What sports fans and stock-market investors have in common
By Stefan Van Geyt
Sports fans the world over (from Manchester to Munich to Mumbai) often form a profoundly intense attachment to their team. Very rarely, however, is that attachment founded upon rational deliberation, objective research or any kind of considered personal preference.
Instead, we simply root for the team based in the place we call home.
In fairness to such fans, nearly all of our core beliefs are similarly arbitrary. That includes, at least partly, when it comes to investing.
Individuals worldwide tend to invest disproportionality in stocks listed in their native country, a phenomenon known as “home bias.” Given the proven benefits of diversification and easy availability of global data flows, this makes little strategic sense.
Consider Canada. The country has a global index weight, or share of total world market capitalization, of about 3%. Yet Canadians hold roughly 60% of their equity investments in domestic shares.
Or take South Korea, which has a global index weight of less than 2%. Residents there nevertheless make 90% of their equity investments in the domestic market.
Even the United States, with a massive global index weight of nearly 40%, is guilty of home bias – with American investor holdings in domestic equities standing at approximately 80%.
Such bias is found, to a greater or lesser degree, in every single market worldwide. The trend is especially pronounced in emerging markets – where there are often structural barriers to overseas investment – and is least evident in Europe, especially since the introduction of the common currency and elimination of exchange-rate risk.
Between 1997-2004, the level of home bias in the eurozone declined by 9%. Over the same period, the level of regional bias (meaning total investment in eurozone shares) increased slightly.
Within Europe, the Dutch, who have long embraced an international equity investment strategy, are by far the least exposed to home bias, with slightly more than 20% of equity investments allocated to the domestic market. That sounds pretty balanced – until you consider that the Netherlands represents less than 1% of total world market capitalization.
Like the Netherlands, Austria, Belgium and Germany also at first appear relatively unbiased, with roughly 37%, 45% and 48% of their equity investments in domestic shares. Once again, though, this has to be put in context: Germany, the largest of the three markets, has a global index weight of barely 3%.
The trend is even more exaggerated in France, which has a global index weight of 3% and where residents there nevertheless make 60% of their equity investments in the domestic market.
While each of these countries compares favorably to the international mean, being better than average obviously remains far from ideal.
Over the past two decades, nine out of the ten best-performing stock markets have been in emerging markets, according to Bloomberg data. Yet relatively few investors have much exposure to Brazil, Kazakhstan or Peru (the world’s three best-performing markets in 2016).
Given the governance gaps and political risks in many emerging markets, it’s understandable that not everyone wants to buy Kazakh shares. But the broader issue of home bias remains a puzzle that has left economists scratching their heads for decades.
It may pain practitioners of the dismal science to admit it, but the value of geographic portfolio diversification is simply no match for human psychology.
That’s why we overweight our own market, despite all the evidence that says we should do otherwise. It is the same reason our spirits rise and fall with the fortunes of our home team – even if, deep down, we know it’s just a game.
Mr.Van Geyt serves as Group Chief Investment Officer at KBL European Private Bankers, which operates in the UK under the name Brown Shipley. The statements and views expressed in this document are those of the author as of the date of this article and are subject to change. This article is also of a general nature and does not constitute legal, accounting, tax or investment advice.
Humans vs Robots: Which Is Better for Managing Investments?
In an era of technological advancement, innovation, and fear-mongering sci-fi programs, fears over a robot uprising and artificial intelligence coup are rife. While these two hyperbolic scenarios are likely a while off, trading bots used within financial dealing are starting to supersede their human researcher counterparts. On Wall Street, these infallible and emotionally-neutral trading automatons are gathering acclaim. And some propose that they’re going to change the face of finance forever.
Let’s face it, not many humans are cold-blooded and rational enough, which are essential qualities for long-term trading success. This means those few strong traders can ask for high fees for their services, which are often completely unpalatable for a small investor. Robo-advisors, on the other hand, do away with this hubris, epitomising financial inclusion and cost-efficiency. Moreover, they are much more scalable than a human trader, with the ability to trade multiple markets at once.
Major commercial banks are the first to see the potential in these robo researchers. In 2019, multinational investment bank Goldman Sachs announced its own robo-advisory service. While the launch is postponed until next year due to coronavirus-based disruption, the market for robo advisors is still booming, with trading bot usage has grown between 50% and 300% from December 2019 to January 2020.
Why? Because unlike human traders, robots aren’t restricted by the primal urges of the reptilian brain.
A Quantitative Solution to Irrationality
There are few triggers more powerful in electing an emotional response than money, power, and greed. Our internal struggle to satisfy any one of these desires can set us on a disastrous course for failure—particularly when it comes to trading. The fear of missing out, loss aversion, and even hubris present major obstacles for traders to overcome. And, historically, we have very little success in doing so.
