Bogle, founder and retired CEO of The Vanguard Group, speaks during the Global Wealth Management Summit in New York...Jack Bogle, founder and retired CEO of The Vanguard Group, speaks during the Global Wealth Management Summit in New York June 17, 2014. REUTERS/Shannon Stapleton (UNITED STATES - Tags: BUSINESS) - RTR3UA5V
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John “Jack” Bogle, the legendary investor, has predicted that the level of money in hedge funds will never again surpass the size of the exchange traded fund industry, which witnessed its 35th month of consecutive inflows in December.

New money flowing into hedge funds tumbled last year, with growth eclipsed by that of ETFs. This cemented a mood shift among large investors who are tired of paying high fees for poor performance.

ETFs, which are famed for being low cost, gathered a record $490bn of inflows in 2016 while hedge fund investors withdrew $70bn — the largest annual outflow in seven years.

Mr Bogle, who founded Vanguard, the low-cost fund giant, said: “There is deep disenchantment with hedge funds among large investors. People have been paying extremely high fees for very poor performance — performance even a zero fee wouldn’t justify.”

The inflows boosted ETF assets to a record $3.55tn, and helped extend a lead on the $3.01tn hedge fund market. “I think these latest figures confirm that hedge fund assets will never again exceed that of ETFs,” said Mr Bogle.

ETFs have been playing catch-up with hedge funds since the first was launched almost 27 years ago. The first hedge fund came to the market in 1949.

The latest figures, which were compiled for FTfm by ETFGI, the consultancy, capture investors’ waning interest in hedge funds.

Pension funds in US states including Illinois, New York, Kentucky and Rhode Island, have eliminated or reduced their holdings. The largest US public pension fund, Calpers, announced in 2014 that it was withdrawing entirely after concluding hedge funds were too expensive and complex.

Amin Rajan, chief executive of Create Research, the consultancy, said: “Over the rest of this decade, the trend towards ETFs will remain as immutable as the momentum of a supertanker, irrespective of the fortunes of hedge funds.

“Trade union trustees on the boards of public pension plans on both sides of the Atlantic have been pushing for ETFs while stock markets have set record highs. They believe that unless and until hedge funds regain their mojo, ETFs are a better, simpler and cheaper alternative.”

Mr Bogle added: “There are some brilliant people working in hedge funds but they come up against lots of other brilliant people and the result is you get the average. The alleged advantage is competed away.”

The rapid rise of ETFs has raised its own concerns. The US Securities and Exchange Commission, the regulator, has begun preparations for a root-and-branch review of the industry amid fears that massive flows into ETFs may be exacerbating volatility in financial markets.

A few weeks after more than a fifth of all US-listed ETFs were forced to stop trading on August 24 last year, Luis Aguilar, a former SEC commissioner, posed this question to fellow regulators during a speech in Washington: “Should we consider curtailing the growth of ETFs?”

Edgar Senior, who has worked in both the hedge fund and ETF markets, said: “I agree with forecasts that the next stop for ETFs will be $5tn in assets and the date 2020 is not unrealistic for that to happen.

“However, there are definitely possible speed bumps in the way, including a huge market correction in equities, which would immediately hit the current $3.5tn figure by whatever the drop is. Is it really so hard to imagine a 20 per cent equity market correction? Boom, back down below $3tn, and who knows how hedge funds will do in such a scenario. Investors could flock into absolute return vehicles after a big crash.”

Emma Bewley, head of fund investment at Connection Capital, the hedge fund platform, added: “I think it is also worth looking at how much of the ETF growth is from investments in hedge fund vehicles as there is probably some double counting going on there.

“It seems unlikely that hedge funds should grow beyond the size of the ETF market, but this is not exactly an apples to apples comparison. The range of investors able to invest in ETFs is much broader.”

Warren Buffett, the billionaire investor and an outspoken critic of fund managers who profit from high fees at the expense of their clients, bet in 2007 that a Vanguard S&P 500 index fund would beat five funds of hedge funds selected by Protégé Partners, an investment company, over the next 10 years.

Mr Buffett laid out evidence in his 2017 annual letter to Berkshire Hathaway shareholders that he is set to win the $1m bet, as none of the funds outperformed the index fund from 2008 through 2016.

“The results for their [Protégé Partners’] investors were dismal — really dismal,” he wrote.

Deborah Fuhr, managing partner and co-founder of ETFGI, said: “Many investors have become disappointed with the high fees, performance and lack of liquidity of hedge funds over the past few years.”

This article has been amended from earlier publication to correct figure for the hedge fund market.

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