At a finance conference last year, I learned this: Instead of saving money directly for their own retirement, many workers have their employers save for them. Those employers hire in-house specialists to pick which specialty consulting firms to hire. These consulting firms advise employers on which investment firms to use. And those investment firms pick actual productive enterprises in which to invest. All three of these intermediaries, i.e., employer, consultant, and investor, take a cut for their active management.
I mean I'm not a scam artist and economics are complicated, so I'm not exactly sure how to answer that question. Why is any particular business model, whether it has social value or not, more successful than any other? Apparently in our current economic system, money management can produce a lot of profits by putting a lot of effort into convincing people that you can help them invest their money. So a lot of people get into that industry and get rich. There's no particular deeper explanation, that's just how it worked out.
Exactly. Sure, it's a chickien and egg thing with these businesses being profitable only because people think they must be worth it since they are so profitable, but that's true of countless others types of business in our world.
What do you mean? They exist because they're profitable. This is capitalism, remember? There's no requirement that a business produce any positive social value, they just have to have a legal way to accumulate money.
I would think a more likely explanation for this phenomena is that a lot of people are simply not making rational market decisions. They think these fancy highly-paid financial advisers must be good for something, because otherwise why would they exist? And so they patronize them because that's the thing you do, and they spend a lot of time selling you on the benefits.
If the first paragraph describes the source of the trend toward financial nannyism (I can't fathom why anyone would think of this as over-confidence), then it's essentially another way firms swindle employees.
Pressures are applied within firms to induce employees to have their employers handle their money.
But how do you distinguish efforts to, a) identify w/ a guy because he's cool, from b) trying to profit from a guy because he's a stud.
Eliezer has profited from Richard Feynman's ideas and therefore justifiably feels good identifying w/ him.
Fact is, Buffett's made people a lot of money. And the advice he dishes to would-be investors is excellent (if rather obvious and too general to be useful to most people; he hands you a framework).
In every field there are people dishing useful advice to attentive learners who profit from their advice and admire them. That's how I feel about Robin.
But it doesn't distinguish finance from other fields.
And if it's ubiquitous in finance then who is the #2 after Buffett? The median investor couldn't name more than a handful of stud investors.
But the really high cost stuff isn't offered through firms. You can't access a hedge fund through your 401K. And they make it difficult for people to trade their own stocks. People are mostly steered towards moderately priced mutual funds.
Look, no doubt people are willing to pay for prestige in finance. But bank premises (at least before deposit insurance) are prettied up for different (overlapping) reasons than jewelers are: comfort/safety/trust vs. sexy status.
Trust and comfort is big in finance.
Securities law is expensive but comforting; that's changed. And so is easy fast access to info: I'd feel uneasy if online brokerages went away.
Maybe greater comfort has unleashed dormant overconfidence.
(Changes in the supply side must have something to do with it too. So many people are so utterly crazy about money things that more effective marketing/distribution (where there's been lots of innovation) must raise revenue. I mean, we learned in the last decade that for folks in the bottom 1/3 of society it is up to the lender to consider ability-to-pay because many prospective buyers really, truly do not. No matter how mind boggling that may seem.)
Snakeoil will always be for sale. The puzzle is why it's purchased. In particular, why it's purchased by the ultimate payor - the investor - not the agent (the employer) who doesn't have much incentive to care.
There is no way around it: delusional overconfidence mixed w/ ignorance is a massive part of the story.
OB'ers don't know regular people. They don't know the non card-counters who think they can beat blackjack; the folks w/ lucky lotto ticket vendors. You probably do know engineers who think they can trade energy stocks profitably, but you underestimate its prevalence. Seeking to affiliate w/ impressive people can't explain any of this. Seeking to BE impressive, yes.
The space for delusion in finance is gigantic. Everyone's either hit a homerun personally or knows someone who supposedly has. Analyzing performance and strategy plausibility is HARD. And people aren't much interested in doing it anyway. They'd rather delude themselves than own up to their bad choices.
I know so many folks in the 95th percentile of finance experience who are nonetheless not close to a realistic view of how things work.
You know who is not deluded? People who are good at poker. For three reasons (none of which is that they're not status conscious), a) incompetence costs money more rapidly and certainly in poker than stocks (delusion is cleansed more slowly in investing because you have to be truly reckless hurt yourself badly; and stupidity can pay well for long stretches), b) they understand the importance of rake/fees, c) they understand what efficiency is.
...and did investment management drive the increase?
Looking at the BEA data (http://www.bea.gov/industry..., it looks like the "Finance and Insurance" group is being used as "financial intermediation". "Funds, trusts, and other financial vehicles" and "Securities, commodity contracts, and investments" combined make up about 22% of that total. This is too small a share for these to have accounted for 4x GDP share growth.
The other two categories, both large, are "Federal Reserve banks, credit intermediation, and related activities" and "Insurance carriers and related activities"--I can't pretend to tell you what exactly those include, but I don't think investment management falls into either.
None of this indicts the signalling explanation of managed funds' popularity, but that's not the driver of the growth of finance.
