Three-way shift in investor behaviour

There are three major behavioural shifts occurring among investors that will have significant impact on asset allocation in the next 10 years, according to a year-long study by global head of research at State Street’s Center for Applied Research, Suzanne Duncan.

An increase in investor sophistication, re-evaluation of the risk/return trade-off and more discernment over fees have been highlighted as trends in investor behaviour.

State Street’s research was derived from thousands of industry participants including retail and institutional investors, service providers such as consultants, and government and regulators from 68 countries. It is part of a one-year study looking at the investment-management industry over the next 10 years and will be released in November.

What exactly am I paying for?

Duncan believes the study clearly debunks the belief that investors have inertia.

“Investors are really looking for the service providers to show them the value they’re getting. On the institutional side investors are clambering for clarity with regard to value,” she says. “That’s different to price sensitivity. This is about being discerning, investors are becoming more sophisticated and they are willing to pay but only if they are shown the value they’re receiving for it.”

She says when providers demonstrate that value, it’s not necessarily commensurate with the fees being charged, and this may result in a continued movement from active to passive management.

“Investors are disenchanted for a reason. When we apply this level of sophistication of investors, we will see sizeable asset-allocation shifts.”

In other trends, the asset class with the largest allocation over the next 10 years for retail investors will be cash, while for institutional investors it will be alternatives.

Further, as alternatives allocations are increasing, so are allocations to direct forms of investments, which Duncan says shows a “disintermediation play”.

“Investors are questioning the value that professionals can provide,” she says. “There is no transparency around the value they’re receiving. Some of this is cyclically tied to the crisis, but those three behavioural trends are ongoing.”

Clash of best interests

Transparency continues to be a key theme for investors in terms of communication about products. Part of this is about the complexity of the products, but a lot is also about simplifying the message.

Investors thought that this problem may be exacerbated by regulators, with more than 50 per cent of them thinking current regulatory initiatives will not help to address the current problems.

“We may end up with information overload – not the right information. It’s not about volumes of information, but digestible forms of information,” she says.

The project, which has been nicknamed the “influential investor”, shows investors want to see the detail, the fine print, but they also want two sentences that are relevant to them at the macro level.

One worrying outcome of the research has been the mismatch between investors’ wish list and the preparedness of service providers.

“The investor wish list is the same list as the items listed as the top funds-manager weaknesses,” she says.

Further, only one third of investors believe that providers are acting in their best interest.

Restoring trust

However Duncan says the good news is that the industry recognises there is a big gap at the macro and micro level and is looking for creative ways to tackle it outside of the industry.

“This is interesting because they think the solution is not within this industry. I’ve been researching this for many years, and I’d say no one industry stands out but there are stand-out companies including Procter and Gamble, Apple and Audi, which are all about the experience,” she says. “The industry wants to look at what they’ve done and lessons learnt from them.”

The State Street research shows that what is driving the desire for transparency from investors is a restoration in trust from providers, markets and regulators.

Despite the seemingly dull future, Duncan says the research is optimistic because the industry is responding to the challenges.

“We have seen denial, then awareness, and now the industry is starting to be experimental in how we go about doing this,” she says.

The Center for Applied Research was launched in June 2011 to provide strategic insights into the issues that will shape the investment management industry.

The results of a year-long research project by State Street’s Center for Applied Research will be showcased at the Fiduciary Investors’ Symposium in Santa Monica. Click here for more details.