Written on 19 Oct 2017.
The need for investment solutions
EDHEC-Risk Institute is launching a new website, with a focus on investment solutions.
The launch of the new website takes place at a moment when the investment management industry is experiencing a profound industrial revolution, which results from the confluence of historically powerful forces. These forces imply a dramatic acceleration in the pace of change on the following three main dimensions, which are reminiscent of industrial revolutions that have impacted other industries: mass production, mass customisation, mass distribution.
Mass production: From alpha to beta, and from beta to smart beta
Mass production happened a long time ago in investment management via the emergence of the mutual fund industry, first with a focus on the generation of abnormal performance (a.k.a. alpha), defined as excess reward above and beyond the fair compensation of the risks taken. In the face of an increasing concern over the existence and persistence of alpha, we have seen a gradual shift toward the passive holding of risk premia (a.k.a. beta), defined as the quantitative measure of a portfolio exposure with respect to a rewarded risk factor. After the major pension fund crisis in 2000-2003, the increasing pressure to shift toward lower fees was paralleled by a growing recognition that standard forms of beta management, based on passive replication of cap-weighted indices, led to an inefficient harvesting of risk premia. This was the start of the factor investing and smart beta revolution, which is blurring the line between alpha and beta by providing cost-efficient and risk-efficient access to risk premia.
Mass customisation: The emergence of goal-based investing solutions
Investment management is only justified as an industry to the extent that it can demonstrate a capacity of adding value through the design of meaningful investment solutions that allow investors to meet their meaningful goals. This recognition is leading to a new investment paradigm, which has been labelled goal-based investing (GBI) in individual money management, where investors’ problems can be fully characterised in terms of their lifetime meaningful goals. At the same time, liability-driven investing (LDI) has become the relevant paradigm in institutional money management, where investors’ problems are broadly summarised in terms of their liabilities.
Mass distribution: The rise of robo-advisors, big data and artificial intelligence
The need to pay for oversized distribution costs has historically been the key impediment to the promotion of cost- and risk-efficient investment solutions. Distribution costs are now bound to go down from their historically high levels as the trend toward disintermediation is accelerating through the development of robo-advisor initiatives. These digital developments are putting the old business model under strong pressure, and forcing wealth management firms to entirely rethink the value that they are bringing to their clients. In parallel, the fast emergence of technological innovation in the area of artificial intelligence and big data in finance is expected to have a strong impact on the identification of clients’ profiles as well as portfolio strategies.
A new website for new initiatives
In the profound soul-searching process that is currently under way in investment management, EDHEC-Risk Institute ambitions to provide thought leadership and position itself as the world leading academic think-tank with the aim of accompanying the industry in this mutation toward a meaningful focus on investment solutions. This is a unique opportunity for our industry to add value to society as a whole. Incidentally, asset and wealth managers who are willing and able to embrace this challenge will afford to grow a profitable business, as they will start to address the needs of their clients more properly. This is also a unique opportunity for EDHEC Business School to make an impact, and add social value in the context of a novel welfare-improving investor-centric asset management paradigm.
In addition to the EDHEC Alternative Indexes, which are used as performance benchmarks for risk analysis by investors in hedge funds, and the EDHEC-IEIF Quarterly Commercial Property index, which tracks the performance of the French commercial property market through SCPIs (Sociétés Civiles de Placement Immobilier – the equivalent of real estate investment trusts) that invest in non-listed real estate, we are launching a series of new initiatives. These initiatives complement the work independently conducted by our colleagues at Scientific Beta on smart equity indices and at EDHECinfra on infrastructure indices, as part of the global efforts from EDHEC Business School to have a meaningful impact in the field of investment management.
EDHEC Bond Risk Premium Monitor
The ambition is to provide investors, academics, students, policy makers and the financial community in general with a series of estimates of meaningful capital market assumptions (CMAs) of the risk premia embedded in Treasury bonds (with an initial focus on the US) based either on statistical analysis or on term-structure modelling. The development of a similar initiative in the equity space is subject to ongoing research..
EDHEC-Princeton Goal-Based Investing Indices
Designed in partnership with Princeton University Operations Research and Financial Engineering (ORFE) Department and with the support of Merrill Lynch Wealth Management (MLWM), these indices are meant to provide some more tangible incarnation to the “goal-based investing” framework – an investment approach that was defined and studied in depth in the ERI publication written in the context of the MLWM research chair.
The novelty of this approach lies primarily in the fact that it puts investors’ objectives at the heart of the process, as opposed to emphasising the characteristics of investment products. A series of indices will be published in the first quarter 2018 with a focus on retirement planning, a key goal for most individual investors.
More research, outreach and education initiatives are forthcoming
In the months and years ahead, EDHEC-Risk Institute will launch more initiatives of practical relevance, including (i) the launch of an effort towards the development of improved forms of stress testing strategies for investment solutions, (ii) the launch of the EDHEC-Risk Investment Solutions Serious Game, which is meant to facilitate engagement through gamification from students and investment professionals enrolled in our various educational programs, and (iii) the launch of digital education programmes (MOOCs) on a series of themes related to key developments in investment management. On the research side, we are launching multi-year projects on various aspects of relevance to the industrial revolution that is taking place, including smart beta in the fixed-income space, as well as big data and artificial intelligence applied to factor investing.
Our most sincere hope is that our new website, which reflects the various components of our multi-faceted operations in terms of research, outreach and education, will help asset owners and asset managers navigate the troubled seas that lie ahead of us. We should not under-estimate the magnitude of what is happening: the revolution in investment management is underway and opportunities are to be seized now.