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Tuesday, January 31, 2012

BusinessDay: Smarter people own shares, study finds

The smarter you are, the more stock you probably own, according to researchers who say they found a direct link between IQ and equity market participation.

Intelligence, as measured by tests given to 158,044 Finnish soldiers over 19 years, outweighed income in determining whether someone owns shares and how many companies he invests in. Among draftees scoring highest on the exams, the rate of ownership later in life was 21 percentage points above those who tested lowest, researchers found. The study, published in last month's Journal of Finance, ignored bonds and other investments.

Economists have debated for decades what they call the participation puzzle, trying to explain why more people don't take advantage of the higher returns stocks have historically paid on savings. As few as 51 per cent of American households own them, a 2009 study by the Federal Reserve found. Individual investors have pulled record cash out of US equity mutual funds in the last five years as shares suffered the worst bear market since the 1930s.

"It's what we see anecdotally: higher-IQ investors tend to be more willing to commit financial resources, to put skin in the game," said Jason Hsu, chief investment officer of Newport Beach, California-based Research Affiliates LLC. "You can generalize a whole literature on this. It seems to suggest that whatever attributes are driving people to not participate in the stock market are related to the cost of processing financial information."

'So Strong'

While intelligence influenced things that might naturally increase equity ownership such as wealth and income, the authors said IQ determined who owned the most stocks within those categories as well. Among the 10 per cent of individuals with the highest salary, "IQ significantly predicts participation" in the stock market, they wrote. For example, people in the highest-income ranking who scored lowest on the test had a rate of equity market participation that was 15.7 percentage points lower than those with the highest IQ.

"If you look at the significance of IQ related to other factors like income or wealth, certainly it plays a very large role," Keloharju, a finance professor at Aalto, said in a phone interview. "It's very difficult to get around that problem, but the results are so strong here. We are playing with lots of different controls and lots of different specifications, and all the time things work really well."

Financial Education

Hsu of Research Affiliates said an explanation for why draftees with lower test scores owned less stock is that they found it harder and more expensive to receive financial education. Getting people information on investing at a younger age may help limit the disparity, he said.

"The costs to achieve that are certainly higher if someone isn't providing that at an earlier stage in one's education," said Hsu. "If we could provide advice, or provide education, to help reduce the cost of acquiring financial knowledge, that would seem like a good thing."

The paper is part of a broader debate about the role individual characteristics such as affluence and education play in investor actions. In the 1980s, so-called behavioral economists broke away from theorists such as Sharpe, who tended to think of all investors as rational.

Greg Davies, head of behavioral finance at Barclays Wealth in London, said his team tries to gauge clients' risk tolerance with personality profiles and investment strategies that appeal to "emotional needs."

Implications

"As advisers, of course, we see our role in overcoming the irrational, emotional, inaccurate elements on behalf of our clients," said Davies. "But the implications of this for the mass markets are much greater."

Markowitz said the argument that intelligence and personality sometimes trump rationality in guiding investors has little bearing on his work. His theory comes down to the view that anyone hoping to get the highest payout at the lowest risk should broaden their asset ownership.

"It's advice for the individual investor," Markowitz, 84, said in a telephone interview. "I am delighted to learn the more intelligent a person is, the more likely they are to act in the spirit of what I wrote."

Sourced from here.

Saturday, January 21, 2012

Happy Chinese New Year

Here, I would like to wish everyone a Happy Chinese New Year, good health and a prosperous year. May your dreams come to pass. 新年快乐,身体健康,心想事成!








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