoid buying those and you really will outperform.

[scottp]

Well put Bearfund

[michaelservet]

Actually, Buffet said that diversified funds - using Vanguard as an example - were the best approach for amateur investors (he didn't imply that amateurs were ignorant), however, there was no good reason for professional investors to diversify.

One exception he noted - through a different question - was that with pharmaceuticals you may as well buy the basket rather than try to figure out the relative values of individual pipelines (for example, trying to guess whether J&J vs. Pfizer vs. Sanofi would be the company to have the breakthrough drug)

[Skjellifetti]

I'll bet bearfund has never beaten the indexes over, say, any given 10 year period in the past 50 years, especially after paying for all the expenses he has incured trying to figure out what might be likely (but is just as likely not to) outperform.

Bogleheads rule!

[R. Blaine]

This blatantly absurd statement is repeated ad nauseum regarding Buffet's take on index funds:

"But when the man who most personifies the exception to the rule reinforces those views, it's always nice to note."

Warren Buffet is not a stock-picker (like bearfund apparently is, for instance). He chooses companies, yes, but then he proceeds to buy enough of that company to direct its fate. His 9% ownership of Coca-Cola belies the idea that he is like you and me -- unless the readers of this column can elect members of the BOD--and therefore help control the direction--of the companies they buy.

Fifty years of empirical evidence proves that bearfund is a convincing and either an ignorant or deceitful salesman. No-one can accurately predict on an on-going, year-after-year basis the trend of the world market, let alone a sector, let alone a single company.

The future is random. A little bonds, a little gold, a little real estate, a little equity, a little China, India, Canada, oil, copper, soybean... Collectively, we simply have no clue of what will happen next.

Good luck.

[fxtrader07]

a useless article that misses the point - which is why I regard it as useless.
The question "what's the single best investment idea you recommend?" says it all. People asking for stock-recommendations are usually people who have no clues - and who will NOT recognize when a stock they invest in starts to deteriorate fundamentally. That's because they do not operate on an investment thesis but instead based on a authority who shows them the way. Since buffet cannot continue to show them the way - he would never recommend a single stock (company). He is not a Jim Cramer - quite the opposite! So the single best investment of course would be an investment where you can make the least amount of mistakes - that is: little extra costs, no timing, no extra costs/mistakes by actiove manegers who do a poor job. and no risk of bankruptcy. or simply: maxmimum diversification at little cost and if possible, not to be bought at the peak of a bull run.
I wonder, where the author has been before. These insights and advices from Buffet are neither new nor do they contradict his overall views on investing. rather, he states once again what he has kept stating for years.
So, where is the news here?

[veeblefetzer]

R. Blaine - Well said! Many people persist in thinking they are smarter than the "average masses" and can therefore choose investments that outperform the market averages. No matter how smart you are or how much you know, there are just too many variables and unexpected events to make picking investments more than a guessing game in the long run.

[straykozel]

The fact is that "the masses" are following their employer's IRA advisor's "safe" recommendations and have their money in mutual funds, very often in the expensive Alphabet ones, plus in their company stock.

IMHO, for "the masses" the most profitable future is in Vanguard-type mutual funds, with the more informed individuals hopefully pushing for Index ETFs to be included in their employer's IRA portfolio "offerings".

Based on my experience from IBM (I am retired) many companies would save great amounts of manpower hours from being wasted on the Web if they (the companies) would provide their employees with top notch, coherent IRA-related guidance and choice of selections.

Is there already portfolio-like Mutual Fund or a dynamic ETF made of ETFs? If not, there surely will be one soon.

I am already more than 80% in ETFs and CEFs, with Zero money in Mutual funds; took me a quite few years to get here....

[kdwill]

Bearfund is merely ranting with the same anti-index nonsense regarding the mix of weak companies in an index. His ideas are beyond wrong at best. Imagine -- an expert at fundamentals, technicals (entry points, etc. blah blah). And imagine the huge number or RIGHT decisions he must make year after year to pay for the tax and turnover costs (assuming he makes no purchase decisions for which he must also pay). He must be on the Forbes 400 under a pseudonym. LOL

[User 151634]

If you are in your 30's forget index, or Berkshire. Buy COP, BP and RIG and forget about it. The demand for oil will only go down if the world has a major epidemic that kills 25% of the world population.

[Panskeptic]

What's the problem here?

Certain gifted money managers have beat the market year after year for decades because they're good at it. By the time they get quoted regularly in the financial press, it's usually too late to buy in. Statistically, your brother in law is not likely to be Buffett/Soros/Rogers/Tudor Jones/Robertson etc.

Most of us do not have the gift of beating the indexes most years for a 30-50 year period, though some of us read and chart and sweat and swear and pretend to our friends that we have it too. Under those circumstances, it makes perfect sense to buy a clutch of Bogle's dead fish and hope that life doesn't hurt you too bad.

Or if you want to do it the hard way, and it's your money, and there's enough time, and not too many other people are dependent on your results, go for it. There are many roads to Heaven.

[campbell]

I thought I had read about some studies a few years ago that indicated that index funds with some asset allocation outperformed 90% of managed mutual funds.

[Kostas]

I love Warren, but his advise is absolute garbage. There is a myriad of ways to beat the market. The only excuse he has is that he knows that the average pesrson is a horrible investor, so he talks down to their level trying to help them avoid disaster. The broader market (proxied by indeces) is frequently a widow-maker: there are many very long stretches (some more than 30 years) when indices on a net, inflation-adjusted basis lost money. Simply if you are not knowledgeable give your money to the few that realy are to invest. Warren is misleading and talking garbage, which is probably his one and only (but repeated) investment sin. Otherwise, he is a true saint.

[spikoman]

Warren's suggestion of buying index funds is just fine. If 80% fund managers can't beat their fund's benchmark index, the regular Joe, who's spending far less time in picking stock, is unlikely to beat it neither. The regular Joe is better off putting together a diversify portfolio of index funds and spending rest of his non-working hours enjoying life (within his means, of course).

Those who are smart enough to beat the index will be smart enough to know that Warren's comment isn't directed at them. Unfortunately, many who aren't smart enough to beat the index won't be smart enough to listen to him neither.

I just read vinvesting.com/docs/munger/art_stockpick... by Charlie Munger, (Warren Buffett's partner at Berkshire Hathaway). Here's another advice from Warren: "I could improve your ultimate financial welfare by giving you a ticket with o­nly 20 slots in it so that you had 20 punches ‑ representing all the investments that you got to make in a lifetime. And o­nce you'd punched through the card, you couldn't make any more investments at all. Under those rules, you'd really think carefully about what you did and you'd be forced to load up o­n what you'd really thought about. So you'd do so much better."

Good luck all.