- An alternative to an index fund is a managed fund.
Think of a managed fund as a room full of experts
who spend all day looking at economic news
and financial reports for companies
and certain industries so that they can give you
an informed investment recommendation.
In terms of raw performance, you can see that a manged fund
has an advantage over an index fund,
because an index fund is just based
on some simple mathematical rule.
But, the experts who do the stock picking
in a managed fund have to be paid.
So it's not unusual for a managed fund
to have a management fee of three or four percent per year.
With that same $10,000 investment that I could put
in an index fund and only pay $5 a year to have it managed,
for a managed fund, I might have to pay
$300 or $400 per year.
So there's the trade-off.
Do I want low management fees with an index fund
where I'm not strategically investing my money,
or do I want to go with a managed fund and pay higher fees?
You have also heard of private equity funds.
Private equity funds are not for you and me.
These are big investments, say, a hundred million dollars,
where a group of people with lots of savings
have put their money together and say
we are not going to invest in a few shares of stock,
we want to buy companies.
That's what private equity funds do.
And it's not so easy to get your money
out of a private equity fund.
You've put your money in with other people,
large amounts of money, and you've bought other companies,
so it's not easy to pull your money out.
You've also heard of hedge funds.
Think of a hedge fund as a very sophisticated
mathematical organization that has done statistical tests
and found relations among different market prices.
For example, a hedge fund might have done an analysis
of U.S. dollars, Indonesian rupiah, and stock prices
in the Indonesian stock market,
and have used mathematical relations
to come up with very sophisticated rapid trading strategies.
The hedge fund will then invest your money on that basis.
Investing in hedge funds and private equity funds
is not for the faint of heart.
These investments usually involve large amounts of money.
Typically, regulations around the world
prevent ordinary people who aren't sophisticated investors
from getting into hedge funds or private equity investing.
The most famous investor in the United States
is Warren Buffet, and every year he writes
a president's letter for his company, Berkshire Hathaway.
Each year, he reports how his investments have performed
relative to the S&P 500 Index.
He shows, for example, that since he started
running the company back in the 1960s,
the S&P 500 Index has gone up about 10% per year,
whereas his company has generated a return
of about 20% per year.
Well, can you pick investments like Warren Buffet does?
Yes.
As soon as you have as much information
as Warren Buffet has.
Warren Buffet sits in Omaha, Nebraska,
and considers deals all year long.
People are always proposing deals to Warren Buffet,
he considers hundreds of deals per year
and invests in only a handful.
But while considering these proposals,
he is given access to all kinds of information.
So, if you are presented with all kinds
of extra information, as Warren Buffet is,
you too can probably regularly beat the S&P 500 Index.
Now I'm not here to give investment advice.
I'll just speak for myself.
I don't think I have enough superior information
to beat the S&P 500 Index.
So for my personal investing, I just trust
that if I spread my money evenly
among the 500 largest companies in the United States,
I'll probably do okay.
I won't do as well as Warren Buffet, but I'll do okay.