There are a few techniques at a trader’s disposal when it comes to evaluating entry and exit points for a trade. For the most part, they can be categorised into two distinct approaches: qualitative and quantitative analysis.
A qualitative approach involves in-depth data analysis pertaining to subjective information, such as company management, earnings, and competitive advantage.
Quantitative analysis, meanwhile, examines the statistical attributes of an asset, including performance, liquidity, market cap, and volatility. For the data-driven cryptocurrency market, with its swathe of exchanges and bounty of information (total supply, transaction volumes, fees, and mining metrics, etc.), it’s the latter quantitative approach that is often favored.
This is reflected by the 2020 PwC–Elwood Crypto Hedge Fund Report, which details that nearly half of all crypto fund managers (48%) opt for a quantitative trading strategy. And there’s one clear reason as to why. A quantitative approach—in the main—aims to neutralise cognitive bias.
Still, try as they might, no human is capable of totally ignoring their primal instincts. And that can prove troublesome.
In a study into emotional reactivity on trading performance, researchers of the MIT Sloan School of Management found that excessive emotional responses can be extremely detrimental to trader returns, particularly during times of crisis and within high volatile markets.
But where humans fall down, the novel trading bot thrives.
The Rise of the Robo Advisor
Trading bots are much more nuanced than their all-encompassing moniker would suggest. These bots come in many different varieties. Two of the most common are the analyst and advisor bots. The latter advisors build portfolios based on the client’s risk profile. Robo analysts, meanwhile, probe data released in annual company records, as well as SEC filings, to provide buy and sell recommendations.
Despite their varying traits, both benefit from negating the cognitive biases inherent in human researchers, analysts, and traders.
As such, within volatile and high-pressure market conditions, trading bots have proven to surpass the performance of their human equivalents.
A 2019 study from Indiana University appraised over 76,000 research reports published over 15 years from various robo-analysts. Researchers found that the robo buy recommendations conferred 5% better returns than those of the human analysts.
But while bots may have the edge over humans, their results vary wildly when competing amongst themselves.
Between May 2019 and March 2020, researchers pitted 20 German B2C robo-advisors against each other, measuring their performance and calculating the differences. The variation among the bots was enormous. But most impressive of all was the bot that came in pole position. The top robo advisor managed to restrain losses to just -3.8%, beating the other bots by around 14 basis points. And decimating traditional hedge funds who were down approximately -10% across the board following March’s tumultuous marketwide crash.
As it turns out, the main difference between the top robo performer and the rest was its unique strategy. The robo advisor not only used quantitative analysis, but it leveraged the irrationality of the market to its advantage—measuring conventional risk metrics, such as loss aversion bias and recovery time, to ascertain illogical trades and position itself on the other side. In doing so, it was able to interpret the market better than both the determinedly quantitative-based bots and the human-operated hedge funds.
Investors’ growing appetite for private markets means firms must improve their regulatory governance
· Both large and small firms are struggling to meet regulatory demands due to poor governance of deal distribution, inaccurate investor profiling and inadequate data and document management.
· Many firms are still relying on traditional, paper-based records which are more difficult to audit than electronically-held data
· A significant number of firms offering clients access to private markets are struggling to comply with regulations because they “don’t know what they don’t know”.
· Over five and 10 years, UK private equity and venture capital funds have outperformed the FTSE All-Share, FTSE 100, 250 and 350 indices according to BVCA data, which has driven increased interest in the sector1.
Firms that operate in private markets without effectively using technology risk causing ‘investor harm’ and significant reputational damage to their own company by struggling to comply with Financial Conduct Authority’s (FCA) regulations.
The problem exists for firms of all sizes – from enterprise institutions to boutique advisers – as the “blind spot2” in regulatory compliance is not being addressed, often because organisations operating in this sector are not sufficiently aware of the regulations they should be complying with.
Some of the most common challenges that firms face include implementing robust governance around deal distribution, accurately profiling investors, and overcoming antiquated document and data management systems which make it difficult to audit client files effectively.
According to research carried out for Delio’s report ‘Private markets in wealth management’, 65% of firms said the challenge of consistently achieving full regulatory compliance was the main obstacle to launching their private market proposition.
Yet, investor appetite for private markets has grown significantly over the last decade3 and looks set to continue thanks to consistent returns and greater interest in areas such as impact investing. With investment growth averaging 20.1% over five years and 14.2% over 10 years4, compared to 7.5% and 8.1% respectively in the FTSE All-Share, firms’ need to ensure regulatory compliance isn’t going away and firms need to address with urgency.
