How Would Warren Buffett Invest Your TSP? (Aka, "The Bet")

Updated January 2024

Lately a lot of you have been calling me, stressing over your TSP allocation. [January 2024 Update: You’re still calling me, stressing over your TSP allocations 3 years after I originally wrote this.] On the one hand, I’m glad there is an increasing interest in investing and preparing for the future. On the other hand, some of your strategies and logic make my head spin. On the other, other hand, I don’t have a crystal ball either. If I did, I’d be writing this from my 10,000-acre Montana estate or my 150’ yacht anchored off the coast of Tortola.

If you’ve read my lengthy study on TSP allocation services, you already know I’m not a big fan of trading in and out of funds in an effort to time the market. It’s tough. Like, really tough. Warren Buffett is currently the 3rd richest person in the world , with a net worth of around $85 billion. [January 2024 Update: Buffett has fallen to a poor 4th overall, but with a net worth of $121 billion]. Unlike most other billionaires on the list (Bill Gates- Microsoft, Jeff Bezos-Amazon, the Waltons-Walmart), Buffett made his fortune not by creating a product, but rather by investing in other businesses, through his investment holding company Berkshire-Hathaway. Berkshire has so much money these days, “investing” in another company often means just buying the entire company outright.

How well has Berkshire done? If you had written Buffett a check for $10,000 in 1964, In 2020 he’d give you a check back for $160 million. Not bad. Weren’t around in 1964? If you’d invested $10,000 in 1990, it would be worth $450,000 today. Suffice it to say, Buffett is a pretty good investor. Perhaps the greatest of all time. Many people study his methods and expend a lot of energy trying to get his advice. Given the opportunity, wouldn’t you like to be able to call him and inquire as to how you should allocate your TSP? You don’t have to, he’s already given explicit instructions on how he’d do it.

In 2007, Buffett offered a wager on longbets.org. Long Bets is a unique site started by Amazon’s Jeff Bezos, where you can bet on things long term. Really long term. For example, there is a bet currently between executives at Microsoft and Google whether or not pilotless planes will routinely fly passengers around by the year 2030. Buffett’s bet was a little more practical: $500,000 to any fund manager who could beat the S&P 500 over a 10-year period, inclusive of fees. (The fees are a very important point, which we’ll get to later.)

The Bet: The Terms

Warren Buffett has long warned against timing the market. His contention is that it is virtually impossible. He feels that even the so-called experts on Wall Street can’t do it consistently. I think he probably got tired of arguing with people, so in 2007 he put his money where his mouth was. He offered a wager to anyone that could beat the market. This was done on the aforementioned longbets.org.

Buffett’s bet was simple: A $500,000 bet to a charity of the winner’s choice for any financial professional that can beat the S&P 500 Index over a 10-year period. When he offered the bet, all he got initially were the proverbial crickets. Remember that the entire reason for actively managed mutual funds is to beat the market. Otherwise, why pay the higher fees if you’re getting a lower return? What’s the point? You can simply buy the S&P 500 Index and earn a better return while paying substantially lower fees. So where were all the fund managers charging fees for supposedly making you more money than you could make on your own?

(Maybe some of you are surprised to find out that the people you see on CNBC telling you what the markets are going to do, have never really been right about the markets over the long term?)

Eventually someone stepped forward. But only one. Ted Seides of Protégé Partners decided to take the bet. Protégé was well respected on Wall Street, and Seides was given a lot of latitude in how he could perform his side of the contest over the ten years. In summary, Protégé would buy five different funds that could invest in any fund at any time. Not only could they invest in any fund they chose, but if one fund wasn’t doing well, they could sell it and get into something else. Basically, they weren’t locked in; they were given free rein to trade.

Buffett, on the other hand was allowed just one trade. At the beginning of the ten years, he would purchase a low-cost S&P 500 Index Fund (he chose Vanguard’s), and he must hold onto it for the entire ten-year period. No other investments were allowed, and he could not get out of it if it crashed. He would buy 1/1/2008 and sell 12/31/2017. That’s it. (And for those that recall, crash it did. Bigtime! 2008 was one of the worst crashes in the history of finance. Most of you have observed that on your statements.)

As you can see, Protégé was allowed every advantage possible to beat Buffett.

This is an important point not to be confused by: We are discussing timing the market as a whole. We are not talking about buying a few stocks and beating the market. That is proven to be possible by Buffett and others. Some companies are clearly solid enough investments to beat the market. However, purchasing individual stocks is not an option to you in your TSP, so that is not a comparison we are going to make. What we are arguing against is predicting when the market, as a whole, is going to go up or down. That is what I am advocating against. In your private account, if you’ve researched Coca-Cola, Nike, or Amazon, and feel that it is a tremendous investment, you may very well beat the market over a period of time. Good investors can do that. Good investors cannot say when the total market is “too high” or “too low” with any consistency.

