Predicting Fund Manager Integrity and Profitability - A Theoretical Analysis with First Steps Towards an Empirically based Assessment
DISSERTATION of the University of S. Gallen Graduate School of Business Administration, Economics, Law and Social Sciences (HSG) to obtain the title of Doctor Oeconomiae
submitted by
Jon Michael Ebersole
from
The United States of America
Approved on the application of
Prof. Dr. Martin Hilb
and
Prof. Dr. Dres. h.c. Rolf Dubs
Dissertation no. 3720
Difo Druck, Bamberg, Germany
Predicting Fund Manager Integrity and Profitability
The University of St. Gallen, Graduate School of Business Administration, Economics, Law and Social Sciences (HSG) hereby consents to the printing of the present dissertation, withouthereby expressing any opinion on the views herein expressed.
St. Gallen, November 23, 2009
The President:
Prof. Ernst Mohr, PhD
2 Predicting Fund Manager Integrity and Profitability
Copyright © Jon Ebersole 2009 All rights reserved. No part of this publication may be reproduced or transmitted in any form or by any means without prior permission from the author.
3 Predicting Fund Manager Integrity and Profitability
Abstract
The goal of this dissertation was to test whether assessment scores measuring socio emotional maturity and ethical judgment ability correlate with the financial returns of fund managers. The basic research questions are:
(1) Will fund manager scores in ethical judgment, measured by the Moral Judgment Interview (MJI) or Defining Issues Test (DIT), show a correlation with market returns?
(2) Will fund manager scores in emotional maturity, measured in the “Subject Object Interview” (SOI), show a correlation with market returns?
Positive correlation would provide a measure of the link between these assessments of mental processes and effective behavior. Further, if fund manager maturity and ethics scores were found to correlate with profitability the finding could enable an augmentation of existing fund manager recruitment models, influence educational curricula in the finance sector, and raise significant issues for investors.
Thirty financial institutions were contacted with a research proposal detailing the above, and all thirty declined to participate. Four banks were contacted with a simplified request for single interviews of a general nature, resulting in five interviews that were scored for their socio emotional content.
The result of the study are: (a) the hypothesis that, given a fair market, equal conditions and equal qualifications, fund managers with higher levels of socio emotional maturity and ethical judgment ability will achieve greater profitability; and (b) a model for how this hypothesis could be scientifically tested.
November 2009 Jon Michael Ebersole
4 Predicting Fund Manager Integrity and Profitability
Zusammenfassung
Ziel dieses Dissertation war herauszufinden, ob Personaleinschätzungen, welche die sozio emotionale Reife und ethischen Urteilsfähigkeit messen mit der finanziellen Renditen von Fondsmanager korrelieren. Die grundlegende Forschungsfragen sind:
(1) Werden die Ergebnisse betreffend die ethische Urteilsfähigkeit von Fonds Managern, welche durch Moral Judgment Interviews (MJI) oder Defining Issues Tests (DIT) eruiert wird, mit deren Marktergebnissen korrelieren?
(2) Werden die Punktzahl der emotionalen Reife von Fondsmanagern, welche mittels “Subject Object Interviews” (SOI) gemessen wird, mit ihrer Marktergebnissen korrelieren?
Eine positive Korrelation würde ein Mass der Verbindung zwischen diesen Bewertungen von mentalen Prozessen und effektivem Verhalten ergeben. Wenn sich darüber hinaus ein Zusammenhang zwischen Reife und Ethikergebnisse von Fond Managern und Rentabilität als eine deutliche Einfluss für Gewinn zeigen würde, könnte das Resultat zum vermehrten Einsatz von bestehenden Personalevaluierungsmodellen für Fund Manager führen. Dies dürfte wiederum die Lehrpläne für die Finanzbranche beeinflussen und könnte zu einem Thema für Investoren werden.
Dazu wurden dreissig Finanzfirmen mit dem vorliegenden Forschungsvorschlag kontaktiert. Alle dreissig haben die Teilnahme abgewiesen. Daraufhin wurden vier Banken mit einem vereinfachten Vorschlag für Individualinterviews allgemeiner Natur angefragt. Das hat zu fünf Interviews geführt, welche sozial emotional bewertet wurden.
Die Ergebnisse der Studie sind (a) die Hypothese, dass angesichts eines fairen Marktes, gleicher Bedingungen und gleicher Qualifikation Fondsmanager mit einem höheren Niveau an sozio emotionaler Reife und ethischer Urteilsfähigkeit eine höhere Rentabilität erzielen und (b) ein Modell, wie diese Hypothese wissenschaftlich belegt werden kann.
5 Predicting Fund Manager Integrity and Profitability
This dissertation is dedicated to the least fortunate on this earth.
Acknowledgments This dissertation was carried out in the context of a doctoral program at the University of St. Gallen. My sincere thanks are extended to the numerous persons who encouraged and assisted me in this endeavor. Special thanks are due to Prof. Dr. Martin Hilb, and Prof. Dr. Dres h.c. Rolf Dubs for the support they lent to this study.
A deep sense of gratitude is offered to my parents, Myron and Geraldine Ebersole, without whose support this study would have never been possible, and to my daughters Stella and Helena Ebersole, who give me hope for the future.
Appreciation is due to persons who provided intellectual inspiration and encouragement, including Claude Baumann, Anne Colby, Eckhard Freimann, Prabhu Guptara, Otto Laske, Prasad Oswal, Julia Indera Ramlogan, Michael Sanson, Jeannette Schläpfer, Florian Schulz and Zoltan Zolcer. My sincere appreciation is extended to the many persons in the finance industry who helped to arrange the interviews that were possible, the interviewees themselves, and to those who took the time to consider, and some to encourage, the research project in institutions who decided not to participate. Since the research became somewhat controversial, I have decided to keep their names confidential. Thanks are also due to the University of St. Gallen administration as well as the library, cafeteria and household staff who provided a friendly environment for study. Any shortcomings are, of course, my own.
6 Predicting Fund Manager Integrity and Profitability
Table of Contents
Abstract 4 Acknowledgements 6 List of Figures and List of Tables 9 Abbreviations and Key Words 10 Preface 11
1 Introductory Section: 14 1.1 Problem Analysis: The Evolution of Swiss Banking 15 1.1.1 Origins of Banking 16 1.1.2 Historical Phases of Swiss Banking 18 1.1.3 The Context of Globalization 25 1.1.4 The Digitalization of Finance 28 1.1.5 The Sub Prime Crisis: Collective Failure and System Meltdown 32 1.1.6 The Ratings Agencies 36 1.1.7 Major Fraud Cases 41 1.1.8 The Role of Regulators 45 1.1.9 Ethics as a Financial Issue 47 1.1.10 Switzerland in the Global Context 48 1.1.11 Personnel Competencies for Swiss Banking in the Global Context 49 1.2 Goals for the Study 53 1.3 Procedure 59 1.4 Definitions 60
2 General Theoretical Section: The Human Side of Banking 63 2.1 Assessing Fund Managers 63 2.2 The Role of the Fund Manager 70 2.3 The Decision Making Context 72 2.3.1 Criminogenic Environments 74 2.3.2 The Nature of Fraud in Fund Management 75 2.3.3 Fraud as Manipulation 77 2.3.4 Regulatory Mechanisms 80 2.3.5 The Search for Ethical Leadership Capability 81
2.4 Defining the Competencies of Successful Bankers and Fund Managers 82 2.4.1 Behavioral Finance 83 2.4.2 Psychoanalytic and Developmental Approaches 84 2.4.3 Defining Competencies 87
2.5 Assessments Based On Developmental Psychology 90 2.5.1 The Genesis of Developmental Psychology 90 2.5.2 Measuring Ethical Judgment 92 2.5.3 Measuring Socio emotional Maturity 105 2.5.4 Measuring Cognitive Capability 122
2.6 Organizational Frameworks using Developmental Assessments 125
7 Predicting Fund Manager Integrity and Profitability
3 Specific Empirical Section 126 3.1 Empirical Objective 126 3.2 Empirical Targeted Participants 127 3.3 Empirical Methodology 128 3.4 Limits of the Empirical Study 132 3.5 Empirical Results 135
4 Concluding Section 139 4.1 Recommendations for Further Research 140 4.2 Contributions to Theory 141 4.3 Recommendations for Practice 141 4.3.1 For Human Resources and Coaching 141 4.3.2 For the Finance Industry 142 4.3.3 For Swiss Banking 143
5 References and Appendix 146 5.1 References and Additional Resources 146 5.2 List of Interviews 163 5.3 Final Certificate from the Interdevelopmental Institute 164 5.4 Long Letter Requesting Research Cooperation 165 5.5 Short Letter Requesting Research Cooperation 172 5.6 Banks and Investment Companies Contacted 173 5.7 Curriculum Vitae of Author 175
8 Predicting Fund Manager Integrity and Profitability
List of Figures Fig. 1. Structure of the Dissertation 10 Fig. 2. House Mortgaged with a Subprime Loan 35 Fig. 3. The Decision Making Context 73 Fig. 4. A Schematic of Habermas' Speech Acts 79 Fig. 5. DeSeCo’s overarching conceptual frame of reference 89 Fig. 6. Stages of Socio Emotional Development by Robert Kegan 107 Fig. 7. Stages of Socio Emotional Development 109 Fig. 8. Stages of Socio Emotional Development with Sub Stages 114
List of Tables Table 1: Methods of approach to change patterns in trading. 85 Table 2. Stages in the application of rules by children 94 Table 3. Four Psychological Component Determining Moral Behavior 98 Table 4. Twelve Component Model of Moral Action 98 Table 5. Different Groups on the DIT P Score 101 Table 6. The Heinz Dilemma 102 Table 7. Six Stages in the Concept of Cooperation 103 Table 8. The Frame of Reference Stratification of Bureaucracy 111 Table 9. The Distribution of Stage Attainment in Adults 113 Table 10. Prompts for the Subject Object Interview 113 Table 11. Overview of Emotional Development Levels 2 to 5 115 Table 12. New SOI Scoring Method 117 Table 13. Categories of Cognitive Capability 122 Table 14. Opinions About Assessment Centers 124 Table 15. Conceptual Relationship of Variables 129 Table 16. Proposed Research Time Schedule 131 Table 17. Empirical Results 136
9 Predicting Fund Manager Integrity and Profitability
Abbreviations
CDO Collateralized Debt Obligation CHF Swiss Francs CRA Credit Rating Agency DIT Defining Issues Test MJI Moral Judgment Interview SEC Securities and Exchange Commission, USA SOI Subject – Object Interview UCITS Undertakings for Collective Investment in Transferable Securities USD United States Dollars
Key Words
Assessment, Banking, Competencies, Developmental Assessments, Developmental Psychology, Fund Management, Human Resources, Industrial Psychology, Leadership, Organizational Development, Personnel Management, Personality, Promotion, Recruitment, Selection, Switzerland.
1 Introductory Section 2 General Theoretical Section 3 Specific Empirical Section 4 Concluding Section 5 References and Appendix Fig. 1: Structure of the Dissertation
10 Predicting Fund Manager Integrity and Profitability
Preface
In the life of every dissertation, phases can be uncovered that reveal stages through which the author has grown through engagement with the material examined. In the case of this study, the original intention was to work through the human resources angle to study conflict resolution in corporate governance, with theory brought from my background in international peacebuilding. The common problem of accessing empirical data to analyze quickly became evident. The issue of the veracity of interviews and reported facts seemed insurmountable.
A fresh impulse came through gaining certification in assessments based on developmental psychology. These assessments do not rely on the surface content, but use the latter to uncover the perspective, basic internal structure or internal stance being used by the speaker. As the perceptive nature of these tools became more apparent through use in executive coaching practice, a new vision of their potential for explanatory power began to emerge.
During casual reading about fund managers, the author was suddenly struck with the notion that emotional maturity may correlate with better investment decisions because of the higher degree of social objectivity and lessened chances of decisions being influenced by the opinions of others.
Reading the Peter Lynch interview in Tanous (1997, quoted in §1.2 below) supported this hunch. The legendary manager of the Magellan Fund, appears to indicate socio emotional maturity to a degree that allows for post conventional thinking (stage 4 and above) already at the beginning of his fund management career. Later, as the author began to pursue this research, casual conversations were held with two fund managers who had tried and failed at their first attempts to start hedge funds. Reflecting on these conversations, it was clear that their protestations were couched in conventional thinking (stage 3). The dissertation project was born.
This idea meets the need that many in the small and nascent developmental coaching community feel for a more solid evidential basis showing the utility of developmental assessments. Fund managers, with numbers depicting their
11 Predicting Fund Manager Integrity and Profitability profitability at the end of each year, seem to be an ideal choice to quantify whether, and if so how, the underlying capability that these assessments measure effect performance, in this case in the financial markets, with implications for human resources in general.
Being an outsider to the finance industry presents mostly disadvantages. Resistance from bankers lead to much questioning and soul searching. In addition to formal and informal networking, 30 financial institutions (see Appendix 5.6) were formally approached, considered the research proposal, and then declined to participate in this research. Hence the shift to a hypothesis building dissertation, requiring an increased emphasis on the problem analysis to justify why this research is a good idea. The amount of new empirical data gathered is much smaller than originally intended, and hence the scientific analysis of this data is inconclusive, though it supports the original hypotheses. On the positive side, as more ’literatures’ were explored and the problem analysis grew, the implications of the questions which can be addressed gained in significance.
This study begins, in the first chapter, with a problem analysis through a mostly descriptive look at the history of Swiss Banking, building in broad outlines a profile of how the banking profession has evolved up to the present time in order to identify the main personnel issues. This inductive process is used in order to arrive at a basic view of • how the banking profession has changed in recent decades; • the pressures bankers face; and • the capacities and capabilities required of finance professionals. Following this problem analysis, the goals for the study are set, the procedure for the study outlined, and definitions used in the study are explained.
In the second chapter, a general theoretical approach to studying the personnel side of banking is examined. Competencies required for success in this industry are identified through a deductive process, and various theoretical approaches are compared. Developmental psychology is introduced and placed alongside other schools of psychology to compare the type of evidence these can produce for personnel decisions and to establish the argument for examining the potential added
12 Predicting Fund Manager Integrity and Profitability value presented by developmental psychology based assessments. Developmental assessments of socio emotional maturity, ethical thinking capability and cognitive development are explored in three sections, followed by a summary of the use of these within a larger organizational development framework.
In chapter three, the specifically empirical section, an evaluation for selecting a specific job category within the banking profession in order to meet the objectives of the study arrives at a focus on fund managers as a sample. The presentation of the empirical methodology includes a description and analysis of the efforts made to gain agreement from financial institutions to participate in the study. The limitations of the data gathered are analyzed and the empirical results are presented and analyzed as a hypothesis building result.
Chapter four presents the conclusions from this study. The implications of the initial, hypothesis building findings are explained and options for further research are proposed. Recommendations for practice, both for the financial services industry and for personnel management more generally are offered.
To amass the hypothesis building arguments presented here, justifications from both scientific and general economic and historical perspectives, the sources of information vary widely from the scientific to journalistic and anecdotal. The intent is to justify this research approach, which this author continues to pursue.
13 Predicting Fund Manager Integrity and Profitability
From the standpoint of business history, this study brings out one main point: techniques have changed, but human problems have remained the same. How to pick out the right person and put him in the right place was as much a problem for the Medici as it is in business today. Raymond de Roover1
1. Introductory Section
Are fraud and lying necessary to succeed in the financial services industry? Are profit and conscience opposing elements, do they work in concert, or are they unrelated? Is success in the financial markets the preserve of persons of dubious character? Or are sustained profits produced more often by persons of greater ethical and socio emotional stature? Are the parameters of ethics and socio emotional maturity essential, or non factors in the pursuit of alpha?
The current global financial crisis coupled with continued high salaries and bonuses has lead to a lowering of social esteem for, and trust in bankers today. “Never before has a group of persons received such a high level of compensation for such poor performance.” (Baumann, Interview, 2008) As the massive losses of the current global economic crisis are generally seen to have been triggered by dubious financial practices that generated the subprime crisis, ethics is increasingly being seen as not just a nice extra, but as a truly economic factor. (Kümin, 2009)
This study is not value neutral. The values that motivate this study are rooted in the search for peace, prosperity and environmental sustainability. In doing so the aim is to be scientifically rigorous. Since individuals are making decisions that cumulatively produce corporate cultures and market trends, are there measurable factors that indicate tendencies which positively or negatively influence individual, corporate and market behaviors? If so, what are the consequences? And what would that say about Switzerland, a land where the finance industry plays such a large role in economy and international image? This study explores one method which may help
1 De Roover, Raymond (1963). The rise and decline of the Medici Bank, 1397-1494. Harvard University Press, Cambridge, MA., p.5. 14 Predicting Fund Manager Integrity and Profitability answer these basic questions through the use of assessments based on developmental psychology.
The purpose of this chapter is to review the development of Swiss Banking in its broadest outlines in order to identify the main questions relevant to human resources management for financial professionals. How has the profession changed in recent decades? What pressures do bankers face? What capacities and capabilities are required to enable institutions to prosper and successfully contribute toward solutions for the unprecedented moral and ethical challenges of the 21st century?
1.1 Problem Analysis: The Evolution of Swiss Banking Zurich’s relationship to the world is not of the spirit, but of commerce. C.G. Jung
Switzerland did not gain its wealth by windfall, according to Lorenz Stucki (1981), but rather by what in the US would be called “elbow grease”. The generation of capital that enabled industrial development came through extreme frugality and dedication. That agriculture could prosper not only in the planes but also in the mountainous regions was due to a culture that valued hard work of high quality. With relatively little agricultural land in relation to the population, Swiss sent their sons abroad as mercenary soldiers for generations to send back hard earned cash. This heritage of trustworthy service can be seen still today in the Swiss Guard at the Vatican which recently celebrated its 500 year anniversary, and one could also argue that the International Committee of the Red Cross and dedicated humanitarianism is a transformed outgrowth of this tradition.
Stucki (1981) argues, however, that the core of Swiss wealth came from economic pioneers who were tough, hard working, creative, and took risks to build several industries, including textiles, clocks and watches, machinery, tourism and hospitality, chemicals and pharmaceuticals, and, famously, chocolate. The textile industry, for example, grew in a very grass roots fashion, with evenings and winters spent spinning and weaving in the farm houses across the land. Being land locked, and burdened by inter cantonal taxes and tariffs, Swiss turned “necessity into virtue” (Stucki 1981) by using the international connections, developed by their soldiers, the
15 Predicting Fund Manager Integrity and Profitability geographic location and history of trade fairs, and the homegrown practice of neutrality that was confirmed in the Peace of Westphalia at the end of the Thirty Years’ War in 1648, to develop international export trade that continues to be a mainstay of the Swiss economy.
Banking was no different; success was not through deceit and it was not a gift. While the above description hardly does justice to the complexity of Swiss history, the point is to briefly describe the context out of which banking rose into prominence in the Swiss and indeed global economy. Swiss neutrality in the wars that ravaged Europe meant that Swiss banks were seen as a safe haven. The trustworthiness of the bankers, their cautious approach to investment and capital preservation, and their personal relationships around Europe laid the foundation for the reputation of being a safe haven for capital. Circumstances gave rise to opportunities that were seized and intelligently developed.
The culture of Swiss Banking is currently in the middle of a period of government bailouts and restructuring, with calls for a return to the values of an earlier era. Valuable as tradition is, traditional practices in banking were not capable of mastering the demands of the current era. New strategies must be found to instill the values, qualities and character that lend strength to this important sector of the Swiss economy and culture.
1.1.1 The Origins of Banking [I]t was the money changers who were the true ancestors of modern banking. (Bauer 1998, p.3)
While the origins of money and money lending stem from the misty past of at least ancient Mesopotamia (Ferguson, 2008), various traditional cultures and Biblical times, “[m]odern capitalism based on private ownership” according to De Roover, “has its roots in Italy during the Middle Ages and the Renaissance.” (1963, p.1) During this period the Italians were both the principal merchants, with a famously wide ranging sailing fleet, and also maintained a near monopoly in the nascent banking industry due to their abilities in business organization. Their commercial capitalism predates the protestant reformation by several decades, an historic reality
16 Predicting Fund Manager Integrity and Profitability which contradicts the Weberian thesis which ties the birth of the capitalist spirit to the Calvinist Reformation. (De Roover, 1963, pp. 1 8)
Gold coins were the means of exchange across medieval Europe, with the right to mint granted by the sovereign usually to regional bishops. Money changers were allied with mint masters, who melted foreign coins to make local currency, to regulate currency. To facilitate trade, and because large quantities of metal coins were simply heavy and therefore difficult to transport, money changers wrote notes on paper stating the amount of gold or other coins they were holding that were redeemable upon presentation of the note. These were at time passed from person to person, so that the person arriving with the note to cash in the note for gold coins was not the original depositor of the coins. Hence a highly simplified picture of the origins of paper money.
As this system developed, money changers began to issue notes, or “bank notes” for which they did not have any gold coins in reserve as loans to merchants, in effect creating money. As long as the notes circulating were not all turned in at the same time, a bank remained liquid. This process was based on trust that the notes were backed by gold. If this trust was lost, a “run on the bank” could ensue, where by all holders of notes raced to the bank to be sure that they got their gold coins before the supply ran out.
The capacities that the original bankers needed then were twofold. First, the regulation of currencies to facilitate trade, and second managing the money supply in relation to the amount of gold reserves they had in their banks. At root, we can assert here that these capacities were based on (1) trust in the banker’s knowledge of trade and currency regulation; (2) trust in the banker’s judgment of what people within the local monetary system would tolerate as an acceptable level of gold reserve in relation to the paper bank notes in circulation; and (3) trust that the banker was being honest and not manipulative about (1) and (2).
17 Predicting Fund Manager Integrity and Profitability
1.1.2 Historical Phases of Swiss Banking [B]y turning inward toward the pursuit of neutrality and the development of their own skills and arts, the Swiss achieved a much more lasting ‘conquest’: economic growth to an extent that was the envy of all Europe. Baur, 1998, pp.73
Geneva can be credited as the site where Swiss banking had its historical beginnings when it was one of the main trade fair centers in medieval Europe. Its location was, and still is an ideal meeting ground for northern and southern Europeans. As banking in Paris declined during the early 1400s, Geneva’s prominence grew along with the increasing trade flowing through its four trade fairs each year. As the first and most prominent bankers, all of the Italian banks had representatives in Geneva, and the Genevan banks would presumably have grown under their tutelage had not “the ordinances of Louis XI”, the theocratic state under Calvin and the political and military pressures from the Duke of Savoy and the Canton of Bern impeded this growth. In 1463 Louis XI issued an ordinance which provided privileges to merchants who came to the fairs in Lyon, arranged on the same dates as the fairs in Geneva, causing the prominence of the Genevan fairs to fade. In 1465 the Medici Bank moved its Geneva branch to Lyon and banking in Geneva entered a dormant period. (Bauer, 1998, pp. 3 18, De Roover, 1963, pp. 1 8)
It was in Basel that Swiss banking sank its first permanent root. A mint was operational as early as the tenth century, and the “right of coinage was bestowed by the Emperor [of the Holy Roman Empire] on the bishop of Basle sometime during the reign of Bishop Adelbero (999 1025). (Bauer, 1998, pp. 22) A deed from Emperor Friedrich in 1154 stipulated that coins should be “standard in weight and purity, and remain so forever” (Baur, 1998, pp. 23) in order to support and improve the chances of economic growth along with spreading his portrait on the coins. (Fried, 1984, pp. 230 231)
Under the rule of Bishop Heinrich II of Thun (1216 1238) Basel grew in importance when he built the first bridge over the Rhine, thereby facilitating transport, trade and the spread of Basel coinage beyond its borders. He instituted a system to protect Basel coinage from counterfeiting and debasement from variations in purity, size and
18 Predicting Fund Manager Integrity and Profitability weight through a system that placed the mint masters under the control of the mayor, and the money changers became office holders under the supervision of the Bishop. Village mayors were empowered to sample output of the local mint without notice and then to take evidence and witnesses to the Bishop for judgment. If the coinage was off by more than four pfennig, they were declared fraudulent. Hence one of the historical roots of the judicial prosecution of fraud. (Baur, 1998, pp.21 25)
Through this system of strict quantity and quality controls, Basel coinage gained a reputation for their high quality, in effect their superior trustworthiness, in relation to other currencies in the realm. Due to this reputation and attendant human capabilities, when the right of coinage was transferred from the Bishopric to the town of Basel in 1373, it was possible to form the Upper Rhine Coin Alliance soon thereafter. Thought it lasted a mere decade, this was the first example of regional monetary cooperation within the Holy Roman Empire. (Baur, 1998, pp. 25) Centuries later, the Bank for International Settlements was created in Basel in 1930 as the world’s first international financial organization. (Pohl, 1994) The historical precedent seems unmistakable.
As nation states rose around Europe the dominant economic philosophy of mercantilism drove a zero sum type contest between most larger economies. Switzerland, on the other hand, found motivation in the symbiotic relationship between its natural penchant for hard work and the blessing this received from Calvinist and Zwinglian Protestantism. (Baur, 1963, pp. 45 50)
Swiss banking had its origin not in commercial banking and the multiplication of money supply based, but rather formed as “an outlet for a pre existing supply of capital.” (Baur, 1963, pp. 60) While most of Europe was caught up in religious wars, Switzerland was not burdened with a feudal class that would have drained its wealth through war. Instead, through supplying mercenaries to various external patrons, Swiss wealth increased. Since Swiss agriculture was largely on the basis of peasant ownership, and not of a feudal nature, savings were accrued directly by each household and the “first use of industrial credit in Switzerland was not that of manufacturing but of agriculture” as farmers used credit to expand their land holdings. (Bauer, 1963, pp. 67 74) Hence, banking in much of Switzerland began as
19 Predicting Fund Manager Integrity and Profitability relatively small enterprises with a naturally connected, local customer base: mortgages for farmers.
A second stream of Swiss banking, focused on international investing, emerged slowly onto the international banking scene. Unlike banking from other European countries, Switzerland has always been a creditor nation. This was its stance already for “two centuries or so preceding the industrial revolution” (Bauer, 1963, pp. 86), yet the activities tended to be operated by individuals and not conglomerated into larger institutions. The tradition of Swiss private banking has its roots in the centuries old practice of individuals acting as intermediaries connecting capital to projects. Bauer (1963, pp. 85) states that there were 16 such bankers in Basle by 1840 and there were certainly others, especially in Geneva. Two of the classic works on the history of banking from the early 19th century, by Goddard (1831) and Hildreth (1837), do not list a single Swiss bank, thus attesting to the fact that Swiss banking up to this time was not carried out by large visible institutions.
Polanyi (1944) points out that the “hundred years’ peace” from 1815 to 1914 which provided a context for much progress and prosperity rested on four pillars: the balance of power among states; the gold standard; the self regulating market; and the liberal state. In addition, there developed an “acute peace interest” where, in the aftermath of the French Revolution and growing effect of the Industrial Revolution, the interest in “peaceful business” became universal. (Polanyi, 1944, pp.3 7) In this context, Swiss banking saw what could be called a natural growth.
Between 1834 and 1837, “bank note” issuing “credit banks” were opened in Bern, Zurich and St. Gallen, with agricultural mortgages as a major focus. Commercial banking on the British model first emerged in Switzerland in Basel in 1844 (Giro und Depositenbank) and 1845 (Bank in Basle). (Bauer, 1963, pp. 76)
The new Swiss constitution in 1848 removed many cantonal barriers that had hindered banking activities at a time when larger scale investing for infrastructure and industrialization was needed. From that year on, there was more capital needed for investment than was locally available. (Bauer, 1963, pp. 104)
20 Predicting Fund Manager Integrity and Profitability
Two initiatives established the joint stock company form of banking in Switzerland that had been pioneered by “Credit Mobilier” in Paris in 1852. In 1853 James Fazy formed the Banque Generale Suisse de Credit Foncier et Mobilier in Geneva, and in 1856, at the initiative of Alfred Escher, the Swiss Credit Bank was formed in Zurich. These marked the emergence of a new kind of banking where local savings were invested in ventures with reach beyond the local economy. (Bauer, 1963, pp. 75 77) In Basel, the banking community remained settled with its traditional banking forms, but began to invest surplus capital in the US bond market where they got higher rates of return than was possible in Switzerland, and also avoided political uncertainties in Germany and France. (Bauer, 1963, pp. 77) Much of Swiss private banking continues to function on this trajectory.
1861 saw a “boom” in Swiss banks, as 24 were founded in one year, adding to the “[t]wenty to thirty banks and lending agencies, a dozen industrial companies, fire and live insurance companies” already in existence that competed with each other on a capital market driven by industrialization. (Bauer, 1963, pp. 78).
Financing the Swiss railroad system can be seen as “the greatest achievement of the banks during the nineteenth century.” (Bauer, 1989, p.152) To achieve this, “railroad banks” were formed as intermediaries between banks and the railroad companies, and these issued shares which were highly liquid. In the 1880s and 90s the federal government became increasingly involved in purchasing shares. In 1891 the Federal Council announced its intention to nationalize the entire system, but was thwarted by a referendum which turned down this initiative. Railroad stocks had risen in anticipation of government purchase, and then collapsed after the referendum. (Bauer, 1989, p.152 155) Concurrent with a global recession, a representative basket of Swiss stocks lost between 25 and 48 percent of their value. (Bauer, 1989, p.156) This also precipitated the demise of many weaker banks, and for Bauer (1989) this marked the end of an era in Swiss banking.
Crucial to the success of that era were bank managers who “were generally successful entrepreneurs in their own right.” (Bauer, 1989, p.157) They were capable of prudently guiding the formation of the Swiss economy in its various sectors and focus on long term value creation, rather than short term gain, and
21 Predicting Fund Manager Integrity and Profitability pioneering the transformation of “financial capital into industrial capital” in an unprecedented manner and scale. (Bauer, 1989, p.158, 168) And this was not only domestic, but also in its international work where Swiss banks began in this era to move from simple lending to the establishment of industries, sometimes in consortiums with other banks. (Bauer, 1989, p.195)
Personnel requirements for Swiss banks began to change at the turn of the century with the internationalization of Swiss banking. While Swiss private bankers had long been involved in foreign investments, the first London branch of a Swiss bank was established in 1898, marking the beginnings of the presence of large Swiss banks in the international arena. (Bauer, 1989, p.162) With branches of Swiss banks opening in various international capitals, and increasing numbers of international depositors and investors, language skills and knowledge of foreign cultures and economic practices increased dramatically. (Bauer, 1989, p.162) Swiss banks developed their own operating standards to meet this market, developing into the premier international bankers of the day. (Bauer, 1989, p.169)
In domestic banking there was an increase in the gathering of capital through small savings accounts in local banks, stimulated by examples from other European countries. There was also some restructuring, with banking crises in the cantons of Argau and Tecino, and the closing of some 25 of 331 banks between 1906 and 1913. All in all, the Swiss banking system had grown into “one of the more mature banking systems of the world.” (Bauer, 1989, p.176 184)
The First World War and Aftermath Though Swiss banks lost considerable investments abroad through the war2, the Switzerland, thanks to its neutrality, had the only monetary and banking system in Europe that remained intact through the war. This fact, along with the “genius of the Swiss bankers” positioned it well to survive the post war inflation and economic depression that followed. (Bauer, 1989, p.175, p. 217) Substantial infrastructure work, including bringing electricity to remote areas of the Alps, combined with substantial financial reserves, delayed and muted the effect of the depression in Switzerland. (Berry, 2008) Only one bank collapsed completely, the Swiss
2 Bauer (1989) reports that there while no overall estimates exist, one indicator of loss is that foreign securities held by banks declined “in value … from 8,000 million francs to 2,500 million francs.” (p.190) 22 Predicting Fund Manager Integrity and Profitability
Government responding with a bailout of CHF 200 million, “an amount then equivalent to about half of Switzerland’s annual budget.” (Berry, 2008) The full impact of the depression was not as great in Switzerland as in the US and some European countries, though the effects were evident in the watch making industry and other products produced for export. (Bauer, 1998)
The Second World War Prior to the end of the second world war, Switzerland was a “classical industrial country” according to Baumann (2008), with the banking sector at 4 percent of GDP, similar to other countries. He names four categories of bank that had taken form by that time: (1) large banks, such as the Schweizerische Kreditanstalt (Swiss Credit Institute) that financed the development of Switzerland’s infrastructure; (2) Private Banks; (3) Cantonal Banks and Savings Banks; and (4) Raiffeisen Banks, operating mostly in rural areas.
In the years preceding and during the second world war, several Swiss banks were heavily engaged in Germany, and among these two prominent banks folded due largely to losses connected with the downfall of the Nazi regime: the Eidgenössischen (National) Bank and the Basler Handelsbank (commercial or Trade Bank) (Bauman, 2008). Adequate treatment of the complexity of financial transfers during the Second World War and the importance of the questions raised by Eizenstat (2003) and others goes well beyond the scope of this study.
Post WWII The end of the second world war found banks in Switzerland in an ideal condition to grow and thrive. The elements of this condition included, according to Baumann (2008, p. 25 41): an intact country, undestroyed by the war due to its neutrality; a federal system with direct democracy providing political both stability and change that avoided extremes; an economy characterized by low inflation, high savings rates among Swiss and a stable Swiss Franc that remained exchangeable; Swiss banking law that ensured privacy and a high reserve ratio, thereby engendering trust; and a professional ethos of competence, industriousness and dependability among Swiss bankers.
23 Predicting Fund Manager Integrity and Profitability
External factors also played a role in the post war growth of Swiss banking: a treaty between the USA and Switzerland released frozen Swiss accounts; German industriousness and monetary reform; the broad based European post war reconstruction effort ‘kick started’ by the Marshall Plan, which brought “subsidies and loans amounting to a total of about 13 billion dollars distributed between April 1948 and June 1951” (Deschamps, undated) opened opportunities for Swiss banks to provide reconstruction related loans and attract private accounts to its “safe haven” based on a centuries old ethos of Swiss Banking. (Baumann, 2008)
Ritzmann (1966) reports that in 1959 Swiss banks (he examined the large banks, cantonal banks, savings banks and local banks, but not the Raiffeisen system and not private banks) held cash reserves amounting to 20% of their demand deposits (pp.10), which was “5 6 times” their legally required cash levels (pp. 3). This is evidence of a conservative approach, attractive to customers interested primarily in safety and stability.
Perhaps this model of prudence characterizes the classical Swiss model of banking, arising from Swiss historical experience and formed by its unique society and culture. The period which follows, as international competition and later the “American” model of banking reaches Switzerland (Baumann, 2008) presents a very different picture. Examined in more detail under sections covering Globalization and Digitalization, we introduce in closing paragraphs of this section the broad outlines of how these waves of change affected Switzerland.
Beginning at the end of the 1980s as the cold war drew to a close, security and stability became less important in attracting customers because other countries were able to provide a similar banking context. (Baumann, 2008) In response, Swiss banks moved increasingly into overseas markets where they opened branches, and as a new breed of international financial products became increasingly available in Switzerland, such that by 2008 only 20% of the funds that were permitted to be sold in Switzerland were actually domiciled here. (Baumann, 2008)
By the end of 2007 (last year available from official Swiss statistics) Swiss banks employed 108,821 persons in Switzerland and an additional 27,381 abroad.
