Warren Buffett is considered one of the most famous investors in the world, and he frequently advocates for the benefits of investing in low-cost index funds. In fact, he advised his money manager to invest in index funds. “My advice to the manager couldn’t be simpler: put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund,” he mentioned in Berkshire Hathaway’s annual letter in 2013.
How the Rich Invest
For example, let’s take Steve Ballmer, the former CEO of Microsoft who has a net worth of about $70 billion. Despite leaving Microsoft, he owns over 300 million shares in the company, which is an investment worth several billion dollars.
Some other ways that Ballmer has chosen to invest his money include a stake of about 4% in Twitter (before selling his shares in 2018), as well as real estate investments in Hunts Point, Washington, and Whidbey Island. He purchased the Los Angeles Clippers basketball team for $2 billion. His wealth is concentrated in a few investments, which is the opposite of Buffett’s recommendation (and many personal finance experts) to buy low-cost index funds.
Alternative investment funds are also popular among the wealthy. These funds require the wealthy to show a net worth of $1 million or more and use sophisticated strategies aimed at achieving returns that exceed the market. However, alternative investment funds usually charge fees of about 2% for fees and 20% of profits. Investors need to achieve significant returns to support those high fees!
Why Don’t the Rich Invest in Low-Cost Index Funds?
Over the past 90 years, the average annual return for the S&P 500 has been about 9.5%. You might think that the wealthy would be satisfied with this type of return on their investments. For example, $10,038.47 invested in the S&P 500 in 1955 would have grown to $3,286,458.70 by the end of 2016. Investing in the entire market through index funds provides consistent returns with reduced risk associated with individual stocks and other investments.
However, the wealthy can afford to take on some risks in order to multiply their fortunes (their billions). For example, look at the famous investor and global speculator George Soros. He once made $1.5 billion in a month by betting that the British pound and several other European currencies were overvalued against the German mark.
Alternative investment funds aim to achieve such extraordinary returns, although history is full of examples of years when many alternative investment funds failed to outperform stock market indices. But they can also be highly profitable for their wealthy clients. That is why the wealthy are willing to bear the steep entry fees, ranging from $100,000 to $25 million, for a chance at substantial returns.
The investment habits of the elite are also likely to reflect their interests. Since most wealthy individuals made their fortunes from business, they see this path as a way to continue maximizing their money while sticking to what they know best – corporate structure and market performance. They also enjoy art, cars, homes, and antiques. By purchasing those luxuries, the wealthy enhance their lifestyle and enjoy the increasing value of those luxuries as a nice bonus.
Conclusion
The wealthy have massive incomes, net worth, and opportunities. Although they seek unique investments in hopes of achieving astounding returns, not all of their ventures yield higher returns than low-cost index funds. However, since they have enough cash to survive, they are less dependent on stable returns. The simple investment strategy of low-cost index funds is sufficient for Warren Buffett, and it is also sufficient for the average investor.
Questions
The Rumor
How do index funds work?
Index funds generally rely on tracking the market performance of the index they follow (such as the S&P 500, for example). Investors in an index fund should expect returns similar to the index itself, making it a reliable and low-risk investment. They are typically managed passively, meaning that managers do not buy and sell heavily to keep costs low.
What returns do index funds yield?
The rates of return depend on the index on which the index fund is based. An index fund for the S&P 500 will generate different returns than an index fund for the real estate market, for example.
What are the drawbacks of index funds?
Although index funds are generally considered a reliable means of investing, no investment is free of risk. Some index funds may underperform the market they follow, and some may be too rigid for the investor who desires flexibility and the opportunity to adjust with market changes. Generally, passively managed funds offer fewer opportunities for significant returns.
Source: https://www.thebalancemoney.com/index-funds-wealthy-investors-reject-4142005
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