Get investment beliefs out on the pension committee table

• setting an asset mix strategy;
• determining the investment structure;
• selecting investment managers and products; and
• monitoring the success of the investment arrangements

These decisions are often based on underlying beliefs about how the investment world works. The quality of our beliefs is a major determinant of success in investment, but this naturally begs the question, how can we develop good beliefs and use them successfully in decision-making?

Read: Creating effective pension committees

Decisions, decisions
Decisions can be broken down into three parts: context, beliefs and analysis. To improve our decision-making performance, we need to improve our skills in each of these:

Context provides an understanding of the general and unique context. For example, we could better understand the liability profile or the covenant of the plan sponsor to fund the benefits.

Beliefs are important as they’re often used as shortcuts in decisions, or as a support in making decisions where imperfect information for foresight is available.

Analysis is the combination of beliefs and context in making the ultimate decision.

Read: Switching investment managers

Investment beliefs can include a number of elements but are often grouped around the following areas:

• governance;
• risk and reward – risk and reward trade-offs, equity risk premium, diversification benefits, rebalancing activity;
• implementation approaches – active versus passive, style investing, effective implementation; and
• other – currency hedging; environmental, social and corporate governance (ESG).

But not all beliefs are equal. Some beliefs can be demonstrated and some can only be asserted. An example of the former is the belief that an equity risk premium exists. This is fairly easy to assess. It’s the difference between equity market returns less bond market returns over a specific time period. The analysis will either prove or disprove the belief.

An assertion is more like faith—harder to prove, but believed nonetheless. An example of this is unrewarded risks should be removed / hedged from portfolios as cost effectively as possible.
Capital markets are dynamic. Our beliefs should be, too. Committees should go through the process of evaluating and enunciating their beliefs from time to time, especially in situations where there is market stress, a change in the composition of the committee and/or the financial position of the sponsoring entity, or in situations where beliefs have been proven wrong.

The challenge for committees is that decisions are made based on beliefs at that time, but the people on the committee today may not have been those responsible for the decision or share the underlying belief used to make the decision. Having a framework for reviewing those decisions and investment beliefs, at least provides some context as to why they were made at the time. It also provides a starting point to evaluate whether the decisions remain relevant and valid today.

As plan sponsors in Ontario grapple with the impact of the new requirements to state their position on ESG in the Statement of Investment Policy and Procedures, many are also taking the opportunity to step back and review their investment beliefs in general. So far, the discussions with my clients have been interesting in this regard and may well lead to some changes in beliefs, and, hence investment arrangements.

There’s a natural tension between maintaining beliefs and augmenting them as capital markets evolve or as new information becomes available. In general, plan sponsors should favour demonstrable beliefs versus assertions, and should be willing to adjust them over time in favour of improved ones. Success will occur when committees translate their investment beliefs into actual strategies, policies and decisions.