The Bet: The Logic

Buffett’s premise was simple and two-fold: 1. Timing the market is virtually impossible, and 2. Additional fees in actively managed funds really eat away at returns over time. I’ve written about this before (see TSP Timing), but as a recap, remember that Index Funds are not actively managed in the sense that there is a team of people sitting around a room, pouring over documents, trying to decide what stocks to buy. They simply buy the companies in the same proportion as the companies in the underlying index. In this case, we are talking about the 500 companies that are included in the S&P 500 (see TSP Timing for more info). In these funds, you don’t beat the market. But you also don’t lose to the market. Your returns are equivalent to the market, because well, you simply bought the whole market.

In an actively managed fund, there IS a team of people sitting around trying to figure out how to invest to beat the market. They expend a lot of brainpower on it. And those teams and managers cost money. Sometimes they cost a LOT of money. If you own one of these funds in your private accounts (none of the TSP funds are actively managed), you are paying the fund salaries and expenses out of your share. Which wouldn’t be a problem if they were making you more money than the market. You’re getting what you pay for. But what if you aren’t getting what you pay for? What if you are paying more for these actively managed funds, but your returns are actually less than if you had just left them in a low-cost index fund? Hence, Buffett’s bet.

The Bet: The Results

In the Resources section below, you can read the complete results, but I’ll cut right to the chase. The 10-year bet ended December 2017. It’s not really accurate to say that the fund managers could not beat the market. They didn’t so much as lose, as get completely destroyed. Not one of the five funds beat the market. In fact, not one even came close. The S&P 500 returned a total of 125.8% over the ten years, or an average of 8.5% annually.

The closest Protégé Fund gained 87.7% over the 10 years, or an average of 6.5% annually. The worst fund returned a measly 2.8% TOTAL RETURN, or 0.3% over the ten years. Remember that each one of these funds was comprised of some of the smartest investment minds on Wall Street. Not one of them could beat the market. This story is repeated time and time again every single day in the investment world. Furthermore, some advisors and fund managers charge astronomically high fees to give you returns that are less than what you could do yourself for much cheaper.

Real World Example:

From time to time people send me different investment products to look over. Most often it is a product touted by some financial advisor. and the federal employee wants a second set of eyes to see if it’s a good deal, a bad deal, or a flat-out scam. Recently I got one from a retired employee who was considering moving money from his TSP to an IRA that would be actively managed by an advisor. Keep in mind this retiree was in his 50’s.

Due to this employee’s aversion to risk, and his age, the advisor was looking to put him into very conservative index funds. For this, he would charge a management fee per quarter of .8%. That figure may not seem that high, but let’s do the math. This person had a balance of $500,000 in his TSP. That means that his advisor was charging him $4,000 a quarter, or $16,000 a year to put him into what amounted to an investment he already had available to him in the TSP! ($500,000 x .8% per quarter x 4 quarters). Conversely, the TSP’s fees for 2022 averaged around .06% PER YEAR! Again, not per quarter, but per year. On the same $500,000 balance, that would equate to an annual fee of $300. Yes, you read that right. $16,000 vs $300.

In our example, if the market theoretically returned 8% next year, the private account would have to return over 11% to make as much as the TSP account because of the extra 3% of fees. 3% is a lot for one year. Compound that over a decade or two, and your account balance has simply been devastated compared to the TSP. Now imagine the accounts each only returned 3% for the year. In the TSP you would have made money. In the private account, you would’ve just broken even.

Now, if you were making substantially more money in those other funds, it might be worth it, but as you can see (and as Buffett has been preaching for years), you have to beat the market by a LOT before it becomes worth it. And as we’ve already seen, it’s very tough to beat the market at all, much less by a lot. Here’s how Buffett puts it: “I explained that the massive fees levied by a variety of “helpers”, would leave their clients – again in aggregate – worse off that if the amateurs simply invested in an unmanaged low-cost index fund” (Berkshire Hathaway 2017 Annual Report, p 24).

(As an aside, because people that are smart with money, are almost always smart with money, Buffett and Seides each set their $500,000 in an investment vehicle. An investment vehicle that did VERY well over the ten years. So much so, that the final amount given to charity was over $2 million!)

The Bet: The Application

Getting back to my first question: If you could call Warren Buffett instead of me, and ask him when you should move your money in or out of a certain fund, what would he say? Or, to put it in bumper sticker format: “WWWBD?” His advice to you is already well documented: Don’t try to time the market—it’s virtually impossible. The greatest minds on Wall Street very rarely do it, and no one seems to do with any substantial consistency. Next, he’d advocate the average investor is best off in a low-cost S&P 500 index fund.

