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Asset owners need to develop explicit and transparent investment beliefs
The financial crisis has exposed a need to reaffirm what institutional investors do, why, and how they do it.
Asset owners have an obligation to their beneficiaries to be clear and explicit about the beliefs driving their policies and practices, to act on them coherently and consistently, and to review and update them regularly. The thoughtful development of Investment Beliefs Statements (IBS) can help all asset owners protect their investments and properly fulfill their important roles. The bursting of the financial bubble in 2008 and the havoc it wreaked on portfolios and assets held for long-term retirement security made clear, we believe, that the investment beliefs employed by many asset managers may not have correlated with the needs and beliefs of assets owners and their beneficiaries. Asset owners operate through a set of investment beliefs that are at least implicit in their investment practices. All too few are explicit and transparent as to the nature of these beliefs, beliefs such as how markets operate, the nature and purpose of investment, and the proper role of investors in the marketplace. Like the claim of the “end of history” in the area of political theory, investment consultants before the 2008 crisis preached that they had figured the markets out. Certainly there would be ups and downs, but modern portfolio management techniques and the principle of reversion to the mean ensured that asset owners could sleep without cares at night. The bursting of the bubble, however, made clear that many explicit beliefs of investment professionals and even asset owners themselves may have been mistaken. These included beliefs that adequate liquidity would always
been there in the markers, that certain investment decisions at a portfolio level wouldn’t contribute to systemic risk, that highly sophisticated modern portfolio management techniques and products were infallible, and that non-correlated assets could be found no matter what macro-events occurred. In addition, the importance of embedded but opaque risks has become increasingly apparent, including the deleterious effects of limited transparency in investment vehicles and of layers of embedded fees. Beliefs must be made explicit. They are crucial to an understanding of what decisions asset owners are making and why, and ultimately to helping these asset owners determine which of their policies and practices are working and which are not. A clearly formulated Investment Beliefs Statement (IBS) can help trustees, fiduciaries, and others responsible for investment decisions clarify their views on the goals of their investments, the nature of financial markets and how they function, and their rationales for the selection of investment styles and managers and related issues. Investment Belief Statements are particularly important for institutional investors serving in fiduciary capacities. Without clear guidance, asset managers for these investors may be inclined to adopt investment practices that correspond to their personal investment beliefs or financial interests, rather than to the needs and goals of the ultimate beneficiaries or investors. Specifically, the duty of loyalty requires that investment processes be aligned with the interests of beneficiaries.
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