24 Predicting Fund Manager Integrity and Profitability
(Bundesamt für Statistik, 2009) In particular, the large Swiss banks, UBS and Credit Suisse, expanded into overseas markets to the extent that they employed more persons outside of Switzerland than in, and their banking style and offerings similarly began to look like those of other large global banks to the point where Baumann (2008) states that they are “no longer Swiss banks, but global financial concerns.” (p. 191)
Yet simply recognizing that these major banks have become global does not remove their connection to Switzerland, nor the impact their activities have on Swiss banking as a whole. As the global competition in the banking sector increased, so have the pressures on the Swiss banking model. Integral to the character of Swiss banking, confidentiality of customer data, or “bank secrecy”, has come under increasing attack to the point where UBS turned over data from some 250 accounts to US authorities in the spring of 2009. (Logutenkova, 2009) These attacks, particularly from the US and UK, seem hypocritical due to the existence of extensive tax haven possibilities in both of these countries.
By the beginning of 2008, banks in Switzerland (including branches of foreign banks) were managing customer accounts totaling some 4.7 trillion Swiss Francs, managing some 30 percent of the globe’s private wealth. (Baumann, 2008, p. 12)
1.1.3 The Context of Globalization “Honey,” I confided, “I think the world is flat.” Thomas Friedman (2005)
Globalization, one can argue, has been around for a long time; perhaps since the idea of a spherical rather than a flat earth was conceived and acted upon. (Friedman, 2005) In its current usage, however, it refers to the increasing internationalization of the post Cold War era, when the near total collapse of ideological barriers opened up possibilities for exchange on multiple levels. Stiglitz (2002) defines and describes globalization as
the closer integration of the countries and peoples of the world which has been brought about by the enormous reduction of costs of transportation and
25 Predicting Fund Manager Integrity and Profitability
communication, and the breaking down of artificial barriers to the flows of goods, services, capital, knowledge, and (to a lesser extent) people across borders. Globalization has been accompanied by the creation of new institutions that have joined with existing ones to work across borders. (Stiglitz, 2002, pp. 9)
The consequences of globalization are as diverse as the people and peoples affected, and the responses are just as divergent. As described by Law (2008): “ For some, globalization promises peace and prosperity on an unprecedented scale; for others, it portends injustice, inequality, and the demise of community and self government. In short, it is a word coined to describe a future that we have created yet cannot fully control.”
The negative aspects of globalization are voiced in popular protest, Stiglitz saying famously that globalization has “succeeded in unifying people from around the world – against globalization.” (Stiglitz, 2006, pp 7) He lists the central objections to how globalization is proceeding as described in the 2004 report of the World Commission on the Social Dimensions of Globalization (hereinafter WCSDG) as (paraphrased): • The rules that govern globalization favor advanced industrial countries and have a detrimental effect on some of the poorest countries; • Globalization favors material values above other values such as the environment; • The way globalization has been managed has weakened sovereignty and local decision making, thereby undermined democracy; • There are not just winners, but also economic losers in developed and developing countries; • The globalized economic system is inappropriate and damaging for developing countries, and has often created resentment through the inclusion of an aspect of Americanization. (Stiglitz, 2006, pp. 9)
On the positive side, what Thomas Friedman (2005) describes as a “flattening” of our world is the reality that through the collapse or dismantling of barriers, increased travel, internationalization of education, trade and communications technology, the
26 Predicting Fund Manager Integrity and Profitability
‘playing field’ is increasingly level, allowing more and more of the world’s population to participate in a globalized market place. In the economic sphere this means global competition, where especially in the service sector, which includes banking, virtually anyone can compete for market share, with geography playing an increasingly smaller role.
Perhaps the most important aspect of Friedman’s ‘flat earth’ book is how he identifies the implications of globalization for business strategy. He identifies a “triple convergence” of technologies, new ways of doing business, and 3 billion newly connected people, that has changed the face of business.
It is this triple convergence – of new players, on a new playing field, developing new processes and habits for collaboration – that I believe is the most important force shaping global economics and politics in the early twenty first century. Giving so many people access to all these tools of collaboration, along with the ability through search engines and the web to access billions of pages of raw information, ensures that the next generation of innovations will come from all over Planet Flat. The scale of the global community that is soon going to be able to participate in al sorts of discovery and innovation is something the world has simply never seen before. (Friedman, 2005, pp.181 182)
Companies that will succeed in this environment will follow, so Friedman, a number of identifiable strategies that are already emergent, here paraphrased (Friedman, 2002, pp. 340 367):
1. Given the new generation of work tools, individuals can often compete with large companies for the provision of specific services 2. Through networking and collaboration, small companies can perform the same functions as large companies and compete in their markets 3. Large companies can “act small” by enabling customized interfaces where customers command the use of diverse resources 4. “The best companies are the best collaborators” because the increasing level of complexity in value creation means that networked specialization is required
27 Predicting Fund Manager Integrity and Profitability
5. Companies stay healthy by knowing and focusing on their core competencies 6. “The best companies outsource to win, not to shrink.” Outsourcing enables economies of scale and increased access to specialists in the growth process 7. Idealists, “social entrepreneurs”, are able to create outsourced projects in developing economies, connecting them to the global economy
Numbers two, three and four are particularly relevant to the banking industry, as we will see below from the example of ICICI, a private bank based in India, which started small, acted big, became big, is acting small, and collaborating internationally.
1.1.4 The Digitalization of Finance
Writing in 1985, Nadler and Miller comment on the personnel changes associated with the introduction of computers in banking. This was the era of large mainframe computers and the so called “mini computers” which were actually quite large by current standards, and prior to the internet revolution and on line banking. “The banking industry has widely accepted the use of electronic funds transfer services” they wrote, and commented on.
As a measure of the impact the digital revolution on banking, we turn to the example of the ICICI Bank which became India’s largest private bank and “second largest retail bank, from a standing start, in under ten years” (Tapscott, 2008). This was in part possible because it developed an e banking platform where customers do most of the work on their own. (See: www.icicibank.com) Virtually all aspects of personal and business banking can be performed on line, including applying for a home loan, trading stocks, taxes, custodial services, etc. While this may not be an unusual concept in today’s financial market, the completeness of the on line offering, the speed of its transformation from “a development financial institution offering only project finance to a diversified financial services group” (iloveindia.com, 2009) and its rapid spread overseas to 19 countries on four continents present an aggressive model could turn the 21st century into the “Asian Century”.
Elsewhere in Asia, we find a similarly aggressive approach to globalization in China where “’innovation cities’ are emerging across the country, where thousands of
28 Predicting Fund Manager Integrity and Profitability intermingling companies leverage technology, low cost structures, and physical proximity to destroy their worldwide competition.” (Tapscott, 2008)
In facing these mounting changes, Swiss banks imported both people and practices. The negative side of this rush to innovate lead to overstretch and eventually financial crisis. Swiss tradition did not provide innate ability to identify and face these problems.
Koye (2005) examines the changes caused by the shift from industrial society to the information society, requiring an increased emphasis on network structures in Private Banking business models. The traditional advantage of more timely and qualitatively better information has all but disappeared. Success comes from excellent customer management and the ability to open doors to lucrative markets. (Karsch 2005)
The perspective taken by this study is that for Swiss Banking, and especially Swiss Private Banking to advance into the future there needs to be a conscious effort to build on the values of classical Swiss Banking model, retain some elements of the current business partner model, and evolve toward an as yet uncharted “wise advisor” model that both retains the best of previous periods and adds new value to the banking relationship.
As part of a company that supplies IT services to banking, Shojai and Feiger (2004) argue that for Swiss banks to maintain a leadership position in private banking, they need to make a collective decide to innovate in order to maintain their position in the global banking market. Historically seen, Switzerland’s banking industry was established as a safe haven for Europeans “fleeing persecution and war well before it became a safe haven for those seeking protection from taxes.” They point to Swiss neutrality, its “advanced political and economic stability and flexibility”, and its “institutionalized conservatism” in investment strategy key aspects that has made the country a safe place for banking. In addition to this cluster of attributes as a comparative advantage, the customer base of “wealth preservation focused Europeans” demanded high quality services, and Swiss banks have continually responded.
29 Predicting Fund Manager Integrity and Profitability
In describing the currently emerging customer base, Shojai and Feiger (2004) see an increasing sophistication in their understanding of financial investments, awareness of global opportunities and willingness to embrace an increased risk exposure for at least part of their portfolio. Increasing numbers of wealthy clients have advanced business and economics degrees, demand more sophisticated levels of information, and are more independent in their decision making. While Switzerland’s reputation as the location of choice for conservative investment can be maintained, the danger is that tradition bound Swiss private banking could become a sort of “security deposit box” and miss out on the smart money that seeks more aggressive investment strategies.
Part of what is needed to remain competitive in the latter market, is a highly interactive customer interface that will require an increased fixed infrastructure investment to the tune of “between U.S.$60 and U.S.$100 million” per bank “on a purely stand alone basis.” (Shojai 2004) And there is another problem. If Swiss private banks do not embrace innovation, they will also not attract the most highly qualified staff. The advisors assigned to the emergent customer base must be “more entrepreneurial” and have a more penetrating and reliable understanding of the capital markets to an even greater depth than these clients. This implies an increase in the human resources costs to the tune of “two to four times the cost of a traditional Swiss private banker.” (Shojai 2004)
Since the model of banking required to maintain leadership and market share involves increased costs in fixed infrastructure and personnel, Shojai and Feiger pose three choices: quietly decline; merge into larger banks, or “innovate and share infrastructure”. If not somehow shared, these infrastructure costs could become a crippling factor for small and medium sized private banks. Therefore Shojai and Feiger propose a strategy of selectively sharing infrastructure or “open architecture.”
The decision to move to an open architecture will not be an easy one. Most Swiss banks have operated with their current business models for generations and many might choose to continue on that path. Procrastination is made easy because the costs will not be immediately apparent.
30 Predicting Fund Manager Integrity and Profitability
Customers at Swiss banks tend to change service providers slowly, but that does not mean they are immobile. If the customer interface does not keep pace with demands for high quality real time information, and response to queries and orders from highly qualified advisors, smart money customers will migrate to where their needs are met.
The point for this study is that both the will to innovate and the ability to provide independent opinions in a rapidly evolving financial services market require post conventional competence (SOI stages 4 and 5, explained below) from senior management and client advisors.
It is clear that if Switzerland is to maintain its position in private banking, it must continue to respond to customer demands. To meet the increasingly sophisticated emergent customer base will require the capability to remain true to the traditional values that built Swiss private banking, and also to embrace innovation that goes beyond conventional thinking about banking and banking relationships to create new models of authentic interaction and high quality service.
In addition, to the broadened and more complex opportunities that have emerged through the digital revolution, a “down side” has become abundantly evident. Digital complexity has contributed to the global crisis caused by a financial “bubble” and, of course, major and minor fraud remains a factor directly relevant to personnel issues.
31 Predicting Fund Manager Integrity and Profitability
1.1.5 The Subprime Crisis: Collective Failure and System Meltdown There was a time, perhaps, when people were able to give a fully human response to any situation because they were fully absorbed in it as human beings. But as soon as there was a division of labor things changed. Beyond a certain point, the breaking up of society into people carrying out narrow and very special jobs takes away from the human quality of work and life. A person does not get to see the whole situation but only a small part of it, and is thus unable to act without some kind of overall direction. He yields to authority but in doing so is alienated from his own actions. Stanley Milgram (1974) commenting on his experiments regarding obedience
Once upon a time, a home loan was a serious thing. John Rubino, 2007
The real estate market in the USA became the root of the financial crisis currently afflicting the global financial markets. Even major figures in the finance industry such as former Chairman of the US Federal Reserve Alan Greenspan and Robert Rubin, former Secretary of the US Treasury, “missed the warning signs of the crisis”. (Enrich, 2009)
In 1995, then President Bill Clinton waxed eloquent about the values of home ownership when speaking about his “National Homeownership Strategy”, launched the previous year as a six year program. He cited the need to counteract the disintegration of the two parent family, his personal experience of home ownership, and how “[t]his is about the way we live as a people and what kind of society we're going to have”, it is about enabling moderate income families to “build their own personal version of the American dream”. (Clinton, 1995) He spoke of hard working families who are paying rents that would equal a mortgage payment, but are “locked out” of a rigid system for lack of enough savings to invest in a mortgage down payment, promising a program that “will not cost the taxpayers one extra cent”. Homeownership benefits the family, and has a positive ripple effect on the economy and society.
The plan itself actually called for “expanding creative financing” solutions to help people who (1) could not afford the downpayment; or (2) the monthly payments of a
32 Predicting Fund Manager Integrity and Profitability standard mortgage. (Coy, 2009; Mason, 2008) The intent was stability, the result, through deregulation and quantitative magic divorced from human judgment, was the opposite. According to Mason (2008), “social policies pushed the misuse of mortgage credit” including both lending to persons at levels beyond their means, and also extending increased levels of “credit to prime borrowers, fueling home price inflation.” This already speculative market was then met by yet another development.
In the evening of Friday, December 15th, 2000, just before the holiday recess, Senator Phil Gramm engineered the inclusion of a complex 262 page amendment called the “Commodity Futures Modernization Act” to the 11,000 page “government reauthorization bill” that was passed by the senate without debate and signed into law by Bill Clinton. (Hart, 2008) This act, according to law professor Michael Greenberger, “prevented government regulators from halting the spread of risky financial instruments” (Hart, 2008), and enabled the creation of financial instruments that Warren Buffett famously derided:
“When Charlie and I finish reading the long footnotes detailing the derivatives activities of major banks, the only thing we understand is that we don’t understand how much risk the institution is running. The derivatives genie is now well out of the bottle, and these instruments will almost certainly multiply in variety and number until some event makes their toxicity clear. In our view derivatives are financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal.” (Buffett, 2003)
In the housing market, low income individuals and families were encouraged to take on mortgages, even though they could not realistically handle the debt. They were not able to afford the “broad elementary financial advice” that they needed to evaluate the opportunity. If they had, perhaps “[t]he crisis might never have occurred.” (Shiller, 2008, p. 124 and 126)
33 Predicting Fund Manager Integrity and Profitability
Corruption comes in many forms, and Rubino (2007) described several ruses commonly used to ‘play the system’ in the US real estate market. Rubino’s descriptions are paraphrased here:
1. Liar Loans: A mortgage broker instructs a borrower to inflate his or her income to meet the requirements of a loan. The mortgage underwriter “winks” at the deception, and passes it on to a packager who also ignores the lie. The packager creates the derivative and sells it on to pension funds in Europe or Asia. Rubino (2007) states that one study found 60% of the loans made in this fashion involved income exaggerated by 50% or more. 2. Inflated House Prices: A mortgage broker and buyer agree to offer a highly inflated price for a home, well over the market value. An appraiser is found who will play along, and appraise the house at a higher value, [the deal is closed, presumably, at a rate closer to actual market value] and the three parties split the difference. The new owner defaults on payments, the bank then repossesses the house. Market values in the neighborhood have, in the meanwhile, inflated. 3. Pressuring the appraisers: In 2006, some 90% of appraisers claimed “they had experienced threats, nonpayment of fees, and other forms of coercion”. (Rubino, 2007) 4. Self Dealing: Subprime lenders, investment bankers and stock analysts formed mutual support circles, publicly portraying solvency and high quality to cover up poor performance and high levels of risk. 5. Pay option ARM (adjustable rate mortgage) accounting: These mortgages allowed borrowers to occasionally skip monthly payments, with the skipped amount then added to the principle of the loan, thereby raising future monthly payment amounts. Further, the banks claimed the addition as “negative amortization income”, adding to their assets on paper.
Mortgages were packaged into derivatives in complex packages which were divided into very secure, secure and “sub prime” categories. The latter were then insured in order to gain the coveted triple A rating that gave assurances to investors and a
34 Predicting Fund Manager Integrity and Profitability better price to sellers. Each player in the game extracted a fee, and passed responsibility for the loan on to the next player until in the end, the unsuspecting investor carried substantial risk hidden behind the “AAA” rating.
Fig. 2: House Mortgaged with a Subprime Loan
A microcosm of the issues in subprime ‘debacle’ can be seen in the case of an Arizona resident we will call Ms. H. as portrayed by Phillips (2009) in the New York Times. In the 1970s Ms. H bought a very modest (576 square foot) home (photo above, Fig. 2.) for USD 3500. (Phillips, 2009) She earned her living from unskilled jobs until her alcoholism made jobs impossible to hold. On the welfare roles since about 1996, she receives about USD 3000 per month, but could not keep up with the “long list of creditors”. In 2008 she received an adjustable rate USD 103,000 mortgage (9.25% to 15.25%) from Integrity Funding LLC, who then sold the mortgage to Wells Fargo & Co, who in turn sold it to HSBC Holdings PLC, who packaged it with “thousands of other risky mortgages”. “Standard & Poor’s and Moody’s Investors Services, both SEC certified National Recognized Statistical Rating Organizations, gave the new security their top ‘triple A’ ratings.” The product was sold to investors who trusted that a triple A mortgage backed security was a solid investment. However, Ms. H defaulted, the house went into foreclosure, was sold for USD 18,000 and the “investors will be lucky to get USD 15,000 in return”. (Phillips, 2009)
35 Predicting Fund Manager Integrity and Profitability
One could say that this mortgage story is as far from a Swiss mortgage as a Las Vegas craps table is from an Appenzeller farm. The chain of buyers and sellers in this process, from the small town in Arizona to the investors who purchased this and similar derivative products in the climate controlled offices of banks in Switzerland, all made their profit on the product. The local “lenders” did not earn their money from monthly collections, but from the “origination fee”. And given the long chain of transactions among persons and institutions between the mortgage originators and ultimate investors, the likelihood of persons being held directly to account for their actions became equally remote.
1.1.6 The Ratings Agencies
It would be beyond the scope of this study to examine the entire chain of regulatory mechanisms relevant to the subprime crisis and international investment. To provide more depth to the discussion of decision making, we will take a brief look at one relevant regulatory regime, that of the credit rating agencies (CRAs).
In the USA, the Securities and Exchange Commission (SEC) certifies agencies, currently ten in number, as Nationally Recognized Statistical Rating Organizations qualified to provide their “opinion” on the creditworthiness of companies and their financial instruments. (SEC, 2008) This qualification effectively makes them part of the formal financial system. (Economist, 2007) Yet, “on the basis of their ‘free speech’ rights” (Economist, 2007), credit rating agencies “have been largely immune from civil and criminal liability,” notes Partnoy (2006).
Partnoy notes further (2006) that these agencies used complex “rating methodologies for Collateralized Debt Obligations (CDOs) have created and sustained [a] multi trillion dollar market”. He cites research showing that “CDO structurers (sic) manipulate models and the underlying portfolio in order to generate the most attractive rating profile for a CDO” and that the “asset pricing models of the variety used by CRAs fail to explain real world data.” The ratings became even more important for this class of “over the counter” or OTC derivatives, because these were not exchange traded, and therefore investors did not have the benefit of market valuations. (Whalen, 2008)
36 Predicting Fund Manager Integrity and Profitability
In spite of recent efforts to increase regulatory effectiveness (SEC, 2009), SEC Chairman Schapiro has indicated that even more rule making may be necessary. (Lynch, 2009) The credit ratings business alone is worth over USD 5 billion per year (Lynch, 2009), and their value has “skyrocketed” in recent years, in spite of performing as poorly as other “gatekeepers”. (Partnoy, 2006) Cinquegrana (2009) shows that the “Big Three”, Moody’s, Standard & Poor’s and Fitch, representing 94% of the market, had collectively growth in their annual turnover from $3228 million in 2002 to $5570 million in 2007.
In tracing the development of CRAs, particularly in the 1930s and 1970s, Portnoy (2001) found that these agencies became more “important and profitable” not due to the accuracy (which was actually lacking) or value of the information provided, but simply due to the effect of the licensing itself. Ratings create “a sort of regulatory license that allows money to flow.” (Fons, 2009) This raises the issue of whether more rule making for oversight and CRA process could simply lead to more bureaucratic and financial growth in the ratings industry rather than substantive change in the financial system.
The business model itself is a problem because it is structured so that the companies issuing securities pay these agencies for the rating service, thereby presenting a conflict of interest since the CRAs are effectively acting as agents of the issuing company. (Cinquegrana, 2009; Economist, 2007; Euromoney, 2009; Fons, 2009; Lynch, 2009; Partnoy, 2006). Some commentators consider this structural issue to be the root of the crisis itself, with currently available investor paid model seen by many as a preferable option. (Lynch, 2009; WSJ, 2009, April 16) An additional aspect of this business model that exacerbates the problem of lax standards is that the CRAs are not required to perform any due diligence on the data being provided by the issuers. (Cinquegrana, 2009)
In a recent editorial, the Wall Street Journal (WSJ, 2009, April 16) suggests that “the SEC and FED [should] get out of the business of dictating which firms may judge credit risk”, and mentioned the option of licensing individuals as an alternative. Partnoy (2006) suggests “market based alternatives to the NRSRO regime” should
37 Predicting Fund Manager Integrity and Profitability be considered, and Euromoney (2009) calls for “a system that would align investors’ interests with those of the ratings agencies that supposedly serve them” by a mechanism whereby investors pay for ratings, or through a establishing a rating system run directly by the regulators. An investor paid system was in place before the 1970s when the shift to the “’issuer pays’ business model” was undertaken because the increasing complexity of the securities and therefore the rating process required increased levels of funding. (Cinquegrana, 2009)
The complexity issue has become more difficult in recent years. Some investor paid ratings agencies already regard CDOs as too complex to rate, and even SEC Chairman Mary Schapiro opened for debate the question as to whether some collateralized debt obligations, derivatives, are too complex to be rated. (Lynch, 2009) There are some reports that the sheer complexity of many CDOs, being “hideously complex and opaque permutations”, was used as leverage for manipulating deals when one or more parties could not fully understand their contents. (Whalen, 2008) Pontell (2005b) explains clearly that “much fraud remains shielded behind complex business transactions that are designed to hide it” and that the “volume and complexity of insider frauds” out pace the resources of public prosecutors charged with policing the activity.
A review of the recently updated “Code of Conduct Fundamentals for Credit Rating Agencies” (IOSCO, 2008) reveals that the issue of the structural conflict of interest of issuers paying for their ratings, is not addressed. (Euromoney, 2009) Neither was the issue raised in the final “Declaration” of the G 20 Summit in November, 2008 which mentions “inadequate structural reforms” as a “root cause”, but does not address this structural issue in its “action plan”. (G 20, 2008) The only “conflict of interest” issue addressed in these documents is that of where individuals or companies have investments related to the financial instruments they are being asked to rate.
As part of a series of six hearings3 on the financial crisis at the U.S. House of Representative, a hearing on “Credit Rating Agencies and the Financial Crisis”,
3 These Congressional Hearings on the financial crisis covered (1) the bankruptcy of Lehman Brothers; AIG (American International Group); (3) the role of credit rating agencies; (4) the role of federal regulators; (5) 38 Predicting Fund Manager Integrity and Profitability
Committee Chairman Henry A. Waxman (2008a) used direct language to describe the role that agencies played, saying “The story of the credit rating agencies is a story of colossal failure.” and citing how these companies broke the public’s bond of trust while federal regulators failed to fulfill their duty. Yet the proposed changes currently under discussion are largely technical and procedural measures to strengthen the current structures, rather than structural reform that aligns interests with public policy goals. As described above, the current structure, where the issuer pays the ratings agency, is a direct conflict of interest that has led to a lowering of standards and corrupting of relationships.
Given this trend in the reform measures under discussion, where the public sector attempts oversight of for profit businesses whose interests are not completely aligned with public needs, the quality of the system remains to some extent dependent on the character of those involved and their willingness to abide by the code of conduct. (IOSCO, 2008)
Given the structural conflict of interest that is not being addressed, and the issue of whether the sheer complexity of some financial instruments has made them impossible to rate, the question arises as to whether the era of quantitative dominance in fund management has reached its natural limit. According to Fons and Partnoy (2009) “[t]he only way out of the trap is to reduce reliance on ratings”. They call for a return to “judgment”.
The eerie thing about the U.S. subprime mortgage implosion is its familiarity. ‘It’s the same with junk bonds and the savings & loans,’ says Michael Lewitt, president of hegemony Capital Management, a Florida based hedge fund. ‘ A financial product gets invented, the regulators don’t do anything about it, and the banks or whoever’s selling it push it until it breaks.” (Rubino, 2007)
Given that international finance has continually to struggle with corrupt practices, what personal qualities, what kind of character traits are necessary to ethically survive, avoid crashes and make an honest profit? The Swiss bankers resident in
Hedge Funds and the Financial Market; and (6) The Role of Fannie Mae and Freddie Mac (Federally backed mortgage companies). See: http://oversight.house.gov/hearings.asp 39 Predicting Fund Manager Integrity and Profitability the US, many there to gain valuable experience and augment their resumes, were either not able to see through the ruse, which would point to a cognitive limitation, or they saw and simply played along, which would point to a lapse of ethical judgment and/or ethical behavior.
The system, when seen as a whole, was ethically dubious. For Althammer it is clear that blanket statements which blame finance managers for the financial crisis is incorrect because the system itself was at fault.4 Yet at some level the system was created by individual and collective decisions. To what degree are individuals responsible for participating and profiting?
The current complexity bound lack of transparency in the finance industry may either be by default, due to a lack of cognitive clarity, or by design, as a means of gaining control via manipulation of numbers, or some degree of both. What is clear is that additional regulation adds to the administrative burden of companies already encumbered by reporting responsibilities. (Guptara, 2009) One possible solution is the “unified financial language that merges all financial concepts in a fully consistent and natural manner” (Brammertz, 2009) proposed by Brammertz, et.al., which provides “the power to ask any defined financial instrument what its value or income or anything of financial interest would be under all market conditions.” (Guptara, 2009)
Brammertz, et.al. (2009) briefly mention the historical roots of bookkeeping in Mesopotamia and the breakthrough of double entry bookkeeping by the Medici family “in the 13th or 14th century in Florence” Italy. Progress in the quantitative sciences along with the US savings and loans crisis in the 1970s brought about a change in accounting methods which focused on valuation rather than cash and cash flow. In addition, expected future income and valuation began to be calculated along a distribution curves. While this approach holds great explanatory power, the choice of how such curves are calculated are based on expectations of future events which are by definition uncertain, and also provide latitude for less than fully ethical calculations to hide behind mathematical complexity. What is astounding to this non accountant author is that “[t]he dominant approach in modern finance has been to calculate
4 Schneider, 2009, Althammer: “Sehr häufig wird die Wirtschaftskrise auf das moralische Fehlverhalten von Managern zurückgeführt, was definitiv nicht der Fall ist. Die Krise hat systemische Ursachen.” 40 Predicting Fund Manager Integrity and Profitability expected cash flows in a risk neutral world.” (Brammertz, et.al., 2009, emphasis added)
By the end of the 20th century we had on the one hand financial systems – the double entry bookkeeping methods – with the entire institutions in mind but with weaknesses in analysing uncertain cash flows. On the other hand, we had methods with powerful valuation capabilities but narrowly focused on the single financial transaction or portfolios of these, missing the total balance and overlooking the going concern view. (Brammertz, et.al., 2009)
The “modern finance” approach using complex valuation became dominant partly because of its “power to explain risk”, yet this had an atomizing effect due to an increasing focus on individual parts of an institution. (Brammertz, et.al., 2009) A further complication leading to opacity is that as the complexity of valuation in modern financial accounting increased and relatively simple cash accounting began to play a lesser role, the differences in approaches to valuation exercises in various branches of financial institutions lead to increasingly disparate methods and tools till departments began having difficulty communicating with each other, producing a “silo” effect and the impossibility of data integration and financial analysis at the macro level.
The “unified financial analysis” approach advocated by Brammertz, et.al. (2009) attempts to “incorporate the bookkeeper and the modern finance approaches” under one system by “using a core calculation engine operating on integrated and consistent data”. If successful in spreading a system that enables rapid generation of reliable financial statements from micro to macro levels (Guptara, 2009), then it may be possible through a change in accounting systems to bring light to the murky areas where highly complex mathematics is used to conceal fraud.
1.1.7 Major Fraud Cases
In a study of bank failure during panics, Calomiris (2006) cites the U.S. Comptroller of the Currency’s Annual Report for 1920 which states that of 116 U.S. banks that failed between 1873 and 1907, 30 of the 101 failures attributed to asset depreciation
41 Predicting Fund Manager Integrity and Profitability also involved fraud, and “fourteen failures were attributed to solely to fraud.” (Calomiris, 2006, p.145) Heffernan (2003, p.379) cites research published by the Federal Reserve Bank of New York showing that “about 50 percent of bank failures and 25 percent of thrift failures between 1980 and mid 1993 were principally due to fraud.” While not representing the majority of cases, these significant percentages indicate that fraud present a major challenge to financial institutions.
In spite of these figures, characterization and analysis of risk for financial institutions typically focuses on market forces, political and environmental factors, and internal business structures, financial flows, business model, etc., but not on fraud and human resources issues. (Ferguson, 2008; Haight, 2007; Marthinsen, 2009; Partnoy, 2003) HR factors are simply not conceived of as being part of the risk equation.
To illustrate the inner workings of how fraud takes place, thereby identifying the issues relevant for this study, we turn to the following two examples of fraud.
The Madoff Scandal The financial world was shaken by the Madoff Scandal, when the story of the USD 50 billion Ponzi scheme broke into the headlines in late 2008. (Knowledge@Wharton, 2009) Over decades Bernard Madoff built a house of cards, using new investor money to pay dividends existing investors, leaving the fund hollow.
“Catching a fraud is practically impossible,” Busson says. “There’s only so much due diligence you can do. This was not an obscure little manager in the boondocks. He seemed like a very experienced, knowledgeable, trustworthy man like the best con artists always are.” (Baker, 2009)
This was the experience of UBP, which lost some USD 700 million in the Madoff scandal and as a result threatened to “pull several billion dollars of investments from large US hedge funds because they don’t use a full time independent administrator.” (Bryan Low, 2009) And yet Deutsche Bank turned down “dozens” of “opportunities” to lend money to investors who wanted to invest in funds run by Madoff because he “did not pass the bank’s due diligence criteria.” (Simonian, et. al., 2009)
42 Predicting Fund Manager Integrity and Profitability
Other voices also raised questions in the press (e.g. Ocrant, 2001), and the now famous Harry Markopolos went directly to the SEC with a detailed analysis in 2005, preferring to remain anonymous for fear of retaliation. (Scannell, 2009; Anonymous, 2005) Beginning in 1992 SEC regulators investigated Madoff at least eight times without finding sufficient actionable evidence to enable a prosecution. Perhaps the regulators failed to listen adequately, or to pursue matters with sufficient decisiveness based on what they learned. According to Aboulian (2009), European regulators are likely as a result of the Madoff scandal to increase their regulatory activity, with one of the likely results being a rise in costs born by investors.
The well connected investors, who formed what could be compared to the term “Filz”5 in Switzerland, were also fooled. According to Maurice Schweitzer (Knowledge@Wharton, 2009) four key principles of influence were at work: (1) scarcity, it was made to appear difficult to get access to this exclusive investment opportunity; (2) the “air of authority” that Madoff carried due to years of involvement in Wall Street institutions; (3) the “social proof” of other prominent and sophisticated investors; and (4) “the liking principle”, circulating “in country clubs [and] charitable events” was a very agreeable environment where people simply began to “like” Madoff and the people who associated with him.
The impossibility of national borders serving as a protective barrier to fraud in the age of globalization and the interconnectivity this implies is so easy to illustrate that it is hardly necessary. Nevertheless, an example can be drawn from a hedge fund based in Switzerland, Optimal Investment Services SA, belonging to Banco Santander which maintained a “carefully crafted reputation for cautiousness” (Catan, 2009). This fund and its managers also came under investigation by Spain’s anticorruption prosecutor when Banco Santander became the largest looser in the Madoff scandal USD 3.1 billion (Catan, 2009).
Chiasso in Switzerland Switzerland’s seminal banking fraud case occurred in 1977, in Chiasso, a town on Switzerlands southern border with Italy. In the canton of Ticino at the time, some “254 Swiss banks or branches” (Time, 1977) were competing “flight capital” that was
5 Filz is translated as the material “felt” in English, connoting wool hair that is connected, networked and tangled in many unexpected ways that turn it into a fabric – of society. 43 Predicting Fund Manager Integrity and Profitability smuggled out of Italy to escape high taxes and inflation. Ernst Kuhrmeier, a senior manager at a branch of Credit Suisse, along with several accomplices, strove to beat the competition by creating a system that he kept secret even within his bank. He promised higher returns and established a holding company in Lichtenstein that invested in sometimes risky Italian businesses. (Time, 2008; Millineux, 1987) When these began to go south, he transformed loans into equities in an attempt to hide the losses. (Baumann, 2008, p. 78)
In the end, of the 2,2 billion Swiss francs invested, some 1,2 billion were lost. In spite of a substantial stand by credit from the Swiss National Bank, there was a run on the bank, and Credit Suisse’s General Director, Heinz Wuffli, was forced to step down. A journalist who portrayed the event as “the first banking scandal in Switzerland’s history” was found guilty of making false claims and damaging Credit Suisse’s reputation by Zurich’s high court. (Baumann, 2008, p. 78 79)
A further problem was that Kuhrmeier did not question the origin of the capital, and thereby abused Swiss banking secrecy law whereby lawyers and fiduciary agents holding responsibility for such funds are supposed to provide assurance of their legality. As observed by Millineux (1987, p. 149) “[a] lot depends on their integrity.” Warning signals had been ignored, a special commission was formed to investigate, and in response to the scandal a new code of conduct6 was established by the Swiss National Bank and the Swiss Banker’s Association. (Time, 1977) The loss of reputation for Swiss Banking was substantial, and the event marks the transition to the era of Americanization of Swiss Banking with the Heinz Wuffli’s replacement by Rainer Gut, who introduced American practices, including investment banking. (Baumann, 2008)
In concluding this section, we can say that the safeguards of (1) social networks or “Filz”; (2) regulators; and (3) journalists and the investing public, have not proven sufficient to spot or prevent fraud.
6 Vereinbarung über die Sorgfaltspflicht bei der Entgegennahme von Geldern und über die Handhabung des Bankgeheimnisses (VSB) (Agreement on the duty of care for the receipt of funds and about the handling of the banking secrecy.)
44 Predicting Fund Manager Integrity and Profitability
1.1.8 The Role of Regulators
Major financial industry scandals in today’s globalized finance, has ipso facto global implications. While there is a debate, not addressed here, as to whether a global regulator is a good idea, the existing context of regulatory development on a regional level in Europe is relevant to the Swiss case.
Following the recommendation of the “Final Report of the Committee of Wise Men on the Regulation of European Securities Markets” (Lamfalussy, 2001; called the “Lamfalussy Report”, after the committee’s chairman), the European Commission (EC) established two committees in June 2001: the European Securities Committee (ESC) to provide advice and draft legislation, a primarily regulatory function (European Commission, 2001a, Article 2; Lamfalus, 2001, p. 28) ; and the Committee of European Securities Regulators (CESR) to advice the EC on more technical aspects, both upon request and on its own initiative. (European Commission, 2001b, Article 2; Lamfalussy, 2001) The ESC and CESR are part of a complex 4 level regulatory regime, (1. framework principles and consultancy mechanisms; 2. implementation and consultancy mechanisms; 3. strengthening cooperation; 4. enforcement) involving linkages among various European executive and parliamentary bodies. (European Commission, 2001c; Lamfalussy, 2001).
