IAIP – The Influential Investor: How Investor Behavior is redefining performance

Mumbai, November 27th 2012

IAIP hosted Nidhi Shandilya, CFA, Senior Research Strategist at State Street Center for Applied Research (SSCAR), for a Speaker Event in Mumbai on November 27, 2012; wherein she presented the findings of SSCAR’s recently published research paper “The Influential investor – How investor behaviour is redefining performance”. The session was well attended by the members.

To find out what forces will shape the future of the investment management industry over the next decade, SSCAR carried an extensive survey collecting views from over 3300 investment management participants such as retail, institutional investors, asset managers, intermediaries and regulators from across 68 countries over a 12 month period. Some of the questions that they were trying to answer through this survey were a) How is investor behavior changing? b) What is driving investor behaviour? & c) Is the industry delivering any meaningful value?

Following were some of the key takeaways…

How is investor behavior changing?

The survey concluded that at times investors were not acting in their best interests.

While most retail investors were more outcome oriented & wanted their portfolios to become “more aggressive”, a look into their Current/Future asset allocation revealed that Cash (25%/30%)  & Fixed income (17%/20%) dominated a major part of their portfolio, indicating that retail investors were out of sync with their long term goals. Nidhi explained this divergence was on account of the volatility witnessed in equities across global markets.

An interesting trend noted was that alarmingly most Institutional investors like pension funds, who were traditionally considered to be more conservative, had increased their allocations to alternative asset classes over last decade. SSCAR was concerned that even with all their resources, institutional investors were not fully equipped to handle the complexities arising from these investments.

What is driving investor behaviour

This section tried to explore why were retail and institutional investors behaving in such a manner?

SSCAR concluded that counter intuitively investor’s irrational behavior was largely being shaped by their growing awareness of the financial systems instability. The factors contributing to this instability were:

a)     Large synchronized quantitative easing programs initiated by central banks around the world

b)    Growing awareness of the increasing levels of global correlation and systemic risk

In addition to the aforementioned factors, investors were becoming increasingly aware of the misaligned interests that exist between the client, distributor and service provider.

Is the industry delivering any meaningful value?

In this section, the survey tried to gauge a) how investors define value & b) Whether investors thought providers were delivering on the values they cared most about

The survey concluded that Performance followed by unbiased high quality advice were the top two factors that investors valued the most. However these were the very factors that investors believed, the industry failed to deliver on.

In conclusion, SSCAR believed that the industry will need to streamline its delivery model to account for investors’ unique performance goals, align fees with value delivered and be fully transparent. SSCAR believed that it was time to set a new definition of performance, one that was highly personal to the investor, instead of relative against benchmarks or peer groups, and one where success or failure was determined by models that focus on long term sustainability of returns. According to SSCAR, the formula for sustainable returns would look as follows

Sustainable returns = F x T

Where

F= Personal value, which is a function of (alpha, beta generation, downside protection, liability management & income management)

T = Transparency of sustainable returns, personal value and fees.

About the speaker:

Nidhi Shandilya, CFA, is Senior Research Strategist at State Street Center for Applied Research (SSCAR) and responsible for research and thought leadership focusing on the investment management industry. Her research interests include analyzing the industry’s value proposition with specific focus around topics including behavioral finance, regulation, asset allocation patterns, alternative investments, pension funds and sovereign wealth funds. This year she is also working as a research affiliate at the Sovereign Wealth Fund Initiative, Fletcher School of Law and Diplomacy, Tufts University. Prior to joining State Street, she worked at IBM in their strategy consulting arm as a management consultant and later as a researcher at IBM’s Institute of Business Value, Financial Markets. She started her career as an investment banking analyst with Credit Suisse. Nidhi is a CFA Charterholder and a member of CFA Society of Seattle.

Contributions from: Chetan Shah, CFA, and Sitaraman Iyer both IAIP Volunteers

Presentations: Please find the link to the research paper “The Influential investor – How investor behaviour is redefining performance”: http://statestreet.com/centerforappliedresearch/doc/the-influential-investor.pdf