> The question is: OK, you account for risk, now what? You can manage risk by tempering an all-stock portfolio with bonds, lowering volatility. Why pick high-cost hedge funds over that option?

I think his point is that hedge funds may have higher risk-adjusted returns than the S&P 500, despite lower absolute returns. For (ridiculously unrealistic) example, say you have an average 7%/yr return on the S&P 500 with volatility of ~14% and a hedge fund with a 5%/yr return but volatility of ~1%. At the end of the time period, a fixed $1M investment is clearly going to come ahead on the S&P 500 but the hedge fund is clearly the better fund, as matched for volatility (through leverage) with the S&P 500, the returns would be 70%/yr.

You'd pick the hedge fund because matched for volatility (through leverage or bonds or what have you), the hedge fund performs better.