2022 did just enough to scare investors away from 2023 record highs

By Paul Nixon, Head of Behavioural Finance at Momentum Investments

We define a ‘behaviour tax’ as the rands and cents lost from investment behaviour often rooted in the need for short-term emotional comfort (fear and loss aversion) or the overconfidence that market surges often bring (greed and FOMO). Our emotions are significant drivers of our behaviour and decisions around money are often accompanied by strong attitudes and beliefs.

Momentum Investments conducts a yearly review of investor behaviour that currently spans unit trusts as well as non-discretionary investments in living annuities (the market-linked retirement income vehicle). In 2022 saw the All-Share Index (ALSI) started the year solidly at around 75 000 points, but gradually declined to around 65 000 by September. This was accompanied by escalating levels of the South African Volatility Index (SAVI), which is in essence a fear index for South African investors, with rising levels indicative of rising fear from increased volatility.

Investors in unit trusts and living annuities responded by de-risking their portfolios away from equities and moving to the cash side of the risk spectrum. Investors became preoccupied with geopolitical risk, taming inflation and rising interest rates but took advantage of rising commodity prices that was partly responsible for the record ALSI levels early in 2023.

The problem, of course, is that 2022 likely scared investors towards the cash side of the risk spectrum (selling low), while the recent surge was likely enough to entice some investors back to equity markets (buying high). This is exactly how a behaviour tax is incurred: an investor moves money out of equities into cash in a market dip and then buys back in when the markets experience the inevitable recovery.

Our emotions are significant drivers of our behaviour and decisions around money are often accompanied by strong attitudes and beliefs.

Paul Nixon, Head of Behavioural Finance at Momentum Investments

The above was mirrored when analysing the investment funds ditched and switched in the period we analysed in 2022 (until October). Most investors left balanced, offshore and equity solutions for the money market and short-term income funds in both unit trusts and living annuities. There was, however, a substantial grouping of investors that were attracted by the property recovery in 2021, leading to over R120 million of inflows in the latter part of 2021.

These investors were not rewarded for this behaviour as the 2022 period ending 1 October saw another negative return of -10% for these investors. In fact, up-risking portfolios in any shape or form saw this group of investors – the ‘Assertive’ investors (see table below for definitions of archetypes) – incurring a high behaviour tax of 4.5% on average. Behaviour tax is calculated as the difference in future performance between the funds switched from (the theoretical buy-and-hold portfolio) and the funds switch to.

Using machine-learning algorithms targeted at investor risk and return perceptions (how they were feeling about risk and return for the year), it was clear that clusters of behaviour added and detracted value at different times.

‘Market Timers’, characterised by copying others, were penalised when they mirrored assertive behaviour and rewarded when they de-risked. In line with this the ‘Anxious’ archetype, characterised by de-risking behaviour, also added nominal value in this manner in the period analysed. Finally, the ‘Avoider’ added the least amount of value as they tend to invest conservatively to begin with and get stuck there for long periods.

Investor archetypes

In total R28 million of value was added from de-risking behaviour in 2022 in contrast to the staggering R650 million in value destroyed from the COVID period due to the behaviour tax incurred.

However, the value added comes with a stark warning: the timing of the re-entry back into the market (getting back into risky asset classes) usually comes with the inevitable behaviour tax, which we suspect will be reported in the 2023 period. There is a lot of uncertainty that remains on the table for 2023, but the important takeaway is that if a client’s investment goals haven’t changed the plan to achieve these goals should also not change.  

With us, investing is personal and using psychology and technology enables us to understand investor and adviser behaviour more deeply. With this better understanding we can offer useful insights and personal engagements to change behaviour and give investors better investment outcomes to achieve their goals.

To read the latest Sc-Fi Report, click here or view below.

Momentum Investments is part of Momentum Metropolitan Life Limited, an authorised financial services and registered credit provider (FSP 6406).