There is no shortage of high-wattage brainpower directed to the promotion of longer-term finance and investing. We need to move on from today’s investment world, which essentially has been built by intermediaries for intermediaries. Their purposes have become too narrow and too self-centred to be of sustainable value to asset owners, who are charged with transporting and growing savings across time – affordably, securely and fairly.
Asset owners and managers can be a force to help create a sustainable future for the investment industry. Their role is long-term and collectively they are very large – large enough that their actions influence markets and companies. In aggregate, they own the whole economy and their actions play a key role in driving prosperity.
But they are grappling with some key challenges: a world of excessive short-termism, inappropriate incentive structures, misaligned interests, complex markets and economies and weak decision-making by the end saver. These are the core issues why the investment industry needs to change for the better.
We know that in investment nothing stands still. The landscape oozes complexity and risk; governments and regulators impose change, and the intermediaries continually adapt their business models and strategies. In all this flux, the focus on our ultimate beneficiaries – the end savers – has slipped. It’s time to do something about that.
In 2002 Roger Urwin and I founded Towers Watson’s Thinking Ahead Group. We have dedicated a significant part of our careers to advocating and implementing positive investment industry change. The work we have conducted under that banner was designed to challenge the status quo and has resulted in a number of major positives, such as the use of beliefs to guide decision-making, the use of diversity to improve portfolio resilience, identifying and emphasising the role of governance in the investment process and improving risk measurement and management.
However, the time has come to push the envelope out further. Consistent with our broader business’s vision – changing investment for the better – we must tackle bigger, more fundamental issues within the investment industry to ensure that end savers, such as pension fund members, are served as well as they can be. That is why we have founded the Thinking Ahead Institute.
Essentially, we’re all in this together – asset owners, managers and consultants. The institute, which will formally kick off in January 2015, will bring these parties together to tackle the problems and drive solutions. While we may not be able to do much, if anything, about the inherent complexity of markets, we can agitate and use our influence with some large owners and asset managers in a bid to shift the whole industry away from short-termism, incentive structures that don’t work and towards a greater alignment of interests.
We’re starting from a controversial premise; we believe the financial services industry has grown too large relative to the real economy. In the investment industry specifically, if the take of the intermediaries were reduced, the returns on end-saver portfolios would inevitably go up.
Consider this: the Edelman Trust Barometer for 2014 ranked 15 industries by the level of customer trust and financial services was at the bottom. This survey was featured in a recent paper we wrote, entitled ‘Our Industry Has a Problem’. In it we asked for responses to the statement: “The investment industry is primarily designed to help the ultimate beneficiaries rather than the agents working within it”. Just over 40% of respondents agreed, a third were neutral and around a quarter disagreed.
We then posited: “There is too much short-termism, and this is due to the behaviour of asset owners” – around two thirds agreed. This was followed by: “There is too much short-termism and this is due to the behaviour of intermediaries”. The response to that was nearly as bad, with around half agreeing. Recently we also published a research paper, ‘There Are Too Many Active Managers’, which questions their aggregate take out of the pension fund food chain. In it, we argue that transferring up to 70% of assets to passive portfolios would save over 40% in costs without any average reduction in performance.
We know that the intermediaries are not going to volunteer to change the industry and the system that underpins it. The potential catalysts for change we have suggested are likely to be slow moving, but if we wish to see faster change we will need to change the incentive structures that govern behaviour within the industry.
The Thinking Ahead Institute will bring together asset managers and owners to work through the issues and refocus attention on creating value for the end saver. We know the pressure for change will need to be applied by asset owners which, while daunting, could be as simple as changing the terms of new mandates. Ultimately, however, more holistic change will be required – spanning relationships, contracts and organisational design. It will be hard but we have demonstrated through a decade of the Thinking Ahead Group’s work that there is considerable additional value that can be captured by asset owners on behalf of their beneficiaries.
Investment consultants like Towers Watson have long been at the forefront of the campaign to drive down fees and charges. Admittedly, we have not seen as much success as we would like. Where there have been fee reductions, they have typically come about through economies of scale but we can take some credit for better-aligned structures and for splitting and putting the right price tags on alpha and beta. We believe the time is now right to take further steps, particularly as there is a new mood in society about what’s fair and what isn’t.
So what does the Thinking Ahead Institute stand for?
- Belief in the value and power of thought leadership to create positive investment industry change.
- Finding and connecting people from all corners of the investment industry and harnessing their ideas.
- Using those ideas for the benefit of the end saver.
Currently 19 asset owners and managers have signed up to join us, from Australia, France, the UK, the US and South Africa. We’re also open to participation from other parts of the industry, including service providers. The Thinking Ahead Institute will provide three major functions:
- A dynamic and collaborative research agenda and repository, where we encourage strong member participation.
- Global roundtable meetings.
- One-to-one meetings with senior members of the Institute.
The establishment of the Thinking Ahead Institute is a big moment for Towers Watson and we believe it will deliver an even bigger reward. We like to think it could turn out to be the grit in the oyster – hopefully the catalyst for something bigger and more beautiful. We’ll know if we have succeeded when the end saver knows how best they can compound their wealth throughout their lifetime and has the right products to be able to achieve that. This is a lofty goal and whether or not it is achievable in my lifetime, I’m not going to die wondering.
Tim Hodgson, Head of the Thinking Ahead Group, Towers Watson