Career Risk and Herding Behavior

The career risk of trying to be different on Wall Street

Career Risk on wall street

QWERTY Keyboard

“QWERTY” are the first six keys in the top left on most typewriters or computer keyboards. More than 90% of all keyboards have this QWERTY configuration. This inefficient key arrangement was originally created to make typing on a typewriter fast without having the keys stick together. Since the creation of computers, typewriters have become obsolete, however this key arraignment still remains.

While most people who have studied this QWERTY configuration agree that it is not efficient, it is so highly embedded in every user’s skill-set and keyboard, that changing to a more efficient key arrangement would be too challenging to undergo for the mass population. It is claimed that changing to the more efficient “Dvorak” keyboard will take anywhere from three months to one year, and for 6-8 weeks the typist may not be able to easily type on either keyboard.1

In 6-8 weeks of not being able to type, the user could easily lose their job for being too slow. Most people will not switch because it is easier to be just like everyone else than to take a chance that either they could improve their typing or get fired for being slower because of it. This is what can be called herding. Staying with the herd is safer than trying to do it alone and being seen getting it wrong. The fund management profession has a similar problem.

Are your fund managers sheep?

fund manager Career Risk

Are your Fund Managers Sheep?

The financial service industry has a notorious problem which very few outside the industry are aware of. This problem is generally referred to as career risk. Now most of you reading this might think, “Who cares if some overpaid fund manager gets fired for not performing well enough?” While having your fund manager keep his job might not be high on your holiday wish list, you should realize that it is an enormous problem at Wall street firms, and that it is causing many funds to under-perform their potential.

It has become all too common that many financial service firms or fund managers have found it easier to try to mimic an index than to try to outperform it. The reason is no different than any other herding behavior. Staying with the herd is safe. If the herd is wrong, then at least you are like everyone else and the punishment is not significant. If a fund manager tries to separate from the herd and is right, then they will have some mild success. If they are wrong, they get fired. The risks of getting fired do not warrant the reward of making a little more money and/or fame. Wall Street has a short memory if you are right, and it never forgets when you are wrong.

For instance, in 2008, the S&P 500 dropped 38.49%. Most mutual funds performed in a similar manner. While losing all that money is very unsettling, it is relatively acceptable to investors because everyone else lost as well. Let say for example that a mutual fund gained 1.0% in 2013 where the S&P 500 gained 29.6%. The manager would be fired immediately and would find it hard to find work after that, even if he made 15% when the S&P 500 lost 38.49 % in 2008. Most people compare their investments to an index like the S&P 500, so that is the benchmark for performance regardless if the fund manager performs better over a 10 year period.2

A well-known example is Jeremy Grantham at GMO. In 1997, his firm suggested that the valuations of tech stocks were too elevated and that his clients should switch out of them. He was rewarded with 40% of his clients pulling their money from the firm. Subsequently after the 2000-2002 period when the market fell significantly, he gained back all the assets and then more, but the message was clear. If you are going to be different, you better be right. And it better not take too long to be proven correct.3

Due to the marketing efforts of financial service firms and the news media which hum the same tune, it is very difficult to expect most investors to think outside the box, and be different. So next time you read a news article that says, “most mutual funds under-perform their index.” You will understand why so many fall into this category. Herding may work for sheep, but not for your hard-earned money.

1. (Empirical Study of the Time to Learn Dvorak: ) & (Jump up ^ Psychology of Typing:)

2. Yahoo finance

3. (April 2012 GMO Qtrly letter my sister’s pension assets)


About Innovative Advisory Group: Innovative Advisory Group, LLC (IAG), an independent Registered Investment Advisory Firm, is bringing innovation to the wealth management industry by combining both traditional and alternative investments. IAG is unique in that they have an extensive understanding of the regulatory and financial considerations involved with self directed IRAs and other retirement accounts. IAG advises clients on traditional investments, such as stocks, bonds, and mutual funds, as well as advising clients on alternative investments. IAG has a value-oriented approach to investing, which integrates specialized investment experience with extensive resources.

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About the author: Kirk Chisholm is a Wealth Manager and Principal at Innovative Advisory Group. His roles at IAG are co-chair of the Investment Committee and Head of the Traditional Investment Risk Management Group. His background and areas of focus are portfolio management and investment analysis in both the traditional and non-traditional investment markets. He received a BA degree in Economics from Trinity College in Hartford, CT.

Disclaimer: This article is intended solely for informational purposes only, and in no manner intended to solicit any product or service. The opinions in this article are exclusively of the author(s) and may or may not reflect all those who are employed, either directly or indirectly or affiliated with Innovative Advisory Group, LLC.