Investing in a hedge fund sounds like a great way to make money. After all, you have some of the smartest and most driven people in the financial world looking out for your interests, and the more money you make, the more they make. You’re a member of the financial elite, if only by proxy. You have impressive names to drop.

But there’s a real downside to investing in those funds, as so many pension funds and endowments do. And as many upper-middle-income people will do if the hedgies and p/e houses succeed in broadening their investor base.

It involves the fees, which for non-elite investors (and even some of the elite ones) are typically 2 percent of assets a year and 20 percent of profits. It doesn’t sound like all that much. But compound it over time, and it’s a ton of money.

The case in point: Berkshire Hathaway. Keith Goggin, a fee-averse Wall Street guy — there’s a contradiction in terms! — shared with me calculations about how Berkshire investors would have done if Warren Buffett, one of the most successful investors of our time, had run Berkshire as a 2-and-20 hedge fund and had gotten the same share-price results it has gotten as a public company.

The cost of the fees stunned me — and I think will stun you, too.


From year-end 1987 (which Goggin says is as far back as his Bloomberg terminal would take him) through year-end 2014, the price of Berkshire rose to $226,000 a share from $2,950. If you’re keeping score at home, that’s 17.4 percent a year. Compounded. Way above the market as a whole.

But if you had paid 2-and-20 to Buffett, you’d have had only $69,633 at year-end 2014. If he had left his fees in Berkshire, as hedgies typically do with the funds they run, he would have had $156,367. In other words, he would have ended up with 69 percent of the pie, leaving you with only 31 percent, instead of the 100 percent you actually got.

To be sure — the favorite weasel words of journalists everywhere — even with fees, you would have earned 12.4 percent a year and outperformed the Standard & Poor’s 500-stock index, a popular benchmark. Vanguard says an investor who put $2,950 in its S&P index fund on Dec. 31, 1987, would have had $43,549 at the end of last year. But instead of having five times as much as an S&P fund, you would have had only about 1.5 times as much. Topping the S&P by 50 percent isn’t chopped liver — but it’s not top-of-the-line steak, as Berkshire’s stock was.

I had trouble believing Goggin’s numbers when I first saw them last week. But I’ve checked out his methodology, and it seems right. (The simplified year-by-year numbers are in the table above.) Goggin’s fee calculations — 2 percent of assets and 20 percent of gains in years that Berkshire’s stock exceeded the high-water mark (please don’t ask me to explain high-water marks here) — are based on the investor’s theoretical account, not on Berkshire’s full stock price.

You might ask, as I did: Why on Earth is a 1991 graduate of the Columbia Graduate School of Journalism who ended up on Wall Street rather than the news biz doing this? The answer, Goggin told me in phone calls, ­­
e-mails and a face-to-face meeting, is a combination of intellectual curiosity and a revulsion against high fees.

“My friends and I spend a lot of time thinking about fees and costs, and the hedge funds have the highest costs around,” said Goggin, a partner at Integral Derivatives, a New York Stock Exchange options market-making firm. “People often compare Berkshire Hathaway to a fund, and while that might have some merit from a stock-picking or diversified-pooled-asset perspective, from a cost-of-investment standpoint the view is quite different.”

Indeed, it is.

Buffett is no saint, a topic we may discuss someday. But as these numbers show, he has left billions on the table for Berkshire’s public investors, who include me. So when it comes to charging fees, let’s place him where he belongs: firmly on the side of the angels.