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Innovating to benefit from comparative advantage

Amanda White




A paper by the World Economic Forum’s Global Agenda Council on the Future of Investing, Innovations in Long-Term Capital Management, the Practitioner’s Perspective, examines the changing nature of investment decision making and governance and showcases investors who are innovating to take benefit from their comparative advantage.

It’s the age of the asset owner – which are more aware and better resourced than ever before. The paper highlights investors who have become significantly more conscious of the investment management value chain and the need for innovation. Many asset owners recognise that in order to sustainably reduce inefficiencies along their investment management value chain, they must first improve their own processes and capacity for innovation, the paper says.

The underlying premise of the white paper is that the future of investing lies in the ability to create new sources of wealth, rather than simply recycle claims on existing wealth. This means recognising where technology, demographics and inequality enable defensible profits and where they do not; and mitigating the greatest risk to sustainable new wealth creation – the insidious shortening of investment horizons that has been synonymous with rapid informational efficiencies.

The Global Agenda Council on the Future of Investing surveyed 21 major asset owners and managers to identify trends in their efforts to adapt to economic, financial and regulatory developments. While there were many variations in the way asset owners were adapting and innovating, in all examples, robust governance frameworks, rapidly advancing technological change and empowered leadership were enabling and driving innovation by these investors.

The WEF white paper, Innovations in Long-Term Capital Management, the Practitioner’s Perspective, outlines the result of that survey and showcases examples of how asset owners have invested in their knowledge capital, the resulting changes in their investments, and the implications for putting these new ideas into practice. Some examples are through responsible investing in real estate, investing in innovation, new approaches to asset allocation, thematic investing and manager flexibility.

The white paper clearly demonstrates the trend that asset owners are investing in their own capability and resources as a way of increasing their chances of success. From this increasingly self-sufficient and sustainable platform, they are innovating to both increase their operational efficiency and identify the areas in which their comparative advantages enable this wealth creation.

Alison Tarditi, chief investment officer of Commonwealth Superannuation Corporation, who is chair and member of the WEF’s Global Agenda Council on the Future of Investing, says there are a number of variables forcing asset owners to look at different investments. These include: the prospect of an extended period of low returns, the life stage and professionalisation of institutional asset-owners, regulation, and technological innovation.

“Asset owners are investing in their own capacity for innovation and governance is the key,” she says. “Good governance is all about strong organisational self-awareness; the simple but powerful realization that the way the organisation is structured will affect its ability to leverage knowledge adaptively and be successful. We don’t have to all be the same, but we do all need to have a candid self-awareness, reflected in a focus on our purpose and unique comparative advantages.”


What the innovators have in common

The common thread among those funds that were innovating were governance first, that diversification relates to risk not assets, implementation remarries ownership and control, and extending connectivity outside the traditional investment ecosystem.

All of the asset owners in the survey reported having culled their external relationships and increased the size of their mandates to a smaller number of investment partners.

“Complete internalisation of the entire investment manufacturing chain is still considered counter to the dominant trend of identifying and exploiting comparative advantage. What has changed is asset owners’ ability to identify, price and react to inefficiencies within their supply chain. This should support innovation across the investment ecosystem, enable capital to be efficiently allocated to previously unexploited opportunities…” the paper says.

This paper is all about the long-term practitioner’s view, and the idea the industry needs to slow down and push back on the “insidious shortening of time horizons,” Tarditi says.

“The short term nature that some companies exhibit is failing to satisfy,” she says.

“The whole premise of the paper is that the future of investing is in the creation of new wealth, not the recycling of claims on old wealth. Asset owners are increasingly focused on the most efficient ways to finance real economic activity to productive ends.”

The paper “clusters” asset owners into three groups on how they innovate: by leveraging first-mover advantages; by leveraging the tenet that diversification relates to risk, not assets; and by remarrying asset ownership with control.

While the approach taken by each institution was different, five principles of effective investment governance were common. All the innovators had:

  1. Strong organisational awareness. The simple but powerful realisation that the way the organisation is structured will inevitably affect its ability to create, maintain and leverage knowledge adaptability
  2. Clarity and consistency of purpose
  3. Candid self-awareness. This is reflected in a realistic assessment of areas of comparative advantage (to which they purposefully resource) and areas of weakness (which are either avoided altogether or outsourced)
  4. This supports accountability that, over time, build credibility with all stakeholders and underpins the appropriate extension of the investment horizon
  5. A culture of learning and recognising failure early on. This enables organisational flexibility and empowerment from the bottom up.