Using the Madoff scandal as an example, it is easy to see how most major fraud in today’s globalized finance has ipso facto global implications. Regulators in Luxembourg are claiming that UBS, acting as the depository bank behind a $1.4billion fund called the LuxAlpha fund, failed in its due diligence responsibilities by giving Bernard Madoff both managerial and custodial control; Section §44.(1) of the UCITS directive7 states clearly: “No single company shall act as both investment company and trustee in respect of the same UCITS.” (European Communities, 2003) UBS claims that because the fund’s marketing documentation claimed that “safe keeping of assets” was being delegated to a third party, the bank can not be blamed. (Aboulian, 2009) France claims that differing interpretations of the UCITS directive gave rise to the scandal, and the CESR regulators are launching an investigation of
7 'Undertakings for Collective Investment in Transferable Securities' 45 Predicting Fund Manager Integrity and Profitability how each member country is enforcing the Ucits directive in their own regulation. (Aboulian, 2009)
The scandal is likely to result in tightening the regulatory regime, increasing the ‘red tape’ involved, and raising costs, which will be passed on to investors. (Aboulian, 2009) In short, where management was lax, regulators see the need to grow in size and cost. Given the already extensive and continually growing regime, the question needs to be asked whether there is a point at which this continual growth of centralized bureaucratic oversight and the increasing burden it adds reaches a point of diminishing returns, and when the currently taboo use of personnel assessments on a voluntary basis by companies such as UBS to examine some relevant aspects of character that are within reach of current social science begins to be seen as a useful tool for mitigating such scandals at a management level, perhaps helping to avoid catastrophic losses. Currently, the latter option is simply unexplored; as will be shown below, so we do not know the degree to which there is a correlation between certain personality characteristics and job related behaviors in the finance industry.
In this case with UBS, there is no prima facie evidence of fraud; from the newspaper account the case seems more like negligence or a clear misunderstanding of the rules, which given the fiduciary duty involved may also be construed as negligence8. Ethical decisions remain individual decisions, however heavy the contextual influence may be.
8 Definition of negligence: “The failure to exercise the standard of care that a reasonably prudent person would have exercised in a similar situation; any conduct that falls below the legal standard established to protect others against unreasonable risk of harm, except for conduct that is intentionally, wantonly, or willfuly disregardful of others’ rights.” Garner, B. A. (Ed.-in-Chief) (2004). Blacks Law Dictionary (8th ed.). St. Paul, MN: West Publishing Co. 46 Predicting Fund Manager Integrity and Profitability
1.1.9 Ethics as a Financial Issue JS: [I]n what world is a 35 to 1 leverage position sane? JC: The world that made you 30% year after year after year beginning from 1999 to 2007 and it became — JS: But isn’t that part of the problem? Selling this idea that you don’t have to do anything. Anytime you sell people the idea that sit back and you’ll get 10 to 20 percent on your money, don’t you always know that that’s going to be a lie? When are we going to realize in this country that our wealth is work. That we’re workers and by selling this idea that of “Hey man, I’ll teach you how to be rich,” how is that any different than an infomercial?9 John Stewart & Jim Cramer (2009)
In the above quote, Jon Stewart, who some view as the top comedian aligned with the US Democratic Party, was pointing out that the ethos which produced the subprime crisis can be typified as trying to make money without “elbow grease”. The connotation in this quote and dramatically portrayed in the rest of the interview, which gained a minor cult following in the US as a major statement from mainstream media characterizing the crisis producing fraud in the finance industry, is that the reason for the current financial crisis is not just that the dubious subprime mortgages were unethical, but rather the finance industry as a whole is systemically riddled with ethical problems that have caused major financial losses effecting the whole country and globe. In this interview, Stewart was able to show evidence that the players on the inside of the system knew that what they were doing did not have a solid foundation and would one day end badly. They knew that they were acting unethically, and pursued their personal profits anyway.
Given the minor and major scandals which beset the finance industry, this study concludes that ethics is not simply a nice extra for those of a gentler character. Ethics is a major financial issue; it is an essential parameter of a healthy financial system. A major scandal in Switzerland could have greater effect on this financial center than others precisely because it is trust that is a central aspect of the Swiss banking reputation.
9 An “infomercial” is an ‘informative commercial’, essentially a long television advertisement, typically 30 minutes in length, selling get-rich-quick schemes and other “too good to be true” products. 47 Predicting Fund Manager Integrity and Profitability
1.1.10 Switzerland in the Global Context
Today, Switzerland is one of the most globalized countries, ranking among the top five on the KOF Index of Globalization since the 1990s (KOF 2009), with its most current ranking as fourth overall among the 158 countries indexed, first in the rankings on the scale of “social globalization” which measures indicators of personal contact, information flows and cultural proximity, however only 19th in “economic globalization” as measured by balancing actual trade and investment flows against restrictions such as taxes and tariffs. (Dreher 2006 and 2008)
As a “brand”, Switzerland is doing well. Since 1996, when Simon Anholt developed the concept, Switzerland’s image as a country has been tracked and compared with fifty other countries according to indices of exports, governance, culture, people, tourism and immigration & investment (a country’s ability to attract talent and investment). (GfK Roper, 2008) Switzerland currently ranks 8th overall among the 50 countries indexed, and first among all countries in the governance category. In governance, “reliable” and “trustworthy” were the terms most selected to describe Switzerland.
In the people category Switzerland came in 5th, “scoring very strongly on reputation of producing valuable employees”, while the terms most often selected to describe Swiss were (in order of importance): “rich”, “skilful”, “honest” and “hard working”. (GfK Roper, 2008) Switzerland came in fourth in immigration & investment, with over half of respondents (53%) naming banking as Switzerland’s trademark industry.
Still, the National Brand Index contains a warning: while its image is not in danger of loosing its attractiveness, the image is in danger of loosing its relevance. (GfK Roper, 2008) While the Index points to environmentalism, technology and education as key, this study focuses on the forces which could damage or promote its “trademark industry”.
A slight slippage in Switzerland’s self image and position at the top of global rankings has been experienced in recent years. First, several events dealt unexpected blows. The demise of Swiss Air was an unexpected calamity, bringing down what was called
48 Predicting Fund Manager Integrity and Profitability by some a “flying bank.” The deep pockets of capital built over many years were spent buying up small airlines in pursuit of a strategy aimed at building Swiss Air into a global brand. Evaluated as reckless by some, the strategy could have worked had it not been for the severe drop in air travel following the September 11, 2001 attack on the World Trade Center in New York.
1.1.11 Personnel Competencies for Swiss Banking in the Global Context
The reputation of Swiss Banking for honesty and reliability has played a large role in its success. So one could argue that a major ethical or criminal scandal could do proportionately more damage to Swiss Banking than banking in other major financial centers. This raises the importance of this factor in guiding the evolution of the future of Swiss Banking in the global context.
Financial crime and unethical practices are rooted in both contextual and individual factors. Political processes that create contexts conducive to fraud, unethical corporate cultures and individual decision all play their role. Since law, regulatory control and corporate culture do not necessarily provide a moral compass, individual factors become increasingly important.
Many of the eminent figures in the “old school” of Swiss Banking, such as Dr. Hans Vontobel, call for return to the traditional values that made Swiss Banking great. (Gasser, et.al., 2009, Interview with author, 2008) Yet one must question whether this possible in the context of a culture and society that is markedly different than the one which gave rise to these values. The culture of Swiss Banking, or rather the society of Swiss bankers which upheld the standards, is non nearly as operative as it once was. With the high numbers of international bankers, the impact of Swiss culture in Swiss Banking has been lessened.
According to Claude Baumann (2008) the characterization of Swiss society as „Filz“10 also meant that bankers were in a widely understood network of responsibility for their role in society and economy. For this reason it used to be also relevant to ask
10 “Filz” is German for ‘felt’ the cloth made up of tangled wool thread, symbolizing Swiss society which is networked and connected in many unexpected ways and unpredictable patterns. 49 Predicting Fund Manager Integrity and Profitability whether a person lived and paid taxes where s/he was employed, and what kind of private and social life s/he led as part of the recruitment process. (pp. 212 213)
Today, many entrepreneurs and wealthy persons are reluctant to work closely with financial institutions because the impression is that bankers are only interested in their own profit. When the leading bankers are not able to appear believable or trustworthy to their public, then the finance branch is in poor shape – even when most customers are foreigners.
With its high standing globally, Switzerland’s banking sector is looked to as an example of good practice and dependability. In an era where “private financial flows have come to dwarf official flows” and “concerns have been raised over the probity of some large international investors in the light of recent corporate scandals” (WCSDG, 2004, pp.34), Switzerland has the opportunity to provide a leading example of best practice in relation to providing banking services to developing countries both in terms of integrity and wise direct investment.
As an example, the success of one Swiss Private Bank stands in sharp contrast to the general collapse and crisis. Ivan Pictet, head of Bank Pictet, was able to announce that 2008 was the second best year the bank had ever had in terms of profits, in its 200 year history. (FiNews.ch, 2009) Some CHF 17 billion of new funds were deposited with the bank, raising its total capital under management to over CHF 300 billion.
In an age where the “metallurgical content” of a derivative has become nearly impossible to test, one may wonder whether Emperor Friedrich, were he to resurrect today, would recommend testing the mint makers themselves. Given the frequent fraud cases, the exorbitant salaries, the massive bailout of financial institutions, trust in bankers is possibly at an all time low.
A minimally positive correlation between the SOI, DIT or MJI and financial results could bring about the addition of developmental psychology assessments as a generally accepted method in rating fund managers within quantitative fund assessment models. If the results are more dramatic, with ethics and maturity shown
50 Predicting Fund Manager Integrity and Profitability to be reliable indicators of profitability in fund managers, a shift in personnel policies and investment strategies could result. The opposite result would largely confirm current belief and practice.
In the closing chapter of his timely book “Swiss Banking – wie weiter”, Claude Baumann (2008) poses five theses11 that point to a way forward: 1. Strategy: Swiss banks must pursue strategies that produce more than just short term profit. 2. Quality: If banks neglect proven virtues such as trust, discretion and security they will loose their claim to quality. 3. Personalities: The finance sector will regain public acceptance only if leading bankers again become [genuine] role models. 4. Context: As a financial center, Switzerland can withstand international competition only through continual improvement of [business] conditions. 5. Marketing: The [image of the] Swiss financial sector has been reduced to banking secrecy because it has failed to promote its merits.
To thrive in the emerging climate of heightened technical and ethical complexity, Swiss Banking needs to maintain, renew and strengthen traditional values by embodying them in new forms. In the area of personnel management, this will mean moving beyond the default position of depending on a healthy society and educational system, to a more focused strategy. This dissertation proposes research to test whether one particular method, assessments based on developmental psychology, may be able to contribute to that larger task.
There was a holistic nature to the classical era of Swiss Banking, with social values and business practice evolving out of decades of practice and growth. The effects of the digital revolution, with the high demands for quantitative and computer skills, brought a dramatic change in personnel practices. A shift was noticeable from the predominance of in house trained to university educated, and from primarily Swiss to increasing numbers of international executives.
11 Baumann, 2008, pp. 207-218, author’s translation 51 Predicting Fund Manager Integrity and Profitability
This meant that the generation of the “giants” of Swiss Banking were not able to transfer their know how to the new generation in the way they had received it, with values intact, because the know how itself had changed. As a result of this breakdown in the generational transfer of knowledge and practice, many of the stable values that were the hallmark of Swiss Banking were incompletely iterated into the new reality of digital banking.
The fascination with the seemingly endless possibilities of computer aided quantitative banking practice led to an enthusiasm that overestimated the completeness of this approach. The subprime crisis is evidence of this overreach of the digital at the expense of common sense. The complexity lent a blindness that was, for some enterprises, fatal.
The former generation presents great symbolic and actual value, yet their answers can not be wholly ours because they were crafted to meet the challenges of their time, and crafted out of different historic, economic and social material. New eras always demand new answers, a new ethos of values commensurate with present and future challenges. A world facing extraordinarily serious environmental challenges is placing increasing demands on economic and political power structures to create appropriate change with unprecedented speed.
All this will require personnel and leadership also in the finance sector capable of thinking outside the “container”, and willing to make decisions and create behaviors that do not fit with the conventional which brought us to where we are now.
This dissertation explores one avenue, developmental assessments, that may be able to contribute to that larger effort by helping to identify moral leadership capability that can be cultivated to produce a new era of Swiss Banking characterized by sustainability and planetary stewardship.
In the concluding section it will be suggested that the qualities being searched for in personnel, the principles and virtues necessary for successfully promoting Swiss banking and characteristics existing in Swiss culture and heritage can be profitably
52 Predicting Fund Manager Integrity and Profitability aligned, and in doing so strengthen both the financial sector in Switzerland and the services Switzerland offers in the context of globalization.
This dissertation will explore one possible building block toward a strategy, the use of a methodology that, like the family heritage of this author, has its origins in Switzerland, wandered out to the USA, and returned with some New World “can do” attitude. Specifically; we will examine the developmental psychology methods refined at the Harvard School of Education that were first created by a child psychologist from Geneva, Jean Piaget.
1.2 Goals for the Study Financiers must rediscover the genuinely ethical foundation of their activity, so as not to abuse the sophisticated instruments which can serve to betray the interests of savers. Benedict XVI (2009, §65) The immediate goal of this research is to test whether there is a correlation between ethical judgment capacity, socio emotional maturity and the medium to long term profit produced by fund and portfolio managers. Even a small, positive correlation could have significant implications for fund and portfolio manager training and selection processes and the profitability of financial institutions. Further, significant positive results could contribute altering perceptions about the characteristics of intelligent investing. This would represent a paradigm shift in the finance industry. (see e.g. Kuhn, 1970) To the best of this writer’s knowledge, no one has attempted similar research.
Developmental psychology assessments are grounded in the school of thought started by the Swiss child psychologist Jean Piaget in Geneva in the 1960s. In the 1970s and 80s, Professor Lawrence Kohlberg, Harvard University School of Education, used Piaget’s methodology to examine the development of ethical judgment capacity in adults. Professor Robert Kegan built on this foundation by uncovering the stages of socio emotional maturation throughout the lifespan. During the doctoral program, the researcher pursued and received certification in developmental psychology assessments from the Interdevelopmental Institute in Boston, USA. (Appendix 5.3)
53 Predicting Fund Manager Integrity and Profitability
Though decades of research exists, the use of these assessments is relatively new to human resources management, and rigorous research on the application of these measures to specific problems in business and industry is still in the early stages. The basic research questions posed in this study are:
(1) Will fund manager scores in ethical judgment, as measured by the “Defining Issues Test” (DIT) or the Moral Judgment Interview (MJI), show a correlation with market returns?
The primary question is whether a correlation exists between the level of development (capacity to process complexity) in ethical thinking and profitability. This line of inquiry asks whether a well developed capacity for ethical decision making is correlated with higher profitability among investment managers, and, whether a low score correlates with unwarranted risk taking and/or unethical decision making. These questions also touch on the issue of whether conscience and profit are opposing forces (a common perception), or mutually supportive (hypothesis of this study).
(2) Will fund manager scores in emotional maturity, measured in the “Subject Object Interview” (SOI), show a correlation with market returns?
Trading behavior by portfolio and fund managers frequently becomes fixed in particular styles or tendencies that favor, for example, conventional wisdom among investment professionals who adhere to a particular school of thought, or in the individual “pet” companies, industries, commodities, or other investments of the individual manager. They can become too personally attached to one or another decision they have made, and not able to pull out when they should, their decision making capacity being held hostage to their emotional structure. Further, the degree of objectivity in their original choice of where to look for market opportunities, may be influenced not just by their cognitive capacity, but also the degree of “objectivity” in the socio emotional sense.
A sample question from the DIT is attached in Annex 5.4, providing an impression of this instrument. The essence of the SOI is more difficult to convey, though the basic
54 Predicting Fund Manager Integrity and Profitability concepts can be explained to most audiences in 20 minutes using the diagram, also in Annex 5.4.
Capacity for Ethical Decision Making and Success in Fund Management Several closely related questions are addressed by researching the possible correlation between ethical perception and performance in financial markets: Is it possible that a well developed sense of morality and ethical behavior correlates with higher profitability among investment managers? Is it possible that a correlation exists between ethical and moral perception, which rests largely in cognitive ability, and ability to assess and decide upon investment potential? Is it possible that top tier fund managers with a highly developed sense of ethics may, due to this ability, be better investors because the complexity of decision making in ethics is similar to the thought processes necessary in financial markets; and they may be more alert to ethical and governance factors that could represent risk of scandal and poor performance in particular investment opportunities? Are fund managers with lower scores more likely to engage in unethical decision making that can lead to catastrophic loss?
The literature thus far identified that considers both ethics and finance, does so by addressing (a) legal enforcement concerns and criminality, (b) moral education in the professions, (c) ethical, socially responsible and sustainable investment, and (d) broader ethical concerns of economy and society. For example (of “d”), in her essay “Zwischen Gewissen und Gewinn” (Between Conscience and Profit), Christa Stewens points to a central issue in discussions of economy and society, describes challenges and provides general answers.
"Conscience and profit" are not, according to my firm conviction, unbridgeable contrasts. "Conscientious" leadership decisions and humanity in leadership should not be regarded as unprofitable wishful thinking, well meaning or unworldly utopian concepts. Rather values such as justice, personal dignity and liberty, solidarity and readiness to assist the vulnerable, including an
55 Predicting Fund Manager Integrity and Profitability
acknowledgment of readiness efforts – should also be considered as gains, also in their economic aspects.12
One can wish that decision makers with financial weight would think in such a holistic and value oriented manner and work to impress the next generation of managers with the importance of acting responsibly with the power they will soon wield. Yet it is obvious that all too many bankers and investors are more narrowly oriented toward profit in a purely financial sense and make their decisions based on what is most likely to bring financial profitability, even in very short time spans. Indeed, the very structure of financial markets supports this tendency. In posing the question of whether conscience and profit (“Gewissen und Gewinn”) are opposing forces, the research described here seeks to focus the question narrowly to meet the thinking of these decision makers on their own ground.
In examining the issue of infusing ethics into business practice, Klaus Beck (2003) identifies three approaches:
(i) to improve theory of moral education and thereby practice of moral education, (ii) to establish more and strict regulations supplemented with penalties and (iii) to enhance business people’s moral competence.
A fourth approach, introduced and tested by this study, is whether the evidence will show that it may be possible: (iv) to change the market conditions by making moral competence more attractive to employers and investors.
If the evidence shows a positive correlation between ethical judgment capacity and profitability, this result would motivate increased attention to (iii) and perhaps, eventually, reduce the need for regulatory expenditure in (ii). While informing and influencing public opinion is one approach currently being used by many pressure groups to change market conditions, involving public information, providing SRI opportunities, boycott of goods, etc., the present study would contribute an
12 Stewens, Christa (2005). „Zwischen Gewissen und Gewinn“ oder: Sind Menschlichkeit und Wirtschaftlichkeit unvereinbar?, in Uto Meier und Bernhard Sill (Hg.) Zwischen Gewissen und Gewinn: Wertorientierte Personalführung und Organisationsentwicklung. Regensburg. Verlag Friedrich Pustet. Page 71. (translation from German to English by the author) 56 Predicting Fund Manager Integrity and Profitability examination of economic results that could point to a factual condition in the economy that would substantiate approach (iv) by taping into the logic inherent in the profit motive.
Is it true that “honesty is the best policy” as is commonly said? Are conscience and profit opposing forces, or mutually supportive? A more specific rendering of the question for the present study would be to ask ‘whether a well developed sense of morality and ethical behavior is correlated with higher profitability among investment managers.’
This narrower question is not meant to oppose or deflect attention from the holistic view, nor the values that Stewens, Beck and others wish to support. Rather, in seeking to answer a more narrowly defined question, it is hoped that the results of this experiment will show that moral capacity is a positive influence on profitability. If correct, persons driven by profit, even if narrowly defined, may be encouraged both to ascribe more importance to moral and ethical capacity when making decisions about where to invest or which fund or portfolio manager to entrust with their capital, and also to begin viewing the broader moral landscape of business and economy.
Socio-Emotional Maturity and Fund Management Whereas ‘behavioral finance’ studies market swings by tracing the collective attitudes of investors, this study focuses on individual actors in these markets to see whether it is possible to predict which fund or portfolio managers are more likely to “go with the flow” of collective attitudes about the market, and which managers are more able to resist the crowd and follow their own genius. In an interview some years ago, legendary Magellan Fund manager Peter Lynch commented:
Some people say you can’t buy companies with unions, or you can’t buy companies in dying industries These are prejudices and biases that prevent people from looking at a lot of different industries. I never had that. I think there are good and bad stocks everywhere.13
13 Tanous, P.J., (1997) Investment Gurus: A Road Map to Wealth from the World’s Best Money Managers. New York Institute of Finance, p.101. 57 Predicting Fund Manager Integrity and Profitability
In this statement, Lynch portrays a level of socio emotional maturity that allowed him to make decisions free from social convention – including the opinions of his investors – and kept him free from building up the prejudices and biases that would have interfered with his rational choice.
Lawrence Kohlberg and Robert Kegan found that development of cognitive, ethical and emotional abilities stretches out over a bell curve in adult populations. Some of us remain emotional teen agers, most of us become well adjusted adults but tied to the conventions current in the social groups to which we belong, and a few of us grow beyond this stage to generate the capacity for self authoring and true leadership. Further, socio emotional development does not always run parallel with cognitive or ethical judgment ability. Basically, some fund managers may be able to construct and use highly effective quantitative programs, and yet be weak on the other human factors necessary to produce sound investment decisions. Even for this group, there is hope. As Robert Kegan (1994) says: “We must be clear that what we are calling “intelligence” is a capacity that evolves, and that this evolution can be encouraged.” There are ways to identify, educate and ‘coach’ our various kinds of intelligence. No one needs to remain “stuck” at any developmental level.
Current quantitative methodologies used in modern portfolio management are highly successful in preventing “human factors” from interfering with rational choice, yet one hears a few voices commenting that at the end of this line of development, we still need human judgment. Perhaps measuring the ability to maintain independence of judgment could provide a solution to this dilemma. In addition, though the SOI assessment is a qualitative process, requiring a schooled human evaluative capacity, the assessment result is a quantitative value, that can be expressed numerically, and can be factored into existing quantitative models as an additional refinement. If the hypotheses prove valid, these assessments could be of interest for the investment community more broadly in that their use could assist in identifying fund managers with significant potential at an early stage of their career.
As a more meta level goal, the findings of this study may also indicate that an attitude of stewardship, implied in part by moral and emotional maturity, is more likely to lead to medium and long term wealth creation than the “Liar’s Poker” (Lewis,
58 Predicting Fund Manager Integrity and Profitability
1989) approach embedded in popular imagination. Ethics and emotional maturity can be seen as conservative, traditional values, yet they are also arguably the foundation for the values that are the most progressive, creative and essential for facing and mastering our increasingly complex global environment.
1.3 Procedure
In the research concept, described above, the assessments (SOI and MJI or DIT) could be used in various combinations; the precise characteristics of the data set can be adapted to suit the cooperating institution.
The size of the data sample, and concomitant level of scientific validity, depends largely on the availability of funding and access to fund/portfolio managers of, or connected to, the cooperating institution(s). A small sample size of perhaps 10 fund or portfolio managers would produce a “hypothesis building” study that could be useful in showing the utility of a larger research project. A scientifically valid study would require a minimum sample size of 100 persons, where the entire group would complete a DIT questionnaire and a sample of perhaps 20 of this group would then be selected to also take the SOI.
To complete this research project in its smallest, hypothesis building iteration, the following resources are required:
1. Two hours of time each from 10 portfolio or fund managers;
2. Financial results data (at least 5 years) for the portfolio or fund managers;
3. Financial support for direct costs (including interview transcriptions, communications and travel) and a stipend for the researcher.
A participating institution could participate in this research in several ways:
1. Enabling interviews of fund or portfolio managers as a pilot to test the methodology;
2. Provide advice on, and connections to, other companies that could be interested in this study;
59 Predicting Fund Manager Integrity and Profitability
3. Financial assistance, even of a token amount, would be greatly appreciated, and would send an important signal to any further companies considering involvement.
The participating institution(s) could benefit from this study through:
1. Immediate use (based on written agreement) of SOI, MJI and DIT results;
2. Positive correlation with fund manager performance, if found, would lead to increased profitability;
3. Acknowledgement of support for the research in the publication of results.
1.4 Definitions
Analysis is understood as “a detailed examination of anything complex made in order to understand its nature or to determine its essential features.” (Webster’s, 1986, 2) Assessment is understood as “an appraisal or evaluation” (Webster’s, 1986, 3) Behavior as used herein is understood as “the manner in which a person behaves in reacting to social stimuli or to inner need or to a combination thereof.” (Webster’s, 1986, 1a)
Ego development is understood here as the healthy development of the personality.
Emotional Development and Socio Emotional Development (ED and SED) are used almost interchangeably. ED is the general term, and SED is used when emphasis is placed on the effects of ED on relationships. In this paper, ED and SED are seen in light of the developmental school of psychology as constructed by Piaget, Kohlberg, Loevinger, Kegan, Cook Greuter, Laske and others.
Empirical: “capable of being confirmed, verified, or disproved by observation or experiment.” (Webster’s, 1986, 3)
“Ethical Judgment” is understood herein as the capacity to arrive at a decision in questions involving a valuation of right and wrong. This builds on the formal definitions of the two concepts: ethical: “of or relating to the field of ethics or morality;
60 Predicting Fund Manager Integrity and Profitability relating to or involving questions of right and wrong” (Webster’s, 1986, 1a); and judgment: “the capacity to arrive at a decision about the value of things.” (Webster’s, 1986, 10a)
The term Fund Manager is used both in a broad sense to mean anyone who is making decisions about financial investments, and a specific sense to mean someone who is hired to make investment decisions about a fund of money invested in financial instruments “in accordance with the stated goals of the fund.”14 (http://www.investorwords.com/2128/fund_manager.html)
Integrity is understood here as “an uncompromising adherence to a code of moral, artistic, or other values; utter sincerity, honesty and candor; avoidance of deception, expediency, artificiality, or shallowness of any kind.” (Webster’s, 1986, 1b)
There are two divergent definitions of “Moral Hazard”, both of which are relevant and will need to be understood through the context of use. The first is taken directly from Investopedia: “The risk that a party to a transaction has not entered into the contract in good faith, has provided misleading information about its assets, liabilities or credit capacity, or has an incentive to take unusual risks in a desperate attempt to earn a profit before the contract settles.”15 The second definition refers to the fact that behavior may change when there is protection from the effects of the action, i.e. when risk is absent. This definition is used primarily in discussions of government policy and with whom the particular risk under discussion should optimally lie. (Summers, 2007; Ahrens, 2008)
Predicting is understood in the straightforward use of the term “prediction: an inference regarding a future event based on probability theory.” (Webster’s, 1986, 3)
Profitability is understood in the specifically financial sense derived from the root “profit: the excess of returns over expenditure in a transaction or series of transactions.” (Webster’s, 1986, 2)
14 Retrieved from http://www.investorwords.com/2128/fund_manager.html on December 3, 2009. 15 Retrieved from http://www.investopedia.com/terms/m/moralhazard.asp on 29 June 2009 61 Predicting Fund Manager Integrity and Profitability
Theoretical is derived from “theory: the coherent set of hypothetical, conceptual, and pragmatic principles forming the general frame of reference for a field of inquiry.” (Webster’s, 1986, 3a(2))
Theoretical Analysis, as used in the title, refers to the use of a coherent set of intellectual tools to examine and determine the essential features of a phenomenon; in this case, fund manager integrity and profitability.
62 Predicting Fund Manager Integrity and Profitability
2. General Theoretical Section: The Human Side of Banking The Medici certainly were not satisfied with a modest living befitting their rank of simple citizens. Their social aspirations grew with each succeeding generation. So they strove to achieve princely status, although even Lorenzo the Magnificent continued to affect republican simplicity in his dress. Raymond de Rover16
"If you don't know jewelry, know the jeweler." Warren E. Buffett17 2.1 Assessing Fund Managers
Quoting Charles D. Ellis, Jonathan Davis (2003) writes: [I]nvestment management today attracts "the most gifted group of people gathered together in any line of work anywhere in the world. Every time you buy and sell securities, the odds are four out of five, or 80 per cent, that you're buying from or selling to a professional who has equal information to what you have, equal ambition to what you have, equal talent to what you have, equal education to what you have and equal resources to what you have. The resources and the talents are superb but they are evenly matched."
Given this pool of talent, the search for differences among fund managers means we are seeking perhaps a very small, incremental advantage through personality assessments. Still, if significant performance differences are found that correlate with developmental scores, the validity of this data would stand out all the more due to the highly selective and highly competitive nature of this profession.
An additional limitation, especially with the small data set used here, is that the effect of the fund manager on fund performance is not the entire picture. Klaas Baks (2003) studied the track record of over 2000 fund managers for seven years (1992 1999), comparing their performance also when they changed funds and managed multiple funds, and through these occurrences was able to disaggregate disaggregated fund performance from fund manager performance. He found that
16 De Roover (1966). The Rise and Decline of the Medici Bank 1397-1494. pp. 7. 17 Retrieved from www.berkshirehathaway.com on 15 June 2009. 63 Predicting Fund Manager Integrity and Profitability while there is “some evidence for performance persistence among managers” regardless of the fund they are managing, “the manager’s contribution” to “abnormal performance” is only “10 to 50 percent” of the total. The results of his study is that, though there are exceptions (Hulbert, 2003) “the fund is more important than the manager” when measuring performance. (Baks, 2003)
Baks’ findings present an additional reason why a small and disparate set of fund manager assessments such as we have here can not constitute a scientific study. Either a relatively small set with identical conditions, or a very large set of data would be required to isolate the value of measuring developmental indicators among fund managers. Therefore, the data set of five cases is used here simply to illustrate how a scientifically valid study could be carried out. In no way can the data be interpreted for definitive results.
The Baks study also points this study towards a model whereby it is important to measure a manager’s supporting structures, such as the research department and the operations or trade executions desks. It may be found that the whole is greater than the sum of the parts. It is important to have a balanced view of the role the context and actual, functional relationships have in fund manager performance, and not be caught in a narrow vision that sees the fund manager as being responsible for his/her own performance regardless of institutional context.
Just how far an exaggerated, singular focus on the individual can go was described by Prof. Robert Shiller (2008a, Lecture 7) when he described research on how companies search for charismatic CEOs, finding that companies hired and fired their erstwhile heroes regardless of their actual performance. If the markets went down, and the company also, the CEO was fired regardless of his or her actual performance. René Gerard (1986) would perhaps interpret this behavior as identifying a ritualistic scapegoat who is sacrificed to cleanse the ‘tribe’ (company) so that it can start afresh.
Golec (1996) studied the relationship of fund manager characteristics to fund performance and found that higher risk adjusted performance (alpha) is found with fund managers who are younger than 46 years old and have managed the fund in
64 Predicting Fund Manager Integrity and Profitability question for at least seven years. Fund managers with MBAs outperformed those without, but the “most significant predictor of performance is the length of time a manager has managed his or her fund (tenure).”
Further indication that a qualitative examination of fund manager characteristics may produce results are evidenced by the findings of Chevalier and Ellison (1999). They examined data publicly available through Morningstar, Inc. on over 2000 fund managers, seeking to find whether the “observable characteristics” of managers that may indicate “ability, knowledge, or effort” result in higher fund performance. The observable characteristics in this case included: • Age • The “average student SAT score” from the manager’s undergraduate institution (not the individual score of the fund manager) as a measure of the quality of undergraduate education • Whether the manager had an MBA
The correlations they found were that the “relationships between education, age, and performance are so strong as to make it seem unlikely that ‘ability’ differences could be the whole story.” (Chevalier, 1999) Managers with MBAs outperformed those without, due to their holding larger amounts of systematic risk. Younger managers out performed the older managers, perhaps because the career situation of fund managers demands higher performance earlier in their careers as they establish their track record, and because they are more easily fired when younger.
Their most “robust” finding related to the undergraduate institution from which the fund managers received their first university degree: “managers from undergraduate institutions with higher average student SAT scores obtain higher returns”. (Chevalier, 1999) Speculating as to why this should be the case, Chevalier and Ellison list several possibilities: intelligence, higher quality education, better networks for information (note research on this point by Kacperczyk, 2007, reviewed below), and that they simply work for firms that provide better support services (see research by Baks, 2003, above).
65 Predicting Fund Manager Integrity and Profitability
Chevalier and Ellison (1999) conclude that it should not be surprising that some fund managers function better than others since their task involves information processing and variance in performance is common to all professions. The question we can pose, resulting from the results found by Chevalier and Ellison, is whether this characteristic could also be measured, perhaps with more accuracy, through the use of developmental assessments. One way to begin to identify the effect of college would be to measure a representative samples of students, at the beginning and end of their 4 years of study, and do this in several schools for comparative purposes. Still, the effect of the overall status of the schools, their networks and career placement opportunities would be difficult to isolate.
Whether Swiss practice in fund manager selection rests on a foundation of practice that is adequate to the changed environment remains an unknown. In the course of this study the author was not able to locate any study of personnel policies for the finance industry in Switzerland. Though not the result of a comprehensive or even broad search, banking literature in general seems to gloss over personnel issues in a very cursory manner. For example, in the 926 page standard work “Das Schweizerische Bankgeschäft: Das praktische Lehrbuch und Nachschlagewerk” (Emch, 2004), (“Swiss Banking: a Practical Textbook and Reference Work”), one page (p. 471), or just over 0.1% is devoted to personnel qualifications for all categories of bank personnel. While the statement made is sound and well considered, it is so general as to provide little practical guidance in personnel recruitment, management and promotion processes, and in no way compares to the depth provided in other sections of their text.
In another example, the Handbook of International Banking (Mullineux and Murinde, eds., 2003) does not list the terms “personnel” and “human resources” in the index, though “managerial issues”, “looting” and “fraud” are indicated in several chapters as significant problem areas and “moral hazard” is treated extensively. In their focus on fraud and crime in banks, Norton and Walker (2000) focus on the enforcement and regulatory side, dealing with the issue of “personnel” in one paragraph revolving around the issue of obtaining information in the event of fraud, and no explicit treatment of ethics.
66 Predicting Fund Manager Integrity and Profitability
Emch (2004) and others cite two central changes that have increased the demands placed on customer relationship managers, portfolio managers and analysts:18 (1) complexity of the market, and (2) complexity of the regulatory environment. To address this change they propose focusing on technical qualifications and continuing education to ensure that staff must understand the financial strategies, techniques, instruments and products that they are selling to customers. In addition to technical knowledge, bank personnel who have direct contact with customers should possess personal and social skills, and the ability and willingness to listen and understand them. Personnel in these positions must be capable to provide an honest and careful management of funds and act in the best interest of the customer as defined by law.
They emphasize this last point, warning against institutions aggressively promoting particular products, and customer advisors pressuring sales due to their own self interest or out of ignorance of the product and without regard for the customer profile. Isn’t this last point the central issue in the Sub Prime crisis that has precipitated a collapse of the global financial system?
The above description of personnel qualifications can be interpreted as indicating a need for increased cognitive, socio emotional and ethical capacity, yet no hint is given as to what indicators should be considered during a hiring, evaluation or promotion process to ensure that the bank is making the right personnel decision.