Gareth Lewis, Co-Founder and Chief Executive of private markets technology specialist Delio, said: “We have been working in this sector for more than five years, yet we are consistently shocked at how difficult some firms are finding it to meet their regulatory requirements.
“First and foremost, any firm operating in private markets without robust regulatory frameworks in place is failing their clients. That’s before you even consider the repercussions of non-compliance for the firm itself, which could result in fines and potentially compensation to investors that have been mis-sold.”
Earlier this year, the FCA highlighted alternative investments as a key area that it will be focusing its attention on in 2020/215, with unverified reports that firms are already being contacted by the regulator as part of an ongoing review. The FCA itself said that although the letter mentions potential further work being undertaken, it “can’t confirm what that work is unless we make it public”.
However, because private markets are a relatively complex regulatory area, many companies “don’t know what they don’t know”, said Mr Lewis.
He added: “Many of the processes involved in private markets, from deal distribution through to properly identifying suitable investors, can create regulatory pitfalls. Firms who fail to see the benefits that technology can offer in these areas are taking unnecessary risks with their own reputations and, worse, client investments. Digital tools remain under-utilised by firms, with only one in four institutions reporting that technology plays a core role in how they deliver unlisted investment opportunities to their clients6. Yet, digitisation of these processes could minimise such risks through the
automation of document sign-off, approval tracking, proper and auditable investor profiling and so on.
“If companies continue to provide private markets services to clients using traditional methods rather than technology to enhance their compliance, they will inevitably come unstuck. It’s time for any firm that is serious about offering unlisted investments to take control of their regulatory obligations for the benefit of their clients and their own reputation .”
Covid heightens need for cybersecurity in digital world says hampleton partners’ m&a report
While the world is focused on the health and economic threats posed by Covid, cyber criminals are capitalising on this crisis
Hampleton’s latest Cybersecurity M&A report highlights the importance of cybersecurity vendors as all industries seek protection from cyber-attacks, now that millions more people are working and learning from home using VPN networks and potentially suboptimal computer equipment and inadequate cybersecurity.
Henrik Jeberg, director, Hampleton Partners, said: “A spike in phishing attacks, Malspams and ransomware attacks has forced companies digitising their processes to double down on IT and cybersecurity improvements.
“As a result, the IT Security Services segment has seen a rise in M&A activity, as firms continue to outsource their IT and cybersecurity needs. We expect this trend to continue as businesses narrow in on some of their IT vulnerabilities in ways they may not have needed to until now.”
The international tech M&A dealmakers’ report shows that overall deal flow in the cybersecurity space has been relatively consistent since 2015, with a record spike of 242 disclosed deals in 2019.
Projected volume of 196 deals for 2020 suggests that the coronavirus pandemic has not drastically affected total deal volumes. Valuations in the sector have stayed strong, with EV/S multiples trading at around 5x – rather than around 3x seen in the wider enterprise software M&A market.
IT security sector M&A
As the largest subsector within the cybersecurity space with 46 per cent of global M&A activity, IT Security Services looks on track to achieve a total of 50 deals in the second half of 2020, up 25 per cent on the first half total.
Example deals include TA Associates’ portfolio company HelpSystems merger with GlobalSCAPE in a deal worth $178 million. The deal is set to augment HelpSystems’ data security business, which includes data loss prevention and data classification software. The combined company will focus on providing the most comprehensive collection of trusted security and automation solutions to customers worldwide.
Also, security integration firm Allied Universal’s two acquisitions in the past 12 months, acquiring Advent Communications Systems and Phoenix Systems & Service (PSSI) both for undisclosed amounts.
Advent is a low-voltage integrator of IP video, access control, structured cabling and audiovisual systems with revenues exceeding $42 million and 125 employees.
PSSI provides security systems integration to businesses and has revenues exceeding $16 million and is known as one of the premiere integrators for access control, digital video, optical turnstiles and intercom systems in the U.S.
Private equity in cybersecurity
PE firms have funnelled significant investment into cybersecurity – including via their portfolio companies – with a focus on larger, more established targets. The share of financial buyers came in at approximately 36 per cent so far this year, much higher than previous shares which oscillated between 3 per cent and 26 per cent since 2010. This is likely to continue as Covid has forced some strategic buyers to stall their M&A activity, while financial buyers are sitting on large amounts of potential investment and will continue to have access to cheap debt in the near future.
Largest disclosed deals in the past 12 months
The top three deals by deal value were:
Thoma Bravo LLC acquired Sophos for $3.8 billion
Symphony Technology Group/Ontario Teachers/Alpinvest Partners acquired RSA Security Inc. for $2.1 billion
Advent International/Crosspoint Capital Partners acquired ForeScout Technologies Inc.for $1.7 billion
Download the full Hampleton Partners’ Cybersecurity M&A Report here:
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