Investment Beliefs
Kees Koedijk, University of Tilburg
Alfred Slager, PGGM Investments / RSM Erasmus University
Rotman ICPM / Netspar / Maastricht University
Discussion Forum – October 2007
What makes an investor great?
• Investment management
– Investment managers need an investment process in sync with theory
(Damodaran 2007)
– Upward potential for good governed pension funds (Ambachtsheer
2007), best governed pension funds focus on coherence, process and
people (Roger and Urwin 2007)
• Strategic management:
– Identifying core competences, aligning organization
• Common thread: focused investment beliefs
Investment Beliefs
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Focus on investment beliefs
• Why not?
– Companies have to articulate their unique selling proposition for
their client(s)
– Especially in financial markets where different visions co-exist
• If not
– It becomes difficult for trustees to evaluate new developments,
and whether to embed them in their own strategies
– More likely to “join the herd”, increasing costs and opportunity
costs along the way
Investment Beliefs
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Vanguard
''consistently outperforming the financial
markets is extremely difficult''.
Investment Beliefs
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Research set up
• Our paper investigates
– What investment beliefs are out there
– How do investment beliefs of pension funds and asset managers
differ
– Can we say something about their link to performance
• Data collection
– Web site, (annual) report, presentations collections
– Focus on largest asset managers and pension funds
– Scope: publicly reported beliefs (the explicit ones)
Investment Beliefs
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Theory behind investment belief
Investment Belief
•Observes behavior in the
financial marketplace;
•Frames why the organization
deals with this in a
sophisticated way.
Theory
•Theoretical basis behind the
investment belief.
•What is it about that mechanism
•Is it a structural, repeatable
phenomenon
Investment Strategy
•Describes how the investment
belief can be exploited.
Organization
•Organization to successfully exploit the
investment strategy.
•Links the exploitation of the investment
beliefs to performance measures.
EXAMPLE
Overreaction
Investment Beliefs
Mispricing with information
dissemmination
Sell with negative, buy with
positive earnings
announcement
Trading strategy with short term horizon.
Good versus bad news announcements
have to be identified.
Page 6
New Zealand Superannuation Fund
“exploit the premium available to investors
who do not require liquidity. Our long
investment horizon, combined with […] no
outflows, means we are extremely well
positioned to capture this premium.”
Investment Beliefs
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From beliefs to philosophy
Investment philosophy
Coherent set of beliefs
Investment Belief
Investment Belief
Theory
Investment Strategy
Theory
Investment Strategy
Organization
Organization
…
Investment Belief
Investment Beliefs
Theory
=
Investment Strategy
Organization
Page 8
Sample: 23 pension funds and 17 asset managers
Europe
North America
Pensionfd
Assetmng
7
11
Pensionfd
Assetmng
9
10
New Zealand, Australia
Investment Beliefs
Pensionfd
Assetmng
3
0
Page 9
4 groups of investment beliefs
Financial Markets beliefs
Investment process beliefs
•Risk premium
•Impact, focus on management
•Risk diversification
decisions
•(In)efficiencies in financial markets,
•Risk management
Asset pricing
•Horizon
•Investment management style
•Costs
Organizational beliefs
Sustainability and Governance
•Teams, role of investment managers
•Sustainability and Corporate
•Out vs. insourcing
Governance in asset pricing
•Experience
•Role in investment process
Investment Beliefs
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PGGM
capitalize on our strength as a long-term
investor. […] We can select investments
which generate a high return in the long
term, even though they may suffer short
term losses.”
Investment Beliefs
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PensionDanmark
According to PensionDanmark, “the best
investment results are most likely to be
achieved with a relatively small and focused
investment team combined with a high
degree of outsourcing to external
managers.”
Investment Beliefs
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OTPP
“managing investment risk is just as
important as generating returns.
Maintaining a well-diversified portfolio is the
cornerstone of the Fund's risk management
program.”
Investment Beliefs
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ABN Amro
Expects over the longer term to see ”the
majority of value added come from stock
selection as this normally represents a
more stable and consistent source of outperformance.”
