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Can Warren Buffett Stay on Top in $1 Million Investment Bet?

Losing a decadelong wager in which Buffett has challenged hedge funds to beat the S&P 500, Protégé Partners could gain ground this year.

  • Georgina Hurst

Don’t bet against 84-year-old Warren Buffett. In 2014 the Oracle of Omaha widened his lead over fund-of-hedge-funds firm Protégé Partners in the seventh year of a decadelong gamble. Back in 2006, Buffett, who is chairman and CEO of $517 billion Berkshire Hathaway, offered to bet any taker $1 million that over ten years and after fees, costs and expenses, an S&P 500 index fund would beat ten hedge funds selected by his opponent.

The following year New York–based Protégé Partners took him up on a version of the wager by selecting five funds of hedge funds. “In addition to seizing the opportunity to correspond with the world’s greatest investor, our purpose for accepting Buffett’s challenge was to inform the public about the benefits of hedge fund investing for sophisticated, institutional investors,” Ted Seides, co-CIO and president of Protégé Partners, wrote in a 2008 white paper titled A Bet Against Buffett — Can Hedge Funds Beat the Market?

Buffett put his money on the Vanguard 500 Index Fund Admiral Shares, which have risen 63.5 percent after fees since the bet was placed in 2008. The undisclosed funds of funds that $2 billion Protégé chose have advanced an estimated 19.6 percent on average after fees during the same period, according to Carol Loomis of Fortune magazine, who has been exclusively tracking the bet from the start. Buffett has come out on top every year except the first, when the funds of funds fell 24 percent, versus a 37 percent drop in Admiral shares.

Buffett and Protégé, founded by Seides and CEO and co-CIO Jeffrey Tarrant in 2002, have already put aside more than they need to cover the bet. In January 2008 both parties invested $320,000 in a zero-coupon U.S. Treasury bond that was expected to be worth $1 million by 2018.

The funds were later transferred to stock in Omaha, Nebraska–based Berkshire Hathaway as interest rates fell, bringing their original $640,000 allocation close to its target five years early. Buffett promised to make up the difference if the Berkshire Hathaway stock wasn’t worth $1 million by December 2017; as of last December it was valued at some $1.68 million.

Although Buffett holds a commanding lead, it’s tough to say who will emerge the winner after the final three years. The Federal Reserve Board’s contentious $3.5 trillion bond-buying program has helped prop up the U.S. economy since December 2008. The HFRI Fund Weighted Composite Index, published by Chicago-based Hedge Fund Research, rose just 3.57 percent in 2014, extending to four years its run of single-digit returns. Meanwhile, the S&P 500 index gained some 12 percent and has beaten the HFRI Composite by double digits in three of the past four years.

“These seven lean years for hedge funds may go down in the annals of market history as a period driven singularly by central bank stimulus,” Protégé Partners concludes in its February 2015 white paper Seven Lean Years in a Bet with Buffett. “Using that lens, it becomes less clear that the bet, if lost, proves that hedge funds are not worth an investment across a cycle.”

But the stock market lost that crutch in October, when the Fed halted its stimulus program. Historically, the S&P 500 hasn’t responded well to the end of quantitative easing: In the three months after so-called QE1 and QE2 ended, the index fell 12 percent and 14 percent, respectively. Hedge funds and other alternative-asset managers should have a better shot at beating the market this year.

In the end the real winner is charity. The $1 million will go to the victor’s cause of choice: nonprofit Girls Inc. of Omaha if Buffett triumphs, or London-based philanthropic organization Absolute Return for Kids (Ark) if Protégé pulls ahead.

Buffett is willing to part with a lot more money — in theory, anyway. Last year the legendary investor teamed up with retail lender Quicken Loans to offer $1 billion to anyone who flawlessly filled out the National Collegiate Athletic Association’s March Madness basketball tournament bracket.

The chances of winning the contest are slim (1 in 9.2 quintillion, supposedly), which would explain why nobody has ever correctly forecast each game’s result. Buffett is reportedly looking to make the same offer this year. Go ahead and try your luck — but if Buffett’s $1 million wager with Protégé Partners shows anything, it’s that he doesn’t like losing a bet.