Behavioural Obstacles to Long-Term Investing. Leo de Bever, PhD Long-Term Investor

Transcription

1 Behavioural Obstacles to Long-Term Investing Leo de Bever, PhD Long-Term Investor

2 Main Ideas Many pension plans have significantly improved net return on risk through Innovation since 1990 Governance, internal efficiency, new asset classes Not much new has surfaced over the last decade And capital influx has eroded superior illiquid prospects The main underexplored frontier is long-term investing It will take innovation to monetize cash and patience Long-term investing aggravates key behavioural issues The stated objective of pension management is long-term Clients and Boards look at results short-term A longer investment horizon intensifies this conflict Lack of resolution will limit room for Long-Term Investing 1

3 History of Pension Plan Innovation Introduction of listed index derivatives to reduce the cost of maintaining policy asset mix exposure No impact on gross return, increase in net return Internal active management of listed assets Low cost security selection, short horizon outcomes Unlisted assets with funds or via direct investments Filling return/risk gaps, capturing illiquidity premia Material return drag over listed assets during ramp-up Average investment horizon is relatively short 2

4 Return on Risk Stated Goal Is Long-Term The assumption is that over time we can consistently target Superior Long-term Return on Downside Risk Market Return on Annual Downside Risk Time 3

5 Evaluation Period is Short-Term We expect our manager to earn the long-term return on our policy mix over a four-year horizon Taken from a 2008 AIMCo Client Statement of Investment Policy and Goals Historical Realized 4-year Policy Returns from Dimson data: Top 1% of outcomes: over 4 times historical long-term return Bottom 1% of outcomes: 25% loss of capital Clients look for greater stability than managers can offer 4

6 Long-Term Investing What is the Attraction? Monetizing the ability to wait where others cannot: targeting superior results over years Getting paid for providing stable capital as needed Matching up different types of capital and investors Combining the profitable and the socially desirable Greenfield development of infrastructure Speeding up commercialization of new technology Funding application of new technology 5

7 Long-Term Investors Don t have to Accept What is For Sale So far, we have been buying in a store for short-term investors Long-Term Investors can change the product offering Not pure price takers Joint products with other sources of capital Enhance productivity of existing investments Generating spin offs for existing asset class silos 6

8 Long-Term Investing Must Accept Likelihood of Weak Short-Term Returns Return on Risk Market Return on Risk Time 7

9 Real Estate Infrastructure timber stocks private equity How Do We Make Long-Term Investments Fit? 8

10 New Asset Types Initially Needs Shielding from Status Quo 9

11 We Need Boards that Think Long-Term Being a governance board Providing support for management without being management Not reliving pain of personal setbacks Being Receptive to Change If everything an organization is doing makes a Board comfortable, it is unlikely to be stretching for superior return on risk Not worry excessively about liability and reputation risk Board appointments reflect a successful career Long-term investing may not be popular in a short-term world Post-2008 re-regulation has increased real or perceived liability Willingness to advocate for the long-term objective Be willing to take the early pain of a long-term investing Accept benefits may not emerge after term on the board Gay Hendricks: The Big Leap: Conquer Your Hidden Fear and Take Life to the Next Level,

12 Re-Think Reference Portfolio The Investment thesis remains valid: unlisted assets should perform better than listed assets with a similar return/risk profile But we cannot judge outcomes short term: The superior returns of long-term investments cannot be replicated with short term investments Re-regulation and IFRS encourage accounting conservatism to avoid being sued for overvaluation Long-term strategies should have targets reflecting the time profile of expected returns 11

13 Redefine Moving the Needle We are big, but why assume that we need commit capital in big chunks? Deal size or number of employees per $B invested are not objectives in themselves Scale reduction is key to innovation in most industries why not in ours? Many long-term investments start small but grow quickly they are exponential organizations We need to learn how to diversify risk across more smaller investments, back winners effectively, cut losses earlier 12

14 Aligning Incentives with Goals Good Incentives Work, So Do Bad Ones Pension compensation systems are designed to retain talent and reward for performance Performance now measured over rolling ~4 year horizon Long-term compensation is lost when you leave That creates conflict with encouraging good long-term decisions Must find ways to tie the evaluation horizon to the life span of the investment Recognition for making the right investment decision must survive the tenure of the investment manager 13

15 So What are the Prospects Long-Term investing is likely to have superior returns It is the right challenge to undertake Gaining traction will require time, patience, and a thick hide It helps if the first few programs are lucky enough to have a quick payoff 14