Opinion: Here’s how to best interpret Warren Buffett’s disappointing track record


CHAPEL HILL, NC – Will Warren Buffett speak about his recent disappointing performance at the Berkshire Hathaway annual reunion this weekend?

He doesn’t say so, and I received no response from the company’s press office when I asked him if he planned to bring up the matter.

What we do know is that it has fallen behind the stock market, not only for a year or two, but for longer periods of time as well. Consider how well Berkshire Hathaway’s BRK.A stock,
+ 0.13%

+ 0.05%
outperformed the S&P 500 SPX,
+ 0.08%
over the past 15 years. This outperformance – or alpha – has been steadily declining over the past four decades.

In 1979, for example, the first year for which a 15-year track record existed, Berkshire Hathaway’s 15-year alpha was over 15 percentage points annualized. At the turn of the century, it was only half the size. And by the end of last year, he had moved into negative territory.

Despite this drop, however, Buffett’s lifetime record is still outstanding. Since 1965, Berkshire Hathaway stock has beaten the S&P 500 on a total return basis by an annualized margin of 18.3% to 10.2%. What it means: His performance before the past 15 years was so impressive that even after incorporating the most recent period, he’s still way ahead.

Read Howard Gold: Dud stock picks, bad industry bets, vast underperformance – it’s the end of the Warren Buffett era

Buffett’s sale of airline stocks

Many are putting forward an explanation for his recent disappointing performance which I find unfair: that Buffett has lost touch, as evidenced by his decision to sell his airline assets a year ago during some of the darkest early days of the pandemic. Since Berkshire Hathaway’s annual meeting last year when he announced the sale, shares of the airlines he sold have gained more than 100%, on average, which has more than doubled the return of the S&P 500.

But that narrative rests on a fair amount of Monday morning quarterback. Buffett’s rationale for selling, as he said at last year’s meeting, was that “there are certain industries, and unfortunately I think the airline industry, among others, is really affected. by a forced shutdown by events beyond our control. . “

I contend he was right.

Who knew at the time if the vaccines then in development would be successful? One of Buffett’s investment principles, which has served him well before, is to never invest in a company that you cannot understand. And, despite what some might say now, no one at the time knew whether an effective vaccine would be developed in time to save airlines from bankruptcy.

Michael Brush in May 2000: Here’s why Warren Buffett made a huge mistake selling his airlines’ stock

Blaming Buffett for his decision to sell is like blaming someone in a casino for not knowing which of the myriad slots would hit the jackpot soon.

It helps to think of this in terms of probabilities. Imagine for the sake of discussion that 60% of the time Buffett is able to pick companies that will outperform the S&P 500 and his average holding period is 10 years. (I don’t know if these assumptions are correct, but they seem plausible to me.)

If so, Buffett will have to invest many decades – well over 100 years, in fact – before the statistical odds of beating the global market become nearly certain.

This is just another way of saying that over shorter time horizons luck plays a disproportionate role in explaining returns. It’s important to keep this in mind, as our minds are hardwired to ignore the role luck can play – leading us instead to concocting stories to explain what’s going on. This is a mistake, Dartmouth professor Ken French once told me, “Statistical noise – luck in other words – is always the first possibility to consider.”

Warren Buffett vs. Jim Simons

Another telling comparison is that of James Simons of Renaissance Technologies, whose Medallion Fund outperformed even Berkshire Hathaway during the time that the two existed. Brad Cornell, professor emeritus at UCLA, reports that Simons’ fund produced an annualized return of 39.2% (after fees) between 1988 and 2018, compared to a return of “only” 15.5% for Berkshire Hathaway and 10.0% for the total return of the S&P 500 .

Best of all, the performance of the Medallion Fund has been incredibly consistent. Cornell reports that the fund has seen only one losing year in three decades: 1989, when its return net of fees was minus 3.2%.

Cornell reports that the odds of success for any of Medallion Fund’s individual trades were only 50.75% – considerably lower than the 60% I assumed in my hypothetical Berkshire Hathaway example and only slightly higher. at 50%.

But when paired with high frequency trading, these seemingly modest odds are enough to produce a very profitable strategy. Medallion’s “strategy was to permanently open and hedge thousands of short-term positions, both long and short… Resumption of millions of trades that [50.75%] percentage allowed the company to make billions, ”Cornell wrote.

Lily: Make yourself a better investor by learning from the successes and failures of hedge fund star Jim Simons

Buffett, on the other hand, is on the opposite end of the spectrum of high frequency trading. This is why it takes so many years for Buffett’s chances of success to translate into consistent market outperformance.

It’s also worth noting that Simons recognized early on that there was a limit to the amount of money that could be managed, depending on the Medallion Fund’s strategy. The fund is not open to outside investors, for example. Buffett, on the other hand, made his strategy accessible to everyone. In fact, some believe that if Berkshire Hathaway had remained as small as the Medallion Fund, Buffett’s recent performance would be much better.

Admittedly, Buffett’s personality is such that he’s unlikely to simply blame bad luck for his recent disappointing performance. Even when this is true, many think the explanation is in bad taste, akin to not taking responsibility. So it will be interesting to see if he’s asked this weekend about his alpha negative at 15 and, if so, what he says about it.

But anyway, don’t underestimate the role that luck – chance, in other words – really played.

Mark Hulbert is a regular contributor to MarketWatch. Its Hulbert Ratings tracks investment newsletters that pay a fixed fee to be audited. He can be contacted at [email protected]

Now read: Berkshire Hathaway after Buffett: who will be CEO, what else will change – and what won’t

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