A news release about the report, “Investment Horizons—Do Managers Do What They Say?” said nearly two-thirds of institutional investor-focused investment strategies exceeded their expected equity turnover from June 2006 through June 2009. Of these strategies, the turnover was an average 26% higher than anticipated, with some strategies reporting turnover between 150% and 200% more than expected.
The release said the report “demonstrates that investment managers themselves underestimate turnover and often do not live up to their stated claims when it comes to the holding periods for the stocks in their portfolio.” The study was conducted by Mercer and funded by the IRRC Institute.
Officials from both organizations asserted the situation should raise serious questions for investors. “When managers greatly exceed their expected turnover level, the impact can be significant in terms of cost, performance, and risk that the strategy is not being managed in line with its stated investment approach,” said Jon Lukomnik, program director for the IRRC Institute.
Danyelle Guyatt, the head of research for Mercer’s responsible investment team and the report co-author, agreed. “A deviation in actual versus expected turnover can be a possible indicator of deeper problems with investment processes,” Guyatt said. “Clients interested in a strategy that seeks to capitalize on longer-term trends and hold stock in corporations for longer periods need to be aware if that situation is changing and why.”
The study involves both a quantitative and qualitative portion. The key findings of the quantitative analysis include:
Of the 822 strategies for which Mercer had actual turnover information, 550 exceeded the turnover during the sample period with an average turnover of 26% higher than anticipated.
Within the entire sample of 991 strategies, the average annual turnover of the sample is 72%, with some 20% of strategies having turnover of more than 100%.
Value managers tend to have a lower annual turnover figure than the other style types. Large capitalization portfolios have lower turnover rates than small capitalization strategies, and socially responsive investing (SRI) strategies have lower turnover than non-SRI strategies.
Across regions, UK, Canadian, and Australian equity strategies have the lowest average turnover value, while European (including UK), international, and U.S. strategies have the highest average turnover levels.
The qualitative case study analysis of the fund managers include observations that the turnover issue is caused by factors such as volatile markets and changing macroeconomic conditions; mixed signals from clients; short-term incentive systems; and behavioral biases.