Investing can feel daunting. With thousands of stocks to choose from, it's enough to make your head spin.

Investors would love to achieve results like legendary investor Warren Buffett. The Oracle of Omaha has delivered exceptional returns for investors since taking over as CEO at Berkshire Hathaway (NYSE: BRK.A)(NYSE: BRK.B) in 1965.

Buffett has displayed an uncanny ability to invest in companies that withstand the test of time. However, his advice to most investors may come as a surprise.

Warren Buffett at an event.

Image source: The Motley Fool.

In 2013 Buffett gave advice to the trustees of his wife's estate, which he elaborated on his annual letter to shareholders. He advised the trustees to invest 90% of the assets "in a very low-cost S&P 500 index fund."  For someone who buys stocks for a living, why would Buffett advise this?

Buffett's bet against hedge funds

The S&P 500 is a diverse basket of 500 large-cap stocks across various sectors of the U.S. economy. Investing in the index exposes you to companies in energy, healthcare, technology, finance, and consumer goods. The index has also delivered solid returns over the long term, outperforming most hedge funds that attempt to beat it.

Buffett put his money where his mouth was in 2008 when he bet $500,000 that no investment professional could select five hedge funds that would match the performance of an unmanaged S&P 500 index fund over an extended period. Only one asset manager, Ted Seides of Protégé Partners, took him up on the bet.

Seides selected five funds of funds, which had invested across 100 hedge funds, to compare to the S&P 500 return at the end of the period. The results were tracked from 2008 through 2016, with the S&P 500 index trouncing the returns of the hedge funds. Over that period, the S&P 500 delivered returns of 7.1% annually, compared to the funds of funds, which had returns of 2.2% annually. 

A bar chart shows the performance of five fund-of-funds vs the S&P 500 index from 2008 to 2016.

Data source: Berkshire Hathaway. Chart by author.

One reason the S&P 500 index fund outperforms is its much lower fees than actively managed mutual or exchange-traded funds (ETFs). High fees can eat significantly into an investor's long-term returns. Buffett is critical of the hedge fund industry and its exorbitant fees, and went on to say in his 2016 letter to shareholders, "When trillions of dollars are managed by Wall Streeters charging high fees, it will usually be the managers who reap outsized profits, not the clients." 

A simple, cost-effective way to invest in a diversified basket of stocks

The S&P 500 index is updated every quarter in March, June, September, and December. During this time, stocks are removed and added to the index due to changes in a company's market capitalization, mergers and acquisitions, or other factors. This rebalancing ensures that the S&P 500 invests in the largest blue chip stocks and kicks out those that have fallen below the threshold. 

Interestingly, the S&P 500 index and Berkshire Hathaway have returned very similar amounts to investors over the medium to long term. That's probably because Berkshire Hathaway is well diversified, much like the S&P 500, with numerous investments in its public stock portfolio and countless privately held companies in insurance, railroads, energy, and more.


5 Years

10 Years

20 Years

S&P 500 index




Berkshire Hathaway




Data source: Yahoo! Finance.

Want financial freedom? Consistency and diversification will get you there

Investing can feel daunting. But the most important thing is just getting started and consistently saving money. If you have a retirement or brokerage account and a long time horizon, one of the best moves you can make is investing in the S&P 500 index through low-cost ETFs such as the Fidelity 500 Index Fund, Schwab S&P 500 Index Fund, or Vanguard 500 Index Admiral Shares.

If you invested $500 monthly in the S&P 500 over the last 20 years, you would have over $375,000 today. Not only that, but the S&P 500 has produced a positive return over every rolling 20-year period since 1957 -- proving that consistently investing over a long time horizon can be effortless while also helping you achieve your ultimate goal of financial freedom.