CHAPEL HILL, NC – Will Warren Buffett address his recent disappointing performance at this weekend’s Berkshire Hathaway annual meeting? He doesn’t say so, and I received no response from the company’s press office when I asked if he plans to broach the issue.
What we do know is that it has lagged behind in the stock market, not just for a year or two, but for longer periods as well. Consider the extent to which Berkshire Hathaway shares BRK.A, -1.29% BRK.B, -0.95% have outperformed the S&P 500 SPX, -0.72% over the past 15 years. This superior performance, or alpha, has been steadily declining for the past four decades. In 1979, for example, the first year in which there was a 15-year follow-up history, Berkshire Hathaway‘s 15-year alpha stood at more than 15 percentage points annualized. By the turn of the century, it was only half as large. And by the end of last year it had fallen into negative territory. Yet despite this decline, Buffett’s lifetime record remains outstanding. Since 1965, Berkshire Hathaway shares have outperformed the S&P 500 in terms of total return by an annualized margin of 18.3% to 10.2%. What this means: His performance prior to the last 15 years was so impressive that even after incorporating the most recent period, he is still far ahead. Read Howard Gold: Failed Stock Picks, Industry Bad Bets, Very Underperforming – It’s the End of the Warren Buffett Era Buffett’s Sale of Airline Stock Many are advancing an explanation of his recent disappointing performance I think Which is unfair: that Buffett has lost his touch, as evidenced by his decision to sell his airline’s properties a year ago during some of the pandemic’s darkest early days. Since Berkshire Hathaway’s annual meeting last year, when it announced the sale, the shares of the airlines it sold have gained more than 100%, on average, more than double the performance of the S&P 500. But this narrative is based on an amount considerable 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 that are very beyond our control. . “I contend he was right. Who knew at the time whether the vaccines that were in development would be successful? One of Buffett’s investment principles, which has served him well in the past, is never to invest in a business that he cannot understand. And, despite what some may be saying 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 committed a Big mistake in selling your airline stock. Blaming Buffett for your decision to sell is akin to blaming someone in a casino for not knowing which of the countless slot machines would soon hit the jackpot. It helps to think of this in terms of Odds. Imagine, for discussion purposes, that 60% of the time, Buffett can pick companies that outperform the S&P 500 and that their average holding period is 10 years. (I have no idea if these assumptions are are accurate, but they seem plausible to me). If so, Buffett would need to invest for many decades – more than 100 years in fact – before the statistical odds of beating the broader market become almost certain. This is just another way of saying that in shorter time horizons, luck plays a huge role in explaining returns. This is important to keep in mind, as our minds are programmed to rule out the role that luck can play, leading us to invent narratives to explain what is happening. That’s a mistake, Dartmouth professor Ken French once told me: “Statistical noise — in other words, luck — is always the first possibility to consider.” Warren Buffett versus Jim Simons Another revealing comparison is with James Simons of Renaissance Technologies, whose Medallion Fund has even outperformed Berkshire Hathaway for as long as they have both existed. Brad Cornell, professor emeritus at UCLA, reports that the Simons fund produced an annualized return of 39.2% (after commissions) between 1988 and 2018, compared to a return of “only” 15.5% for Berkshire Hathaway. and 10.0% for the S&P 500. total return. Even better, the Medallion Fund’s returns have been incredibly consistent. Cornell reports that the fund has only had one losing year in three decades: 1989, when its net return on fees was minus 3.2%. Cornell reports that the odds of success for any of the individual Medallion Fund trades have been just 50.75%, considerably less than the 60% I assumed in my hypothetical Berkshire Hathaway example and just over 50%. But when combined with high-frequency trading, those seemingly modest odds are enough to produce a highly profitable strategy. Medallion’s strategy involved constantly opening and hedging thousands of short-term positions, both long and short … [50.75%] The percentage allowed the company to earn billions, ”Cornell wrote. Read: Become a better investor by learning from the successes and failures of hedge fund star Jim Simons. Buffett, by contrast, is at the opposite end of the spectrum from high-frequency trading. That’s why it takes many more years for Buffett’s chances of success to translate into consistent performance outperforming the market. It’s also worth noting that Simons recognized early on that there is a limit to the amount of money that can be managed, consistent with the Medallion Fund’s strategy. The fund is not open to outside investors, for example. Buffett, by contrast, has made his strategy available to everyone. In fact, there are those who believe that if Berkshire Hathaway had remained as small as the Medallion Fund, Buffett’s recent performance would be much better. To be sure, Buffett’s personality is such that he is unlikely to blame bad luck for his recent disappointing performance. Even when it is true, many think the explanation is in bad taste, akin to not taking responsibility. So it will be interesting to see if you are asked about your 15-year negative alpha this weekend, and if so, what you say about it. But regardless, don’t underestimate the role that luck has really played, in other words, randomness. Mark Hulbert is a regular contributor to MarketWatch. Your Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at firstname.lastname@example.org Now read: Berkshire Hathaway after Buffett: Who will be CEO, what else will change and what will not? Plus: Warren Buffett could teach traders about dogecoin, GameStop, and other hot trends a few things about ‘Mr. Market’