High-Net-Worth Investors Trust Advisers, Not Fund Cos.

A survey said 87% of investors have a high degree of trust in their adviser, but a majority are dissatisfied with the fund industry.

When asked to rank their trust of service providers, advisers were the second most trusted, after the family physician. The fund industry was listed last, after auto mechanics, according to the survey of both advised and unadvised high-net-worth and affluent investors released today by iShares Funds, a division of Barclays Global Investors (BGI).

While an overwhelming amount of respondents trust their adviser, almost the same amount (71%) distrust the fund industry.

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Lee Kranefuss, CEO of iShares at BGI, cites the personal relationship people have with their adviser as a reason why there is so much trust. Trust is built over time with broad-based planning from the adviser. “It’s like any professional relationship,” he told PLANADVISER.com. “When it’s done well, people develop confidence.”

Kranefuss said the difference of trust people have for their adviser compared to the trust they have for the fund industry was most striking to him about the survey. But the funds industry is well aware that most funds go through the adviser.

“We’ve been living this world and working in it and seeing this over and over and I think there’s a huge element of congratulations to advisers out there, because this is a very concrete endorsement of what they do,” he added.

Fee-based advisers received higher scores in many of the questions than commission-based advisers. For instance, 80% of respondents with fee-based advisers said they are satisfied with their adviser on taking responsibility for their financial well being, as opposed to 68% of respondents using commission-based advisers. Some good news for advisers—only 9% of advised investors are at all likely to change their adviser in the next year.

Fund Distrust

The majority of investors surveyed believe that the fund industry is not meeting their expectations or putting the investors’ needs first. (A majority of investors —81% — believe that the industry should put the needs of investors first). Only 45% of investors surveyed expressed confidence that their investments would be safe in a volatile market, with half expecting returns in 2008 to be worse than 2007.

Kranefuss said this distrust of the funds industry is not just based on current market woes. While it might have caused some of the negativity, the current market does not account for all of the distrust.

The research suggests that fund industry dissatisfaction among the individuals surveyed is driven by issues such as perceived lack of value and transparency for the fund fees they pay and the belief that risks relative to investment returns and potential tax implications are not clearly articulated.

“The survey shows that investors believe that the fund industry is falling short in meeting their needs — at a time of great economic uncertainty and market volatility,” said Kranefuss. “This survey should be a clarion call to all of us in the fund industry. While there is a strong trust and bond between investors and their financial advisers, this good news is tempered by a noteworthy mistrust of the fund industry as it relates to a lack of transparency and not providing a clear understanding of investment risks and taxes.”

Overhyped

Investors also said the media fails to provide credible information, with 73% of investors surveyed saying it sensationalizes certain issues or trends. Only 19% of investors surveyed said the media provides accurate reporting.

“Most people feel there’s an overplaying in the press of what’s hot and what’s not,” Kranefuss said. And investors trust their advisers to cut through the information they receive from both the press and the fund industry, he said.

The survey, conducted by independent firm Cogent Research, measured the attitudes and expectations of high-net-worth investors toward a wide range of issues, including attitudes toward the fund industry, media and personal confidence and engagement with investments.

 

Chemical Imbalanced?

A new research paper suggests a potential tie between biology and (apparently) irrational exuberance.

Researchers at Cambridge University tracked the levels of certain hormones – specifically testosterone and cortisol – in a group of British securities traders – and found a correlation between those levels and the performance of their stock picks.

On mornings of high testosterone, 14 of the 17 traders (all men, aged 18 to 38 (1)) included in the week-long study (eight consecutive days in 2005) made more money than usual for the rest of the day.

Drunk with Success?

In daily trading activity, Dr. John M. Coates – who spent time on Wall Street during the dot-com run-up – and Cambridge colleague Joseph Herbert looked for evidence of what endocrinologists call the “winner’s effect,” in which successive victories boost levels of testosterone higher and higher, until the winner is, effectively, “drunk’ with success, so overconfident that he can no longer think clearly, assess risk properly or make sound decisions.

On the other hand, the stress of market volatility on other days boosted cortisol levels. The researchers thought that too much cortisol, secreted in response to stress, might in turn make the traders overly sensitive to risk, making a market’s downward slide even more precipitous. Indeed, during the study, daily cortisol levels of some traders rose or fell fivefold, perhaps sapping their confidence.

“Hormones are still doing the same things in the context of a very different environment—making people competitive, aggressive, risk-taking—all the things you find on a trading floor and in a jungle,” said Joe Herbert, a University of Cambridge neuroscientist, and co-author of the study.

Levels of testosterone and cortisol were tested at the beginning (11 a.m.) and at the end (4 p.m.) of the trading day – and to better assure a range of volatile market conditions, the researchers conducted their study during a week when a series of major U.S. manufacturing and employment reports were scheduled to be announced. And on the days a trader’s testosterone was higher than usual in the morning, he tended to post higher profits. In fact, if the most experienced traders had performed all year as well as they did on high-testosterone days, they would have made about $1 million more, Coates said.

Cool Exteriors

Not that the chemical imbalances manifested themselves externally. To all surface appearances, “the experienced traders were quiet and poker-faced, in control,” said Coates, according to published reports. “In fact, underneath their cool exteriors, their endocrine systems were on fire. It is almost as if they had learned not only to control these hormones but also to harness them.”

Not that the researchers are advocating measures that boost testosterone levels as a means of improving investment performance. Higher testosterone levels did lead to greater risk taking, but that is then more likely to lead to a market bust as greed overtakes confidence. “As testosterone rises, at some point they start doing stupid things,” Coates said. And once that bust sets in, the resulting higher levels of cortisol are likely to make matters worse: traders will then be unwilling to take risks, even if rational analysis suggests that the environment is improving. “It tends to make you recall bad memories. You feel a lot of anxiety and see danger everywhere, even if there isn’t any danger. It makes you hyper-cautious,” Coates said in an interview with the Washington Post.

The researchers took particular note of a couple of individual cases in the study. One trader who had a profit that was several times his daily average one day level saw his mean testosterone rise 56% above his average for the other days, while another trader enjoyed a 6-day winning streak, averaging about twice his historic daily P&L, and in the course of this winning streak his mean daily testosterone levels rose 74%. However, the traders’ cortisol levels had an even higher day-to-day variance than testosterone. And, during the course of the study cortisol levels did not change wildly due to big losses but – seemed more connected to whether the trader was uncertain about whether he would lose or make money.

And these days you don’t have to be a trader to feel uncertain on that front.

The study, “Endogenous steroids and financial risk taking on a London trading floor,’ appeared in the April 14 Proceedings of the National Academy of Sciences.



(1) The unnamed UK brokerage firm involved in the study employed 260 traders – of those, there were just 4 women, and none volunteered for the experiment. Nonetheless, in a Washington Post interview, Coates said that trading houses might want to employ more older men and women, who tend to be “less prone to the pull of testosterone”.

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