Think your 401(k) can’t compete with the sophisticated hedge funds that wealthy investors can access? Think again. While a recent study shows hedge fund managers pocket nearly half of their clients’ profits in fees, 401(k) accounts have been quietly outperforming these elite investments. Here’s why your workplace retirement plan might be the real wealth-builder you didn’t expect.
Key Takeaways
- 401(k) plans have consistently outperformed an index of more than 1,300 hedge funds.
- Hedge funds have high costs and use sophisticated strategies.
- 401(k)s are low-cost and lower risk, offering a straightforward mix of stock and bond funds.
Average Return for a 401(k) in 2024
Recent data from Vanguard shows impressive performance for 401(k) plans, with participants earning an average annual return of around 9.7% over the five years ending December 2023.
This performance is particularly notable since it spans both bull and bear market conditions, including the market downturn of 2022, when many retirement accounts underwent significant declines.
Recent returns have been supported by a broad market rally while demonstrating the effectiveness of long-term, disciplined approaches.
Warren Buffett famously won a $1 Million bet that the S&P 500 would outperform a basket of hedge funds over ten years, with the hedge fund manager conceding defeat before the bet’s conclusion in 2017.
Average Return for Hedge Funds in 2024
Hedge fund performance, on the other hand, has been less impressive. During the same five-year period as above, the Barclay Hedge Fund Index, which measures the average return of all the hedge funds Barclay tracks, only returned 6.6%.
In 2024, the Hedge Fund Index gained 9.6%, and Hedge Fund Research puts the average gain for hedge funds even lower, at 8.3%. This is significantly below the S&P 500’s 24.9% return that same year. And this is without accounting for the high fees that hedge funds charge their investors, which can reach almost half of their annual returns.
This underperformance isn’t new—hedge funds have struggled to maintain their historical returns since at least the 2008 global financial crisis.
Survivorship Bias among Hedge Funds
When comparing performance, hedge fund returns are often inflated because of survivorship bias—poorly performing funds typically close and stop reporting results, leaving only successful funds in the index’s data.
Risks and Expenses of Hedge Funds
Hedge fund costs are staggering. Beyond the traditional “2-and-20” fee structure (2% management fee plus 20% of profits), the effective fee rate now reaches about 50% of total gains. Recent analysis shows managers have collected $1.8 trillion in fees since 1969, with total annual costs averaging 3.4% of assets under management. These high fees mean that hedge funds have to perform far better than typical 401(k) accounts before they can begin to outpace them.
These funds also employ complex strategies using leverage and derivatives, which can amplify both gains and losses while generating additional transaction fees. Limited transparency and restricted withdrawal options create extra risks for investors.
Risks and Expenses of Typical 401(k) Investments
Plans for 401(k)s have more straightforward risk profiles and lower costs. The average 401(k) offers between 27 to 28 investment choices and typically includes a mix of stock and bond mutual funds. These funds are well-diversified, which helps protect against significant losses in any single market or investment type.
While fees vary, they’re far lower on average than hedge funds. Low-cost index funds and target-date funds, which automatically adjust portfolio risk as retirement approaches, are by far the most popular, with fees averaging about 0.85% or less.
The Bottom Line
The data is clear: a well-managed 401(k) often offers better returns than most hedge funds, with lower fees and greater transparency. While hedge funds overall pocket nearly half their gains in fees, low-cost index funds and target-date funds in 401(k)s have consistently delivered stronger performance. For most investors, the path to successful retirement savings isn’t through complex investment strategies—it’s through steady contributions, employer matches, and keeping costs low.
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