Are you forgetting to include economic growth in your analysis? Historical long term returns of the major indexes are in the 10% range (ballpark approx.), much higher than inflation, which I think was in the 2-3% range (also ballpark).
He's not forgetting it. To simplify: if you want the market return, there's no point in paying a hedge fund manager: just invest in an index fund! And if you're really bullish you can invest in index futures or (say) ACME DoubleMarketReturn fund that returns double the profits or losses of the market.
The point of investing in a particular hedge fund, as well as actively-managed mutual funds, is that you expect its manager to pick good stocks, better than the average, so you get "excess return" (a.k.a alpha). What wtvanhest is saying is that, essentially, it's a closed system and if you sum all their "excess" returns you get zero.
wtvanhest is not quite right (see Crisscross' comment), though it's much more informative than the linked rant.
You have to assume going forward there will be economic growth. It is a perfectly fair assumption, but not a fact. And, I will certainly not argue with that assumption. (although there are a lot of people that may)
Hedge funds should still net to zero though. Which is much more important for this discussion.
-I'd be interested in hearing what others think, maybe I'm off on my assumption that hedge funds should net to zero, or maybe I'm missing something else.
Market participants should net to beta; hedge funds, as a subset of market participants, have no requirement to net to anything. Likewise for mutual funds.
Besides, "market return" is usually understood to be some equity index, while hedge funds can also invest in non-equity markets (currency, bonds, etc).
Still, what wtvanhest is saying is relevant since in practice a lot of the hedge funds are trading against each other. So it's not "shocking" if their aggregate return is low. I haven't read the original articles but O'Reilly's post is very misleading.
Hedge funds eliminate beta using the hedge. Whether they should meet market returns is a conversation institutional asset managers would have with their clients, but in practice, the aggregate of all of them should net to zero.
In practice all of them should net to zero conditional upon them being perfectly beta hedged and having zero net alpha. This is very, very, very rarely the practical case.
If you had moderated your comment with "in theory" instead of "in practice", then you would be more right (since they would then converge at the risk-free rate, not zero).
Are you forgetting to include economic growth in your analysis? Historical long term returns of the major indexes are in the 10% range (ballpark approx.), much higher than inflation, which I think was in the 2-3% range (also ballpark).