In fact, Buffett created what I have dubbed The Buffett Barbell. He advocated for 90% S&P 500 and 10% Short-term government bonds. What is that in the TSP? 90% C / 10% G. Where did he advocate this exactly? In one of the most important documents he possibly could—his will. The money his wife was going to inherit, was to be invested exactly this way. 90/10. You can read exactly what he said on Page 20 of his 2013 Annual Report to Shareholders HERE.

So, what do we do with this information?

First, I want you to know that the S&P 500 Index Fund is available to you in the TSP: It’s the C Fund. And it is virtually as low cost as you can get (see above). My personal belief is that the C Fund plays an absolutely critical part in ensuring your money lasts you throughout retirement. Buffett believes it is better than parking your money with high-priced fund managers.

Second, understand that the market has consistently returned somewhere in the 8% range long term (over the past 100 years or more). This includes even those periods when the market crashed. Remember 2008? The following 10-year period started off with a tremendous crash but still ended up averaging 8.5%.

Third, diversification can be good. You may not be able to tolerate 100% of your balance being in the C Fund. And as I have said over and over again—money shouldn’t keep you up at night. If you’re that worried about your investments, you’re doing something wrong. While I sleep fine with 100% in the C Fund, others may need 50% or more in the G Fund to be relaxed. But what is not good is moving money out of the C Fund into the G Fund because “you feel like the market may crash soon”. Feelings play virtually no part in the strategy of great investors. It’s basically equivalent to feeling like the next card turned up in the deck will be an ace.

Fourth, be careful of moving TSP funds to an advisor. Not everyone is going to bleed you like the example above. But there are plenty that will. Make sure you’re getting your money’s worth. Index funds for the most part are the same, although some have slightly higher fees than others. Managed funds typically have much higher fees; advisors and brokers may have fees on top of those fees, so make sure you do your homework. I’m happy to help in this if you think I can be of service. In my experience, it is a very rare case indeed where moving money from the TSP to a private IRA is a smart move. Again, call me and we’ll discuss anything you’re considering.

One caution for you LEO’s and other SCE’s: Understand moving your TSP money to an IRA means that you are now under different rules governing when you can access your money. Retire at 50 (or now 25 years of service at any age) and you can withdraw your TSP penalty free. Move that money to an IRA and you’re now waiting until 59 1/2 before you can get it without paying a 10% penalty.

Maybe some of you out there are savants and can time the market consistently but please realize that the very best on Wall Street cannot. This is summed up in an old, not very funny finance joke: “Economists have predicted 12 out of the last 3 recessions.” There is ALWAYS someone giving explicit detail about why the stock market is getting ready to crash. This leads to an influence on your feelings. Getting worked up because of what you just saw on CNBC, Twitter, or some TSP allocation website generally will cost you money in the long run. And sometimes it will cost a lot!

While we’re on the subject of TSP allocation services, I know some of you subscribe to them. I would encourage you to check your returns against the C Fund, to see if they have given you better returns than just buying the C Fund and never selling.

Summary

We seem to have a natural tendency to always be doing something with our investments. It’s almost as if we think we’re doing poorly if we aren’t actively tinkering with our TSP. History has shown that is not a sound strategy. Speaking with some agents the other day, we were laughing about someone we knew who claimed he had not reallocated his TSP in over 20 years. Until we realized that he probably has beat the vast majority of federal employees over that time period by simply not doing anything. In my rather short, informal study of this, I have seen $200,000 differences in the TSP balances of those that constantly traded versus those that bought and held over roughly the same 20-year period.

Understand that I’m not advocating for each one of you to go 100% in the C Fund forever (although there are certainly worse strategies). A lot of factors come into play when determining your investing philosophy, most importantly your investment timeline. For example, if you are 51 and planning on starting TSP withdrawals next year, PLEASE DON’T put 100% in the C Fund!

However, I am wholeheartedly advocating against you guys trying to time the market in and out of the funds because of the latest news report or some other reason that will be completely insignificant to your long-term investment horizon. Watch enough financial news, and the main feeling you’ll come away with is fear. Fear of a crash, fear of overvaluation, fear of not enough diversification, fear of the next elections, whatever. Fear makes a lot of people miss out on a lot of solid investment gains.

I’ll leave you with two great rules of thumb to ponder:

Good investing is boring — John Bogle

The stock market is a vehicle for moving money from the impatient to the patient — Warren Buffett

Resources

2017 Berkshire Hathaway Annual Report:

http://www.berkshirehathaway.com/2017ar/2017ar.pdf

TSP Returns over 10 years:

https://www.tsp.gov/InvestmentFunds/FundPerformance/annualReturns.html