Buffet Takes Swipe at Hedge Funds, Risk Management, and CEO Pay

Berkshire Hathaway’s annual report is out, and with it, Warren Buffet’s famous letter to shareholders. I took a quick look, and found the Financial Times’ take on the main points (“Buffet attacks hedge fund fees“) is as good as anything I could say:

Warren Buffett, the world’s second-richest person, on Thursday stepped up his criticism of hedge funds, calling their fee arrangements “grotesque” and cautioning shareholders against unrealistic return expectations.

In the legendary investor’s much-anticipated annual letter to Berkshire Hathaway shareholders, he slammed “Wall Street’s pied pipers of performance” and said it was “folly” for investors to pay ever-greater commissions and fees in an attempt to increase returns.

In a nod to his advancing age Mr Buffett, 76, and his board have already chosen, but not publicly identified, a successor as chief executive. He planned to hire one or more understudies with the potential to succeed him as the company’s investment mastermind, he said.

Lou Simpson, who manages investments at Berkshire subsidiary Geico, has been heir apparent to that role but is only six years younger than Mr Buffett.

The Berkshire chairman, known as the Oracle of Omaha, said the right person would be able to deal with the “bizarre” things markets do, going beyond standard investment techniques.

“Certain perils that lurk in investment strategies cannot be spotted by use of the models commonly employed today by financial institutions,” he said.

He also took aim at senior executive pay in the US. He said big institutional investors needed to demand a “fresh look” at a system that involved consultants and an “all the other kids have one” attitude to perks.

“Irrational and excessive comp practices will not be materially changed by disclosure or by ‘independent’ comp committee members,” he said…

In keeping with Mr Buffett’s value-investing philosophy, most Berkshire investors consider short-term earnings less important than the long-term value of subsidiaries, including General Re, and investments such as multibillion-dollar stakes in Coca-Cola and American Express….”

The comment about financial institutions’ risk management techniques is spot on. Most firms rely heavily on a technique known as “value at risk.” Even though VAR models did not do at all well in the Russia-induced LTCM meltdown in 1998, it is still a mainstay in many organizations. This document, “Against Value at Risk” provides a good lay summary of the shortcomings.

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