First published in Bundesverband Alternative Investment’s June 2017 newsletter – click here to see the original.
We live in a world abundant in sophisticated products and services. The most successful are those that give customers a fantastic user experience despite their complexity. There’s much that fund management groups can learn from this.
The development of the touchscreen for Apple’s iPod meant this highly complex electronic device with thousands of features was easy to use because it was so intuitive. Since then, we have seen a tidal wave of innovation in this area: smart phones, smart watches, smart homes and soon, driverless cars. Despite being packed with technology, these devices become increasingly simple to use – we can now just talk to some of them – because the inventors are constantly thinking through their customers’ experience of the product during the design process.
‘But what does this have to do with the fund management industry?’, I hear you ask. In my experience, fund management groups are fantastic at engineering clever new investment strategies. But most of them remain terrible at explaining those products and engaging investors with them. And that’s where financial transcreation comes in.
Do customers understand smarter fund strategies?
To understand the ‘communication gap’ in the investment industry, we first need to understand what has led fund management groups to develop innovative products.
Low interest rates since 2009 may have been supportive for global economic growth and company profits, but low rates have been unhelpful for investors in bank savings accounts and have also made fixed-income markets relatively expensive. As ‘lower-for-longer’ interest rates seem to have morphed into ‘lower forever’, investors have demanded higher-yielding investments, but without necessarily wanting to take higher risks with their money.
In response, the investment community has introduced more sophisticated investment strategies to market, such as liquid alternatives. Or in some cases, they have brought niche products or typically institutional-only strategies and made them more readily available to end investors. Examples here include hedge funds, absolute-return funds, secondary property, renminbi and sharia-compliant bond funds, frontier equity markets, structured bonds, infrastructure assets, private equity and debt, insurance bonds and timber funds. There are many more examples of these.
Some of these assets have been made available to private investors directly through UCITS funds. Others, which have less-liquid or higher-risk underlying assets, have been packaged together into diversified multi-asset vehicles, where risk and liquidity can be spread across multiple asset types.
No longer are investors’ decisions based on a simple allocation between equities and bonds. There are literally hundreds of investable opportunities. And these have been made more easily accessible through the invention of exchange-traded funds (ETFs) and the proliferation of fund platforms, which allow investors to trade in and out of something as specific as a US telecoms sector index several times a day. In spite of all these opportunities, do fund managers and their clients really understand each other?
Fund design and regulation have outpaced communication innovation
Investor demand for better risk-adjusted returns and true diversification has pushed asset managers to develop ever more innovative products. That’s clearly a good thing. But customer comprehension has failed to keep up with this explosion of opportunity and now customers are unwilling or unable to engage confidently and take advantage of the enormous range of products available. In the UK, customer engagement with pension planning is so poor that only 20 per cent of people in company pension schemes choose to make an investment decision; the remaining 80 per cent accept the default investment fund that their employer has pre-selected for them. Meanwhile, in Germany, the new Betriebsrentenstärkungsgesetz (BRSG) is hopefully working to close the growing gap in occupational schemes between employees subject to social insurance contributions in the bigger companies and those working in small to mid-sized firms (KMUs).
The lack of customer engagement comes down to two things: poor user experience and poor communication. Above all, there is a need to demystify “investment speak”. Financial services are known for jargon and ambiguity, particularly in turbulent times when clarity should be even more important.
The bad news is that financial jargon is set to get even worse because complexity is also increasing in the area of financial regulation. You’ll be pleased to know I’m not going to provide an in-depth discussion of PRIIPs, MiFID II or GDPR – that is for another day and another article or three. But the reason I have listed these dreadful acronyms is to underline the increasing amount of regulation that is being loaded onto financial services companies.
Inevitably, much of this regulation will affect customers. When you combine this regulatory burden with more sophisticated product design and a growing proliferation of investment choice, it’s obvious that fund managements groups will come under huge pressure to communicate more effectively with their investors. If they don’t, they risk huge fines for mis-selling financial products to customers who don’t understand, for example, that their emerging-market high-yield long-short bond ETF is actually a pretty high-risk investment.
So what is the solution? Condense and convey technical information!
The challenge is this: “A little learning is a dangerous thing”, as English poet Alexander Pope so elegantly wrote. Yet, the sum of knowledge required to understand the entire investment universe is way beyond any one individual. And the task is to condense and convey so much technical information into something that really matters to the client. Let’s go back to the analogy of the touchscreen iPod – the original smart device was not supplied with a 400-page manual explaining the technical specifications of each feature. Apple relied on clever design, intuitive user experience, plus clear navigation and communication – the rest it left to the common-sense of the user.
‘But the financial sector is heavily regulated’, I hear you complain. Of course, you would be perfectly right. But so are automobile producers and pharmaceutical manufacturers. These are sectors where laws and regulations restrict how products are designed, manufactured and marketed. And yet, consumers know perfectly well what the purpose, features and benefits are of Audi, Porsche, Penicillin and Viagra.
We, in the financial community, can learn from this. We must stop hiding behind the jargon that blights our industry and fosters consumer mistrust. Remarkably, the regulators that oversee the investment industry recognise this: the fact that regulations force asset managers to produce KIID documents for their UCITS funds in plain language (and soon their PRIIPs funds too) underlines just how bad the regulator thinks we all are at communicating clearly with consumers.