Warren Buffett started investing when he was just 11 years old. He is worth over $70 billion and he is 87 years old (born 30 August 1930). So, how old was he when he made his first billion?
Would you be surprised that it was in his 50s? He has extended his wealth from 1 to 70 billion in 30 years by trusting that a good investment grows when they are left alone.
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In 2013 he included details about his will in his annual letter.
"My money, I should add, is where my mouth is: What I advise here is essentially identical to certain instructions I’ve laid out in my will. One bequest provides that cash will be delivered to a trustee for my wife’s benefit. (I have to use cash for individual bequests, because all of my Berkshire shares will be fully distributed to certain philanthropic organisations over the 10 years following the closing of my estate.) My advice to the trustee could not be more simple: Put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund. (I suggest Vanguard’s.) I believe the trust’s long-term results from this policy will be superior to those attained by most investors – whether pension funds, institutions or individuals – who employ high-fee managers."
He famously offered a bet to compare their returns to his using an index fund and put up $1 million to be donated to charity to the winner. His investment in an S&P 500 index fund returned 7.1%, the actively managed fund managed 2.2% over 10 years.
My advice to the trustee could not be more simple: Put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund.— Warren Buffett, CEO of Berkshire Hathaway, 2013 letter to investors
Index funds are based on an index, another smart invention created by the men whose index still carry their name. Charles Dow and Edward Jones. It was hard to tell how well an exchange was doing because you needed to consider all the stocks and it was hard to compare them as some were small while others large.
The two set about listing the 30 major stocks on the New York Stock Exchange and presented them as an indexed value, the Dow Jones Industrial Average. The first in the 1880s set it at 62. It has since risen and fallen many times to reflect the changes in the economy or the perceptions of the economy.
So who do we thank for these index funds? That would be John C Bogle, an investor and founder of the Vanguard Group, the one Buffett mentioned in his will. The Group manages over $4 trillion in assets and is the largest provider of mutual funds.
His undergrad thesis was a study of the relative performance of funds versus the index and showed that the index was as good as the funds especially after fees were considered. That was in the 50s but two events were required before the first index fund would be created in 1976.
Bogle was fired after a failed merger and limited by his company of actively managing funds. And he read Paul Samuelson's article in Newsweek.
In the piece, Samuelson argued that regular investors needed access to buy stock market indices rather than specific stocks.
It was on one of his theories, the Efficient-market hypothesis which held that typically a share price factors in most of the important information relating to it which meant that a share price was an accurate reflection of the share. Actively trying to time the purchase of a share would presume investors could get access to information that the market lacked, something he felt was unlikely.
Being able to buy the index would give the best return on the best shares.
In 1976 the small and ridiculed Vanguard 500 fund was created. It tracked the shares of the S&P 500. It was not attempting to outperform the index, but it would not underperform it either. Because no research was needed, it was cheap to manage and so had very low fees.
It did not do well in the beginning. Hoping to raise $150 million, it started with just $11 million, but 42 years on it stands at $4 trillion.
Samuelson in response referred to its introduction as important as the invention of the wheel or the alphabet
There are many passive tracking funds available now and if you reckon the world’s foremost economist and the most successful investor are anything to go by, you should consider the value of index funds too.
The story of dead investors, turns out, may not be true, but the lesson is that investing over the long term works better for most of us, especially in a good fund with low fees tracking a reliable index.