Investment Beliefs
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Some beliefs are more equal…
Financial
markets
10
6.4%
Risk diversification
14
9.0%
9
5.8%
(In)efficiencies in financial markets /asset pricing
Other beliefs
2.5%
2
2.5%
12
15.0%
6.4%
4
5.0%
27.6%
20
25.0%
34
21.8%
15
18.8%
6
3.8%
6
7.5%
25
16.0%
14
17.5%
2
1.3%
1
1.3%
67
42.9%
36
45.0%
Teams, role of investment managers
9
5.8%
13
16.3%
Out vs. insourcing
5
3.2%
0
0.0%
Experience
1
0.6%
3
3.8%
Other
5
3.2%
3
3.8%
20
12.8%
19
23.8%
4
5
2.6%
3.2%
0
1
0.0%
1.3%
9
5.8%
1
1.3%
Pension liabilities
7
4.5%
1
1.3%
Goal
3
1.9%
1
1.3%
Other
7
4.5%
2
2.5%
17
10.9%
4
5.0%
156
100.0%
80
100.0%
Risk management
Investment management style
Sust. & Corp. Gov. in asset pricing
Role in investment process
Total Count
Investment Beliefs
2
43
Costs
Sustainability
and Corp. Gov.


10
Impact, focus of management decisions
Organizational
beliefs
Asset Manager
Count Column %
Risk premium
Horizon
Investment
process beliefs
Pension fund
Count Column %










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Differences in pension funds and asset managers
Pension fund
Asset manager
Risk diversification
Inefficiencies
Risk premiums
Focus
Responsible
Investments
Impact
Risk man.
Active
management
Teams and staff
Goals
Investment Beliefs
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Relationships between beliefs
•
Weak relationships expected and found: suggests sensible thought-out processes
•
Some relationships show up, suggesting
1. Organizations which hold beliefs about where their added value is, tend to apply it
in the investment process.
2. The impact of lower costs becomes more visible with a longer time horizon.
3. Beliefs about risk diversification and inefficiencies are in some cases passed on
to the external managers that pension funds select.
4. On the other hand, pension funds with beliefs about in- and outsourcing are more
focused on the organizations goals and pension liabilities.
5. Some organizations consider risk premia in a broader setting
Investment Beliefs
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Forging a link
Investment Belief
Theory
Investment Strategy
Organization
Performance
measures
Return-risk ratio
Risk diversification
Asset diversification
Horizon
3, 5, 8 years periods
Alpha
Investment Management Style
Information ratio
Costs
Investment Beliefs
Expense ratio
Page 18
Descriptives…
Pension funds create alpha
Investment Beliefs
Are well diversified
Page 19
…
Pension funds create high return/risk
Investment Beliefs
and report lower costs
Page 20
Links exist
• Between several investment beliefs and structural
performance measures.
– Organization with investment beliefs on risk diversification also
show better return-risk performance measures, but also lower
costs. Focus pays off.
– Funds that hold a clear view on how risk management is
organized, usually in combination with a view on the
management style, realize higher alpha and return/risk ratio’s
than funds that do not hold such views.
Investment Beliefs
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Some caveats
• Small sample, yet the broadest so far
• Performance measures are relatively crude, managers
might have other performance measures in mind
• We’ve collected the explicit reported ones, what about
the non-reported implicit ones? Every pension fund
holds them per definition.
Investment Beliefs
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Summarizing
Investment beliefs: still relatively unexplored?
– Developing a set of investment beliefs makes sense from a strategic perspective:
an organization has to identify where and how it does add value to the investment
process.
Structure emerges
– Beliefs about the financial markets, investment process, organization, and
sustainability and corporate governance.
Investment Beliefs
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Pension funds and asset managers differ
– A pension fund focuses on risk diversification, getting its beta right.
– An asset manager stresses the role of risk management and argues for a
particular investment style. Asset managers emphasize the quality of their
organization.
Promising link between beliefs and performance
– An organization with investment beliefs on risk diversification shows better
return-risk performance, but also lower costs.
– Funds that hold a clear view on how risk management is organized, usually in
combination with a view on the management style, realize higher alpha and
return/risk ratio’s than funds that do not hold such views.
– Investment beliefs framework helps focus investment strategy, governance and
results
Investment Beliefs
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