I mean I'm not a scam artist and economics are complicated, so I'm not exactly sure how to answer that question. Why is any particular business model, whether it has social value or not, more successful than any other? Apparently in our current economic system, money management can produce a lot of profits by putting a lot of effort into convincing people that you can help them invest their money. So a lot of people get into that industry and get rich. There's no particular deeper explanation, that's just how it worked out.
The problem is to explain why they're profitable. There are innumerable scams one could imagine: why is this particular one successful.
Exactly. Sure, it's a chickien and egg thing with these businesses being profitable only because people think they must be worth it since they are so profitable, but that's true of countless others types of business in our world.
What do you mean? They exist because they're profitable. This is capitalism, remember? There's no requirement that a business produce any positive social value, they just have to have a legal way to accumulate money.
Why do they exist?
I would think a more likely explanation for this phenomena is that a lot of people are simply not making rational market decisions. They think these fancy highly-paid financial advisers must be good for something, because otherwise why would they exist? And so they patronize them because that's the thing you do, and they spend a lot of time selling you on the benefits.
If the first paragraph describes the source of the trend toward financial nannyism (I can't fathom why anyone would think of this as over-confidence), then it's essentially another way firms swindle employees.
Pressures are applied within firms to induce employees to have their employers handle their money.
Is the trend driven by the high-cost or low-cost investments? I can't tell whether Robin's first paragraph is an example or an encapsulation.
See first paragraph of this post.
Oh, that's for sure!
But how do you distinguish efforts to, a) identify w/ a guy because he's cool, from b) trying to profit from a guy because he's a stud.
Eliezer has profited from Richard Feynman's ideas and therefore justifiably feels good identifying w/ him.
Fact is, Buffett's made people a lot of money. And the advice he dishes to would-be investors is excellent (if rather obvious and too general to be useful to most people; he hands you a framework).
In every field there are people dishing useful advice to attentive learners who profit from their advice and admire them. That's how I feel about Robin.
But it doesn't distinguish finance from other fields.
And if it's ubiquitous in finance then who is the #2 after Buffett? The median investor couldn't name more than a handful of stud investors.
But the really high cost stuff isn't offered through firms. You can't access a hedge fund through your 401K. And they make it difficult for people to trade their own stocks. People are mostly steered towards moderately priced mutual funds.
I don't know.
Look, no doubt people are willing to pay for prestige in finance. But bank premises (at least before deposit insurance) are prettied up for different (overlapping) reasons than jewelers are: comfort/safety/trust vs. sexy status.
Trust and comfort is big in finance.
Securities law is expensive but comforting; that's changed. And so is easy fast access to info: I'd feel uneasy if online brokerages went away.
Maybe greater comfort has unleashed dormant overconfidence.
(Changes in the supply side must have something to do with it too. So many people are so utterly crazy about money things that more effective marketing/distribution (where there's been lots of innovation) must raise revenue. I mean, we learned in the last decade that for folks in the bottom 1/3 of society it is up to the lender to consider ability-to-pay because many prospective buyers really, truly do not. No matter how mind boggling that may seem.)
What about that a much higher percentage of folks work for firms than in 1880?
But overconfidence and ignorance was there in 1880. So why do we spend 4x as much on finance today?
Snakeoil will always be for sale. The puzzle is why it's purchased. In particular, why it's purchased by the ultimate payor - the investor - not the agent (the employer) who doesn't have much incentive to care.
There is no way around it: delusional overconfidence mixed w/ ignorance is a massive part of the story.
OB'ers don't know regular people. They don't know the non card-counters who think they can beat blackjack; the folks w/ lucky lotto ticket vendors. You probably do know engineers who think they can trade energy stocks profitably, but you underestimate its prevalence. Seeking to affiliate w/ impressive people can't explain any of this. Seeking to BE impressive, yes.
The space for delusion in finance is gigantic. Everyone's either hit a homerun personally or knows someone who supposedly has. Analyzing performance and strategy plausibility is HARD. And people aren't much interested in doing it anyway. They'd rather delude themselves than own up to their bad choices.
I know so many folks in the 95th percentile of finance experience who are nonetheless not close to a realistic view of how things work.
You know who is not deluded? People who are good at poker. For three reasons (none of which is that they're not status conscious), a) incompetence costs money more rapidly and certainly in poker than stocks (delusion is cleansed more slowly in investing because you have to be truly reckless hurt yourself badly; and stupidity can pay well for long stretches), b) they understand the importance of rake/fees, c) they understand what efficiency is.
...and did investment management drive the increase?
Looking at the BEA data (http://www.bea.gov/industry..., it looks like the "Finance and Insurance" group is being used as "financial intermediation". "Funds, trusts, and other financial vehicles" and "Securities, commodity contracts, and investments" combined make up about 22% of that total. This is too small a share for these to have accounted for 4x GDP share growth.
The other two categories, both large, are "Federal Reserve banks, credit intermediation, and related activities" and "Insurance carriers and related activities"--I can't pretend to tell you what exactly those include, but I don't think investment management falls into either.
None of this indicts the signalling explanation of managed funds' popularity, but that's not the driver of the growth of finance.