ICPM Research Scanning
ICPM introduces a new global research scanning service this year. Each month a relevant, recent academic paper will be reviewed, summarized and featured in the ICPM network and posted here. Papers are sourced by pro-active scanning of influential journals and through collaborative efforts with international pension research institutes, think-tanks and like-minded organizations.
We welcome your suggestions on key topics and authors and invite submissions of published articles for consideration. To do so, please contact us. To access all of ICPM’s archived research Search ICPM Research and Archives.
First Impressions Matter: An Experimental Investigation of Online Financial Advice
Julie R. Agnew, Hazel Bateman, Christine Eckert, Fedor Iskhakov, Jordan Louviere, Susan Thorp
We explore how individuals assess the quality of financial advice they receive and how they form judgments about advisers. Using an incentivized discrete choice experiment, we show that first impressions matter: consumers more often follow advisers who dispense good advice before bad. We demonstrate how clients’ opinions of adviser quality can be manipulated by using an easily replicated confirmation strategy that depends on the quality of the advice and the difficulty and order of the advice topics. Our results also reveal how clients benefit from their own past experience and how they use professional credentials to guide their choices.
The Pied Piper of Pensioners
Conrado Cuevas and Dan Bernhardt
We document how retirement portfolio recommendations by a pension-advice firm, Happy and Loaded, affect pension investments by individuals in the Chilean social security system. Following H&L’s advice, investors shift amounts that often exceed 20% of a portfolio’s value and 1.3% of Chilean GDP, in a week. We document what drives investment recommendations, and the resulting return consequences for the Chilean stock market, social security portfolios, government bonds, and exchange rates. Paradoxically, investors who followed H&L’s advice would have earned more by sticking with their original portfolios. These findings provide a cautionary tale for the design of privatized social security systems.
Climate Risks and Market Efficiency
Harrison Hong, Frank Weikai Li and Jiangmin Xu
We investigate whether stock markets efficiently price risks brought on or exacerbated by climate change. We focus on drought, the most damaging natural disaster for crops and food-company cash flows. We show that prolonged drought in a country, measured by the Palmer Drought Severity Index (PDSI) from climate studies, forecasts both declines in profitability ratios and poor stock returns for food companies in that country. A port- folio short food stocks of countries in drought and long those of countries not in drought generates a 9.2% annualized return from 1985 to 2015. This excess predictability is larger in countries having little history of droughts prior to the 1980s. Our findings support regulatory concerns of markets inexperienced with climate change under-reacting to such risks and calls for disclosing corporate exposures.
Blockholders: A Survey of Theory and Evidence
Edmans, A. and Holderness, C. G.
This paper reviews the theoretical and empirical literature on the role of blockholders (large shareholders) in corporate governance. We start with the underlying property rights of public corporations; we discuss how blockholders are critical in addressing free-rider problems and why, like owners of private property in general, blockholders are likely to be active in firm governance. We then examine what distinguishes a blockholder from an ordinary shareholder and advocate additional definitions from the typical threshold of 5% ownership. We next present new evidence on the frequency and characteristics of blockholders in United States corporations. Then we develop a simple unifying model to present theories of blockholder governance through both voice (direct intervention) and exit (selling one's shares). We survey the empirical evidence on blockholder governance, emphasizing the empirical challenges in identifying causal effects involving blockholders We highlight the lack of credible instruments for blockholders and argue that exogenous variation should not be a prerequisite for research - a narrow focus on identification may lead to a focus on identifying narrow questions. We emphasize the value of descriptive research with blockholders and how endogeneity concerns can be addressed with economic logic and by directly testing alternative explanations. We close with suggestions for future research.
Political Representation and Governance: Evidence from the Investment Decisions of Public Pension Funds
Aleksandar Andonov, Yael V. Hochberg, Joshua D. Rauh
We examine how political representatives affect the governance of organizations. Our laboratory is public pension funds and their investments in the private equity asset class. Representation on pension fund boards by state officials or those appointed by them—often determined by statute decades past—is strongly and negatively related to the performance of private equity investments made by the fund. This underperformance is driven both by investment category allocation and by poor selection of managers within category. Funds whose boards have high fractions of members who were appointed by a state official or sit on the board by virtue of their government position (ex officio) invest more in real estate and funds of funds, explaining 20-30% of the performance differential. These pension funds also choose poorly within investment categories, overweighting investments in small funds, in-state funds, and in inexperienced GPs with few other investors. Lack of financial experience contributes to poor performance by boards with high fractions of other categories of board members, but does not explain the underperformance of boards heavily populated by state officials. Political contributions from the finance industry to elected state officials on pension fund boards are strongly and negatively related to performance, but do not fully explain the performance differential.
Do Long-Term Investors Improve Corporate Decision Making?
Jarrad Harford, Ambrus Kecskés, Sattar Mansi
We study the effect of investor horizons on a comprehensive set of corporate decisions. We argue that monitoring by long-term investors generates decision making that maximizes shareholder value. We find that long-term investors strengthen governance and restrain managerial misbehaviors such as earnings management and financial fraud. They discourage a range of investment and financing activities but encourage payouts. Innovation increases, in quantity and quality. Shareholders benefit through higher profitability that the stock market does not fully anticipate, and lower risk.
Behind the Scenes: The Corporate Governance Preferences of Institutional Investors
McCahery, J., Sautner, Z., & Starks, L.
Should I stay or should I go? This article provides insights into the actions of institutional investors and reveals their corporate governance preferences when engaging with firms. These insights can contribute to the effectiveness of shareholder engagement practices of long-horizon investors across the globe.
The Smarter Screen: Surprising Ways to Influence and Improve Online Behavior
Benartzi, S. with Lehrer, J.
A compelling look at the delicate balance when designing online education tools to effectively reach, retain and educate people to enable them to make sound (investment) choices. A must-read for pension industry communications professionals.
Private Equity Portfolio Company Fees
Ludovic Phalippou, Christian Rauch, and Marc Umber
Issue: In private equity, General Partners (GPs) may receive fee payments from companies whose board they control. This paper describes the related contracts and shows that these fee payments sum up to $20 billion evenly distributed over the last twenty years, representing over 6% of the equity invested by GPs on behalf of their investors. Fees do not vary according to business cycles, company characteristics, or GP performance. Fees vary significantly across GPs and are persistent within GPs. GPs charging the least raised more capital post financial crisis. GPs that went public distinctively increased their fees prior to that event. We discuss how results can be explained by optimal contracting versus tunneling theories.
Standing on the shoulders of giants: The effect of passive investors on activism.
Appel, I., Gormley, T. A., & Keim, D. B.
Issue: Shareholder activism is on the rise again after a temporary decline in the number of activist campaigns throughout the financial crisis. With 343 recorded activist campaigns in 2014, the movement reached its peak since 2008 (see PwC study, 2015). Simultaneously, the extent to which firms are owned by passive investors keeps increasing. In a recent working paper, Appel, Gormley and Keim (2016) investigate the impact of passive ownership on the way that activist shareholders target mutually owned companies.
Who is Easier to Nudge?
Beshears, J., Choi, J. J., Laibson, D., Madrian, B. C. & Wang, S.
Issue: Research on pension plan design has increasingly focused on default options. On average, most people stick to a default contribution rate and hardly opt out of pension plans if this requires action. But who is easier to nudge? Is it women, the young, and/or employees with a high income? Why do some socio-demographic groups stick to a default longer than others? And do default contribution rates actually influence the implicit rate that people would like to contribute (called the target contribution rate)? Beshears et al. (2016) answer these questions by analyzing data of the 401(k) plans of ten large US companies.