In assessing fund managers, funds of funds managers typically look at both quantitative and qualitative factors in their due diligence process. Publicly available company literature typically focuses almost exclusively on quantitative analysis of the markets and investment strategy. For example, 3A SA, a company in the Syz Banking Group, with over USD 2 billion in assets placed in 42 hedge funds, combines established “blue chip managers” with “innovative, smaller hedge funds operating in niche strategies.” How managers and funds that fit into the strategy are selected, however, remains opaque: “Erfahrung und Know how.”
18 Emch, et. al (2004), page 471. Though the summary of this text follows closely their wording in the current and following paragraph, translated by the author, the exact quotations have been omitted. 67 Predicting Fund Manager Integrity and Profitability
A quantitative model from FRS Transparenz in Hedge Funds19 assigns quantitative measures to both quantitative and qualitative factors, including: The Firm; Track Record, Risk Management, Portfolio Construction, Monitoring, Screening, Transparency, Operations, and “People”. The quantitative aspect of the model combines financial factors in a variety of patterns, with the hard data weighted according to various emphases in strategy. The data for input is largely from verifiable sources: from financial records, market statistics, currency fluctuations, etc. Indicators of how “people” are assessed remains cursory, and seems to include only very basic data such as years of industry experience, academic record and “biography” that are weighted in an undisclosed manner.
Research on current industry practice in the “people” aspect of fund and fund manager selection remains difficult as the process tends to be subjective, resting on the judgement of “talent scouts” or simply included in a cursory manner during due diligence research. Social science, it seems, is not yet fully iterated into the process of financial investment strategies.
Arpad Busson, widely known as one of the best talent scouts in the hedge fund industry, identifies a personal relationship and sense of trust in the “integrity of the trust management system, trust in the investment process and trust that the manager will do the right thing for investors” as central to his process of selecting fund managers. (Schurr, 29/03/06, p. 8) Yet this is not all. Schurr also quotes Busson directly in saying: “This incredible will of somebody who lives, dreams, eats these markets on a 24 hour basis – it’s not often I see this kind of passion, but it’s extremely exciting.” (29/03/06, p. 8)
How are fund managers characterized? In observing the “hedge fund legend” and “born money maker” fund manager Philippe Jabre, Financial Times correspondent Stephen Schurr identified the essential personality traits of “the quintessential hedge fund manager” as “an extreme degree of competitiveness, high intelligence and innovative thinking.” (Schurr, 20/03/06) Yet on the way to his beating the benchmark “by 18 percentage points a year on average”, Jabre also became famous for an opportunistic trading style, taking “unnecessary risks”, and the recent fine from the
19 See www.hedge-fund-research.ch 68 Predicting Fund Manager Integrity and Profitability
UK’s Financial Services Authority found that “the trader and, in turn, his firm violated market conduct and committed market abuse.” (ibid) Current speculation is that Jabre will enter the hedge fund business again, and be overwhelmed by investors eager to place money in his hands.
Having never met, let alone interviewed and assessed Mr. Jabre, it is impossible to know much about the man behind the public image, and we should not speculate as to what scores he would achieve on the SOI and DIT. Nonetheless, his image is perhaps typical of how the general public views successful fund managers. And it is this image which will be “put on trial” in this study.
Current Practice in Fund Manager Assessments Current industry practices by funds of funds in selecting hedge fund managers combines quantitative and qualitative data. The precise formulas used in the investment industry are a guarded secret. Standard „qualitative due diligence“ factors mentioned in the investment industry literature including the following:
Individual factors: • Age • Education • Remuneration • Strategy • Years of experience • Additional factors
Contextual factors: • Group, team and management approach • Investment process • Relevant company policy and philosophy • Attitudes and expectations from superiors • Pressures from managers, investors and/or shareholders • Additional factors
For this study, the above individual and contextual factors are considered intervening variables.
69 Predicting Fund Manager Integrity and Profitability
2.2 The Role of the Fund Manager “If these managers are not focused on preservation of capital, they should not have the right to manage other people’s money.” Arpad “Arki” Busson20 “You all knew.” Jon Stewart (2009)
Training, Choosing and Promoting Investment Managers Of the Swiss banks, UBS in particular speculated and sustained substantial losses in the US market during the current crisis. The differences between the mortgage business in Switzerland, that created part of the stable foundation of Swiss wealth in the 19th and 20th centuries, and the hyper mortgage business in the US housing market can hardly be overstated. Yet Swiss bankers, and bankers from the outside that Swiss bankers trusted enough to hire, either did not see what was happening, or saw what was happening and played along because it was good for their own pockets. Both cases point to a need to review how bankers are hired, not just in Switzerland.
In the case that bankers in Switzerland did not see what was happening, perhaps it was because they were naively taken in by the “irrational exuberance” (Shiller, 2005b); embedded in a culture that is often attractive yet suffers from severe overstretch. Or perhaps they saw what was happening and fully participated in the greedy spirit of gaining their personal profit while the bubble lasted. In either case, there are obvious deficiencies in how these bankers responded to their environment. In this post Americanized phase, finding the right people, who embody values that will produce a new generation of Swiss bankers equal to current challenges, and who embody the possibility of living up to and perhaps surpassing the heritage of previous generations will require a more intentional, rather than default, human resources strategy.
Traditional hiring practices in Swiss banks rely on dependability of a culture that is, to a degree passing, and in any case does not meet the challenges of a global environment characterized by accelerating change. As Hans J. Bär, one of the
20 Baker (2009). 70 Predicting Fund Manager Integrity and Profitability
“Deans” of Swiss Banking, expressed, “banking transactions are based on trust. But today, no one is trusting any more. There are too many opaque personalities making mischief in the industry”21.
Trust has at least two aspects that are relevant to personnel policies and recruitment practices in banks: (a) a trustworthy character, that his honest and does not intentionally deceive; and (b) trustworthy abilities, the capacity to do what is claimed in the financial market place.
In the first case (a), there is a need to spot persons with a proclivity to systematically deceive in order to achieve personal gain. In this case, some bankers in Switzerland may have seen what was happening, but failed to stop it because it lined their pockets in the short run. Here, we have a clear case of fallen values. How can this be identified before these persons are placed in situations where they risk massive amounts of other people’s money?
In the second case (b), there is a need to ensure that persons carrying significant decision making responsibilities are capable of interpreting not only the Swiss and European context, but also the contexts where the investments are located.
Swiss history and culture has been fertile ground for growing trustworthy bankers, especially for the European environment. It has not produced the street smarts necessary to see through the bubble and respond appropriately. So what are the qualities that Swiss bankers should have in order to construct a new era of quality banking?
We identified three problem areas: (1) being caught in complexity (Sub Prime Crisis, derivatives); (2) perpetrating direct fraud, and not seeing through fraud (Madoff, Stanford, Meinl, Chiasso); and (3) inability to resist the crowd (role of followers in all fraud cases). While there may be additional problem areas, these three cover a vast area and provide a useful backdrop for examining the use of assessments that measure abilities that run parallel to these problems: (1) cognitive ability; (2) ethical problem solving ability; and (3) socio emotional maturity.
21 Baumann, 2008, p. 13, author’s translation 71 Predicting Fund Manager Integrity and Profitability
The dilemma is well stated by Jörg Althammer: “I can not make the simple employee responsible for decisions made at the leadership level. However, everyone can bring this question into their area of responsibility.”22 (Schneider, 2009) The begs the question: At what point does individual responsibility begin? Especially in large systems that are traveling down paths that appear increasingly dubious, at what point does individual responsibility begin? Is selling a derivative that one does not understand an ethical lapse? Is participating in fraudulent transactions decided upon by a boss ethically wrong for an employee who needs the hard to find job to feed his or her dependents? There are of course no easy answers.
The “Deans” of Swiss banking are right that trust must be reestablished. Swiss banking culture, and its viability in the future depend on the values that made it great. As described by Baumann (2008, pp. 210 211) these include trust, honesty, discretion and security in the context of “complete package of competence, investment success, good trade execution, fitting finance products and comprehensive advice”23. But the way to get there can no longer be solely based on the recruitment practices and traditions of days gone by. New times demand new approaches that truly fit the present and emergent future.
2.3 The Decision Making Context
To illustrate the decision making context, this nexus between individual behavior in the corporate context and surrounding environment, the following diagram is offered:
22 Schneider, 2009. Althammer: “Ich kann nicht den einfachen Mitarbeiter für etwas verantwortlich machen, was auf der Leitungsebene entschieden wurde. Aber in seinen eigenen Verantwortungsbereich kann jeder diese Fragen mit einfließen lassen.” 23 Baumann 2008, p. 211, translation by the author. 72 Predicting Fund Manager Integrity and Profitability
The Decision Making Context
Social, Industry & Regulatory Environment
Skills, CV, Competencies
Corporate Conscience Culture Capabilities
Fig. 3. The Decision Making Context
This diagram portrays three core interactions between the corporate culture inside the company, the relevant social, industry and regulatory environment external to the company, and the conscience of the individual decision maker. Behavior is the result of the decisions made by the individual conscience, as s/he uses competencies (skills, general and specialized knowledge as portrayed in the CV), through underlying personal capabilities (maturity, thinking capacity) in relation to the two contexts inside and outside of the company. Robertson (1996) holds that neither person nor context is entirely determinative. Dubs (2008) is of the opinion that undue pressure from a minority of managers and board directors of weak character can play a key role. Still, is there a way to refine our estimate of this interaction? Two equally qualified persons in the same environment with the same task will not necessarily make the same decisions, so can personality factors be identified that indicate a propensity for certain behaviors?
In addition to expectations within the workplace, labeled here as “corporate culture”, a decision maker will also consider how others will respond in their social circle and their industry, where reputation will make a difference in their future, and regulators and law enforcement officials who can effect reputation as well as extract specific sanctions.
73 Predicting Fund Manager Integrity and Profitability
Below it will be shown how high levels of cognitive ability, ethical judgment capacity and socio emotional maturity are necessary in order to perceive the correct issues and withstand the social pressure to conform and the temptation to use circumstances for illicit personal gain.
2.3.1 Criminogenic Environments
In contrast Tillman (2009) points to larger political processes that cause “criminogenic white collar environments” and sees white collar crime as “ultimately a systemic problem” (emphasis in the original). While acknowledging cases of individual criminal activity that are “routine features of modern life”, he focuses research on instances of large scale abuse in three industries: the dot coms, energy trading and telecommunications. Numerous scholars point out that certain industries that are more crime ridden than others, leading to studies of “criminogenic markets”. Tillman cites research describing “criminogenic regulatory structure” (Szasz, 1986) and takes the analysis a step further in examining the political processes that lead to “criminogenic institutional frameworks” (emphasis in original). These are products of multiple actors motivated by a mixture of self interest and ideology. In the example of energy derivatives, Tillman (2009) sites the work of Wendy Gramm who as “head of the Commodities Futures Trading Commission” “rushed a proposal, which included the energy derivative exemption, to a vote before the commission” shortly before leaving the Commission to join the Board of Directors of Enron for a high salary, and her husband Senator Phil Gramm who was instrumental in the Commodities Futures Modernization Act (mentioned in Chapter 1.1.5) and shortly after leaving the US Senate joined UBS Warburg, which had “earlier that year purchased Enron’s online energy trading unit.” (Tillman, 2009)
Tillman (2009) criticizes the assessment of Partnoy (2003), who in a measured sense justified traders who exploited the system because being “greedy” was part of refining the market, by saying that “white collar malefactors did not simply react to imperfect markets, but were part of the political process that created those markets.” Political processes give rise to the normative, or legal basis on which behavior is measured, and provides sanctions against those who do not comply with these norms. But if these political processes and the norms they produce are themselves
74 Predicting Fund Manager Integrity and Profitability riddled with self interest rather than promoting the public good, the function of law and the legislative process is debased.
These findings lead to the conclusion that the legislative process itself needs the checks and balances provided by constitutional provisions, as well as a more watchful “4th estate” (the press). While supporting this larger need, the focus of this study is on the response of individuals to the temptations of these environments.
In end effect, it is still individuals making decisions that are both the problem and solution to fraud. Sherron Watkins, for example, blew a whistle inside Enron (Associated Press, 2006) when she could have kept silent. Though she admits to being flawed herself, selling shares when she “knew more than the market” (Associated Press, 2006) she nonetheless did try to influence the company in the direction of legal compliance when the size of the accounting scandals became impossible to ignore.
The impact of fraud, as a specific type of ethical misconduct, on the larger economic well being of a country seems obvious. Pirson (2007, pp. 6 9) cites “Wall Street investment frauds” and “corporate misconduct and unethical behavior” as one of three main factors (the others being the shift of broader social values and the inability of the system to provide “solutions to social problems”) responsible for the decline of trust in corporations. Shiller (2003a) sees a clear link between this decline in trust and investment behavior.
While supporting rigorous development of regulatory regimes, our task in this study is to pose and explore the possibility of augmenting this effort through the voluntary use of tools available in human resources management. To this end, we need to look at the nature of the personal process within the individual, as well as options for detecting and addressing the propensity to illegal activity.
2.3.2 The Nature of Fraud in Fund Management
In studying five examples of fraud in hedge funds, Muhtaseb and Yang (2008) found that standard hedge fund industry compensation structures “whereby the fund
75 Predicting Fund Manager Integrity and Profitability manager pay is based on fund performance, coupled with the right circumstances can encourage fraud.” They cite a Capco paper (Capco, 2003) which lists four “operational issues” that breach ethical conduct rules: 1. misrepresentation of fund investments (41 percent); 2. misappropriation of investor funds (e.g. for personal use) (30 percent); 3. unauthorized trading and style breaches (14 percent); and 4. inadequate resources for fund strategies (6 percent).
Muhtaseb and Yang (2008) further cite then Chairman of the US Securities and Exchange Commission (SEC) William H. Donaldson (2004) as he argued for authority to oversee the hedge fund industry, as he described the main types of fraud as follows: 1. gross overstatement of performance by hedge fund advisers; 2. payment of unnecessary and undisclosed commissions; and 3. misappropriation of client assets by using parallel unregistered advisory firms and hedge funds.
Further, the study by Muhtaseb and Yang (2008) provides a useful list of characteristics and of how fraud is generated in hedge funds; paraphrased: 1. Fund managers take advantage of people’s trust, including use of social ties among elites; 2. Auditors were manipulated, including firms from the famous “big five” and small firms with ownership relationship to the fund in question; 3. Both major brokerage houses on Wall Street and also small brokerages owned by the fund manager were used; 4. High risk investing often lead to losses that were then not accurately reported; 5. Fraud often began as an attempt to hide poor performance, and then subsequent losses escalated the problem, causing a “snowball” effect.
The remedies suggested by Muhtaseb and Yang (2008) are, however, focused only on actions that can be taken by investors: 1. “Inspect the background of the hedge fund managers”: essentially due diligence background checks on the fund managers, including whether there is
76 Predicting Fund Manager Integrity and Profitability
a criminal record; consulting former employers and credential granting institutions; hiring private investigators if necessary; 2. “Examine the risk of the hedge fund”: whether the actual amount of risk was accurately portrayed in the fund’s strategy statement; 3. “Assess the financial capability of investors”: essentially, it is suggested that the investor perform a basic self examination as to their risk capacity.
However prudent these suggestions may be, they do not go beyond the standard advice meted out by most investment advisors and do not address the larger malaise they describe at a policy level. In sum, two basic issues can be discerned that are relevant to this study: (1) individuals are caught up in larger systems that, when seen as a whole, are ethically dubious (2) individuals are making individual decisions about ethical dilemmas
Ostas (2007) found “a trade off between moral self restraint and pecuniary self interest”, whereby more law breaking is to be expected as the perceived rewards rise in value and the expectation of sanction becomes lower. He did not examine the issue of individual variance.
2.3.3 Fraud as Manipulation
Fraud is defined as “[a]n intentional perversion of truth for the purpose of inducing another in reliance upon it to part with some valuable thing belonging to him or to surrender a legal right”.24 Fraud is not legally actionable until there is reliance on the
24 (H. Black, 1991) The full definition reads: “An intentional perversion of truth for the purpose of inducing another in reliance upon it to part with some valuable thing belonging to him or to surrender a legal right. A false representation of a matter of fact, whether by words or by conduct, by false or misleading allegations, or by concealment of that which should have been disclosed, which deceives and is intended to deceive another so that he shall act upon it to his legal injury. Anything calculated to deceive, whether by a single act or combination, or by suppression of truth, or suggestion of what is false, whether it be by direct falsehood or innuendo, by speech or silence, word of mouth, or look or gesture. A generic term, embracing all multifarious means which human ingenuity can devise, and which are resorted to by one individual to get advantage over another by false suggestions or by suppression of trugh, and includes all surprise, trick, cunning, dissembling, and any unfair way by which another is cheated. “Band faith” and “fraud” are synonymous, and also synonyms of dishonesty, infidelity, faithlessness, perfidy, unfairness, etc. Elements of a cause of action for “fraud” include false representation of a present or past fact made by defendant, action in reliance thereupon by plaintiff, and damage resulting to plaintiff from such misrepresentation. 77 Predicting Fund Manager Integrity and Profitability misrepresentation to the detriment of the aggrieved party,25 and is distinguished from negligence in that fraud is always an intentional, positive action whereas negligence is a failure to use reasonable care. (see: H. Black, 1991. A more detailed discussion of this distinction is beyond the scope of this essay.)
To provide a framework for the examination of fraud we can look to the communications theory of Jürgen Habermas (1976, 1979, 1982, and Ebersole, 1989). For Habermas, every social action, or speech act, can be categorized into one of six outcomes. (see Figure 5)26 While this model is useful for abstract analysis, it is not possible from an external perspective and using speech alone to be absolutely certain whether a specific speech act, or social action, is being produced from a truly communicative, or strategic motive. For Habermas, the person in question can know, if he or she is honest and mentally capable of this discernment; it is a matter of conscience. The basic question is whether the actor/speaker is trying to create an understanding in the other person, to communicate a meaning that will be understood, or whether the actor/speaker is trying to reach a goal through the listener that is external to the listener. In openly strategic action (4) both parties know that the communication is strategic, an attempt to convince. In manipulation (5), the speaker is aware that s/he is being strategic, but the listener is not aware of the strategic intent. This is clearly where fraud is located. In (6) Systematically Distorted Communication, both the speaker and listener are unaware of the manipulative intent.
As distinguished from negligence, it is always positive, intentional. It comprises all acts, omissions, and concealments involving a breach of a legal or equitable duty and resulting in damage to another. And includes anything calculated to deceive, whether it be a single act or combination of circumstances, whether the suppression of truth or the suggestion of what is false, whether it be by direct falsehood or by innuendo, by speech or by silence, by word of mouth, or by look or gesture. Fraud, as applied to contracts, is the cause of an error bearing on a material part of the contract, created or continued by artifice, with design to obtain some unjust advantage to the one party, or to cause an inconvenience or loss to the other.” 25 This is true for at least US law and Swiss law (see: Betrug – Art. 146, Abs. 1, StGB). 26 The six outcomes are numbered here for easy reference, but are not numbered in the original texts. 78 Predicting Fund Manager Integrity and Profitability
A Schematic of Habermas' Speech Acts
Social Action
Communicative Action Strategic Action
Consensual Action Latently Strategic 1. Action Oriented to 4. Openly Strategic Action Reaching an Action Understanding
2. Action 3. Discourse 5. Manipulation 6. Systematically Distorted or Communication Conscious Or Deception Unconscious Deception
Fig. 4: A Schematic of Habermas’ Speech Acts adapted from Habermas 1976 and 1982, and from Ebersole, 1989.
On the Communicative side of the diagram, the motive is clearly to communicate honest meaning, leaving the listener free to respond as they will. In consensual action, the transmission of meaning is either clear (2. Action) or being cooperatively worked on so that meaning can be clearly understood and transmitted (3. Discourse). In perhaps the most difficult to understand category, “Action oriented to reaching an understanding”, the motive is honest, but the ability to communicate is both disturbed and not clearly understood. The speaker wants to communicate meaning, but is not capable of doing so. From the analysis of the speech act alone, it may not be possible to discern whether a particular statement or series of statements is from category 1, 5, or 6.
As it is not possible to discern with absolute certainty whether manipulative, or fraudulent communication is taking place, the utility of this analysis remains conceptual, and not practical. Conceptually speaking, fraud is rooted in an attempt to achieve an end through another person, not in concert with them. This will be important in the context of the developmental assessments of socio emotional maturity and ethical judgment capacity described below.
79 Predicting Fund Manager Integrity and Profitability
2.3.4 Regulatory Mechanisms “but if the salt has lost its savor ” Jesus, Matthew 5:13
This study intends in no way to diminish the need for law and regulation; to the contrary. This study postulates that multiple approaches are necessary to address the current crisis and promote evolution toward a healthy and sustainable financial industry.
The need for a robust regulatory environment is evidenced by a study of the limits of cooperative behavior by Fehr & Gächter (2002). Their research showed that the threat of punishment was necessary to provide an environment in which cooperation could flourish. More specifically, they looked at the “altruistic punishment”, where the punisher gains no benefit in punishing a person who is not personally known to them, but the punishment benefits the group through the increased cooperation of the punished party in future actions. The ‘altruistic punishers’ were emotionally motivated by a feeling of injustice due to the perception that the non cooperators were contributing less than their fair share, and thereby getting a “free ride” in the group. In environments where cheating behavior was not punished, they found that cooperative behavior declined. Though the biblical quote above is theologically out of context, the poetic point may be correct.
There are two implications of this research for our study of banking. First, at the institutional level, given that dominant individuals in groups will sanction those who are not contributing to the group’s goals, it matters a lot whether the goals of a particular institution, or corporate culture, is criminogenic or legally compliant. In a criminogenic corporate culture one would expect to see some form of social sanction carried out against whistle blowers or change agents bent on bringing positive change. Similarly, in a legally compliant corporate culture or institutional environment one would expect to see positive reinforcement of the positive culture through “altruistic punishment” of deviants.
Second, if we look to the next level of magnitude, of financial institutions acting within the economy as a whole, it matters a lot that there are regulators, the equivalent of
80 Predicting Fund Manager Integrity and Profitability the “altruistic punishers”, who sanction misbehavior. Again, if the system as a whole is of a positive character, the reinforcement will encourage positive behavior. If, on the other hand, a financial system is established where some are unfairly rewarded for the exploitation of others, regulators who actually do their job in trying to produce a just and equitable system who will be sanctioned by the main actors who are ‘contributing’ to and benefiting from the unjust system.
According to Brad Balter, a fund manager who had been competing in the same market as Bernard Madoff: “’No one trusts anyone in my business anymore, and I don’t blame them’ says Mr. Blater” (Zuckerman, 2009). When Mr. Blater explained his status as a registered advisor with the Securities Exchange Commission to an investor, the response was dismissive: “’So what, the SEC didn’t catch Madoff.’” (Zuckerman, 2009) SEC Inspector General David Kotz admitted to the House Financial Services Committee that complicity with Madoff from within the SEC was a possibility (McEachern, 2009) and whistle blower Harry Markopolos testified before a congressional hearing that the SEC “had not been willing or able to uncover the fraud”. (BBC News, 2009) For Congressional Representative Ron Paul the solution lies not in reform of the SEC, but in its dissolution, and a return to “self reliance, self policing.” (Paul, 2009)
2.3.5 The Search for Ethical Leadership Capability
Given the financial costs of unethical behavior, and the necessity for both ethical judgment capacity and the socio emotional maturity to maintain an ethical stance in the face of adverse social pressures, the utility of including ethics and maturity as competencies to be identified in recruitment practices should be clear. In the next section methods to achieve this goal are examined.
81 Predicting Fund Manager Integrity and Profitability
2.4 Defining the Competencies of Successful Bankers and Fund Managers "Even the intelligent investor is likely to need considerable willpower to keep from following the crowd." Benjamin Graham27
Many commentators refer to values as being important for banking in general. For example, Pictet (2009) mentions respect, high regard, independence, competence and integrity. Hügli (1999) lists the traditional values as “discretion, stability, dependability, trust building through solid moral and ethical principles, experience in international banking and high technical competence.” (p.36)
In examining the more general picture of the private banker, Hügli (1999) describes the shift from traditional investment advisor to the “relationship manager”, who connects the customer with various specifically selected specialists, that has characterized a central role in private banking during recent years. The private banking advisor28 combines the functions of a customer advisor with social cognitive intelligence and investment advisor with technical competence, and is thereby “a generalist with specialized knowledge of asset management, finance techniques, financial planning and investment banking.”29 (Hügli, 1999, p. 29) In describing the social cognitive competencies, Hügli (1999, p. 34 and pp. 32 35) identifies three categories of abilities and behaviors in a well rounded list that was produced in cooperation with a study group at the Swiss Bankers Association (the following list is translated and abbreviated): 1. Personality characteristics: ethics and integrity, emotional stability, openness to change, sociability, amicability, stamina, and intelligence. 2. Social cognitive abilities: radiating positive energy (Ausstrahlung), active listening, inter cultural experience, good manners, self control, problem analysis, well founded knowledge of analytical and problem solving methods. 3. Strategic cultural competencies: holistic thinking, entrepreneurial thinking and acting, carrying entrepreneurial responsibility, and customer orientation.
27 “Quote of the Day” on www.investopedia.com, 29 June 2009. 28 “Private Banking-Berater” 29 “ein Generalist mit speziellem Fachwissen in Vermögensverwaltung, Finanzmarkttechniken, Financial Planning und Investment Banking.” 82 Predicting Fund Manager Integrity and Profitability
Important for the purposes of this study are two points. First, the social cognitive competencies were seen in light of the need for building the customer relationship and separated from the technical knowledge of the specialists, such as the fund managers who produce the products to be considered by the relationship manager and client. Second, no attempt is made in this short study to identify indicators for measuring the named competencies. Presumably the named characteristics, abilities and competencies would be identified and evaluated in a recruitment process by the opinions of others (e.g. letters of recommendation and 360° assessments), interviewing, psychological assessments and perhaps self reporting.
Current research from PricewaterhouseCoopers (2009, see also FiNews.ch 2009d) predicts an overall reduction in the number of relationship managers in the asset management industry by as much as 24% globally and up to 45% in the EMEA states (FiNews.ch 2009d), since “[t]oday’s economic crisis presents challenges for which CRMs have neither the experience nor the training.” (PricewaterhouseCoopers, 2009, p. 8) The pendulum is swinging back from the generalist toward a model with more specialization: “Wealth managers can no longer afford to be all things to all people.” (PricewaterhouseCoopers, 2009, p. 4)
What are the traits that compose the character of a successful fund manager, as opposed to relationship managers and bankers in general?
2.4.1 Behavioral Finance
Behavioral finance can be defined broadly as “all of the other social sciences applied to finance”. (Shiller, 2008a, Lecture 7) In spite of this broad definition, the actual problem identification studied by behavioral finance has a fairly narrow focus. The origins of this field of study, according to Shiller, can be traced to an article by Paul Samuelson, in 1963 about a bet where his counterpart did not behave entirely rationally according to mathematical theories which prefigured the development of Prospect Theory later developed by Kahneman and Tversky. (Shiller, 2008, Lecture 7) Empirical economic observations directed the focus, producing theories such as: 1. Expected Utility Theory – standard economics
83 Predicting Fund Manager Integrity and Profitability
2. Prospect Theory – from Kahneman, related to risk avoidance being greater than profit motive 3. Regret Theory – people spend a lot of effort in avoiding regret, more than they do in pursuit of profit
The empirical approach, combined with the relatively young science of behavioral finance, means that the theories at this time are fragmentary in nature, explaining certain behaviors in financial decisions, but not really integrated into a larger, holistic view of the human being. In addition, they tend to describe behaviors that are widespread, though not universal, and contribute more directly to economic theory. Therefore, these theories are not of directly examined in this study.
Our concern is with the decision maker him or herself, and learning to assess his or her ability to produce above market returns. Why do some portfolio managers beat the market on a consistent basis? Is it a particular strategy, such as Benjamin Graham’s value investing as made famous by Warren Buffet, his best pupil? Perhaps. Yet our task here is not to find the best theory or strategy, but rather to develop a method that will aid in finding the best managers. In order to do this, we must briefly describe the market.
In characterizing the market, “Efficient Market Theory” states that the market price of a stock accurately reflects its worth, because all relevant information is known and reflected in the price. Joseph Stiglitz (2001, 2008) has shown that markets always hold information imbalances. Therefore, fund managers who (1) have better access to information, and are (2) better able to process information, are more likely to “beat the market”. Access to information can be evidence of a great research team supporting the fund manager, and/or insider information which is illegal. Our concern focuses on the second factor, the ability to process information.
2.4.2 Psychoanalytic and Developmental Approaches
The literature about how to succeed in fund management is large, with a wide range from popular quick selling literature to serious academic study. Techniques, such as various iterations of portfolio diversification theory (Markowitz, 1952), are intensely
84 Predicting Fund Manager Integrity and Profitability studied. Most theories are mathematically driven studies of markets and prices, and it is only recently that this has broadened to include social sciences, studying the humans who make the decisions in the market in addition to the market itself.
One feature of behavioral finance useful for this study, is that researchers have identified patterns in trading decisions based on psychological traits. Patterned decision making and behavior has been widely seen as a problem, and this lack of independence of thought has been addressed by several authors. Two, who are active as writer/practitioners in the area of coaching traders, Brett Steenbarger and Ari Kiev, recognize the problem of emotionally based patterns that lead to profit lowering decisions. For Kiev (2005), success in life, as in trading, requires the ability to let go of inhibitions about winning and losing. In fact, the ability to overcome various learned inhibitions is one of the major characteristics differentiating successful traders from mediocre ones.30
Kiev Steenbarger Developmental Model “a variety of psychological 1 Dampen intrusive Cultivate growth in the exercises to maintain emotional patterns; underlying capability so motivation, concentration, 2 Shift out of old patterns that capacity and then endurance, and by making radical leaps; performance can be performance under 3 Cultivate new behavior improved and patterns stressful circumstances”31 patterns.32 avoided. Table 1: Methods of approach to change patterns in trading. (by author)
Steenbarger addresses sub optimal trading behavior through psychoanalysis followed by behavioral methods to address change. He focuses first on finding observable symptoms or patterns that impede optimal trading and then proceeds to an analysis of the underlying emotional reasons that give rise to these patterns. Change is then fostered through the use of a basic three step model (see above).
30 Kiev, Ari, (2005) p. 2. 31 Kiev, Ari, (2005) p. 2. 32 Steenbarger, Brett N. (2003) pp. 297-302. 85 Predicting Fund Manager Integrity and Profitability
Developmental methods As will be described below, the development of socio emotional maturity brings greater objectivity regarding the social world and also the individual’s own personality, thereby freeing the individual to less driven and able to make more objective decisions. Peter Lynch seems to view opportunities in a manner unbounded by the common opinions that influence many other fund managers. As one of the most successful fund managers of all time, Lynch headed the Magellan Fund when the average gain per year was “close to 30%” for thirteen years. (Tanous, 1997, p. 99) Is it possible to identify promising fund managers like Lynch at the early stages of their phenomenal success by focusing on identifying this particular personality factor?
In an interview, Lynch claimed that his strong suit is the use of logic: “There’s no such thing as a hereditary talent for picking stocks. What helped me the most is logic, because it taught me to identify the inherent illogic of Wall Street.” (Lynch, in Tanous, 1997, p. 123) And that is precisely the point. With this statement Lynch indicates that he does not let bias and emotion get in the way of clear thinking, and he does not allow himself to be swayed by the crowd.
The central psychological capacity for fund managers is clearly cognitive. Success in the complex world of finance and investment requires the ability to competently analyze large quantities of complex data. Yet to achieve good results, many fund managers rely on increasingly sophisticated computer based tools that measure quantitative data and block the influence of psychologically based misjudgments. In effect, they are using computers to make up for emotional weaknesses and thereby improve performance. What psychological factors influence investment decisions?
1. The ability to maintain a rational approach to the analysis of risk and return. Compared with statistical fact, fear of loss weighs more heavily in decisions than chances of gain among most investors.33 A symmetrical risk profile, with equal weight given to risk of loss and chance of gain, is statistically shown as leading to more profitable portfolio management.
33 c.f. Steenbarger, 2003. 86 Predicting Fund Manager Integrity and Profitability
2. The ability to identify irrational market trends (overstated optimism and pessimism) and decide against these trends is a fundamental capacity for sound investment.
3. The ability to deliver unexpected and unwelcome news to clients and bosses, to make and defend decisions that differ from prevailing opinion.
In the end, finding the right fund managers is a quest to identify sound human judgment: persons who can weigh quantitative and qualitative factors and consistently make good investment decisions.
The section below will show how developmental assessments can assist in finding persons of sound judgment.
2.4.3 Defining Competencies The cornerstone of personnel selection and assessment is the demonstrated existence of measurable psychological differences between people that are of importance in determining job success. Ivan Robertson (1996)
This section presents current theories of competencies, how these arose, their use and implications. It provides a foundation for later discussion of assessments for these competencies, the specific competency models for fund managers, and then arguments for the inclusion of developmental psychology based measures of socio emotional development and development of ethical thought capacity.
As described in Chapter 1, the unexamined recruitment methods of the past can not work optimally because (1) the culture and society are not in place that produce the same results as the Deans of Swiss Banking in the past; and (2) the requirements of work in the finance sector have increased in complexity, in multiple aspects, so that the competencies required are not the same as earlier.
In 1973, when David McClelland first proposed “competence” as a better paradigm for the psychological testing that was then in full swing, he did so because of widespread dissatisfaction at the way testing was at that time ‘damaging’, because it was “falsely leading people to believe that doing well in school means that people are
87 Predicting Fund Manager Integrity and Profitability more competent and therefore more likely to do well in life because of some real ability factor.” (McClelland 1973, p.13)
In his statement of “six principles enumerated for the new testing movement”, McClelland recommended that measures of “ego development” be included, because writers such as Erikson, Loevinger, and White had pointed to “a general kind of competence which develops with age and to a higher level in some people than in others.” (McClelland, 1973, p. 10) He further suggests that the Educational Testing Service, the institution in Princeton, New Jersey where he first made public mention of these observations and which was deeply embedded in the intelligence testing of that era, “should include measures of such general characteristics as ego development or moral development (Kohlberg & Turiel, 1971) based on thought samples, because these general competencies ought to be improved by higher educational systems anyway.” (McClelland, 1973, p. 13)
Thinking about human competencies has largely been the trust of the pedagogical sciences, academia, and departments and ministries of education. More recently, the OECD Directorate for Education, which functions as a policy oriented think tank for its Member States, launched an interdisciplinary study process in conjunction with the Swiss Federal Statistical Office (SFSO) in 1997 “with the aim of providing a sound conceptual framework to inform the identification of key competencies, to strengthen international assessments, and to help to define overarching goals for education systems and lifelong learning.” (www.deseco.admin.ch)
In describing competencies and their use, the DeSeCo project acknowledged that:
Defining and selecting human competencies affects both the individual – in his or her role as worker (employer or employee), citizen, family member, and group member – and society as a whole. It concerns issues such as the acquisition of mental prerequisites, the use of competency with regard to the role and position of the individual in the social hierarchy, the influence of socio economic and cultural factors, and the nature of power relations. (Rychen, 2001, p.5)
88 Predicting Fund Manager Integrity and Profitability
The DeSeCo approach to constructing the set of competencies was similarly broad, drawing on “an anthropologist, an economist, an historian, a philosopher, a psychologist, and a sociologist”. (Rychen, 2001, p.5) The results in their search for a comprehensive model is embodied in the following diagram:
"DeSeCo's overarching conceptual frame of reference"
HUMAN RIGHTS SUSTAINATILIBYX Vision of Society EQUALITY PRODUCTIVITY XX SOCIAL COHESION Successful Interact in life heterogeneous groups Theoretical elements of key competence Reflectivity
Act Use tools autonomously interactively Well functioning society TECHNOLOGY DIVERSITY Demands of life MOBILITY RESPONSIBILITY XX GLOBALIZATION
Gilomen, Heinz (2001). Concluding remarks. In Rychen & Salganik, Eds, Key Competencies. (2001)
Fig. 5. DeSeCo’s overarching conceptual frame of reference. Reproduced from Gilomen, 2003, p.184
This conceptual framework focuses on a holistic vision of competence, addressing many, perhaps most aspects of professional and even personal life. For the purposes of this study this conceptual framework is useful since it points to a more less technically bound understanding of competencies that supports the search for broader character traits. We now turn to a set of assessments which can serve as measures of indicators of this broader set of capabilities.
