Retail Investors Rejoice: Even ETFs Beat Hedge Funds in 2009

Retail investors who think they're missing out on the big money because they don't have a million bucks to get into a hedge fund should consider themselves lucky. Hedge funds had their best year in a decade in 2009 -- and yet they couldn't even beat the broader market.The Hennessee Hedge Fund Index gained 24.6% last year, Hennessee Group, a hedge fund advisory, said Thursday. That sounds pretty good until you realize the S&P 500 ($INX) returned 26.5% in 2009. It sounds even less appealing when you consider that the SPDR S&P 500 exchange-traded fund (SPY) has an expense ratio of 0.09%, while hedge funds typically charge 2% of net asset value and a whopping 20% of profits.

%%DynaPub-Enhancement class="enhancement contentType-HTML Content fragmentId-1 payloadId-61603 alignment-right size-small"%%True, over long periods of time hedge funds have crushed the market. From 1987 to 2008 the Hennessee Hedge Fund Index gained nearly 1,040% versus 273% for the S&P 500, but looking at some 2009 benchmarks? Well, it's not clear what hedge fund investors were paying for.

It certainly wasn't outperformance. The Hennessee International Index advanced 21.4% for the year, according to Hennessee Group, but then the MSCI EAFE (Europe, Australasia and Far East) index gained 27.8%. Investors could have placed that bet by buying the iShares MSCI EAFE ETF (EFA) with its 0.35% expense ratio.

Or take the Hennessee Emerging Markets Index, which returned 39.1% last year. That's just super, except that the MSCI Emerging Markets Index rallied 74.5% -- and the related iShares MSCI Emerging Markets ETF (EEM) charges just 0.72% in expenses.

Unless you feel bad about missing opportunities in convertible arbitrage (up nearly 40% last year) or distressed debt (up more than 43%), you were fortunate to be an index investor in 2009. Hedge fund managers charge enormous fees because they're supposed to serve up excess return, or alpha -- not Alpo.

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