Let's talk about the dirty little secret on Wall Street.
You might have heard about hedge funds. These are the elite clubs of Wall Street. Investors, often highly wealthy, combine their money, and a hedge fund manager tries to beat the market with it.
These are "the suits," the billionaire managers who aggressively trade or short stocks, using any edge they can find. Examples of these wealthy fund managers include names like Bill Ackman and David Tepper.
But did you know that you can beat the pros?
The craziest part is that you can outperform the average hedge fund, working less than they do.
Here is how.
Beating the market is hard
Every hedge fund's goal is to generate market-beating returns for its clients. Fund managers are often paid based on how their fund performs. However, the nature of the business forces most hedge funds to focus on the short term, which is much more challenging because the stock market can be pretty darn irrational.
That doesn't stop people from trying. According to Mordor Intelligence, over 3,400 active hedge funds exist in the U.S. Occasionally, a fund manager can become famous for a colossal trade or a stretch where their investment strategy excels. But generally speaking, it's hard, even for the best-paid professionals, to outrun the S&P 500 (^GSPC -0.60%) over time.
Data from an article by The American Enterprise Institute charted the average hedge fund's performance from 2011 to 2020. Over that stretch, the typical hedge fund underperformed the S&P 500 every single year. Again, there will be an occasional manager who outperforms, but rarely does it last long.
Famous investor Warren Buffett even won a bet once. He wagered that an index fund tracking the S&P 500 would outperform a basket of hedge funds over a decade. The S&P 500 (and Buffett) won that bet decisively.
Why is the S&P 500 so good?
Understanding how the S&P 500 works will help illustrate its effectiveness. It's an index by Standard & Poor's that holds 500 of America's best corporations. A committee oversees the index and determines whether companies are taken in or out. The collective market cap of the member stocks determines its weightings.
The point here is that the index evolves. Performing stocks steadily contribute more to the index, and the committee ensures it holds only the best companies.
^SPX data by YCharts
Ultimately, the S&P 500 reflects the best the U.S. economy offers. Even the index can have a bad year, but historically, the S&P 500 has continually risen over time through recessions, wars, and catastrophes. Its annual average return is about 10% historically.
How you can invest in the S&P 500
For such a remarkable wealth-building machine, using it for yourself is straightforward. There are a handful of index funds that mimic the S&P 500. Some popular examples include the SPDR S&P 500 ETF Trust and Vanguard S&P 500 ETF. These funds also cost very little to buy and hold. Their expense ratios are both just 0.09% and 0.03%, respectively.
You can set up an investment account and automate regular purchases of these funds, slowly but surely building a position. Given the U.S. stock market's historical resiliency, you can feel pretty good that you will have much more money in the future because of the S&P 500.
It doesn't take a billionaire hedge fund manager to make you wealthy.
Justin Pope has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends S&P Global and Vanguard S&P 500 ETF. The Motley Fool has a disclosure policy.
FAQs
All hedge funds tracked by BNP Paribas returned an average of 7.66% in 2023, differing from the survey results released on Feb. 12. In 2022, these hedge funds returned an average of 0.42%, said a BNP spokesperson. However, survey respondents said their hedge fund portfolios returned an average of 1.1% in 2022.
Is Hedgex Fund real or fake? ›
While the absence of regulatory oversight does not guarantee that Hedgex Fund is a scam, it's crucial to note that this red flag may expose investors to potential fraud risks.
Why do people invest in hedge funds if they don t beat the market? ›
There are two basic reasons for investing in a hedge fund: to seek higher net returns (net of management and performance fees) and/or to seek diversification.
What is a hedge fund in layman's terms? ›
A hedge fund is a limited partnership of private investors whose money is pooled and managed by professional fund managers. These managers use a wide range of strategies, including leverage (borrowed money) and the trading of non-traditional assets, to earn above-average investment returns.
What is the 2 20 rule for hedge funds? ›
The 2 and 20 is a hedge fund compensation structure consisting of a management fee and a performance fee. 2% represents a management fee which is applied to the total assets under management. A 20% performance fee is charged on the profits that the hedge fund generates, beyond a specified minimum threshold.
What is the highest hedge fund returns ever? ›
One of the most profitable hedge funds of all times, Citadel generated $16 billion in profits for its investors in 2022, and earned $65.9 billion in net gains since 1990, making it the top-earning hedge fund ever.
How big is the Norfund fund? ›
In 2020, investments increased by 20%, in 2021 by 10% and in 2022 by another 20%. In 2023, the record level of 6.5 billion from the year was thus maintained. Norfund's total committed portfolio was 36.2 billion at the end of the year.
How big is the GrowthCurve fund? ›
GrowthCurve Capital has held the final close of its inaugural private equity fund, GrowthCurve Capital Partners I, with total capital commitments of $1.4 billion for the fund and related co-investment vehicles.
Is Money Market Fund legit? ›
A money market fund is a type of mutual fund that has relatively low risks compared to other mutual funds and most other investments and historically has had lower returns. Money market funds invest in high quality, short-term debt securities and pay dividends that generally reflect short-term interest rates.
Will hedge funds exist in 10 years? ›
Overall, the consensus is that hedge funds will continue to grow but will adapt to lower fees, greater use of technology, and increased access to retail investors.
Because they are not as regulated as mutual funds or traditional financial advisors, hedge funds are only accessible to sophisticated investors. These so-called accredited investors are high net worth individuals or organizations and are presumed to understand the unique risks associated with hedge funds.
Is Berkshire Hathaway a hedge fund? ›
Because Berkshire is a publicly traded holding company, rather than a mutual fund or hedge fund, it doesn't charge fees. And Buffett never had to worry that investors would flood him with too much money at a market top or yank it out at the bottom. Most funds have fickle capital; Berkshire has permanent capital.
Is BlackRock a hedge fund? ›
BlackRock manages US$38bn across a broad range of hedge fund strategies. With over 20 years of proven experience, the depth and breadth of our platform has evolved into a comprehensive toolkit of 30+ strategies.
How many hedge fund billionaires are there? ›
In total, Forbes counts 47 hedge fund billionaires who have a combined net worth of $312 billion, up slightly from the same number in 2022 who were worth $310 billion.
What do hedge funds do for dummies? ›
Hedge funds use pooled funds to focus on high-risk, high-return investments, often with a focus on shorting—so you can earn profit even when stocks fall.
What is the average return on hedge funds compared to S&P? ›
Data shows that hedge funds consistently underperformed the S&P 500 every year since 2011. The average annual return for hedge funds was about 4.956%, while the S&P 500 averaged 14.4%.
What is the standard hedge fund rate? ›
A "2 and 20" annual fee structure—a management fee of 2% of the fund's net asset value and a performance fee of 20% of the fund's profits—is a standard practice among hedge funds.
What is a good rate of return on investment fund? ›
General ROI: A positive ROI is generally considered good, with a normal ROI of 5-7% often seen as a reasonable expectation. However, a strong general ROI is something greater than 10%.
What percent of hedge funds are successful? ›
Goldman, which has helped launch and finance thousands of hedge funds, said almost all newcomers survive their first year but that only 62% of all funds remain in business after five years.
