Nudging the Behavior Gap Away

by | Jun 29, 2016 | Asset Management, Investor Behavior

A common tool featured on some fantasy sports websites I use allows you to toggle between players stats on a weekly, monthly, or season to date basis. However, the best (and most useful) comparison, in my opinion, also allows you to look at a player’s stats when he was actually in your lineup. After all, these are the only numbers that truly matter, right?

If Khris Davis (a notoriously streaky slugger who currently plays for the Oakland A’s) has hit .253 with 19 homers and 53 RBI so far, that’s pretty good. But if he’s only hit .225 with 13 homers and 41 RBI on your team, how does that make you feel? His season to date numbers are actually pretty irrelevant as far as you should be concerned. By either adding/dropping him to your roster or benching him at inopportune times, you’ve cost yourself some valuable stats.

The difference between a player’s stats and the ones a fantasy team actually benefits from remind me of what many in the investment world call the “behavior gap“. This refers to total returns on investments compared to returns investors actually realize from those investments. Put another way, investment returns vs. investor returns. Josh Brown summed it up pretty well:

“The data is crystal clear on this point – the vast majority of even winning funds look much worse when viewed through the prism of actual dollar-weighted returns and people tend to underperform their own investments.”

Morningstar calculates these investor returns (dollar-weighted returns) for mutual funds and ETFs. From the Morningstar glossary:

“Morningstar Investor Return (also known as dollar-weighted return) measures how the average investor fared in a fund over a period of time.

Investor return incorporates the impact of cash inflows and outflows from purchases and sales and the growth in fund assets. In contrast to total returns, investor returns account for all cash flows into and out of the fund to measure how the average investor performed over time.”

A perfect example of the behavior gap at work can be seen in the investor returns of the Fidelity OTC fund (FOCPX). This is a common mutual fund found in many 401k plans across the country. Take a look for yourself at the results.

FOCPX Morningstar Investor Returns

Source: Morningstar

As you can see, the average investor certainly doesn’t seem to have done themselves any favors over the last 15 years. Much like the fantasy baseball owner who tries to time their exposure to a streaky home run hitter, the average investor in the Fidelity OTC fund has missed out on a nice chunk of performance. This is hardly an outlier as far as negative investor performance is concerned. A good post from Tadas Viskanta of Abnormal Returns discusses the behavior gap, and, more specifically, chronicles the woes of investors in the Mainstay Marketfield fund. Head over to Morningstar and check out the investor performance for any mutual fund you’d like. The behavior gap isn’t always negative, but it’s definitely skewed in that direction.

I wonder if there’s an opportunity for the investment community to nudge individuals here? Maybe we should be taking a page out of the fantasy baseball playbook by allowing investors to toggle between their own returns vs. an investment’s right inside their own accounts. Individuals would be made aware of not only their returns, but what kind of effect their behavior had on the results. I’m thinking specifically of 401k’s in this regard where there’s a set menu of funds, and it’s not uncommon to see people trade out of and back into the same fund. Investors would be able to see the value of dollar cost averaging into an investment over a period of time. Conversely, they’d also see the drawbacks of trying to time their exposure to certain funds in the plan. The longer a person participates in a plan, the more likely they would be to see the behavior gap and hopefully learn from it.

Data can be a powerful and attention-grabbing tool, but humans are also overconfident. It’s easy to hear that the average investor underperforms their investments without thinking that it actually applies to you. But what if the data were staring investors in the face every time they logged into their account or received a statement? I think it would help people own their behavior a little more if they were forced to face the facts. For some it’d be a reminder that patience often pays off, and for others, well, not so much.

By the way, guess who the Khris Davis-timer is? Yours truly. None of us are perfect and I prefer to get my behavioral mistakes out of the way via fantasy sports.

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