89 Predicting Fund Manager Integrity and Profitability
2.5 Assessments Based on Developmental Psychology The word ‘intelligent’ in our title will be used throughout the book in its common and dictionary sense as meaning ‘endowed with the capacity for knowledge and understanding.’ It will not be taken to mean ‘smart’ or ‘shrewd,’ or gifted with unusual foresight or insight. Actually the intelligence here presupposed is a trait more of the character than of the brain. Benjamin Graham, 1949
In this section, measures based on developmental psychology of ethical judgment, socio emotional maturity and cognition will be examined, presenting a rounded set of measures that may begin to address Graham’s call for a focus on character as a whole, it being understood that character itself defies measurement.
2.5.1 The Genesis of Developmental Psychology
Developmental psychology assessments are grounded in the school of thought started by the Swiss child psychologist Jean Piaget. Through methodical testing and observation of children, Piaget uncovered stages of mental growth in children. Atkinson (1983) reviews the philosophical basis of Piaget’s theories and emphasizes his roots in the natural science methodology of biology, citing Piaget’s own view that of his work as that of a “’genetic epistemologist’” (Atkinson, 1983). On the other hand, “Anglo American psychologists” regard him as an empirical psychologist (Atkinson, 1983), since Piaget’s results are testable and reproducible. His work has spawned a multitude of research in decades subsequent to his first publications in the 1920s. (Atkinson, 1983) Though some of Piaget’s findings have been proven inaccurate or incomplete, his influence remains strong in the pedagogical sciences and “his framework is remarkably consistent with recent directions and findings in cognitive science and developmental neuroscience.” (Fischer and Kaplan, 2003)
One of the important contributions of Piaget and the school of developmental psychology he initiated, is the holistic view of the growth of human cognition and personality. Beginning in the 1960s and 70s, Piaget’s methodology was expanded in to examine socio emotional, moral and cognitive maturation processes in adults by
90 Predicting Fund Manager Integrity and Profitability
Lawrence Kohlberg, Robert Kegan (Professors at the Harvard University School of Education), Jane Loevinger, and others.
The concept of “ego” is extensively discussed by Loevinger (1976), tracing the origins back to classical Greek thought and contrasting shades of usage by various thinkers in psychoanalysis. For Loevinger (1976) the organization of the personality “or the synthetic function is not just another thing the ego does, it is what the ego is.” (1976, p.5) This conception is quite distinct from the concept of egotism or egocentrism. According to Piaget, “Egocentrism in so far as it means confusion of the ego and the external world, and egocentrism in so far as it means lack of cooperation, constitute one and the same phenomenon.” (1932, p. 87) For the purposes of this study, ego development will be simply considered the healthy development of the personality.
While for Loevinger “[t]he subject of ego development cannot be encompassed by a formal definition” (1976, p. 54), she identifies the following four characteristics (1976, p.11): 1. ego development occurs in stages with “fixation points” that define the adult or child; 2. these stages should be seen as structural, containing an internal logic and logical sequence; 3. “specific tests, experiments, or research techniques” are used to investigate this development; 4. this concept is applicable to all ages of human life.
The most important measures available through this methodology are rigorous assessments of cognitive, moral and socio emotional development that measure, generally speaking, thinking ability, ethical perception and emotional maturity. Though grounded in over 70 years of research, the use of developmental psychology based assessments is relatively new to human resources management, and rigorous research on the application of these measures to specific problems in business and industry is still in the early stages.
91 Predicting Fund Manager Integrity and Profitability
The assessments we examine here belong to the category of psychological tests called “projective tests”, where by “a stimulus, to which subjects have to respond, [is] so designed that it encourages subjects to project onto it their own feelings, desire and emotions.” (Kline, 2000, p. 278) Perhaps the most familiar test in this category is the “Rorschach” test which uses “ambiguous visual stimuli which subjects have to describe.” (Kline, 2000, p. 278) In the case of the assessments examined here, the stimuli are not ambiguous images, but specific verbal questions or prompts which the test subject answers in an interview situation. In addition, a skilled interviewer will respond with further probes to encourage the test subject to become more specific and informative in their answer.
The interviews are then transcribed verbatim and the resulting text evaluated qualitatively in order to identify specific statements that correlate to the stages of personality development. The intellectual roots of this kind of qualitative textual analysis can also be found in the general field of Discourse Analysis, which Silverman (2001) traces back to “Oxford philosopher J.L. Austin” who introduced the possibility of seeing words as having both descriptive or literal and active or contextual aspects in the William James lecture series at Harvard in 1955 (Austin 1975). Similarly, Juergen Habermas (1979) describes “speech acts” as having this dual character of meaning that is literal and contextual.
2.5.2 Measuring Ethical Judgment: Is Ethical Behavior Profitable? From the perspective of principal agent models, employers may be willing to pay premiums for workers with attributes such as perseverance and honesty that reduce the need to monitor. Levy & Murnane (2001)
[I]t does not take a genius or even a superior talent to be successful as a value analyst. What it needs is, first, reasonably good intelligence; second, sound principles of operation; third, and most important, firmness of character. But whatever path you follow as an analyst, hold on to your moral and intellectual integrity. Wall Street in the past decade fell far short of its once praise worthy ethical standards, to the great detriment of the public it serves and of the financial community itself. When I was elementary school in this city, more than 70 years ago, we had to write various maxims in our copy books. The first on the list was “Honesty is the best policy.” It is still the best policy Benjamin Graham (1974)
92 Predicting Fund Manager Integrity and Profitability
As mentioned above, this study proposes research to study whether fund manager scores in ethical judgment, measured by the “Moral Judgment Interview” (MJI), will show a correlation with market returns. More basically, the question is whether conscience and profit are opposing forces or whether in ideal market conditions these factors would correlate. Popular opinion often holds that success in fund management is similar to success at gambling, requiring relatively risky, perhaps immature behavior that pushes ethical limits. Yet it is conceivable that “cooperative, ethical behavior” could pay off in the end,34 and this study proposes that this key issue is worthy of closer examination. If proven true, then the economic self interest of financial institutions would become engaged to encourage an increased focus on ethics at all levels as ethical judgment capability would be seen as aligned with the profit interests of investors and employers alike. So the basic question proposed by this study is: whether fund managers with higher scores in ethical judgment capacity are more profitable.
Background In 1981 Lawrence Kohlberg published the first of three volumes (Kohlberg, 1981, 1984, 1989) that are seminal works in the academic study of moral development. The acclaim with which these were received and their lasting value is a crowning achievement when seen from the vantage point of Kohlberg’s beginnings – the climate of the 1950s when behaviorism reigned in psychology. Whereas behaviorism held society to be the host of social norms to which the individual must adjust or be “socialized”, Kohlberg located moral decision making as a cognitive process in the individual conscience, arguing that society can sometimes be in the wrong (e.g. Adolf Eichmann’s complicity with evil in administering Nazi concentration camps). (Rest, 1994, p. 2 3)
Kohlberg’s work builds on the stage or “stair case” model originally developed by Jean Piaget, with the stages being derived from experimental observation, with each stage building on what was learned in the previous one. As a means to understand moral development, Piaget (1932) methodically observed and asked questions to children regarding their games and thereby was able to define four successive stages of development with regard to rules in children’s games. Hereunder is
34 Schneider (2009), quoting Jörg Althammer: “Auf die lange Frist zahlt sich kooperatives ethisches Handeln aus und ist auch wichtig für einen nachhaltigen Unternehmenserfolg.” 93 Predicting Fund Manager Integrity and Profitability paraphrased the progression of the “practice or application of rules”, which differs somewhat from the “consciousness of rules” which Piaget describes as more “elusive”.
Stage Description 1 Motor or Individual “[T]he child handles the marbles at the dictation of his desires and motor habits.” This play leads to schemas, but not collective rules because it is individual play. 2 Egocentric At age 2 to 5, the child receives coded rules from the outside and follows them when playing alone or with others. The child tries to harmonize the playing, but “winning” is not the goal. 3 Cooperation Beginning between age 7 and 8, each child tries to win, and therefore becomes concerned “with the question of mutual control and of unification of the rules.” 4 Codification of Rules “[B]etween the years of 11 and 12”, children become very exacting about the rules, and “the actual code of rules to be observed is known to the whole society” (such as a shool) Table 2. Stages in the application of rules by children.35
“[I]t is from the moment that it replaces the rule of constraint that the rule of cooperation becomes an effective moral law.” (Piaget, 1932, p. 62) This would seem to occur between stages 2 and 3, when external rules are superceded by a process of children unifying their received rules, thereby making them their own.
[C]ooperatoin is really a factor in the creation of personality, if by personality we mean, not the unconscious self of childish egocentrism, nor the anarchical self of egoism in general, but the self that takes up its stand on the norms of reciprocity and objective discussion, and knows how to submit to these in order to make itself respected. Personality is thus the
35 Derived from Piaget, 1932, pages 16-17. 94 Predicting Fund Manager Integrity and Profitability
opposite of the ego and this explains why the mutual respect felt by two personalities for each other is genuine respect and not to be confused with the mutual consent of two individual ‘selves’ capable of joining forces for evil as well as for good.” (Piaget, 1932, p. 90)
“[I]t is from the moment that it replaces the rule of constraint that the rule of cooperation becomes an effective moral law.” (Piaget, 1932, p. 62)
This describes precisely the interface between the external regulators, both official policing from outside a company and the “corporate culture” operative at a particular place inside a company, and the character of the individual. (See Figure 4, The Decision Making Context, above) This internalization also means a growth of conscience.
“[T]here can be no doubt that cooperation and social constraint deserve to be far more sharply contrasted than they usually are, the latter being perhaps nothing more that the pressure of one generation upon the other, whereas the former constitutes the deepest and most important social relation that can go to the development of the norms of reason.” (Piaget, 1932, p. 100)
More recent publications challenge Kohlberg’s framework. In particular, numerous papers from Prof. Klaus Beck at the University of Mainz examine various aspects of Kohlberg’s work. In a longitudinal study of young insurance clerks, Beck (2003) found contradictions to Kohlberg’s theory of “structured wholeness” which holds that people base their moral thinking on the highest principle they have obtained.
Beck’s data shows that individuals respond at different levels in different situations, and are not fixed at one level of “structured wholeness” as Kohlberg had supposed, we do on occasion regress to lower modes of thinking, and we are not indifferent to context. Rather, individuals will respond differently, at levels higher or lower than their main level, indicating both regressive and progressive (growth) tendencies.
95 Predicting Fund Manager Integrity and Profitability
This correlates with SOI research and practice which shows that individuals respond within a range, usually 3 or 4 sub stages, when describing their relationship to others, showing both regressive and growth tendencies.
In concluding, however, Beck concurs with Kohlberg’s theory in that “its inherent Piagetian structural genetic idea of a hierarchical order of reflection modes can and should be upheld as well as the idea of ‘stages.’” (Beck, 2003, p. 23) To accommodate the moral differentiation in the data, however, Beck concurs with other authors that progress in moral development should be conceived of as the “acquisition of a new structure of moral reflection under retention of the ‘old’ structure(s).”
Measuring Moral Reasoning Ability The Ethics Project (undated) at the University of Leeds has identified twelve separate assessments available for measuring moral reasoning ability. Of these, two stand out as most suitable for research such as is proposed here: the Moral Judgment Interview and the Defining Issues Test.
The Moral Judgment Interview (MJI) is the original method developed by Anne Colby, Lawrence Kohlberg and a total of fourteen others collaborating in the two volumes of “The Measurement of Moral Judgment”. (Colby, 1987) In the interviews, subjects are asked to respond to a series of moral dilemmas such as the Heins Dilemma (below). The responses are recorded, transcribed and evaluated according to the 900+ page “Scoring Manual” (Colby, 1987, vol. II) in a manner similar to that used by Kegan for socio emotional, or “ego” development. (see §2.5.3 below) The advantage of the MJI is the depth and quality of information that can be gathered through a direct interview process as a projective test. It is conceivable to use the MJI in a relatively informal setting, and the data gathered would be well suited to support coaching interventions. A major drawback is the time consuming nature of interview, transcription and evaluation. Using the MJI to measure a scientifically valid data set of 100 or more would be a substantial undertaking. Since the MJI is little used, it would be necessary to find or more likely train collaborators who could validate scores.
96 Predicting Fund Manager Integrity and Profitability
In addition, in correspondence with the author, Anne Colby confirmed that to her knowledge there are currently no programs in existence that provide training and/or certification in the MJI method. She suggested that it would be possible, thought time intensive, given the background and relevant training of this author, to create a scientifically valid interview method tailored to the task of assessing fund managers. While the issue of gaining sufficient temporal and financial resources to develop this method would present a challenge to this author, the greater challenge, described below, is gaining access to and cooperation of fund managers necessary to carry out this research.
The Defining Issues Test (DIT), also based on the work of Lawrence Kohlberg, was developed by James Rest at the University of Minnesota. (Rest and Narváez, 1994) The DIT is a paper based questionnaire takes approximately 45 minutes to answer and is available in two versions: DIT 1 and DIT 2. Both tests require subjects to respond to a series of moral dilemmas such as the Heins Dilemma (below), though the DIT 2 uses a modified evaluation that takes into account advances in understanding of how moral decisions are actually made. A disadvantage of the DIT is that the end score provides little of substance that can be used to inform the respondent of how they are function, which would be necessary for coaching processes. The advantages of the DIT are that it is relatively easy to administer the questionnaire and the scoring is provided by the University of Minnesota, making scientific studies with large data sets more reasonably possible. Another advantage is the large amount of data already gathered using the DIT, proving its validity.
What the DIT Measures The DIT is a cognitive measure that focuses on moral/ethical judgment, or decision making. As a measure of moral development, however, it must be mentioned that the DIT by itself is incomplete: “A moral judgment score does not contain information about moral sensitivity, moral motivation, or moral character.” (Rest and Narváez, 1994, p.9) In examining the universe of moral development that determines behavior, Rest developed a “four component model” (see table below) and acknowledges that there may even be more.
97 Predicting Fund Manager Integrity and Profitability
Four Psychological Components Determining Moral Behavior 1 Moral Interpreting the situation sensitivity 2 Moral Judging which action is morally right / wrong judgment 3 Moral Prioritizing moral values relative to other values motivation 4 Moral Having courage, persisting, overcoming distractions, character implementing skills Table 3. Four Psychological Component Determining Moral Behavior36
Carrying this analysis of factors influencing behvior even further, Bredemeir and Shields (1994) begin with the four processes from Rest and add a cross section of three sources of influence: the nature of the context, competencies held by the individual in question, and personal characteristics or “ego processing” that is “situationally evoked.” (sic.) This results in the 12 component model below:
Twelve Component Model of Moral Action Influences Processes Interpretation Judgment Choice Implementation A. Contextual Goal structure, Moral Domain cues Power situational atmosphere structure ambiguity B. Personal Role taking, Moral Self structure Autonomy & Competencies perspective reasoning social problem taking solving skills C. Ego Intraceptive Cognitive ego Affective Attention processing processes processes impulse focusing regulating processes processes Table 4. Twelve Component Model of Moral Action37
36 Rest and Narváez (1994), p. 23. 37 Bredemeier and Shields (1994), p. 178. 98 Predicting Fund Manager Integrity and Profitability
While this model comes closer to accounting for the multitude of factors that influence an ethical decision, its level of complexity is more appropriate for a case study than for a comparative study such as what is proposed here.
Moral Reasoning Ability and the Will to Moral Action Relevant to this study is whether there is a link between the ethical and moral perception, resting in cognitive ability, and behavior. The relevance lies in the possible connection between ethical issues as potential risk factors when fund managers assess and decide on investment opportunities.
In his much cited review of the relationship between moral reasoning and action, Blasi (1980) demonstrated a positive correlation between level of moral reasoning and ethical behavior. Arnold (1989) and Buchanan (1992) both confirmed this correlation, thereby disproving the hypothesis that moral thinking is unrelated to action. Further, Rest reviewed “several hundred studies” that address the question of whether moral judgment predicts actual behavior and concludes that “moral judgment is statistically linked with hundreds of measures of behavior; however, the linkage is not strong (typical are correlations of 0.3 – 0 4).” (Rest & Narváez, 1994, p. 21)
However, Blasi (1998) showed that cognition is only one factor in explaining moral action and that a more holistic framework is necessary. In this later article (1998), it is self identity that Blasi uses to as an explanatory framework. In the “self model,” three aspects of personality predominate:
1. Moral identity, or the moral self – the degree to which morality plays a central role in one’s identity and daily living. Are moral goals an integral part of one’s personal goals? Do moral concerns form part of one’s identity? ;
2. Responsibility for moral action – the degree of moral engagement. A sense of responsibility links moral reasoning ability to an understanding that one is obligated to act in a specific manner. The source of this linkage, not yet fully researched, may be in affective linkages to others that give rise to a “felt sense of personal responsibility” (Walker 2004);
99 Predicting Fund Manager Integrity and Profitability
3. Self consistency or integrity – only congruence between judgment and action can satisfy the self’s need for integrity.
Regarding integrity, processes of selective perception of one’s own moral behavior, or moral self deception, were identified by Bandura (1999 and 2002), including: cognitive reconstruction of immoral acts; minimization of personal causality (blaming circumstances and others); discounting harmful consequences; and blaming the victims. Blasi (1995) reasoned that more mature levels of moral development should result in lowered propensity for self deception, though research has yet to probe this link (Walker 2004).
Cognitive influences in moral functioning, according to Blasi (1980), are twofold: “the creation of meaning and the determination of truth” (Walker 2004). The self model posits that moral knowledge carries a certain force toward moral action. The alternative would be to see motivation as only arising from emotive, irrational, egoistic and social grounds.
Applied Research using the DIT Relevant to the discussion of the connection between moral reasoning ability and moral action is the following table by Rest and Narváez (1994, p. 14) that charts a review of research using the DIT. Of note is the score by prison inmates, being the lowest score among adults, and lower than that of senior high school students.
100 Predicting Fund Manager Integrity and Profitability
Different Groups on the DIT P Score P – Score Group 65.2 Moral philosophy and political science graduate students 59.8 Liberal protestant seminarians 52.2 Law students 50.2 Medical students 49.2 Practicing physicians 47.6 Dental students 46.3 Staff nurses 42.8 Graduate students in business 42.3 College students in general 41.6 Navy enlisted men 40.0 Adults in general 31.8 Senior high school students 23.5 Prison inmates 21.9 Junior high school students 18.9 Institutionalized delinquents Table 5. Different Groups on the DIT P Score38
Methodology The original version of the Defining Issues Test (DIT 1), developed in the 1970s, has been used in “hundreds of studies on over 1/2 million subjects”.39 A new version, the DIT 2, was developed in the 1990s, which is slightly shorter (five problems instead of six) and has cleared up minor problems present in the DIT 1. The following “Heinz Dilemma” is an example of the kind of problem posed by the DIT (Rest & Narváez, 1994, p. 13).
38 Rest and Narváez, 1994, p. 14 39 www.centerforthestudyofethicaldevelopment.net 101 Predicting Fund Manager Integrity and Profitability
“The Heinz Dilemma” Heinz’s wife is dying of cancer and needs a drug that an enterprising druggist has invented. The druggist demands such a high price that Heinz cannot raise the money. Should Heinz steal the drug to save his dying wife? In deciding how Heinz should respond, evaluate which of the items below raise the most important considerations, and then order them from 1 to 12, with 1 being the most important. Whether a community’s laws are going to be upheld. Isn’t it only natural for a loving husband to care so much for his wife that he’d steal? Is Heinz willing to risk getting shot as a burglar or going to jail for the chance that stealing the drug might help? Whether Heinz is a professional wrestler, or has considerable influence with professional wrestlers. Whether Heinz is stealing for himself or doing this solely to help someone else. Whether the druggist’s rights to his invention have to be respected. Whether the essence of living is more encompassing than the termination of dying, socially and individually. What values are going to be allowed to hide behind a worthless law that only protects the rich anyhow. Whether the druggist is going to be allowed to hide behind a worthless law that only protects the rich anyhow. Whether the law in this case is getting in the way of the most basic claim of any member of society. Whether the druggist deserves to be robbed for being so greedy and cruel. Would stealing in such a case bring about more total good for the whole society or not? Table 6. The Heinz Dilemma40
In an actual DIT 2 assessment, five such problems are posed, requiring approximately 45 minutes to complete in total: 1. A father contemplates stealing food for his starving family from the warehouse of a rich man hoarding food; 2. A newspaper reporter must decide whether to report a damaging story about a political candidate; 3. A school board chair must decide whether to hold a contentious and dangerous open meeting;
40 Derived from Rest and Narváez, 1994. 102 Predicting Fund Manager Integrity and Profitability
4. A doctor must decide whether to give an overdose of a pain killer to a suffering but frail patient; 5. College students demonstrate against U.S. foreign policy.
Scoring process The scoring of this assessment leads to a ranking on the six level scale below, though Stages 5 and 6 are conflated “into a principled score” or “P score” (Rest 1994, p. 7) as they are difficult to distinguish even at a conceptual level. Six Stages in the Concept of Cooperation From Lawrence Kohlberg’s theory of moral development. (Table based on Kohlberg (1981) and Rest & Narvaez (1994)) Stage 6 The morality of non-arbitrary social cooperation: Morality is defined by how rational and impartial people would ideally organize cooperation. Stage 5 The morality of consensus-building procedures: You are obliged by the arrangements that are agreed to by due process procedures. Stage 4 The morality of law and duty to the social order: Everyone in society is obliged to obey, and is protected by, the law. Stage 3 The morality of interpersonal concordance: Be considerate, nice, and kind: you’ll make friends. Stage 2 The morality of instrumental egoism and simple exchange: Let’s make a deal. Stage 1 The morality of obedience: Do what you’re told. Table 7. Six Stages in the Concept of Cooperation41 Research Questions A fundamental supposition of this research is that the level of ethical judgment capability will influence behavior, and therefore financial results, of fund managers. From the above description of the DIT it is easy to see that higher levels of ethical thinking and decision making requires a commensurately higher cognitive ability. This may run parallel with the thinking ability required to choose and thinking about “defining issues” in investment possibilities, thereby making decisions that result in higher levels of profitability. Further, research available shows that lower levels of ethical thinking ability are associated with criminality. It would follow that a fund manager with a low DIT or MJI score would present a greater risk for insider trading and potentially catastrophic loss through high risk criminal behavior.
41 Derived from Kohlberg, 1981, and Rest & Narvaez,1994 103 Predicting Fund Manager Integrity and Profitability
The DIT score may be evidence of (a) greater ability to assess the risk and return potential of investment opportunities; (b) lower risk of illegal activity; and (c) higher level of cognitive ability relevant to complex decision making, independent of moral/ethical content. In the latter case, further research would be required to segment the cognitive ability per se from the moral/ethical content. This would require the use of the DIT along with another cognitive measure in order to find information as to the relative importance of cognitive ability and moral/ethical capacity in the achievement of profitability.
Given the characteristics of the various levels mentioned above, and in considering the task profile of fund managers, the following predictions are posited:
Prediction (1): Higher scores in ethical judgment capacity, measured in the Defining Issues Test (DIT) and the Moral Judgment Interview (MJI), will show a positive correlation with medium term (5 to 10 year) market returns.
Prediction (2): Fund managers at L 2 (DIT/MJI level 2) will be more likely to engage in insider trading and similar criminal activity.
Prediction (3): Fund managers at L 3 will be more likely to comply with behavior patterns existent in their immediate corporate culture surrounding.
Prediction (4): Fund managers at L 4 and higher will be more likely to adhere to the legal and regulatory requirements of their position.
Question (1a): Do higher scores in ethical judgment, measured by the “Defining Issues Test” (DIT) or “Moral Judgment Interview” (MJI), show a positive correlation with market returns?
Question (1b): Do lower scores in ethical judgment measured by the “Defining Issues Test” (DIT) or “Moral Judgment Interview” (MJI), show a correlation with a propensity for unethical behavior?
Whereas research for Question (1a) can be carried out with currently active fund managers, Question (1b) would require either a longitudinal study or data gathering from former fund managers who have been convicted of financial crime.
104 Predicting Fund Manager Integrity and Profitability
2.5.3 Measuring Socio-emotional Maturity: Does Emotional Maturity Level Influence the Profitability of Finance Managers? Not being in a financial center means that it is easy to avoid the deadly emotions of greed and fear. After all, the world’s most successful investor Warren Buffett is based in Omaha and not New York. Magne Orgland42
In the above quote, Orgland points to the importance of emotion in financial decision making, and also observes that external factors play a role in this regard. Our task in this study, however, is to look at the internal factors, the personality traits of the fund manager, to see whether factors can be isolated which can be used as predictive indicators. In addition, the measure of socio emotional maturity is one in which at the higher levels adults gain an increasingly objective perspective over their own emotions and the external influences on them, and in this way a greater ability to control their behaviors.
In the past two decades, no other industry sector has seen more profit quickly made and lost than hedge fund management. As the amount of funds under management in hedge funds has risen, the profit margins have narrowed. As margins narrow faster than investor expectations, managers are under increasing pressure to perform. Performance pressure has led to dramatic cases of deception and loss.
“I do not dismiss the behavioral aspects that Joe [Lakonishok http://www.cba.uiuc.edu/system/faculty/profiles/lakonish.html] and others have argued which is to say that there are all kinds of reasons from cognitive psychology that suggest that a real dog is likely to get underpriced, and maybe people know it's underpriced and they still don't want to hold it. It’s hard socially. You think about going to your clients and saying I want you to buy this fund which holds the worst stocks in the world. We all like to hold stocks of great companies, what some people call admired stocks of admired companies. It’s a cognitive error that people make over and over again in experiments. They identify something – it’s called a representation error – and there are various experimental settings for this, but it basically says “great company, great stock.” And if you think about that, and survey investment people, CFOs and CEOs, they make that assumption: it’s a great company; it’s a great stock. That’s the growth stock story.” William F. Sharpe in “Investment Gurus” by Peter J. Tanous 1997 (emphasis added)
42 Head of Asset Management Research & Portfolio Management at Wegelin & Co., quoted in Bain (2008) 105 Predicting Fund Manager Integrity and Profitability
The “representation error” that Sharpe describes (“It is hard socially.”) is actually not cognitive, but rooted in the social emotional meaning making system of the portfolio manager; i.e., what will it mean to give an unwanted or potentially discordant piece of information to the client. Further, what originates as one kind of error, a socio emotional difficulty in bringing straight information to a client, turns into a false piece of cognitive information (“great stock”). This second error, which Sharpe correctly identifies as cognitive, is one that others must see through and correct.
From the above it appears that many fund managers make two errors that are fundamentally psychological: (1) emotional limitations on rationality, thereby restricting the ability to freely choose best investments, an internal limitation due to feeling tied to past decisions and favored projects (hence the increasing use of quantitative models to block this error; and (2) emotional limits on providing information and decision making due to allowing influence from the perceived or anticipated opinions of others.
Developmental psychology presents a framework for understanding this phenomenon by showing: (a) how these two errors are rooted in fund manager developmental levels; (b) how this tendency can be identified in fund managers; and (c) how this weakness can be addressed institutionally through improved recruitment methods and individually through developmental coaching.
A General Introduction to Stages of Socio-Emotional Maturity 43 When still in the womb, the baby has sensations, but is not aware of being separate from the universe as a whole. At birth, infants emerge from the womb, where their consciousness could be described as a general and undifferentiated state of awareness. The awakening of the child to the reality that it is not alone begins to emerge at the point where some need, for warmth or nourishment for example, is not met. The gentle first cry of a newborn and the response that satisfies the need signals the first, minimal awareness that s/he is not alone.
43 This section draws freely on the work of Robert Kegan as originator of the subject – object stages, as well as from the writing and teaching of Otto Laske, and experience in administering the assessment with coaching clients. 106 Predicting Fund Manager Integrity and Profitability
As the mother responds, warmth, nourishment and comfort arrive. This first crisis and its resolution initiates a process of growing awareness that the primary caregiver, usually the mother, is external and cannot be completely controlled by the infant. In fact, realizing how much resource and control the mother has, the infant begins to lose all of its innate sense of self. By about age two healthy children go through a “clingy” phase where the mother is, in fact, everything to the child. (Kegan’s Stage 1) Left alone, the child has an existential fear that it cannot describe; the center of existence is absent!
Of course, the child does not disappear when the mother leaves the room. It gradually realizes that it continues to exist and can play with toys and with other children when the mother is absent. Slowly, as the child makes decisions and uses its own will to fill its needs, a sense of self and individuality begins to emerge in the healthy child. Over the years, a child’s sense of dependency lessens and independence grows till eventually one becomes that awkward being called the “teenager.” This self absorbed being tends to be very aware of urges, desires and wishes, and not particularly concerned about accommodating their behavior to the wishes and desires of anyone else. (Kegan’s Stage 2) There is still time left to play in the kingdom of fun. Until, of course, it cannot get what it wants without doing what the holder of resources demands.
Fig. 6.
Stages of Socio Emotional Development by Robert Kegan44
44 Illustration adapted from training materials at the Interdevelopmental Institute (www.interdevelopmentals.org) 107 Predicting Fund Manager Integrity and Profitability
Yes, s/he has to: go to school to avoid punishment; clean her room or her parents will get upset; be home by 10pm or face the wrath of Darthvaeter; etc., etc.. But it is not all negative. By growing his/her hair, or cutting and coloring it a certain way, and wearing clothes that give the right look, they can be accepted as one of the cool kids. By studying and getting good grades, significant adults, not just the parents, will compliment and give approving looks which can even increase with cutting the hair and good grooming. And by working, you can get money to buy cool things. Society in general makes it clear what one has to do in order to reap the rewards it can give in a bewildering variety of ways. As the young person begins to understand and internalize the expectations of the set of others they choose to be influenced by, they eventually become “socialized”, with their individual needs and wishes taking a back seat to their dominant desire – to “fit in” to a group and be part of adult society. And 90% of us manage to “arrive” at this stage of the journey. (Kegan’s Stage 3)
Maturing into a socialized adult is a process of taking the needs and expectations of others seriously enough to let others affect our thinking and decision making. In this process, we “internalize” these expectations in gestalt form – we hold images of individuals and groups within us and hold internal dialogues to arrive at decisions that will hold these “internalized others” in harmony. As a socialized adult, one’s emotional well being is dependent on achieving a balance among these internalized forces that represent real and idealized others. In short, where individuals at Stage 2 are “self centered”, adults at Stage 3 can be called “other centered”. A fully developed Stage 3 person defines him/herself in terms of group membership and identification with others.
During the growth process, the influences of self and other are ever present. For example, influences of Stage 2 self interest and the Stage 3 expectations of others commingle, with self interest gradually diminishing in strength during the maturation process. Indeed, these influences of Self and Other never entirely disappear. Near the tipping point, where the balance begins to change from one Stage to the next, a “developmental conflict” takes place where a person feels the power of each side, and is not fully committed to either. Approaching and passing each “Rubicon,” or midpoint between stages, involves internal turmoil as the center of gravity shifts.
108 Predicting Fund Manager Integrity and Profitability
Fig. 7.
Stages of Socio Emotional Development by Robert Kegan showing midpoint between main stages45
Society pushes and pulls us from the outside toward Stage 3, and the majority of adults remain in this socio emotional balance as “socialized adults” for the remainder of their lives. Approximately one third of adults become somewhat dissatisfied with their lives being focused on meeting the expectations of others and generate an internal drive to move beyond this state and toward Stage 4, termed self actualization, self authoring or individuation. The experience is one of feeling conflict of interest between being “in community” and being “yourself.” Moving beyond community can be resisted out of guilt, not wanting to offend the (internalized) “community”, nor to become “disloyal”. However, moving toward self authoring is also experienced as a recovery of the self at a higher, more self aware and principled level than the teen age self. One is becoming more honest and authentic. This drive toward authenticity results in perspective taking on the general expectations of society that one internalized in order to reach Stage 3. In moving from Stage 3 to Stage 4 one lets go of the internalized voices of others. These recede into the background, becoming less important. There is at first an increase and then a lessening of the internal dialogue with the “internalized others” as the central ‘Rubicon’ is reached and then crossed.
45 Illustration by author 109 Predicting Fund Manager Integrity and Profitability
Stage 4 individuals make better managers because they are able to carry out both popular and unpopular decisions without upsetting their internal balance. The internalized voices of others are no longer there, or do not have the strength to disturb their internal balance. Where a Stage 3 manager is likely to worry about keeping everyone “on board” and reaching a consensus decision in which everyone can participate due to their own internal need to be liked and accepted, a Stage 4 manager has more focus on the quality of the decision first, and then try to bring people into line with the new reality for the good of the organization as a whole. Stage 4 decision makers can be idiosyncratic, shaped by a particular way of thinking, predisposed by their individual history, knowledge and biases.
As a person begins to move toward Stage 5, the voices of others are experienced in a true sense of dialogue that seeks to find universal principles. Where the voices of “others” are experienced as informing and teaching between Stage 2 and 3, and as burdensome expectation between Stages 3 and 4, the person who has a solid grounding in Stage 4, where they have built their own identity and have little or no residual sense of Stage 3, experiences others in a manner which aids in their growth beyond the narrow confines of the self which they constructed. In moving toward Stage 5, others are experienced as helpful in one’s mental and emotional growth, helpful in the quest to reach beyond one’s own limitations. The safe space one had developed at Stage 4, where one could perfectly control access to the self, gives way to risk taking with selected others for the sake of personal growth and more meaningful impact on the social environment.
Persons who are predominantly in Stage 5 are more capable of leading others than those at earlier stages because they have an easier time stepping past their own shadow, and because they understand the behavioral patters of those at the earlier stages. Being past their own need to create and fill out their identity, their focus is less on their individual story than on making a contribution to humanity in general. They are in a position to truly lead others because they are less adamant about the correctness of their own ideas, tend to reach for universal principles, are less influenced by personality politics, and are able to cooperate with others who are significantly different from themselves.
110 Predicting Fund Manager Integrity and Profitability
Table 8 provides an overview of some main characteristics of persons at various stages on the path of socio emotional maturation, with particular emphasis on how persons at these stages are present in organizations.
