A new research group, formed by Momentum Investments, North-West University and the University of Pretoria, say that a significant investment performance gap exists between South African individual investors measured against a well-diversified portfolio.
As part of the study, investment decisions of approximately 17,600 individual investors were followed over the last decade.
Initial results point towards the existence of a significant negative ‘behavioural gap’ between investment returns of individual investors, compared to returns on a well-diversified investment portfolio.
The researchers found that during a period of market turmoil, such as the 2008-2009 crisis, 1 in 2 individual investors underperform by 1.1% per year. During ‘normal’ market conditions, 1 in 4 investors underperforms by 1% per annum.
“Over a 20-year time horizon, such underperformance could lead to a cumulative underperformance gap of between 22% and 24%,” the researchers said.
“The results confirms research by Barclays Wealth in the United Kingdom that revealed a gap that would cost investors 21% of their retirement fund over a 20-year horizon.”
Other notable statistics include:
- A return of 3% lower than the previous year (existing portfolio) triggered a switch which opened a behaviour gap of 1.38% per annum for the investors experiencing the worst performance;
- Investors are approximately 2.5 times more likely to move funds due to poor performance (3% or less) than by great performance (15% or more);
- 64% of investors were chasing past performance when they switched (moved to a better performing fund);
- A return of 25% more on another fund triggered a switch that opened a subsequent behaviour gap of 1.05% per annum for the top 15% of investors chasing performance;
- During a period of market turmoil, such as the 2008-2009 crisis, 1 in 2 individual investors underperform by 1.1% per year. During “normal” market conditions, 1 in 4 investors underperform by 1% per annum.
Over the past 10 years, there was a marked increase in individuals that opt towards making their own investment decisions. The research group set out to gain a better understanding of the factors that influence such investment decisions by individuals.
“It is well known that individual investors often tend to overreact to short term market movements. A phenomenon referred to as “herding”, where individuals react in a similar way to short term market information, could lead to overreaction and painful losses,” the researchers said.
“Information that spreads at immensely high speed – even though it may not be true – could nudge numerous investors into making significant decisions about where their money is placed.”
Next steps for the research group include a deeper understanding investor behaviour through advanced statistical and machine learning techniques – this will enable the creation of an “early warning” tool whereby investors could be alerted in a timely fashion about potential market conditions and the potential impact of their investment decisions.