LGIM Behavioural

9 DECEMBER 2015 LEGAL & GENERAL INVESTMENT MANAGEMENT
1
Langcat Live
2015

9 DECEMBER 2015 2LEGAL & GENERAL INVESTMENT MANAGEMENT
Behavioural Finance:
Matter over mind
John Roe, Head of Multi-Asset Funds
Legal & General Investment Management

9 DECEMBER 2015 LEGAL & GENERAL INVESTMENT MANAGEMENT 3
Investing
Invested
Goal setting
Biases can sneak in at all stages of investing

Goal setting
Too little risk Paths matter Under the influence

1. Too little risk - Myopic risk aversion
50% chance win £1,000, 50%
chance lose £500
Same bet 100 times
• Likelihood of losing money: <0.1% with 100 bets
• Digital access could increase trading and reduce risk taking
Be wary of making decisions in isolation, leading to too little risk taking

2. Paths matter - Prospect theory
GainsLosses
Value
Investors will accept lower outcomes for a smoother rise
• People evaluate decisions from their current states
• So paths of investment returns matter
• Which of the following is intuitively more appealing?
1. Win £10m, then lose £9m
2. Win £1m

3. Under the influence - Framing
• What we see impacts our future decisions
• All information we provide will change future decisions
How information is presented impacts decisions investors make

Investing
Source: LGIM
Gut feel Anchored Neglectful

4. Gut feel - Availability heuristic
• The easier something is to recall, the more appealing it is
• What is the ratio of the number of words in English with “R” as the first letter,
relative to “R” as the third letter

4. Gut feel - Recency effect
• People extrapolate recent events into the future indefinitely
Net% FM OW Global Equities Change From Previous Month
Performance of Global Equities
Between Survey Periods
07/11/2014 13/11/2014 46% 12% 4%
05/12/2014 11/12/2014 52% 6% 2%
09/01/2015 15/01/2015 51% -1% 1%
06/02/2015 12/02/2015 57% 6% 4%
06/03/2015 12/03/2015 58% 1% 1%
02/04/2015 09/04/2015 54% -4% 1%
08/05/2015 14/05/2015 47% -7% 0%
05/06/2015 11/06/2015 38% -9% -1%
02/07/2015 09/07/2015 42% 4% -1%
07/08/2015 13/08/2015 41% -1% 2%
04/09/2015 10/09/2015 17% -24% -8%
02/10/2015 08/10/2015 26% 9% -1%
Survey Period
Everything we see, read or hear, unduly influences our decisions

5. Anchored - anchoring and adjustment
• Anchor first. Then never adjust enough
• Are more or less than 10% of African countries members of the United Nations?
• What percentage of African countries are members of the United Nations?
Make decisions slowly and reflect on whether past decisions were rushed

6. Neglectful - base rate neglect
• Based on the SPIVA report, the percentage of active European funds beaten by
their benchmark ranged from 76% to 83% depending on the period1
1
Source: S&P Dow Jones Indices, LLC. Data is as of Dec. 31, 2014.
• What do you think your success at selecting
active European equity managers is?
Remember, you can’t all beat the odds!

Invested
Source: LGIM
Single-minded Attached Egocentric

7. Single-minded - confirmation bias
• Facts are then found to support our conclusion, while evidence to the contrary is
ignored
Additional information on African countries:
- Somalia and Sudan are in the bottom three countries globally for corruption.
There are three long-running African wars that claimed over 1,000 lives each
since 2014
+ Real GDP has more than doubled in 20 years and average years of school
education more than doubled since 1975

Did the statements change people’s guesses?
1. They decrease my guess
2. They neither increase or decrease my guess
3. They increase my guess
Are you making sure you’re considering all the facts?

• Owning something makes it more valuable to you
We asked people to value a book we gave people:
• People overvalue what they already own.
8. Attached - endowment effect
Start with a blank piece of paper!