Management S- 2 S-3 S-4 S-5 Orientation Proto- Pre- Bureaucratic Post- Bureaucratic Bureaucratic Bureaucratic View of Others Instruments of Needed to Collaborator, Contributors to own need contribute to delegate, own integrity and gratification own self image peer balance Level of Self Low Moderate High Very High Insight Values Law of Jungle Community Self Humanity determined Needs Overriding all Subordinate to Flowing from Viewed in others’ needs community, striving for connection with work group integrity own obligations and limitations Need to Control Very High Moderate Low Very low Communication Unilateral Exchange 1:1 Dialogue True Communication Organizational Careerist Good Citizen Manager System Leader Orientation Table 8. The Frame of Reference Stratification of Bureaucracy46
In writing about competencies in the DeSeCo project, Kegan (2001) summarizes stages 3, 4 and 5 as follows: The third order, the socialized mind, is an adequate order of complexity to meet the demands of a traditionalist world, in which a fairly homogenous set of definitions of how one should live is consistently promulgated by the cohesive arrangements, models, and external regulations of the community or tribe. Modern society is characterized by ever expanding pluralism, multiplicity, and competition for loyalty to a given way of living. It requires the development of an internal authority which can “write upon” existing social and psychological productions rather than be “written by” them. Postmodern society, which would require the fifth order of consciousness, asks us to gain distance not only from the socializing press, but from our own internal authorities, our favored ideologies, or ruling theories. Postmodernism asks us to deconstruct the primacy of existing social and psychological identities in favor of loyalty to the transformative process ”
What makes this progression interesting for the examination of fund managers is the requirement of their job responsibilities in the financial market. A Stage 3 fund manager would be most likely to run with convention, and be part of the maddening
46 Laske, 2005. 111 Predicting Fund Manager Integrity and Profitability crowd that moves markets according to the emotional trends that are the subject of study for behavioral economists. At stage 4, the modernist position, fund managers could be expected to use Contrarian theories according to their own best insights. Yet attachment to these insights and attendant theories is also a limitation that adds a color filter to the glasses used to view markets.
It is in the fifth order of consciousness that persons become capable of objectively viewing both social norms and thier own internal prejudices. For fund managers, this would enable objectively viewing and continually taking a fresh, unbiased look at market data. Perhaps one could call this arriving at “mindfulness” or a “Zen Mind, Beginner’s Mind” (Shunryu Suzuki roshi, 1970) for fund managers facing the financial markets.
Emergence is the concept that best describes the feeling of synthesis which marks the closing phase of a dialectic. (Crambray, 2006) When opposing ideas or philosophies, or a plethora of these has run their course and no longer seem to match or explain experience, then a new overarching explanation or framework begins to “emerge” in consciousness, holding greater explanatory power, firing ideas and bringing order to the thoughts.
This sense of new clarity occurs as one grows from a conflicted position spanning two main stages, toward a stabilizing in the next higher stage. Typically, a person whose emotional structure is spread from 3/4 to 4/3 and 4(3) will feel a growing sense of clarity as they achieve moments where their emotional center is clearly a full stage 4 and as they experience certainty about resolving their conflicted internal feelings between stage 3 and stage 4 and their loyalty becomes clearly and more unambiguously stage 4, self authored.
Applied Research using the SOI Much of the existing management related SOI research focuses on leadership and people management issues. One of the most sobering sets of results, from Susan Cook Greuter (1999, p. 35), shows just how few of us ever become truly self aware and capable of authentic leadership:
112 Predicting Fund Manager Integrity and Profitability
Organizational % of Developmental Short Perspective Attainment Characterization S 2: Individualist 10 Instrumental S 3: Group contributor 55 Other dependent S 4: Manager 25 Self authoring S 5 Leader <10 Self aware
Table 9. The Distribution of Stage Attainment in Adults (Cook Greuter, 1999)
Methodology The Intent of the “Subject–Object Interview”, or “SOI”, is to bring forth statements from the interviewee that expose the underlying structure of their relationship between self and other along the stages described above, and are detailed in the sub stages described below. The interviewer asks the interviewee to select and respond to one question at a time, covering perhaps two to four or five of these questions in the course of a one hour interview.
Success: can you think of a time in your recent work where you felt somewhat jubilant, feeling you had achieved something that was difficult for you, or that you had overcome something? Changed: if you think of how you have changed over the last year or two, or even months, regarding how you conduct your life, what comes to mind? Control: can you think of a moment where you became highly aware that you were losing control, or felt the opportunity of seizing control, what occurs to you? Limits: if you think of where you are aware of limits, either in your life and/or work, something you wish you could do but feel excluded from, what comes up for you? Outside of: as you look around in the workplace or the family, where do you see yourself as not fitting in, being an outsider, and how does that make you feel? Frustration: if you think of a time where you were in a situation not of your choosing, where you felt totally frustrated, but unable to do something about it, what emerges? Important to me: if I were to ask you ‘what do you care about most deeply,’ ‘what matters most,’ are there one or two things that come to mind? Sharing: if you think about your need of sharing your thoughts and feelings with others, either at work or at home, how, would you say, that plays out? Strong stand/conviction: if you were to think of times where you had to take a stand, and be true to your convictions, what comes to mind? Taking risks: when thinking of recent situations where you felt you were taking, or had to take, risks, either to accomplish or fend off something, what comes to mind? Table 10. Prompts for the Subject Object Interview 47
47 Lahey et al., (1988) Guide to the Subject-Object Interview 113 Predicting Fund Manager Integrity and Profitability
The internal “stance” or “center of gravity” in the self – other dyad is arrived at by identifying specific statements, usually from 10 to 25 in a one hour interview transcript, that clearly indicate the internal stance of the speaker as belonging to one of the main stages or any of the sub stages between the main stages, 16 Stages in all from Stage 2 through Stage 5. (See: Lahey et al., 1988, Laske, 2006)
Fig. 8.
Kegan’s Stages of Socio Emotional Development with Sub Stages48
Discerning whether a statement fits within the boundaries of one sub stage or another requires careful practice and the use of technical guides (See: Lahey et al., Guide to S O Interviewing; and Laske, Hidden Dimensions, 2006.) The chart below provides brief definitions of the sub stages that are described and delineated in hundreds of pages in the technical guides.
48 scoring method from Lahey et. al., Illustration by Jon Ebersole
114 Predicting Fund Manager Integrity and Profitability
Level Characteristic 2 Ruled by needs, desires, wishes; ‘two world hypothesis’ (me and everyone else) 2(3) Beginning to be influenced by physical and imagined others 2/3 Conflicted over risking exposure to others’ feelings and thoughts; resolution to level 2
3/2 Conflicted, but with more detachment from own needs and desires, resolution to level 3 3(2) Able to be influenced by imagined others and their expectations 3 Made up of others’ expectations; ‘our world’ hypothesis 3(4) In need of ‘handholding’ by physical other to act on own behalf 3/4 Conflicted over, and unsure about own values, direction, worth, capability
4/3 Conflicted, but with more detachment from internalized viewpoints, resolving to level 4 4(3) Nearing self authoring, but remaining at risk for regression to others’ expectations 4 Fully self authoring decision maker respecting others; ‘my world’ hypothesis 4(5) Begins to question scope and infallibility of own value system; aware of own history 4/5 Conflicted over relinquishing control and taking risk of critical exposure of own view
5/4 Conflicted, but increasingly succeeding in ‘deconstructing’ self; committed to flow 5(4) Fully committed to deconstructing own values, benefiting from divergent others 5 No longer attached to any particular aspect of the self, focused on unceasing flow Table 11. Overview of Emotional Development Levels 2 to 549
For example, a person we will call “Nelson” received a socio emotional development (or SOI) score of S 4 (7 8 8). This indicates: 7 statements at level 4 (3); 8 statements at level 4; and 8 statements at level 4(5). Being centered on level 4, with almost perfectly balanced scores on either side, “Nelson” is clearly in the self authoring phase. Such a balance could indicate that he is developmentally “stuck” or on an
49 Otto Laske, from training materials at the Interdevelopmental Institute, www.interdevelopmentals.org 115 Predicting Fund Manager Integrity and Profitability interal “plateau” in this stage. A coaching agenda for “Nelson” would include helping him to let go of the residual feelings of obligation to the expectations of others, and encouraging him to engage more fully with others who are capable of challenging his opinions and beliefs in a principled dialogue.
To arrive at a single number from the set of scores over levels, the number for each main level can be considered as a whole number, with each subsequent sub stage adding 0.2 to the score. For example, S 4 = 4.0, S 4(5) = 4.2, S 4/5 = 4.4, etc. Taking the scores mentioned in the example above, S 4 (7 8 8), we would arrive at the following formula:
4(3) or 3.8 X 7 = 26.6 4 or 4.0 X 8 = 32 4(5) or 4.2 X 8 = 33.6 Totals: 23 92.2
92.2 / 23 = 4.03
Nelson’s final score, S 4.03, shows his center of gravity to be just slightly above level 4. A score this balanced and centered on a main stage could indicate self satisfaction and reluctance to grow further. More data would be needed in order to know what the score represents for the personality being assessed.
As a second example, a person with an SOI score of: S 3/4 (6 7 4) (where 6 = 3(4); 7 = 3/4; 4 = 4/3) is considered to be in the S 3 category because their tendency is to revert to the normative expectations of their internalized group expectations. This person is in a “developmental conflict” in that they are straddling the divide between levels 3 and 4, feeling the pull of self authoring, but only occasionally follow their own voice rather than the perceived expectations of others. Using the above formula, the person with this score would have a center of gravity of S 3.38. In general, the closer the score is to the halfway point, in this case 3.5, the more palpable the tension of transition will be.
116 Predicting Fund Manager Integrity and Profitability
SOI Scoring SOI scores indicate the number of “bits” or statements that can be identified as being rooted in various sub stages. For example, an interviewee, whom we shall call "Nelson", received the following SOI score: S 4 (7 8 8), indicating: 7 statements at level 4(3); 8 statements at level 4; and 8 statements at level 4(5). This kind of scoring provides useful detail for both the assessed person and his or her coach, because one can identify the lagging and leading sentiments, as well as the relative strength of the center of gravity in meaning making. The lower scores often arise in discussion of personal and family matters, and higher scores during discussions of work environments. Regardless of the particular constellation, identifying the pattern enables the formulation of a more precise coaching strategy.
For the purposes of research, however, a single number to represent an SOI score would allow more useful aggregation of findings, especially with larger data sets. A single number score would also be useful in the process of team composition for Requisite Organization projects. A single number is also additional information for end users, enabling a better understanding of the current formula that enumerates the sub stages. Since a single number representation could not be found in existing literature, a formula is created here.
To arrive at a single number from the set of scores over levels, or stages and sub stages, the number for each main stage can be considered as a whole number, with each subsequent sub stage adding 0.2 to the score. The pattern would be as follows:
S 2 = 2.0 S 3 = 3.0 S 4 = 4.0 2(3) = 2.2 3(4) = 3.2 4(5) = 4.2 2/3 = 2.4 3/4 = 3.4 4/5 = 4.4 3/2 = 2.6 4/3 = 3.6 5/4 = 4.6 3(2) = 2.8 4(3) = 3.8 5(4) = 4.8 S 5 = 5.0
Table 12. New SOI Scoring Method50
50 by author 117 Predicting Fund Manager Integrity and Profitability
Taking Nelson’s score of S 4 (7 8 8), we would arrive at the following formula: 4(3) or 3.8 X 7 = 26.6 4 or 4.0 X 8 = 32 4(5) or 4.2 X 8 = 33.6 Total of 23 scores adding up to 92.2 92.2 / 23 = 4.009
There is a problem with this math, however, since each score count for one point of division, yet a 4.2 adds more to the sub total than a 3.8. But they are both equal distance from 4.0, and should therefore ‘pull’ the score in an equivalent manner. Following the above formula would skew the result slightly downward in every case. So a slightly more complex formula is required whereby we add and subtract 0.2. for each bit scored above and below the main score. Thus, S 4 (7 8 8):
S 4 represented as 4.0 x 8 = 32 32 – (7 x 0.2) + (8 x 0.2) = 32.2 32.2 / 8 = 4.025
Nelson's final score, S 4.025, shows his center of gravity to be just slightly above level 4. A score this balanced and centered on a main stage indicates stability of perspective, but could indicate self satisfaction and reluctance to grow further. To arrive at that conclusion would require more detailed information, and in any case it is a coaching question, not relevant to this discussion.
As a second example, “Nancy” had an SOI score of: S 3/4 (6 7 4) (where 6 = 3(4); 7 = 3/4; 4 = 4/3).
Her S 3/4 score represented as 3.4 x 7 = 23.8 23.8 – (6 x 0.2) + (4 x 0.2) = 23.4 23.4 / 7 = 3.343
This person would be considered to be in a "developmental conflict", and could be in a growth phase, because her score is close to the midway point of 3.5, with actual bit scores both above and below the divide between levels 3 and 4. A person with this
118 Predicting Fund Manager Integrity and Profitability score would have the tendency to revert, more often than not, to the normative expectations of their internalized group expectations.
We may want to consider that the accuracy of the mathematics may exceed the reliability of the interview and its scoring. It is therefore recommended to use only one decimal point to represent the score, thus 4.0 for Nelson, and 3.3 for Nancy.
Research Questions As in §2.5.2 above, a fundamental supposition of this research is that socio emotional maturity level will influence the behavior, and therefore financial results, of fund managers. This is supported by the following factors:
S 2 Fund managers are likely to be individualistic, very driven to succeed, and willing to take risks regardless of what others think or how they are effected.
S 3 Fund managers, being “other dependent” and community oriented, will tend to go with the crowd they identify with, whether that may be the general majority of opinion, or a particular set of analysts, or the need to meet the expectations of their boss or major client. They will have more difficulty delivering opinions outside of the expected, and will be more likely to tell a client (investor) what the fund manager thinks the client wants to hear.
S 4 Fund managers will be cognizant of the opinions of others (felt as expectation to their S 3 tendencies, and as challenging ideas to their S 5 tendencies), and may use this knowledge as part of their individual decision making process. A “self authoring” fund manager will have an easier time delivering opinions and recommendations that do not fit with a client’s preferences and prejudices. They will be more willing to follow their best lights in responding to market conditions and opportunities.
S 5 Fund managers will be more fully cognizant of market forces and be the least likely to let their own favorite ideas influence what they learn from others and from market data. They will be best equipped to operate at a purely strategic level.
119 Predicting Fund Manager Integrity and Profitability
Given the characteristics of the various levels mentioned above, and in considering the task profile of fund managers, the following predictions are posed:
Prediction (5): Higher scores in emotional maturity, measured in the Subject Object Interview (SOI), will show a positive correlation with medium term (5 to 10 year) market returns.
Prediction (6): Fund managers at S 2, S 4 and S 5 levels will be more profitable than S 3 fund managers. They will have less difficulty in distinguishing the market from what others expect them to adhere to, and what they communicate to others, but for different reasons. Fund managers at S 3 (other dependent) will be more tied to the image they are trying to project to others and what they think their bosses and clients expect and will accept.
Prediction (7): S 2 Fund Managers will be less cognizant of risk factors, and therefore will have a more unstable, and therefore ultimately lower record of financial returns. They will loose their ability if they mature toward and enter S 3, and this may be experienced as a loss of courage.
Prediction (8): S 5 Fund Managers will have the highest returns since their personality structure leaves them fully free to process information without interference from the expectations of others (S 3) or their own belief structure (S 4). (Note: The term “belief structures” here indicates inflexible and individualistic thought patterns, not ethics, metaphysics or values.)
From the above we arrive at the following basic research question:
Question (2a): Will fund manager scores in emotional maturity, measured in the “Subject Object Interview” (SOI), show a correlation with market returns? Question (2b): Will lower scores in emotional maturity, measured in the “Subject Object Interview” (SOI), show a correlation with high risk investment strategies or even illegal behavior.
120 Predicting Fund Manager Integrity and Profitability
The use of two developmental psychology based measures, the Subject Object Interview (SOI) and Defining Issues Test (DIT) as independent variables, mitigated by an evaluation of personal (age, industry experience, training, etc.) and contextual factors (manager pressure, company strategy and regulations) as intervening variables, will lead to a correlation with financial results as measured in average annual returns of managed funds, as the dependent variable. This experiment should yield new information on the relationship between SOI and DIT measures as well as data on how these measures relate to behavioral results, in this case, in the finance industry.
121 Predicting Fund Manager Integrity and Profitability
2.5.4 Measuring Cognitive Capability
Jaques’ Requisite Organization and the Complexity of Banking In the same general category of developmental assessments, mention should be made of the body of work developed by Elliott Jaques, the Canadian thinker and consultant who is sometimes referred to as the “elephant in the parlor”51 (that no one speaks about) in mainstream management circles.
His starting point was in the discovery of natural stratification patterns in organizational hierarchies aligned with “perceived fair rate of pay”, which is linked to the time span of projects carried by persons in various levels of responsibility. This led to research on questions regarding what competencies are held by persons who gravitate to these levels and the uncovering of logical thinking levels capable of processing increasing amounts of complexity. The table below lists these categories in brief, with B 1 being the simplest form of adult logic.
C 4 Parallel Processing Two or more conceptual arguments pursued simultaneously C 3 Serial Processing Conceptual arguments organized in alternative sequences that lead to alternative strategies C 2 Accumulated Conceptual Arguments using concepts related to each other Information C 1 Conceptually Formulated Principles focused rather than concrete facts Assertions B 4 Parallel Processing Two or more lines of argument pursued simultaneously B 3 Serial Processing: Arguments organized as a logical series of events B 2 Cumulative Processing Arguments supported by accumulated data B 1 Assertive Processing Unsupported verbal assertions
Table 13. Categories of Cognitive Capability52
51 Harvey, 1992 52 Jaques and Clement (1994) pages 51-65. 122 Predicting Fund Manager Integrity and Profitability
While the use of Jaques’ methodology may also be useful, incorporation of this methodology would require not only additional time and expense in gaining certification in this methodology, but would also require an additional one hour interview of fund managers. This would raise the required time for each test subject from two hours (one for the Subject Object Interview and one for the Defining Issues Test) to three hours. This additional hour could push the data gathering possibilities beyond the limit of acceptability for fund managers who will already feel overextended to contribute two hours of their valuable time. For the purposes of this study, we will limit the data to the SOI and DIT.
The Use of Assessments in Banking Would it make sense to use developmental assessments in the banking industry? Quantitative models, so detailed and complex that they were beyond the comprehension of all but a small number persons in the value chain, have been implemented with the intent to remove the problematic “human element”. Yet these quantitative models became a problem in and of themselves. So how do we bring the human element back into the equation in an appropriate manner?
In a recent on line poll by wiwo.de (‘Das Portal der WirtschaftsWoche,’ a prominent German financial news website), well over half of respondents considered assessment centers were “only for show offs” and less than five percent consider assessment center tests to be useful. The sample was self selected visitors to the web site, and therefore not necessarily representative. Still, from the poll one can make the general conclusion that assessments in general are not popular and not trusted. Though half of companies use assessments, in the face of this kind of opposition making the argument for yet another assessment seems like a Sisyphean task. So what would justify including further assessments in the standard HR regime? In a word: effectiveness. Can it be proven that developmental assessments provide useful measures that add value to personnel decisions.
123 Predicting Fund Manager Integrity and Profitability
Jedes zweite Unternehmen nutzt Assessment Center. Wie sinnvoll finden Sie diese Tests? 4,30% Sehr gut, um sich ein Bild über die Kandidaten zu machen. 18,13% Eigentlich gut, aber oft zu realitätsfremd umgesetzt. 64,49% Nur etwas für Selbstdarsteller, Bewerber ohne Schauspieltalent sind chancenlos. 13,08% Kann ich nicht beurteilen ich habe noch keines erlebt. Abgegebene Stimmen: 535
(Author’s Translation) Every second company uses Assessment Centers. Do you think these tests are sensible? 4,30% A very good way to develop a picture of candidates. 18,13% Actually good, but often unrealistically used. 64,49% Only for the show offs, candidates without acting talent have no chance. 13,08% I can not judge – I have no relevant experience. N = 535 Table 14. Opinions About Assessment Centers53
It is clear that the poor reputation enjoyed by assessments currently means that any argument for expanding their use faces significant hurdles. As one means to create a more positive context for considering the utility of developmental assessments, the following section examines the use of organizational frameworks that give a greater context and meaning to assessments as useful measures for organizational development.
53 Source: http://www.wiwo.de/karriere/sinnvoller-kandidatenfilter-oder-stunde-der-selbstdarsteller-384599/ on 27 January 2009. 124 Predicting Fund Manager Integrity and Profitability
2.6 Organizational Frameworks using Developmental Assessments
As noted by Baks (2003), fund manager performance is difficult to separate out from the role of the fund company itself. His extensively researched estimate is that the fund company itself carries from 50 to 90 percent of the responsibility for fund performance through the quality of the infrastructure available to the fund manager, especially including the research department and trading desks, some of which are more cost effective than others. (Hulbert, 2003) This finding in itself would support the suggestion that assessing not only the fund manager him or herself, but the entire team should be considered.
Though substantially different than the central thrust of this study, it is worth brief examination of how an investment team could be evaluated using developmental assessments. Jaques’ approach, mentioned above, focuses on role responsibilities within organizations and whether the complexity of these roles is met by the cognitive capability of the persons filling them. Another framework, proposed by Laske (2008) uses both emotional development and cognitive development measures to behavioral outcomes. Though not yet empirically validated, the framework is theoretically coherent.
To measure fund management performance on a team basis, a case study approach could be constructed whereby the fund manager and his or her team of researchers and trade execution specialists would be measured using Jaques’ requisite organization approach for assessing complexity of roles and cognitive development measure, combining this with the SOI and DIT as described in this study for an expanded version of a requisite organization study. These measures would then be compared with financial results as a means to test the validity of both the framework and rates of correlation among the individual developmental indicators of cognitive development, socio emotional maturity and ethical judgment capability.
125 Predicting Fund Manager Integrity and Profitability
3 Specific Empirical Section
Fieldwork is permeated with the conflict between what is theoretically desirable on the one hand and what is practically possible on the other. It is desirable to ensure representativeness in the sample, uniformity of interview procedures, adequate data collection across the range of topics to be explored, and so on. But the members of organizations block access to information, constrain the time allowed for interviews, lose your questionnaires, go on holiday, and join other organizations in the middle of your unfinished study. In the conflict between the desirable and the possible, the possible always wins. Buchanan, 1988, p.53 54
The only good method in the study of moral facts is surely to observe as closely as possible the greatest possible number of individuals. Jean Piaget, 1932, p.107
3.1 Empirical Objective
The object of this dissertation is to test whether certain personnel assessments based on developmental psychology can be used as predictors of fund manager profitability. As the data sample is relatively small, the goal of this exercise is to build hypotheses that could be tested more fully if the necessary funding and access are made available. The two research questions addressed here are:
(1) Will fund manager scores in ethical judgment, measured by the “Defining Issues Test” (DIT), show a correlation with market returns?
This line of inquiry asks whether a well developed sense of morality and ethical decision making, a cognitive measure, is correlated with higher profitability among investment managers. Essentially, this is the question of whether conscience and profit are opposing forces or mutually supportive. The primary question is (a) whether a correlation exists between the level of development in ethical thinking and profitability. Is a lower score in ethical judgment indicative of a capacity for ringing in higher profits in the financial markets? Or is there no reliable relation between the DIT score and profitability. The secondary question is (b) whether an identifiable
126 Predicting Fund Manager Integrity and Profitability correlation exists between a low DIT score and a propensity for high risk investment strategies or even illegal behavior.
(2) Will fund manager scores in emotional maturity, measured in the “Subject Object Interview” (SOI), show a correlation with market returns?
Traders and fund managers frequently face problems due to a tendency to favor certain industries, companies, commodities, or other investments. They can become too personally attached (projecting subjective perceptions onto external reality) to one or another decision they have made and not able to pull out when they should, their decision making capacity being held hostage to their emotional structure. Further, the degree of objectivity in their original choice of where to look for market opportunities may be influenced not just by their cognitive capacity, but also by the degree of “objectivity” in the socio emotional sense. Persons with higher SOI scores show a lower propensity for projection influenced perceptions and decisions and therefore have the capacity to be more objective in their decisions. The primary question is (a) whether a correlation exists between the level of socio emotional development and profitability. The secondary question is (b) whether an identifiable correlation exists between a low SOI score and a propensity for high risk investment strategies or even illegal behavior. It is quite possible that these factors are not related, that this character trait operates independently of level of socio emotional maturity.
3.2 Empirical Targeted Participants
Fund managers were chosen as subjects for this research because of the key role they play in the finance industry, a very visible cutting edge of profitability or lack there of, and because their results can be objectively quantified at the end of the year due to the performance of the funds they manage. This number at the end of the year, and at the end of multiple years, allows a more objective basis for comparison and therefore an evaluation of the efficacy of the developmental assessments used.
Fund managers are leaders in that their function is the cutting edge of profitability in the finance industry, and also because their work is designed increasingly as a team
127 Predicting Fund Manager Integrity and Profitability function. As such, leadership research is also relevant to this study. Kaiser, et. al, (2008) encourage “a greater emphasis on results to enhance the real world relevance of leadership research.” For this reason, using the actual profitability of fund managers as a measure of their ability has relevance to this research.
Using the above basis for industry practice, the results of the SOI and DIT assessments would be brought into relation with this third set of data and the interrelationships of data will be described. For example, age is a factor relevant to socio emotional development. How does this factor relate to returns, and to SOI and DIT scores? The results of systematic comparison would enable an analysis of whether developmental assessments could be usefully added to current quantitative models, and if so, how to weight developmental scores in relation to other factors.
3.3 Empirical Methodology
To become qualified to carry out developmental assessments, the author enrolled in successive distance learning programs offered by the Interdevelopmental Institute (IDM) in Boston, USA54. Qualifying for the certificates55 involved 65 hours of “in class” time (conference calls), background reading for preparation, four complete psychological profiles of coaching clients and a defense of these.
The mechanics of performing the assessments: DIT (questionnaire) and the SOI (interview process) are as follows:
The Defining Issues Test is a written questionnaire that takes on average 45 to 50 minutes to complete. The test is issued to the researcher by the Center for the Study of Ethical Development at the University of Minnesota.56 The task required of the researcher is to send the questionnaire to the test subjects with a brief introduction, collect the completed questionnaires and send them as a complete set back to the Center for the Study of Ethical Development, where they are scored. The results are sent back to the researcher.
54 IDM is under the direction of Dr. Otto Laske, Psy.D., Ph.D.. Further information can be found at http://www.interdevelopmentals.org. 55 Certificate of Developmental Coaching, Certificate of Developmental Assessment, and Certificate of Master Certified Developmental Coach and Consultant. See Appendix 5.3. 56 See: www.centerforthestudyofethicaldevelopment.net 128 Predicting Fund Manager Integrity and Profitability
The Subject Object Interview is one hour in length and is tape recorded with the interviewees written permission. The tape is then transcribed verbatim with the person and place names changed to maintain confidentiality. The scoring process entails focused attention and qualitative judgment that one researcher called “the hardest thing I ever do.”57 More than a mechanical or intellectual task, scoring the interviews requires one to climb briefly inside the psyche of the interviewee to understand the internal stance they were taking when making the selected statement vis à vis the self other dyad. The average amount of time required to score a one hour transcript is 7 to 10 working hours.
Data Gathering Two options for data were pursued in the first instance.
Option 1: A group of 10 to 15 fund managers with close to identical conditions, ideally within a single bank or investment, house would receive the DIT and SOI. As this number is small, the research project would lead to a hypothesis building result. Further research with larger numbers of test subjects would be required to achieve definitive results.
Option 2: The DIT would be sent to 200 fund managers. Subsequently, ten managers in each of the top and lowest scoring groups on the DIT would be given the SOI on a double blind basis. This could lead to more definitive and academically relevant results.
For a full empirical study, the methodology would include the following measures: Dependent Variable Intervening Variables Independent Variables
Individual variance in age, Profitability measured education, etc.; and • SOI score through the Sharp Ratio or Contextual variance in Information Ratio • DIT or MJI score working conditions, general corporate expectations and pressure from specific managers Table 15. Conceptual Relationship of Variables58
57 Prof. Jenifer Garvey-Burger, George Mason University, telephone conversation on December 10, 2005. 58 By the author. 129 Predicting Fund Manager Integrity and Profitability
Persons selected to participate in research of this kind are assigned a fictitious name in order to protect their identity in any subsequent publication, and to mitigate bias in the research and interpretation of results.
Sequence of Research In the case of Option 1, a group of 10 to 15 fund managers with close to identical conditions, ideally a single department within a bank or investment house, were sought as a test case. While this admittedly small number would not yield sufficient data to achieve scientific certainty, the number is sufficient as a hypothesis building study to evaluate the viability of a larger study could yield significant results. The research would begin with the DIT, since this requires the test subject to simply fill out and return a questionnaire. Response on the DIT is a good indication of actual willingness to participate in the research. Secondly, the SOI would then be scheduled on an individual basis and carried out in person or via telephone. To prevent bias, the researcher would not be aware of the financial data, nor the DIT score until after scoring of the SOI.
Finally, the profitability measures would be requested from the participating institution(s). SOI and DIT results would be compared to quantitative external performance data from fund managers in the financial services industry to test the reliability of these assessments as measures of executive effectiveness. Given the large sums involved in fund management, even a small, positive correlation between developmental levels and financial profitability could have significant implications.
Time Requirements The time requirements below are indicative for Option 1, a study involving 15 participants. The time estimate is for the number of working days, the overall calendar being dependent on the funding available for carrying out the tasks.
130 Predicting Fund Manager Integrity and Profitability
Steps Estimated Tasks Number of Working Days 1. Agreement with Undetermined Written Correspondence cooperating Presentation of Research Strategy and Requirements institution Incorporation of suggestions by cooperating institution Written agreement on conditions for research 2. Selection of 3 Days (for Discussions with manager(s) assigned to support the Participants researcher, research regarding tasks and procedures less for Development of Questionnaire for the “individual manager(s)) factors” of participating fund managers (age, education, etc., see Chapter 9.1 below). Receipt and review of participant profiles Assignment of number and fictitious name 3. Data Gathering: 3 Days Distribution of DIT Questionnaire with letter introducing DIT the research Receipt of completed questionnaire Submission of DIT to the Univ. of Minn. for scoring 4. Data Gathering: 25 Days Scheduling of interviews SOI Interview via telephone with tape recording Organization of verbatim transcription service Scoring of SOI transcripts (1 day each) 5. Data Gathering 15 Days Interviews with the managers of the participating on intervening institution with HR, direct management, policy and variables strategic responsibilities relevant to the participating fund managers (“contextual factors” as described in Chapter 9.1 below). Review and analysis of contextual/environmental data. Receipt of Questionnaire on “individual factors” from the participating institution. 6. Analysis and 40 Days59 Assembling of data for individual participants and Interpretation of analysis of individual data from the DIT, SOI and Data individual factors. Receipt of Profitability Data from participating institution and assembling of complete individual profiles. Analysis of overall data results, accounting for all variables. 7. Writing of 30 Days Drafting initial report for review by participating results institution and academic supervisors. Revisions. Submission of final report and dissertation. Total 116 Days Approximately 12 months of work at 50% of working days available. Table 16. Proposed Research Time Schedule60
59 Steps 6 and 7 are of considerable length in part due to an anticipated need for additional research and comparison of results with other relevant studies. 60 By author. 131 Predicting Fund Manager Integrity and Profitability
3.4 Limits of the Empirical Study
The companies approached were of two kinds: (1) banks large enough to maintain large numbers of fund managers(Option 1); and (2) fund of hedge funds companies who primarily focused on tracking investment companies that hired managers (Option 2).
Banks and funds of a sufficient size to maintain their own roster of at least ten fund managers, and also several and fund of funds, 30 in total, were approached61 with an explicit letter detailing the prospective study. (Annex 5.4) By interviewing subjects all within one institution, the interviewees would have a nearly identical work conditions and policies. This would have improved the data validity by reducing the number of variables that could affect fund manager performance in the markets. The request was for two hours of time each from a minimum of 10 fund managers selected by the participating institution: one hour for two questionnaires (the DIT and a short demographic questionnaire), and a second hour for a telephone or in person Subject Object Interview. Though not producing conclusive findings, this would have produced a solid hypothesis building study.
Correspondence resulted typically in curiosity, sometimes a telephone conversation and occasionally meetings, mostly in Zurich, but also in Nyon, London and New York. On several occasions there was visible interest and negotiation stretching out for up to nine months in one case. In each of these cases reluctance eventually appeared and then polite negative replies. The usual explanation was opaque, saying that the approach seemed interesting but the internal financial or staff availability constraints would not permit participation at that time.
In the case of Option 2, several fund of funds and fund of hedge funds companies were approached that advertised in their public documents that they maintain active data bases of hundreds or even thousands of funds and hedge funds that they track and analyze to refine their investment strategies. In these cases, access to large numbers of respondents would have enabled a scientifically valid sample size. Negotiations, involving several exchanges of letters and meetings with these
61 Details transmitted via Email to Prof. Dr. Martin Hilb. 132 Predicting Fund Manager Integrity and Profitability companies, revolved around the concept of sending up to 200 DIT questionnaires to fund managers, followed up by 20 Subject Object Interviews (in person or by telephone depending on budget) for the top and bottom DIT scoring respondents. This would have enabled a measurement of correlation between the two developmental scores and also the correlation between these scores and profitability measures. The persons interviewed would have been in a client relationship to the cooperating institution, and if conclusive findings were to emerge, it could have assisted the investment decision making process. In these cases it was made clear that this study offered a refinement of their strategy by measuring two personality characteristics, qualitative analysis that can be expressed in a numerical quantity, and therefore ready for inclusion in existing quantitative models. This factor in itself was attractive, but not sufficient.
A second approach, using one page letters mentioning the measurement of “personality characteristics” that could augment the search for “young fund managers with high potential” were similarly unsuccessful.
Since this level of transparency was not being rewarded with access, one adviser suggested requesting single interviews with the best fund manager in each company and “not mentioning the words ‘psychology’, ‘ethics’ or ‘maturity’”. A simple letter (Annex 5.5) stating “The goal is to identify certain characteristics that successful fund managers have in common”. This worked, and five interviews were performed in four banks during the spring and summer of 2008.
Buchanan et. al. (1988) suggest two reasons that “[r]esearch access has become more difficult to obtain”: first, that the amount of research is increasing, and therefore the time demands on various interesting sectors are increasing; secondly, the economic climate has a direct bearing on managers’ decision making in that they become more reluctant to allocate staff time to activities that do not contribute directly to the bottom line. In the experience described above, the these reasons could have some explanatory value, especially in relation to requests for 20 hours of (highly paid) staff time. Yet it seems quite telling that four out of four request letters to banks that did not mention ‘psychology’, ‘ethics’ or ‘maturity’ resulted in interviews. This
133 Predicting Fund Manager Integrity and Profitability may be an exception to the position of Buchanan et. al. (1988) that “[n]egotiating access to organizations for the purpose of research is a game of chance, not skill.”
Insufficient resources as an argument for denial of the request for cooperation in this research seems incomplete, especially since the requests to some of the banks and funds came well before the outbreak of the current crisis. Research is a standard part of most budgets in financial institutions, and the potential for profit should have made the very minimal requirements of this study interesting enough in itself. The more likely explanation lies in the challenge to conventional thinking that this research presents coupled with the sense of reputation risk, and therefore career risk, should the fund managers in question not score well on assessments of ethical thinking capacity and socio emotional maturity. Further, should the findings be positive, this could result in calls for substantive structural changes in the finance industry, with concomitant destabilization of existing structures.
Beyond the insufficient resources or interest in the approach, and beyond the possible apprehensions about possible repercussions from the study, a third factor may have had determining impact. This researcher has no background in finance, and this lack of experience in the sector may have been more evident than was considered during the research phase of this study.
134 Predicting Fund Manager Integrity and Profitability
3.5 Empirical Results
It was evident in the SOI interviews that there were several effects to a “blind” interview, where the interviewee knew only that a researcher was there to discuss his approach to fund management. Their instinct was to focus more on the technical side of their work, and not the social. In fact most were surprised at the direction of the questions, since they were being interviewed as successful fund managers and they spoke to how they became successful. In short, in spite of assurances of anonymity and confidentiality, for these fund managers the encounter with this researcher may have been perceived as closer to a marketing or sales meeting where they were interested in making a good impression, than a therapist’s couch where they felt comfortable revealing their thoughts. There was some bravado and grandstanding, and less relaxed self revealing explanation. Unlike persons interviewed previously by this researcher, in a coaching and/or assessment context, these interviewees were not a priori interested in exploring their interpersonal relationships in the course of the interview. This lead most to focus on the “it” of their work and not the relationships, making these interviews more difficult to score.
In interviewing fund managers, their work context and the caution of their answers stands out clearly. We know from Habermas (1976, 1979, 1982) that power distorts communication, and in this case the power was simply that of the pen. Even though these are largely an unknown quantity, the potential exposure of developmental assessment results being on a vertical and not a value neutral horizontal scale available through Jungian psychology based assessments such as the MBTI, provided a sense of power differential in this ‘micro climate’ of the interview.
135 Predicting Fund Manager Integrity and Profitability
Individual Institution SOI Scores Fund Results
Andreas A bank 4 (0 12 3) = 4.04 Sharp Ratio: 0.04 Information Ratio: 0.86 Alpha p.a.: +5.9% (December 2001 – June 2009)
Beat A bank 4 (4 4 1) = 3.93 Supportive of Andreas, who made the final decisions.
Charles B bank 4 (1 6 0) = 3.97 Oversight of several funds
David C bank 4 (0 5 0) = 4.00 Sharp Ratio: 0.2 Jensen's Alpha (3y) 0.8% (an indicative fund) Oversight of several funds
Edward D bank 4 (1 3 2 2) = 4.13 Oversight of several funds
Table 17. Empirical Results62
The Fund Results column is provided here simply for illustration, since the data are not comparable. This diversity in the kind of funds managed or groups of funds overseen would not have been overcome by further interviews using the approach that gained access, as described above. Charles, David and Edward oversaw more than one fund, and were not sole decision makers in these funds, having more supervisory functions. Thus, result for Andreas is the only direct fund manager score of the kind sought by this study, with Beat serving as part of his research staff. It is possible to say that all four banks are well respected small and mid sized banks in Switzerland, and all five persons interviewed were selected as top fund managers in these banks. As such, this sample is not representative of large Swiss banks, nor of the global finance industry.
What clearly stands out in these results is that all scores are very close to or even directly on 4.0. It should be said that all five interviews and subsequent transcript analysis were more difficult to conduct and score than SOIs performed by this author in other settings. The fund management context and fund manager role mitigated
62 By author. 136 Predicting Fund Manager Integrity and Profitability against frank and open revealing of personal attitudes, fostering rather a sense of performance and even a sales approach of the interviewee toward the interviewer. In interpreting these interviews then, several possibilities must be considered.
First, the profile of stage 4 is that of a person who is highly certain of their expert knowledge and completely independent in their decision making from an emotive point of view. They are neither tied to conventional thinking nor do they spend too much time reflecting on the possible fallibility of their own character. This would leave them free to analyze and execute trades according to their own best lights, and this is the message which came through in the interviews.
A second possible interpretation, not to the exclusion of the first, is that the profession itself breed this kind of attitude. The function of economic and financial analysis, and trade decision and execution, foster this mental approach.
Related to this would be a third possible explanation, a tendency to portray this kind of perspective in the interview situation. Regardless of the explanations and assurances of this researcher that the interviews would be kept anonymous, the amounts of money and the employment positions at stake leave little room for relaxed exchange. All five interviews had a tension and mental structure that have not been met by this author in carrying out Subject Object Interviews with coaching clients in settings where these factors were not present. A more open context may have revealed very different scores for these interviewees, both up and down the scale.
This is particularly evident in the case of Edward (see Appendix 5.10) where the conversation continued on an informal basis after the formal interview ended. Edward’s responses were clearly of a higher sub stage when the formal interview was over and the topic changed. This could be indication of both the first two factors mentioned, that of professional caution and the substantive logical drive of the analysis involved in the profession itself.
As anecdotal evidence in addition to these five interviews, informal conversations were held with two finance professionals who failed in their attempts to establish
137 Predicting Fund Manager Integrity and Profitability hedge funds, and these two persons were clearly at SOI level 3. Though too sketchy to draw any conclusions, this experience does indicate a possible direction for research in pursuit of the current hypotheses: formal developmental assessments interviews of fund managers who had poor financial results may provide useful data.
138 Predicting Fund Manager Integrity and Profitability
4 Concluding Section First they ignore you, then they ridicule you, then they fight you, then you win. Mahatma Gandhi (1869 1948)
This research has certainly been ignored. Whether subsequent stages of Gandhi’s concept emerge remains to be seen. The validity of developmental assessments are not in question per se, rather their potential use in the finance industry seems to make some persons nervous.
The lack of positive response from the finance institutions contacted thus far has left this researcher, very uncomfortably, appearing to be in the position of one of the “coloured birds” – a person with a grandiose vision but without practical application, rather than the desired position of an industrious “Human Glocalpreneur”. (Hilb, 2009, p.10) But perhaps a breakthrough for developmental assessments is not beyond reach. It is worth noting the example of Stephen Covey’s internationally successful book and management training series on successful habits. (Covey, 1994) The central theme of Covey’s approach is that managers should learn through the practice of seven key habits to move from an internal stance of dependence to independence and finally interdependence. This is precisely the emotional development growth described by Kegan (1982, 1994) in the movement from stages 3 to 4 and then 5, as described above. As the validity of this concept and line of development is well accepted as valid in Covey’s work, it should be a short step for decision makers to make the connection with actual assessments of this aspect of management and leadership capability.
This study describes the use of developmental assessments as one instrument among others (see: Hilb, 2009, p.201) for helping to identify individuals with exceptional potential in fund management. While this is perhaps the most important aspect of the study, the broader perspective should not be lost: assessments of any kind provide insight into one parameter of the human personality, which is infinitely complex. Individual assessments and sets of assessments should be considered as aids to decision making in personnel matters, never as a substitute for healthy human judgment.
139 Predicting Fund Manager Integrity and Profitability
4.1 Recommendations for Further Research
The proposed task of testing whether a correlation exists between developmental assessments and fund manager profitability remains untried. To carry out this task, a partner institution, or institutions, would be required to enable access to fund managers and secure their cooperation.
First, the research project originally proposed as a hypothesis building study (Option 1) remains a valid project. To recap briefly, this study foresees developmental assessments of socio emotional maturity (using the SOI) and ethical thinking capability (using the DIT or MJI) for ten to fifteen fund managers. The outcome would either confirm the hypothesis, establish grounds for an alternative hypothesis, or find no correlation worth pursuing with further research.
Second, the expanded research project (Option 2) also remains a valid project. In this study, a DIT questionnaire would be sent to 100, 200 or more fund managers through the auspices of a fund of funds company which maintains a database of funds and invests in some of these, thereby providing an incentive for fund managers to cooperate in the study. The top and bottom ten (total of twenty) scorers on the DIT would be approached for the second step, an SOI, to seek correlations.
Third, whole fund management teams could be assessed in a case study method, using the requisite organization framework. (see: Jaques and Cason, 1994; Jaques and Clement, 1994) Assessments, in addition to the SOI and DIT or MJI could include measures of cognitive development.
Fourth, to test specifically for the correlation of developmental assessments and propensity for criminal behavior, persons convicted of financial crimes could be approached with a request to participate in a study. Further iterations of these research approaches are of course possible.
140 Predicting Fund Manager Integrity and Profitability
4.2 Contributions to Theory
As a hypothesis building thesis, with a data set too small for definitive scientific results, the contributions of this study to theory are few. One possible exception would be the observations made regarding the professional context for SOI interviewing of fund managers being a dominating factor that influences, perhaps significantly, the outcomes. This would need to be addressed were further research undertaken along the lines indicated in this study.
4.3 Recommendations for Practice 4.3.1 For Human Resources and Coaching We must be clear that what we are calling “intelligence” is a capacity that evolves and that this evolution can be encouraged. Robert Kegan, (1994, p. 185)
As indicated by the quote from Robert Kegan, above, developmental growth in the human personality can be intentionally fostered. There are many arenas of life where the development of “intelligence” can be promoted. The influence of developmental psychology to date has primarily been in the home, in child rearing practices, and in schools, where curricula and teaching methodologies have benefited from the theoretical and practical insights gained through research and practice.
In adult development, it is primarily in the workplace where opportunities can be found to use the leverage these assessments provide to initiate processes that help improve individual and organizational performance. For human resources management themes such as leadership recruitment, promotion and succession planning, it is well known that the person “best placed” and with the most appropriate experience for a particular position is not always the person with the highest capacity for transformational leadership. Developmental assessments should be for use as part of a human resources management regime focused on sustainable change and improvement. This must, of course, be voluntary, and based on self interest, and should not be considered as capable of contributing to a regulatory mechanism.
141 Predicting Fund Manager Integrity and Profitability
For individuals in the finance industry, fund managers and other professionals who aspire to leadership positions, the early identification of strengths and weaknesses in developmental parameters would enable more focused attention toward developing career and personality growth strategies. Executive coaching is one mechanism through which direct application of these findings could be useful in promoting growth for individuals.
For investors there may eventually be a question of whether they can gain access to the developmental scores of the fund managers with whom they consider investing. Similarly, if the hypotheses of this study are ever proven, investors may take closer looks at personnel strategies in banks and investment companies as part of their investment decision making process.
4.3.2 For the Finance Industry Finance, therefore – through the renewed structures and operating methods that have to be designed after its misuse, which wreaked such havoc on the real economy – now needs to go back to being an instrument directed towards improved wealth creation and development. Benedict XVI (2009, §65)
Already in 1985 the future Pope, then Cardinal Ratzinger, voiced his opinion that “the decline of ethics ‘can actually cause the laws of the market to collapse.’” (Komisar, 2008) In an official investigation into excessive bonuses paid by banks during the current financial crisis, New York Attorney General Andrew Cuomo discovered that some of the banks that received significant bailout funding from the U.S. government paid out million dollar bonuses to “hundreds of employees”, sometimes totaling more than their profits and therefore showing a direct use of U.S. taxpayer money to pay bonuses. (Cuomo, 2009; Benn & Papini, 2009) This would seem to indicate, as a working hypothesis, that the largest banks remain captive of persons who are primarily focused in Kohlberg’s levels 2 and 3, and Kegan’s stage 2. Perhaps this would be worth serious examination. Perhaps voices that suggest the worst of the global financial crisis is over are speaking too soon.
As pointed out by de Roover (1963) in the quote used to commence this study, techniques of banking have changed since the flourishing of the Medici Bank in the
142 Predicting Fund Manager Integrity and Profitability middle ages, and we can say the techniques of today’s banking world are light years distant from those of the 1960s when de Roover wrote his book. Yet the personnel practices have hardly evolved to the same extent, and remain arguably the central weak point in the international financial system. This study offers one line of thinking, one avenue toward addressing this weakness. It is to be hoped that the serious study of this and also other approaches to strengthening personnel and leadership selection practices will flourish in years to come.
Global challenges require innovative thinking and leadership which can only come from persons who are not trapped in conventional thinking. As the globalized world becomes increasingly interdependent, it should be clear that a central focus for human resources management should be found in the identification of talent that is capable of holistic wealth creation, and not focused on simply amassing more money.
4.3.3 For Swiss Banking As you have done unto the least of these Jesus, Matthew 25:40
The American theologian Walter Wink (1986) notes that the above mentioned biblical passage is not just directed at individuals, but also has a distinctly corporate aspect. We are gathered in national groups, and held to account as individuals.
As progenitor and central carrier of the red cross system, as preeminent representative of diplomatic neutrality, and as manager of perhaps one third of the world’s finances, Switzerland carries enormous global responsibility. As the most prominent sector in the Swiss economy, representing approximately 12% of the gross national product, managing some 30% of private banking assets worldwide (Baumann, 2008) and occupying even more space in the international imagination, the health of Swiss banking has obvious importance for the national and global economy. Yet there is another reason for supporting the health and ethical development of Swiss banking, and that lies in the interdependence of Swiss banking with Swiss neutrality and the Swiss humanitarian tradition.
143 Predicting Fund Manager Integrity and Profitability
In a recent marketing research survey of 112 top Swiss firms by GfK63, the large Swiss banks were listed at the bottom of the reputation table, with UBS ranking last in both 2008 and 2009. (SDA, 2009) This should send a very strong signal regarding the ability of these banks to compete not just in Switzerland, but also internationally, in light of the need for a “broad span of trust” (Hilb, 2009, p.390) in transnational organizations.
Just as in earlier eras, Swiss neutrality and the reliability and confidentiality of its banking system are factors that will draw international customers. Given the crisis of confidence produced by the current crisis, honesty and trustworthiness are likely to become higher priorities for clients. In addition, given the rapid decline of the global environment, investment practices that support sustainability are likely to become more important for increasing numbers of clients and potential clients.
If neutrality and banking confidentiality are seen and held onto as Swiss privileges, this is likely to give rise to increasing resentment and attack from the global community. If, on the other hand, the principles of neutrality and banking confidentiality are maintained as a service to the globe, they will be understood differently and not as quickly attacked. Visible commitment to ethics and sustainability, leading to an ethos of global stewardship, is within the reach of Swiss Banking. If Swiss “Filz” in the finance industry is to be upgraded for the 21st century, then it must be on the basis of mature ethical competence. The notion that peer pressure can be used to improve the quality and membership of a social set without such consideration opens the way for a retreat from meritocracy into old style elitism.
Having worked in relief, development and peacemaking positions for church related non governmental organizations, the United Nations and OECD, this author is ever mindful of the needs of the weak, vulnerable and impoverished in war zones, the least fortunate on this earth. In war zones, combatants will use every resource within reach in order to achieve military objectives, including the blood and treasure of civilians. This strategy reaches its absurd extreme in situations like the My Lai Massacre which took place during the US war in Viet Nam, where American military commanders decided to “to destroy villages in order to ‘save’ them.” (Beidler, 2003)
63 See: www.gfk.ch 144 Predicting Fund Manager Integrity and Profitability
Civilian foreign eye witnesses in combat zones – usually aid workers and journalists – provide one of the few barriers to barbaric behavior, because their reports to the outside could hurt the political support on which military operations, in part, depend. These unarmed civilian witnesses create protection through what is often seen as a small sphere of neutrality wherever they appear, and by far the most significant and professional organization, that enables the activity of many other similar organizations is the International Committee of the Red Cross. The ICRC is based on the Geneva Conventions, International Humanitarian Law, and these in turn rest on the foundation of Swiss neutrality. It is a direct link, and for this author not any sort of stretched imagination, that connects the protection afforded to the weakest and most vulnerable persons to the financial and character strength of the Swiss nation.
What is required for the demands of our times is nothing short of a change of consciousness from greed to stewardship, from narrow understanding of the profit motive focused on amassing financial resources, to a universal consciousness mindful of the responsibilities to create universal prosperity, which each one of us holds for the whole. To grasp the significance for our planet of each action we take is truly a task required of our generation to enable life for generations to come. In the concept of global stewardship, Switzerland has the opportunity to offer global leadership, and to preserve, renew and strengthen its unique character.
145 Predicting Fund Manager Integrity and Profitability
5 References and Appendix
5.1 References and Additional Readings
Aboulian, B. (2009, April 6). Cleaning up after the Madoff scandal, Financial Times Fund Management (supplement), p. 13. Aggarwal, R., Georgiev, G., & Pinato, J. (2007). Detecting Performance Persistence in Fund Managers. Journal of Portfolio Management, 33(2), 110 119. Retrieved April 16, 2009, from Business Source Premier database. Ahrens, F. (2008, March 19) 'Moral Hazard': Why Risk Is Good. Washington Post [online]. Retrieved July 1, 2009, from http://www.washingtonpost.com/wp dyn/content/article/2008/03/18/AR2008031802873_pf.html. Anonymous. (2005). The World’s Largest Hedge Fund is a Fraud. Submission to the SEC, Madoff Investment Securities, LLC. Retrieved January 22, 2009, from http://valueplays.blogspot.com/2008/12/2005 sec papermadoff securities is.html. (Harry Markopolos is the acknowledged author.) Associated Press (2006, March 15). Enron whistleblower tells of 'crooked company'. MSNBC. Retrieved June 30, 2009, from http://www.msnbc.msn.com/id/11839694/. Atkinson, C. (1983). Making sense of Piaget: the philosophical roots. London: Routledge & Kegan Paul. Austin, J. L. (1975). How To Do Things with Words, Cambridge: Harvard University Press; 2nd ed.. Bain, D. (2008, 14 April). Wegelin emerges as Switzerland’s best kept secret. Wealth Bulletin. Retrieved July 15, 2009, from http://www.wealth bulletin.com/home/content/2350376289/. Baker, S., & Cahill, T. (2009, January 8). “Uma Thurman No Help to Arpad Busson in Madoff Fraud’s Nightmare”, Bloomberg.com. Retrieved January 22, 2009 from http://www.bloomberg.com/apps/news?pid=20601109&refer=home&sid=a2IT6Y4Jm C48#. Baks, K. P. (2003). On the Performance of Mutual Fund Managers. Working Paper. Retrieved April 14, 2009, from http://goizueta.emory.edu/faculty/KlaasBaks/Documents/manager_000.pdf. Baks, K. P., Metrick, A., & Wachter, J. (2001). Should Investors Avoid All Actively Managed Mutual Funds? A Study in Bayesian Performance Evaluation. The Journal of Finance, 56(1), 45 85. Bauer, H., & Blackman, W. J. (1998). Swiss banking: an analytical history. Houndmills: Macmillan Press Ltd.. Baumann, C. (2008). Swiss Banking – wie weiter? Zürich: Verlag Neue Zurcher Zeitung. Baumann, N. (2009). Is Obama Blowing It on Derivatives Reform?: The gaping loophole in the administration's new financial regs.. Posted Wed June 17, 2009 12:41 PM PST. Retrieved June 18, 2009 from www.news2connect.com.
146 Predicting Fund Manager Integrity and Profitability
BBC News (2009) Madoff whistle blower attacks SEC. Published: 2009/02/05 06:01:12 GMT. Retrieved July 3, 2009 from http://news.bbc.co.uk/2/hi/business/7871253.stm. Beck, K. (2003). Morals for Merchants Desirable, Reasonable, Feasible? Arbeitspapiere Wirtschaftspädagogik, 48. Retrieved March 20, 2006, from Johannes Gutenberg Universität Mainz Web site: http://www.wipaed.uni mainz.de/beck/publicat/Frame_Publikationen.htm. Beck, K. (2007). Moral Judgment in economic Situations – Towards Systematic Ethics. In F. Oser, Fritz & W. Veugelers (Eds.), Getting Involved: Global citizenship development and sources of moral values. Rotterdam: Sense Publ.. Retrieved May 5, 2009, from Johannes Gutenberg Universität Mainz Web site: http://www.wipaed.uni mainz.de/ls/ArbeitspapiereWP/gr_Nr.53.pdf. Beidler, P. D. (2003). Calley’s Ghost. The Virginia Quarterly Review, Winter 2003, pp.30 50. Retrieved March 26, 2009 from http://www.vqronline.org/articles/2003/winter/beidler calleys ghost/. Benedict XVI (2009). Caritas in Veritate, Encyclical Letter, Libreria Editrice Vaticana. Given in Rome, at Saint Peter's, on June 29, 2009. Retrieved from http://www.vatican.va/holy_father/benedict_xvi/encyclicals/documents/hf_ben xvi_enc_20090629_caritas in veritate_en.html on 8 July 2009. Benn, K.G. & Papini, J. (2009, July 31). Banks paid hefty bonuses: Hundreds of employees at firms that got U.S. funds received at least $1 million. The Wall Street Journal (Europe), p.1. Berghel, Hal (2006). Fungible credentials and next generation fraud. Association for Computing Machinery. Communications of the ACM, 49(12), 15 19. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 1177685321). Berry, M. (2008, October 7). Turmoil draws Swiss comparisons with Great Depression. Swisster, Switzerland in English. Retrieved August 2, 2009, from http://www.swisster.ch/en/news/business/turmoil draws swiss comparisons with great depression_116 618891. Black, H. C. (1991). Black’s Law Dictionary (Abridged 6th ed.). St. Paul, MN: West Publishing. Black, W. (2005). Control fraud as an explanation for white collar crime waves: The case of the savings and loan debacle. Crime, Law and Social Change, 43(1), 1 29. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 912764311). Boyatzis, R. E. (2006). Using tipping points of emotional intelligence and cognitive competencies to predict financial performance of leaders, Psicothema, 18(supl.), 124 131. Retrieved January 28, 2009 from http://www.psicothema.com/pdf/3287.pdf. Boyatzis, R.E. (2008a), “Competencies in the 21st century”, Journal of Management Development, 27(1) 5 12. Boyatzis, R.E. (2008b). A 20 year view of trying to develop emotional, social and cognitive intelligence competencies in graduate management education. Journal of Management Development,. 27(1) 92 108. Boyatzis, R. E., & Saatcioglu, A. (2008). A 20 year view of trying to develop emotional, social and cognitive intelligence competencies in graduate management education. The Journal of Management Development, 27(1), 92 108. Retrieved
147 Predicting Fund Manager Integrity and Profitability
November 4, 2008, from ABI/INFORM Global database. (Document ID: 1440855721). Brammertz, W., Akkizidis, I, Breymann, W. & Entin, R (2009). Unified financial analysis: the missing links of finance. Hoboken, N.J.: Wiley; Chichester: John Wiley [distributor]. Bredemeier, B. J. L., & Shields, D. L. L.(1994). Applied Ethics and Moral Reasoning in Sport. In J. R. Rest & D. Narváez (Eds.), Moral Development in the Professions: Psychology and Applied Ethics (pp. 173 187). Hillsdale, NJ: Lawrence Erlbaum Associates. Brinckmann, J., (2007). Competence of Top Management Teams and Success of New Technology Based Firms: A Theoretical and Empirical Analysis Concerning Competencies of Entrepreneurial Teams and the Development of Their Ventures. Wiesbaden: Gabler Edition Wissenschaft, Deutscher Universitäts Verlag. Bryan Low, C. (2009, January 8). UBP, after big Madoff hit, takes U.S. funds to task. The Wall Street Journal Europe. Buchanan, D., Boddy, D. & McAlman, J. (1988). Getting in, getting on, getting out and getting back. In A. Bryman (Ed.), Doing Research in Organisations (pp. 53 67). London: Routledge. Buffett, W. E. (2003). Berkshire Hathaway Inc. 2002 Annual Report. Omaha: Berkshire Hathaway. Retrieved April 24, 2008, from http://www.berkshirehathaway.com/2002ar/2002ar.pdf. Bundesamt für Statistik (2009). Statistisches Jahrbuch der Schweiz. Zürich:Verlag Neue Zürcher Zeitung. Calomiris, C. W. (2006). U.S. Bank Deregulation in Historical Perspective. New York: Cambridge University Press. Capco (2003), “Understanding and mitigating operational risk in hedge fund investment”, A Capco White Paper of the Capital Markets Company Ltd. No longer accessible at the www.capco.com website. Catan, T., Bjork, C. & DeCordoba, J. (2009, January 13). Santander faces probe on clients’ Madoff losses: Spanish prosecutors look at links to fund and Swiss operation. The Wall Street Journal Europe. Chevalier, J., & Ellison, G. (1999, May). CAREER CONCERNS OF MUTUAL FUND MANAGERS. Quarterly Journal of Economics, 114(2), 389 432. Retrieved April 14, 2009, from Business Source Premier database. (Document ID:10.1162/003355399556034). Chevalier, J., & Ellison, G. (1999, June). Are Some Mutual Fund Managers Better Than Others? Cross Sectional Patterns in Behavior and Performance. Journal of Finance, 54(3), 875 899. Retrieved April 14, 2009, from Business Source Premier database. Chevallaz, G. A. (2001). The challenge of neutrality: diplomacy and the defense of Switzerland. Lanham, MD: Lexington Books. Cinquegrana, P. (2009). The Reform of the Credit Rating Agencies: A Comparative Perspective. ECMI Policy Brief, No. 12, February 2009. Retrieved April 24, 2009, from http://shop.ceps.eu/BookDetail.php?item_id=1797.
148 Predicting Fund Manager Integrity and Profitability
Clinton, William J. (1995). Remarks on the National Homeownership Strategy, June 5, 1995. In Woolley, J. T. & Peters, G., (Eds.) The American Presidency Project [online]. Santa Barbara, CA: University of California (database). Retrieved April 21, 2009, from http://www.presidency.ucsb.edu/ws/?pid=51448. Coffee, J. C., (2003). Gatekeeper Failure and Reform: The Challenge of Fashioning Relevant Reforms. Columbia Law and Economics Working Paper No. 237. Retrieved April 20, 2009, from SSRN: http://ssrn.com/abstract=447940. Colby, A., & Kohlberg, L. et. al. (Eds.). (1987). The Measurement of Moral Judgment: Standard Issue Scoring Manual, Vol. 1: Theoretical foundations and research validation. Vol. 2: Standard issue scoring manual. Cambridge: Cambridge University Press. Cook Greuter, S.R. (1999), “Postautonomous ego development: a study of its nature and measurement”, doctoral dissertation, Harvard Graduate School of Education, Cambridge, MA. Converse, P.D., Peterson, M.H., & Griffith, R.L. (2009). Faking on Personality Measures: Implications for selection involving multiple predictors. International Journal of Selection and Assessment, 17, 47 60. Covey, Stephen R. (1994). The Seven Habits of Highly Effective People: Restoring the Character Ethic. London: Simon and Schuster. Coy, P. (2009). Bill Clinton's drive to increase homeownership went way too far. Business Week. Posted on February 27, 2009. Retrieved April 21, 2009, from http://www.businessweek.com/the_thread/hotproperty/archives/2008/02/clintons_driv e.html. Crambray, J. (2006). Towards the feeling of emergence, Journal of Analytical Psychology, 51, 1 20. Cuomo, A. M. (2009). No Rhyme Or Reason: The ‘Heads I Win, Tails You Lose’ Bank Bonus Culture. Office of the Attorney General, State of New York. Retrieved August 3, 2009, from http://www.oag.state.ny.us/media_center/2009/july/pdfs/Bonus%20Report%20Final% 207.30.09.pdf. Davis, J. (2003, October 25). Secrets Of Success: Investment professionals? No, just profit hunters. The Independent. Retrieved April 9, 2009, from http://www.independent.co.uk/money/invest save/secrets of success investment professionals no just profithunters 584518.html. De Roover, R. (1963). The rise and decline of the Medici Bank, 1397 1494. Cambridge, MA: Harvard University Press. Deschamps, É. (undated). The Marshall Plan and the establishment of the OEEC. Centre Virtuel de la Connaissance sur l'Europe (CVCE), European NAvigator. Étienne Deschamps. Translated by the CVCE. Retrieved March 27, 2009, from http://www.ena.lu/undefined 2 261. DeSeCo (undated). Definition and Selection of Key Competencies: Executive Summary. Retrieved November 19, 2008, from http://www.deseco.admin.ch & http://www.oecd.org/edu/statistics/deseco. Donaldson, W. H. (2004). Chairman of the Securities and Exchange Commission, Testimony Concerning Investor Protection and the Regulation of Hedge Funds Advisers. Before the U.S. Senate Committee on Banking, Housing, and Urban
149 Predicting Fund Manager Integrity and Profitability
Affairs, on July 15, 2004. Retrieved January 19, 2009, from http://www.sec.gov/news/testimony/ts071504whd.htm. Dreher, A. (2006). Does Globalization Affect Growth? Evidence from a new Index of Globalization, Applied Economics 38(10) 1091 1110. Updated in Dreher, Axel, Noel Gaston and Pim Martens (Eds.), (2008), Measuring Globalization – Gauging its Consequences (New York: Springer). Retrieved January 28, 2009, from http://globalization.kof.ethz.ch. Dubs, Rolf (2008, November 8). Gesucht sind charakterfeste Manager. St. Galler Tagblatt, p. 11. Retrieved December 7, 2009, from http://www.tagblatt.ch/aktuell/wirtschaft/wirtschaft/Gesucht sind charakterfeste Manager;art623,1041422. Ebersole, J. M. (1989). The Universal Pragmatics of Jürgen Habermas and Its Application to the Analysis of a Dialogue. MA Thesis (unpublished), Department of Anthropology, State University of New York at Binghamton. Economist, (2007, September 8). Credit and blame. The Economist, 00130613, Vol. 384, Issue 8545. London: Economist Newspaper Limited. Retrieved April 20, 2007, from http://web.ebscohost.com/ehost/detail?vid=1&hid=4&sid=28b4cdd7 df23 4245 b039 c46a4256007f%40SRCSM1&bdata=JnNpdGU9ZWhvc3QtbGl2ZQ%3d%3d#db=buh &AN=26523458. Eizenstat, S. E. (2003). Imperfect Justice: Looted Assets, slave Labor, and the Unfinished Business of World War II. New York: Public Affairs. Elliot, A. J, & Dweck, C. S., (Eds.) (2005). Handbook of Competence and Motivation, Inc NetLibrary: Guilford Press. Emch, U., Renz, H. & Arpagaus, R., (Hrsg.) (2004). Das schweizerische Bankgeschäft: das praktische Lehrbuch und Nachschlagewerk (6. Aufl.). Zürich: Schulthess. Enrich, D. (2009, January 12). His star paler, Rubin leaves Citi. The Wall Street Journal Europe. Ethics Project (undated). Assessment within Applied and Professional Ethics. The Subject Centre for Philosophical and Religious Studies (PRS), University of Leeds, UK, Retrieved November 5, 2008 from http://www.prs.heacademy.ac.uk/projects/ethics/documents/assessment.pdf. Euromoney (2009, April 1). Credit rating agencies' code of conduct: Rating for Godot. Euromoney. Retrieved April 24, 2009, from http://www.euromoney.com/Article/2172486/Category/19/ChannelPage/8949/Credit rating agencies code of conduct Rating for Godot.html. European Commission (2001, June 6, a). Commission Decision of 6 June 2001 establishing the European Securities Committee. (Text with EEA relevance) Brussels, COM (2001) 1493 final. Retrieved April 6, 2009, from http://ec.europa.eu/internal_market/securities/docs/com 2001 1493/com 2001 1493_en.pdf. European Commission (2001, June 6, b). Commission Decision of 6 June 2001 establishing the Committee of European Securities Regulators (notified under document number C(2001) 1501), (2001/527/EC). Official Journal of the European Communities, 13.7.2001, I.191/43.