9. Egocentric bias
• There is a tendency to ascribe more responsibility to the things that you do
• How impacted were you by the biases?
• People will over-weight successes and their contributions to group outcomes
Objectively consider everything and everyone that contributes to an outcome

Investing
Invested
Goal setting
Anchoring &
Adjustment
Availability and
Recency Heuristics
Base Rate Neglect
Egocentric
Endowment
Effect
Myopic risk aversion
Prospect theory
Framing
Confirmation bias

Papers on Behavioural Biases
• Shlomo Benartzi and Richard Thaler, Myopic Loss Aversion and the Equity Premium Puzzle, Quarterly Journal of Economics, 110:1, 73-92, 1995
• Daniel Kahneman and Amos Tversky, Choices, Values and Frames, American Psycologist, 39:4, 341-50, 1984
• Amos Tversky and Daniel Kahneman, Rational Choice and the Framing of Decisions, Journal of Business, 1986, 5251-78
• Amos Tversky and Daniel Kahneman, Availability: A heuristic for judging frequency and probability
• Fischhoff, Slovic, and Lichtenstein, Knowing with Certainty: The Appropriateness of Extreme Confidence, 1977
• Daniel Kahneman, Jack L. Knetsch and Richard H. Thaler, The endowment Effect, Loss Aversion and Status Quo Bias, Journal of Economic
Perspectives, %;1, 193-206, 1991
• Daniel Kahneman, Jack L. Knetsch and Richard H. Thaler, The endowment Effect, Loss Aversion and Status Quo Bias, Journal of Economic
Perspectives, %;1, 193-206, 1991
• Shafir, E.,Choosing versus rejecting: why some options are both better and worse than others, 1993 Memory and Cognition 21 (4): 546–556
• Rogers, Kuiper, and Kirker, Self-reference and the encoding of personal information, 1977, Journal of Personality and Social Psychology, 35, 677-688.
LEGAL & GENERAL INVESTMENT MANAGEMENT 199 DECEMBER 2015

Disclaimer and important legal notice
This is not a consumer advertisement. It is intended for professional financial advisers and should not be relied upon by private investors or any other persons.
Legal & General Investment Management (LGIM) Limited is the Investment Adviser to Legal & General (Unit Trust Managers) Limited (UTM) the provider of Legal & General unit trust products which are all UK
authorised unit trusts. Both companies are authorised and regulated by the Financial Conduct Authority.
This document should not be taken as an invitation to deal in Legal & General investments or any of the stated investments. Remember, the value of investments and any income from them may fall as well as
rise and investors may get back less than they invest. Past performance is not a guide to future performance. Exchange rate changes may cause the value of any overseas investments to rise or fall. Details of
the specific and general risks associated with the funds mentioned are contained within the Key Investor Information document for each fund.
Multi-Index funds invest in riskier bonds, known as sub-investment grade bonds. These bonds pay higher interest rates to try to provide more attractive income returns. To achieve this, greater risk is taken as the
companies are more likely to miss payments or not repay the loan, resulting in the return on the investment falling. At times especially over shorter timescales, lower risk-rated funds may fall in value by more
than higher risk-rated funds.
An increase in medium to long-term interest rates may reduce the value of investment in funds sensitive to interest rate changes. The value of property is generally a matter of the valuer’s opinion rather than
fact.
Legal & General does not use or support Distribution Technology's investor profiling technology. Legal & General and Distribution Technology are independent companies. Legal & General uses data and
research from Distribution Technology to assist in managing the Multi-Index range of funds.
Citywire source and copyright: Justin Onuekwusi is AA rated by Citywire for his three year risk adjusted performance for the period 31 August 2012 – 31 August 2015.
Legal & General (Unit Trust Managers) Limited. Authorised and regulated by the Financial Conduct Authority.
LEGAL & GENERAL INVESTMENT MANAGEMENT 209 DECEMBER 2015

LGIM Behavioural

More Related Content

Recently uploaded

Featured

LGIM Behavioural

Editor's Notes