150 Predicting Fund Manager Integrity and Profitability
European Commission (2001, June 6, c). Financial services: Commission creates two new committees on securities. Press Release, IP/01/792. Brussels, 6 June 2001. European Communities (2003). EUROPEAN COMMUNITIES (UNDERTAKINGS FOR COLLECTIVE INVESTMENT IN TRANSFERABLE SECURITIES) REGULATIONS 2003 (SI 211 OF 2003) (AS AMENDED)". Retrieved April 6, 2009, from http://www.finance.gov.ie/viewdoc.asp?fn=/documents/Publications/legi/finregucits.rtf. Fehr, E., & Gächter, S. (2002, January 10). Altruistic punishment in humans. Nature 415, 137 140. Ferguson, N. (2008). The ascent of money: a financial history of the world. London: Allen Lane. FiNews.ch (2009a). Ivan Pictet: «2008 zweitbestes Resultat». Posted Donnerstag, 23. April 2009 at 06:40. Retrieved April 23, 2009, from http://www.finews.ch/news/banken/870 ivan pictet l2008 zweitbestes resultatr. FiNews.ch (2009b). Die Reichen zieht es in die Schweiz. Posted Mittwoch, May 13, 2009, 09:38, Retrieved May 13, 2009, from http://www.finews.ch. FiNews.ch (2009c). Swiss Banking 2008: Das sind die Gewinner, das sind die Verlierer. Posted Donnerstag, June 11, 2009 um 05:39, Retrieved June 11, 2009 from http://www.finews.ch/news/finanzplatz/1185 swiss banking 2008 das sind die gewinner das sind die verlierer. FiNews.ch (2009d). Private Banking: Bald werden deutlich weniger Berater benötigt. Retrieved June 29, 2009, from www.finews.ch. Fischer, K. & Kaplan, U. (2003). “Piaget, Jean” & “Piagetian Theory, Development of Conceptual Structure”. In Lynn Nadel (Ed. in Chief ), (2003). Encyclopedia of Cognitive Science (pp.679 687). London: Nature publishing group. Fons, J. S. & Partnoy, F. (2009, March 16). Rated F for Failure, Op Ed, The New York Times. Retrieved April 20, 2009, from http://www.nytimes.com/2009/03/16/opinion/16partnoy.html. Fried, J. (1984). Die Wirtschaftspolitik Friedrich Barbarossas in Deutschland. Blätter für deutsche Landesgeschichte (Band 120, pp. 195 239). Retrieved February 3, 2009, from Digitale Bibliothek Münchener Digitalisierungszentrum (MDZ) http://mdz1.bib bvb.de/cocoon/bdlg/Blatt_bsb00000324,00000.html. Friedman, T. L. (2005). The world is flat: a brief history of the globalized world in the twenty first century,. London: Allen Lane. Friedrichs, D. O. (2009). Exorbitant CEO compensation: just reward or grand theft? Crime, Law and Social Change, 51(1), 45 72. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 1613587981). Fulks, B. (1998). The Sharpe Ratio. Retrieved February 4, 2006, from http://www.investopedia.com/offsite.asp?URL=http://www.venus.it/homes/ik2hlb/sr.ht m. G 20 (2008). Declaration, Summit on Financial Markets and the World Economy, November 15, 2008. Retrieved April 24, 2009, from http://www.g20.org/Documents/g20_summit_declaration.pdf. Galla, D. (2007). Moral reasoning of finance and accounting professionals: An ethical and cognitive moral development examination. D.B.A. dissertation, Nova
151 Predicting Fund Manager Integrity and Profitability
Southeastern University, FL, USA. Retrieved November 4, 2008, from Dissertations & Theses: A&I database. (Publication No. AAT 3260185). Gasser, C., Lüchinger, R., & Wachter, H. (2009). «Hans Vontobel» und «Man muss immer an sich zweifeln». Die Weltwoche, Nr. 11, 12.03.2009, Seite 44. Retrieved March 26, 2009, from http://www.wiso net.de/r_presse/webcgi?START=A20&DOKM=12596_WEWO_0 and http://www.wiso net.de/r_presse/webcgi?START=A20&DOKM=12600_WEWO_0. Geithner, T. & Summers, L. (2009). A New Financial Foundation. The Washington Post, 15 June 2009. Retrieved June 18, 2009, from http://www.washingtonpost.com/wp dyn/content/article/2009/06/14/AR2009061402443.html. GfK Roper Public Affairs and Media, (2008). The Anholt GfK Roper Nation Brands IndexSM 2008 Report. Retrieved January 28, 2009, from http://www.presence.ch/d/800/pdf/800b_Switzerland_2008_NBI_Report.pdf. Gibbs, J. C., Bassinger, K. S., & Grime, R. L. (2003). Moral Judgement Maturity: From Clinical to Standard Measures. In Lopez, S. J. & Snyder, C.R. (Eds.). (2003). Positive psychological assessment: a handbook of models and measures. (pp.361 373)Washington, DC: American Psychological Association. Gilomen, H., (2003). Concluding remarks. In Rychen, D. S., & Salganik, L. H. (Eds.). (2003). Key competencies for a successful life and a well functioning society. Cambridge, MA: Hogrefe & Huber. Girard, R. (1986). The Scapegoat. Translated by Yvonne Freccero. Baltimore: The Johns Hopkins University Press. Goddard, T. H. (1831/1996). A general history of the most prominent banks in Europe. Reprinted with a new introduction by John Chown. London: Routledge/Thoemmes Press. Graham, B. (1949, 2005). The intelligent investor: the classic text on value investing. New York: Harper Business. Graham, B. (1974, September 23). The Renaissance of Value: Rare Investment opportunities are Emerging. Barron’s National Business and Financial Weekly, 54 (38), 7. Retrieved April 27, 2009 from http://proquest.umi.com/pqdlink?index=87&did=408606561&SrchMode=3&sid=1&Fm t=10&VInst=PROD&VType=PQD&RQT=309&VName=PQD&TS=1240852811&client Id=45608&aid=2. Guptara, P. (2009). Review of Willi Brammertz (et. al.), Unified Financial Analysis: The Missing Links of Finance (Wiley, UK, 2009). Email correspondence, 5 June 2009. Habermas, J. (1976). Some Distinctions in Universal Pragmatics: A Working Paper, Theory and Society, 3(2). Habermas, J. (1979). Communication and the Evolution of Society. Boston: Beacon Press. Habermas, J. (1982). A Reply to My Critics. In Thompson & Held (Eds.) Habermas: Critical Debates. London: MacMillan Press. Hart, P. K. (2008, May 30). John McCain's Gramm Gamble: The GOP presidential nominee is relying on the ex senator who helped bring you the mortgage crisis and
152 Predicting Fund Manager Integrity and Profitability
Rick Perry. The Texas Observer. Retrieved April 21, 2009, from http://www.texasobserver.org/article.php?aid=2767. Hartman, D. & Zimberoff, D. (2008, September 22). Higher stages of human development The Free Library. Retrieved February 16, 2009 from http://www.thefreelibrary.com/Higher stages of human development. a0190331184 Harvey, J. B. (1992). Musings about the Elephant in the Parlor or “Who the Devil is Elliott Jaques?”. Global Organization Design Society. Article #05 11 20 F15. Retrieved on August 3, 2009, from https://globalro.org/en/go library/in memoriam/festschrift articles for elliott jaques/223 musing about the elephant in the parlor.html Haight, G. T., Morrell, S., & Ross, G. E. (2007). How to select investment managers and evaluate performance: a guide for pension funds, endowments, foundations, and trusts. Hoboken, N.J.: Wiley. Heffernan, S. (2003) The causes of bank failures. In Mullineux, A. W. & Murinde, V., (Eds.), Handbook of International Banking. Cheltenham: Edward Elgar. Hilb, M. (2009). Glocal Management of Human Resources (2nd ed.). Wien: LIT Verlag. Hildreth, R. (1837/1996). The history of banks. (Reprint ed.) London: Routledge/Thoemmes Press. Hilliard, T.C. (1947). Book Review of “Professional Ethics of Public Accounting” by John L. Carey, American Institute of Accountants, New York. The Accounting Review, 22(1), 98 99, American Accounting Association, Retrieved June 3, 2009, from http://www.jstor.org/stable/239640. Hügli, B. (1999). Das Idealprofil des Private Bankers: Der Wandel von Anlageberater zum Relationship Manager. Zürich. Verlag Paul Haupt, Swiss Banking School. Hulbert, M. (2003, June 6). That Star Manager May Have a Minor Role. The New York Times. Retrieved April 14, 2009, from http://www.bus.emory.edu/kbaks/papers/Hulbert%20 %20That%20Star%20Manager%20May%20Have%20a%20Minor%20Role.pdf. iloveindia.com (2009). ICICI Bank, Retrieved January 28, 2009, from http://www.iloveindia.com/finance/bank/private banks/icici bank.html. Institute of Internal Auditors (IIA), Association of Certified Fraud Examiners (ACFE), & The American Institute of Certified Public Accountants (AICPA), (2009). Managing the Business Risk of Fraud: A Practical Guide. Retrieved January 19, 2009, from http://www.acfe.com/documents/managing business risk.pdf. Investopedia. (n.d.). Sharpe Ratio. Retrieved February 4, 2006, from http://www.investopedia.com/terms/s/sharperatio.asp. IOSCO (2008). The Role of Credit Rating Agencies in Structured Financial Markets, Final Report. Technical Committee of the International Organization of Securities Commissions, May, 2008. International Organization of Securities Commissions. Retrieved April 24, 2009 from http://www.iosco.org/library/pubdocs/pdf/IOSCOPD270.pdf. Kacperczyk, M., & Seru, A. (2007). Fund Manager Use of Public Information: New Evidence on Managerial Skills. Journal of Finance, 62(2), 485 528. Retrieved April 14, 2009, doi:10.1111/j.1540 6261.2007.01215.x
153 Predicting Fund Manager Integrity and Profitability
Kaiser, R., Hogan, R., & Craig, S. (2008). Leadership and the fate of organizations. American Psychologist, 63(2), 96 110. Retrieved November 14, 2008. Karsch, W. (2005). Book Review of Koye, B. Private Banking im Informationszeitalter: Eine Analyse der strategischen Geschäftsmodelle. (2005) In Die Bank: Zeitschrift für Politik und Praxis, Nr. 11, November. Retrieved January 6, 2009 from http://www.koye partner.ch/pdf_presse/Die_Bank_Nov05_S86.pdf. Kegan, R. (2001). Competencies as Working Epistemologies: Ways We Want Adults to Know. In Rychen, D. S., & Salganik, L. H. (Eds.). Defining and Selecting Key Competencies (pp.192 204). Göttingen: Hogrefe & Huber Publishers. Kegan, R. (1994). In over our heads. Cambridge, MA: Harvard University Press. Kegan, R. (1982). The evolving self. Cambridge, MA: Harvard University Press. Kegan, R. and Lahey, L.L. (2001). How the way we talk can change the way we work. San Francisco: Jossey Bass. Kiev, A. (2005). Hedge Fund Masters: How Top Hedge Fund Traders Set Goals, Overcome Barriers, and Achieve Peak Performance. Hoboken, NJ: John Wiley & Sons, Inc.. Kimberling, L. S. (2008). Ethical reasoning and transformational leadership: An investigation of public sector leaders. Ph.D. dissertation, Capella University, United States Minnesota. Retrieved November 4, 2008, from Dissertations & Theses: A&I database. (Publication No. AAT 3296825). Kline, P. (2000). The handbook of psychological testing. (2nd ed.). New York: Routledge. KOF Swiss Economic Institute (2009). KOF Index of Globalisation 2009: Press Release, Tuesday, 27 January 2009. Retrieved January 28, 2009, from http://globalization.kof.ethz.ch/static/pdf/press_release_2009_en.pdf. Kohlberg, L. (1981). The Philosophy of Moral Development: Moral Stages and the Idea of Justice: Essays on Moral Development, Vol I. San Francisco: Harper & Row. Komisar, L. (2008, December 23). Finance: Crisis Pits Vatican Against Offshore Bankers. TERRAVIVA Europe. Received December 23, 2008, via Email from [email protected]. Kotz, D. H. (2009). Testimony Before the U.S. House of Representatives Committee on Financial Services, on January 5, 2009, by H. David Kotz, Inspector General, U.S. Securities and Exchange Commission. Retrieved January 19, 2009, from: http://www.sec.gov/news/testimony/2009/ts010509hdk.htm. Koye, B. (2005). Private Banking im Informationszeitalter: Eine Analyse der strategischen Geschäftsmodelle. Bern: Haupt Verlag. 287p. Kuhn, T. S. (1970). The Structure of Scientific Revolutions, (2nd ed.). Chicago: University of Chicago Press. Kümin, Martin (2009). Pioneer Investments informiert: "Ethik unverzichtbar für langfristigen Unternehmenserfolg." John Carey folgt bei der Auswahl seiner Investments strengen Leitlinien. Email from [email protected], June 2, 2009.
154 Predicting Fund Manager Integrity and Profitability
Kurtz, J.E. & Tiegreen, S.B. (2005). Matters of conscience and conscientiousness: The place of ego development in the five factor model. Journal of Personality assessment, 85, 312 317. Jaques, E. & K. Cason (1994). Human Capability: A study of individual potential and its application. Falls Church, VA: Cason Hall & Co. Jaques, E. & Clement, S. D. (1994). Executive Leadership: A Practical Guide to Managing Complexity. Arlington, VA: Blackwell Publishing. Knowledge@Emory (2006, May 10). Is It the Fund or the Fund Manager that Fuels Performance? Knowledge@Emory. Retrieved April 10, 2009, from http://knowledge.emory.edu/article.cfm?articleid=964. Knowledge@Wharton (2009, January 7). The Bernard Madoff Case: Trust Takes Another Blow. Knowledge@Wharton. Retrieved June 11, 2009, from http://knowledge.wharton.upenn.edu/article.cfm?articleid=2131. Lahey, L., Souvaine, E., Kegan, R., Goodman, R., & Felix, S. (1988). A Guide to the Subject Object Interview: Its Administration and Interpretation, Cambridge: The Subject Object Workshop. Lakonishok, D., & Vishny, R. (December 1994). Contrarian Investment, Extrapolation, and Risk. The Journal of Finance, XLIX (5). Lamfalussy, A., et. al. (2001, February 15). Final Report of the Committee of Wise Men on the Regulation of European Securities Markets. Brussels: European Union. Retrieved April 6, 2009, from http://www.cesr eu.org/popup.php?ref=Lamfalussy%20Report. Larsen, R. (2008). Jane Loevinger (1918 2008). American Psychologist, 63(7), 618 618. Retrieved November 14, 2008. Laske, O. (2008). On the Unity of Behavioural and Developmental Perspectives in Coaching: A View from the Constructive Developmental Framework. International Coching Psychology Review, 3(2), 123 145. Laske, O. (2006). Mastering Hidden Dimensions: The Art and Science of Fully Engaging Adults, Vol. 1, Boston: IDM Press. Laske, O. (2005). From coach training to coach education. Intern. J. Evidence Based Coaching and Mentoring, 3.2. London, UK. Laske, O. (2004). Can evidence based coaching increase ROI? Intern. J. Evidence Based Coaching and Mentoring, 2.2. London, UK. Laske, O. (2003). Executive development as adult development. J. Demick & C. Andreoletti (Eds.), Handbook of Adult Development, (pp. 565 584). New York: Plenum/Kluwer. Laske, O. (1999). An integrated model of developmental coaching. Consulting Psychology Journal, 51(3), 139 159. Levy, F. & Murnane, R. J. (2001). Key Competencies Critical to Economic Success. In D. S. Rychen, & L. H. Salganik (Eds.). (2001). Defining and Selecting Key Competencies, (pp.151 173). Seattle: Hogrefe & Huber Publishers. Lewis, M. (1989). Liar’s Poker. London: Hodder and Stoughton Ltd.. Loescher, K. J. (2004). The impact of an "ethics across the curriculum" initiative on the cognitive moral development of business school undergraduates. D.B.A.
155 Predicting Fund Manager Integrity and Profitability dissertation, Nova Southeastern University, United States Florida. Retrieved November 4, 2008, from ABI/INFORM Global database. (Publication No. AAT 3118029). Loevinger, Jane (1976). Ego Development. San Francisco, Calif.: Jossey Bass. Logutenkova, Elena (2009, August 1). UBS Tax Probe Settlement Nears as U.S., Swiss Reach Agreement. Bloomberg.com. Retrieved August 2, 2009, from http://www.bloomberg.com/apps/news?pid=20601087&sid=a_qOabdwe.xw#. Love, P.G., & Guthrie, V.L. (2002). Kegan’s Orders of Consciousness. In New Directions for Studen Services, 88, 65 76. Published Online: 19 Dec 2002. Wiley Periodicals, Inc., Retrieved April 30, 2009, from http://www3.interscience.wiley.com/cgi bin/fulltext/102019968/PDFSTART. Lynch, S. N. (2009, April 16). SEC to consider more rules for credit rating companies. The Wall Street Journal Europe, p. 26. Markowitz, H. (1952). Portfolio Selection. Journal of Finance, 7(1), 77 91. Blackwell Publishing for the American Finance Association, Stable URL: http://www.jstor.org/stable/2975974. Marthinsen, J. E. (2009). Risk takers: uses and abuses of financial derivatives (2nd ed.). Boston, MA: Pearson. Mason, J. R. (2008, February 28) A National Homeownership Stretegy for the New Millenium. Market Commentary. Removed from the U.S. Department of Housing and Urban Development web site. Available via Email from the author. Mayer, J., Salovey, P., & Caruso, D. (2008). Emotional intelligence: New ability or eclectic traits? American Psychologist, 63(6), 503 517. Retrieved November 14, 2008. McClelland, D. (1973). Testing for competence rather than for 'intelligence.'. American Psychologist, 28(1), 1 14. Retrieved November 14, 2008. McEachern, C. (2009). Madoff Hearing: SEC Inspector Says Possibility SEC was Complicit. Advanced Trading Blog [on line]. Posted Jan 6, 2009 at 10:18 AM ET. Retrieved July 3, 2009 from http://www.advancedtrading.com/blog/archives/2009/01/the_madoff_cong.html#unde fined. Miligram, S. (1974). The Perils of Obedience. Harper's Magazine. Abridged and adapted from Obedience to Authority by Stanley Milgram. Copyright 1974. Retrieved April 17, 2009 from http://home.swbell.net/revscat/perilsOfObedience.html. Morris, C. R. (2008). The trillion dollar meltdown: easy money, high rollers, and the great credit crash. New York: Public Affairs. Muhtaseb, M. R., & Yang, C. C. S. (2008). Portraits of five hedge fund fraud cases. Journal of Financial Crime, 15(2), 179 213. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 1472787401). Mullineux, A. W. (1987). International Banking and Financial Systems. London: Graham & Trotman. Mulvey, J., & Kim, W. (2008). Active Equity Managers in the U.S.: Do the Best Follow Momentum Strategies?. Journal of Portfolio Management, 34(2), 126 134. Retrieved April 16, 2009, from Business Source Premier database.
156 Predicting Fund Manager Integrity and Profitability
Munger, C. (1995). The Psychology of Human Misjudgment. Speech at Harvard Law School, Estimated date: June, 1995, Retrieved January 23, 2009, from http://www.vinvesting.com/docs/munger/human_misjudgement.html. Nachtwe, J., & Schermuly, C. C. (2009). Acht Mythen über Eignungstests, Harvard Business Manager, Heft 4/2009. . Posted 5 June 2009. Retrieved June 10, 2009, from http://www.harvardbusinessmanager.de/heft/artikel/a 615049.html. Nadler, P. S., Miller, R. B. (1985). The Banking Jungle: How to Survive and Prosper in a Busniess Turned Topsy Turvy. New York: John Wiley & Sons. Norton, J., & Walker, G. A. (Eds.) (2000). Banks: Fraud and Crime (2nd ed.). Colchester: Lloyd's of London Press. Obama, B. (2009). Remarks by the President on the Economy. Georgetown University, Washington, D.C., April 14, 2009. Posted April 16, 2009, 1:37 PM ET. Retrieved 22 April 2009, from http://blogs.wsj.com/capitaljournal/2009/04/16/the obama speech on the economy. Ocrant, M. (2001, May). Madoff tops charts; skeptics ask how. MAR/Hedge (RIP), No. 89. Retrieved January 22, 2009, from http://www.valueplays.blogspot.com/2008/12/bernie madoff interview from 2001.html. OECD (2009). Financial market stability: Enhancing regulation and supervision. OECD Economic Surveys 2009, (1) 103 – 150. Retrieved January 28, 2009, from http://oberon.sourceoecd.org/vl=4215938/cl=16/nw=1/rpsv/ij/oecdjournals/03766438/ v2009n1/s6/p103. Ostas, D. T. (2007). When Fraud Pays: Executive Self Dealing and the Failure of Self Restraint. American Business Law Journal, 44(4), 571 601. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 1557763991). Paul, R. (2009). Statement at the House Financial Services Committee hearing on “Madoff Fraud Allegations and Financial Markets Regulation”. Recorded by C SPAN on 5 January 2009. Transcribed from http://www.youtube.com/watch?v=Xir5j8SjVlI “Ron Paul Madoff "Irrelevant SEC + Congress + Moral Hazard + US Gov't Ponzi Schemes”, on July 3, 2009. Partnoy, F. (2001). The Paradox of Credit Ratings(2001). U San Diego Law & Econ Research Paper No. 20. Available at SSRN: http://ssrn.com/abstract=285162, Retrieved on April 20, 2009. Partnoy, F. (2003). Infectious Greed: How Deceit and Risk Corrupted the Financial Markets. London: Profile Books. Partnoy, Frank, (2006). How and Why Credit Rating Agencies are Not Like Other Gatekeepers. In Y. Fuchita & R. E. Litan (Eds.) Financial Gatekeepers: Can They Protect Investors? Brookings Institution Press and the Nomura Institute of Capital Markets Research. San Diego Legal Studies Paper No. 07 46. Retrieved on April 20, 2009, from SSRN: http://ssrn.com/abstract=900257. Partnoy, F. (2009). Derivative Dangers. Radio Interview on Fresh Air from WHYY. Retrieved from http://www.npr.org/templates/story/story.php?storyId=102325715 on 21 April 2009. Phillips, M. M. (2009, January 6). Trouble from big loan on small house snares its owner, mortgage investors. The Wall Street Journal Europe.
157 Predicting Fund Manager Integrity and Profitability
Piaget, J. (1932). The Moral Judgment of the Child. (5th impression 1968). Translated by Marjorie Gabain. London: Routledge & Kegan Paul Ltd.. Piaget, J. (1932). The Moral Judgment of the Child. Translated by M. Gabain. Glencoe, IL: The Free Press. Retrieved February 16, 2009, from http://www.archive.org/stream/moraljudgmentoft005613mbp/moraljudgmentoft00561 3mbp_djvu.txt. Pictet, I. (2009, 8. Juli). Einfache Erkenntnisse aus der Grosskrise. Handelszeitung. Pirson, M. (2007). Facing the trust gap: measuring and building trust in organizations. University of St. Gallen, Dissertation No. 3276. Hannover: Druckereiname Digit(all). Pohl, M. (Chief Ed.), & Freitag, S. (Assistant Ed.) (1994). Handbook on the history of European banks. European Association for Banking History e.V.. Aldershot, UK and Brookfield VT: Edward Elgar Publishing Ltd.. Polanyi, K. (1944). The Great Transformation: the political and economic origins of our time. Boston: Beacon Press. Pontell, H. N. (2005a). Control fraud, gambling for resurrection, and moral hazard: Accounting for white collar crime in the savings and loan crisis. Journal of Socio Economics, 34(6), 756 770. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 941924801). Pontell, H. N. (2005b). White collar crime or just risky business? The role of fraud in major financial debacles. Crime, Law and Social Change, 42(4 5), 309 324. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 912764361). PricewaterhouseCoopers (2009). Global Private Banking and Wealth Management Survey 2009. Retrieved July 15, 2009, from http://www.pwc.com/extweb/pwcpublications.nsf/docid/42A96E5FB805804E8525754 70015DD8C. Ramlogan, Julia Indera (2009). New international bank governance: an empirical study based on interviews with chairpersons, board members, CEOs and governance experts of global financial institutions. Difo Druck GmbH, Bamberg. Rest, J. R., & Narváez, D. (1994). Moral Development in the Professions: Psychology and Applied Ethics. Hillsdale, NJ: Lawrence Erlbaum Associates. Ritzmann, F. (1966). Some relationships between the structure of bank assets and debts in Switzerland. Franz Ritzmann. Unpublished white paper. Robertson, I. (1996). Personnel Selection and Assessment. In P. Warr (Ed.), Psychology at Work (4th ed., pp.121 160). London: Penguine Books. Rooke, D. & Torbert, W. R. (1998). Organizational transformation as a function of CEO's developmental stage. Organization Development Journal, 16(1), pp. 11 28. Retrieved February 13, 2009, from http://www.dialogonleadership.org/docs/Torbert.pdf. Rubino, J. (2007). Meltdown. CFA Magazine, July August 2007, pp. 38 43. Rychen, Dominique Simone, and Laura Hersh Salganik, eds. (2001). Defining and Selecting Key Competencies, Hogrefe & Huber Publishers, Seattle. Rychen, D. S., & Salganik, L. H. (Eds.). (2001). Defining and Selecting Key Competencies. Göttingen: Hogrefe & Huber Publishers.
158 Predicting Fund Manager Integrity and Profitability
Rychen, D. S., & Salganik, L. H. (Eds.). (2003). Key competencies for a successful life and a well functioning society. Cambridge, MA: Hogrefe & Huber. Scannell, K. (2009, January 6). Madoff chasers dug, but to no avail. The Wall Street Journal Euorpe. Schurr, S. (2006, March 20). An Unbeaten Risk Taker. The Financial Times, p. 8. Schurr, S. (2006, March 20). To live and dream hedge funds. The Financial Times, 8. SDA (2009, July 29). Schweizer vertrauen Swatch am meisten. News, Zürich: NP NEWS Print AG, p. 8. Securities and Exchange Commission (2008). Credit Rating Agencies—NRSROs. http://www.sec.gov/answers/nrsro.htm Modified: 09/25/2008. Retrieved April 20, 2009. Securities and Exchange Commission (2009). Oversight of Nationally Recognized Statistical Rating Organizations. http://www.sec.gov/divisions/marketreg/tmcompliance/nrsro secg.htm Modified: 04/10/2009. Retrieved April 20, 2009. Sheeran, P., & Spain, A. (2004). The international political economy of investment bubbles. Burlington, VT: Ashgate Publishing. Shichor, D. (2009). "Scholarly influence" and white collar crime scholarship. Crime, Law and Social Change, 51(1), 175 187. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 1613588021). Shiller, R. J. (2003a. September 25). The Market’s Most Valuable Stock Is Trust. The Wall Street Journal, p. A18. Shiller, R. J. (2003b). From Efficient Market Theory to Behavioral Finance. Journal of Economic Perspectives, 17(1), 83 104. Shiller, R. J. (2005a). Behavioral Economics and Institutional Innovation. Southern Economic Journal, 72(2), 268. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 909522211). Shiller, R. J. (2005b). Irrational exuberance, 2nd ed.. Princeton, NJ: Princeton University Press. Shiller, R. J. (2008a) Financial Markets with Professor Robert Shiller, Open Yale courses, [On Line] http://oyc.yale.edu/economics/financial markets, Retrieved May 14, 2009. Shiller, R. J. (2008b). The subprime solution: how today's global financial crisis happened, and what to do about it. Princeton, NJ: Princeton University Press. Schneider, K. (2009). „Ethik zahlt sich aus“, Interview with Jörg Althammer. Die Zeit, 05.03.2009 Nr. 11 Retrieved April 7, 2009, from http://www.zeit.de/2009/11/C Interview. Shohai, S., & Feiger, G. (2002). Les banquiers Suisse: Can they remain leaders in private banking? Journal of Financial Transformation, p. 65 72. Retrieved December 5, 2008, from http://www.capco.com/?q=content/journal detail&sid=80. Silverman, David (2001). Interpreting Qualitative Data: Methods for Analysing Talk, Text and Interaction (2nd ed.). London: SAGE Publications.
159 Predicting Fund Manager Integrity and Profitability
Simonian, Haig, Daneskhu, Sheherazade, and Hollinger, Peggy (2009). Deutsche Bank turned down loans for Madoff investments. Financial Times, 8 January 2009. Steenbarger, B. N. (2003). The Psychology of Trading: Tools and Techniques for Minding the Markets. Hoboken, NJ.: John Wiley & Sons, Inc.. Stewart, J., & Cramer, J. (2009, March 12). Jim Cramer Unedited Interview Pt. 1, 2 & 3. The Daily Show, Comedy Central, Comedy Partners. Video available at http://www.thedailyshow.com/video/index.jhtml?videoId=221516&title=Jim Cramer Unedited Interview Pt. 1. Transcript retrieved April 28, 2009, from http://www.mahalo.com/answers/money/jim cramer jon stewart fight video with transcript. Stewens, C. (2005). „Zwischen Gewissen und Gewinn“ oder: Sind Menschlichkeit und Wirtschaftlichkeit unvereinbar? In U. Meier & B. Sill (Hgs.) Zwischen Gewissen und Gewinn: Wertorientierte Personalführung und Organisationsentwicklung (pp. 73 84). Regensburg. Verlag Friedrich Pustet. Stiglitz, J. E. (2001). Information and the Change in the Paradigm in Economics. Nobel Prize Lecture, December 8, 2001. Stiglitz, J. E. (2008). Information. In The Concise Encyclopedia of Economics. Retrieved January 29, 2009, from http://www.econlib.org/library/Enc/Information.html. Stucki, L. (1981). Das heimliche Imperium: wie die Schweiz reich wurde. [Neuausg.], Frauenfeld: Huber Verlag. Subject Centre for Philosophical and Religious Studies (undated a). Assessment Within Applied/Professional Ethics. Department of Theology and Religious Studies, University of Leeds. Retrieved November 4, 2008, from http://prs.heacademy.ac.uk/projects/ethics/documents/benchmarks.pdf. Subject Centre for Philosophical and Religious Studies (undated b). Summary of Benchmark Statements. Department of Theology and Religious Studies, University of Leeds. Retrieved November 4, 2008, from http://www.prs.heacademy.ac.uk/projects/ethics/documents/assessment.pdf. Subject Centre for Philosophical and Religious Studies (undated c). Confidentiality. Department of Theology and Religious Studies, University of Leeds. Retrieved November 4, 2008, from http://prs.heacademy.ac.uk/projects/ethics/documents/confidentiality.pdf. Subject Centre for Philosophical and Religious Studies (February 2001), “Consent”, Department of Theology and Religious Studies, University of Leeds. Retrieved November 4, 2008, from http://prs.heacademy.ac.uk/projects/ethics/documents/consent.pdf. Suzuki roshi, S. (1970). Zen Mind Beginner’s Mind. New York & Tokyo: Weatherhill. Szasz, A. (1986). Corporations, organized crime and the disposal of hazardous waste. Criminology, 24, 1 27. Tanous, P. J. (1997). Investment Gurus: A road Map to Wealth from the World's Best Money Managers. New York: New York Institute of Finance. Tapscott, D., & Williams, A. D. (2008). Wikinomics: How Mass Collaboration Changes Everything. London: Atlantic Books.
160 Predicting Fund Manager Integrity and Profitability
Taulli, T. (2003). Can Financial Instruments Become A Force For Evil?: A Review of Frank Partnoy's Infectious Greed. Find Law, Legal News and Commentary. Posted 11 July 2003. Retrieved June 18, 2009, from http://writ.news.findlaw.com/books/reviews/20030711_taulli.html#bio. Thaler, R. H. & Sunstein, C. R, (2008) . Nudge : improving decisions about health, wealth, and happiness. New Haven, CT: Yale University Press. The European Value Investor (2009, March 1) Dr. Magne Orgland Active Indexing® Strategie. Interview. The European Value Investor. 3. Retrieved May 5, 2009, from http://www.wegelin.ch/xfer/print/new/0903_European_Value_Investor_Interview_OR G_de.pdf. Tillman, R. (2009). Making the rules and breaking the rules: the political origins of corporate corruption in the new economy. Crime, Law and Social Change, 51(1), 73 86. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 1613588031). Time Magazine (18 July 1977). Less Go Go in Switzerland, Time Magazine. Retrieved April 3, 2009, from http://www.time.com/time/magazine/article/0,9171,915141 1,00.html. Tourish, D. (2006). The appraisal interview reappraised. In O. Hargie (Ed.) The handbook of communication skills. 3rd ed. London: Routledge. pp. 505 530. Retrieved October 12, 2008, from http://hdl.handle.net/10059/197. Tourish, D., & Robson, P. (2006). Sensemaking and distortion of critical upward communication in organizations. Journal of Management Studies, 43(4), 711 730. Retrieved October 12, 2008, from http://hdl.handle.net/10059/182. Vatican Radio (2009). Charity in Truth, a Synthesis. Posted 7 July 2009. Retrieved July 8, 2009, from http://www.vaticanradio.org/english/Articolo.asp?c=300446. Wall Street Journal (2009, April 16). A Triple A Idea, Editorial, The Wall Street Journal Europe. Waxman, H. A. (2008a). Opening Statement of Rep. Henry A. Waxman, Chairman, U.S. House of Representatives Committee on Oversight and Government Reform, hearing on “Credit Rating Agencies and the Financial Crisis”. Held on Wednesday, October 22, 2008. Retrieved April 20, 2009, from http://oversight.house.gov/story.asp?ID=2255. WCSDG (2004). A Fair Globalization: Creating Opportunities for All. World Commission on the Social Dimension of Globalization, International Labor Office, Geneva. Retrieved January 29, 2009, from http://www.ilo.org/public/english/wcsdg/docs/report.pdf. Webster's third new international dictionary of the English language: with seven language dictionary. Chicago
161 Predicting Fund Manager Integrity and Profitability
Whalen, R. C. (2008, March). The Subprime Crisis – Cause, Effect and Consequences. Policy Brief. Networks Financial Institute, Indiana State University, 2008 PB 04. Retrieved April, 2009, from http://ssrn.com/abstract=1113888. Wink, Walter (1986). Unmasking the Powers: The Invisible Forces That Determine Human Existence. Augsburg: Fortress Press. Work and Society Research Network (WSRN) (no date). Emotional Intelligence: an introduction to key terms and themes. Retrieved January 28, 2009, from http://www.workandsociety.com/downloads/eaw1.pdf. Wozniak, J. F. (2009). C. Wright Mills and higher immorality: implications for corporate crime, ethics, and peacemaking criminology. Crime, Law and Social Change, 51(1), 189 203. Retrieved January 19, 2009, from ABI/INFORM Global database. (Document ID: 1613588041). Zuckerman, G. (2009, January 13). For money manager Brad Balter, the Madoff effect lingers. The Wall Street Journal Europe. Zweig, J. (2004). Lessons and Ideas from Benjamin Graham. AIMR. Retrieved April 27, 2009, from: http://www.scribd.com/doc/13560025/Lessons Ideas Benjamin Graham.
162 Predicting Fund Manager Integrity and Profitability
5.2 List of Informational Interviews
Claude Baumann, journalist, editor of www.FiNews.ch, author of “Swiss Banking – wie weiter” and numerous other publications. Interview on April 1, 2009.
Dr. Hans Vontobel, Honorary President, Bank Vontobel, Zurich. Interview on December 8, 2008.
163 Predicting Fund Manager Integrity and Profitability
5.3 Final Certificate from the Interdevelopmental Institute
164 Predicting Fund Manager Integrity and Profitability
5.4 Long Letter Requesting Research Cooperation
name address Bank / Fund Fax: Email:
Date
Ethics and Maturity Lead to Profitability
Dear ______
I think research will show that there is a correlation between ethical judgment capacity, socio-emotional maturity and the medium- to long-term profit produced by fund and portfolio managers. Even a small, positive correlation could have significant implications for fund and portfolio manager selection processes and the profitability of financial institutions. Further, significant positive results could contribute altering public perceptions about the characteristics of intelligent investing.
This letter describes doctoral dissertation research under Professor Dr. Martin Hilb and Professor Dr. Dres h.c. Rolf Dubs at the Institute for Leadership and Human Resource Management, University of St. Gallen, Switzerland (www.unisg.ch). To the best of my knowledge, no one has attempted similar research. Your assistance in finding a cooperating finance institution (such as a bank, mutual fund or hedge fund) would be greatly appreciated.
Background and Research Questions
Developmental psychology assessments are grounded in the school of thought started by the Swiss child psychologist Jean Piaget in Geneva in the 1960s. In the 1970s and 80s, Professor Lawrence Kohlberg, Harvard University School of Education, used Piaget’s methodology to examine the development of ethical judgment capacity in children and adults. Professor Robert Kegan built on this foundation by uncovering the stages of socio-emotional maturation throughout the lifespan. I received certification in these developmental psychology assessments from the Interdevelopmental Institute in Boston, MA under the direction of Otto Laske, D.Phil. and Psy.D. (www.interdevelopmentals.org).
Though over 40 years of research exists, the use of these assessments is relatively new to human resources management, and rigorous research on the application of these measures to specific problems in business and industry is still in the early stages. The basic research questions posed in this study are:
(1) Will fund manager scores in ethical judgment, as measured by the “Defining Issues Test” (DIT), show a correlation with market returns?
This line of inquiry asks whether a well-developed capacity for ethical decision-making is correlated with higher profitability among investment managers. The primary question is whether a correlation exists between the level of development (capacity to process complexity) in ethical thinking and profitability. This question also touches on the issue of whether conscience and profit are opposing forces (a common perception), or mutually supportive (hypothesis of this study).
(2) Will fund manager scores in emotional maturity, measured in the “Subject-Object Interview” (SOI), show a correlation with market returns?
Trading behavior by portfolio and fund managers frequently becomes fixed in particular styles or tendencies that favor, for example, their own “pet” companies, industries, commodities, or other
165 Predicting Fund Manager Integrity and Profitability
investments. They can become too personally attached (projecting subjective perceptions onto external reality) to one or another decision they have made, and not able to pull out when they should, their decision making capacity being held hostage to their emotional structure. Further, the degree of objectivity in their original choice of where to look for market opportunities, may be influenced not just by their cognitive capacity, but also the degree of “objectivity” in the socio-emotional sense.
A sample question from the DIT is attached below to provide an impression of this instrument. The essence of the SOI is more difficult to convey, though I can explain the basic concepts to most audiences in 20 minutes using the attached diagram.
Capacity for Ethical Decision Making and Success in Fund Management
Several closely related questions are addressed by researching the possible correlation between ethical perception and performance in financial markets: Is it possible that a well-developed sense of morality and ethical behavior correlates with higher profitability among investment managers? Is it possible that a correlation exists between ethical and moral perception, which rests in cognitive ability, and ability to assess and decide upon investment potential? Is it possible that top-tier fund managers with a highly developed sense of ethics may, due to this ability, be better investors because the complexity of decision- making in ethics is similar to the thought processes necessary in financial markets; and they may be more alert to ethical and governance factors that could represent risk of scandal and poor performance in particular investment opportunities?
The literature that considers both ethics and finance thus far identified, does so by addressing (a) legal enforcement concerns and criminality, (b) moral education in the professions, (c) ethical, socially responsible and sustainable investment, and (d) broader ethical concerns of economy and society. For example (of “d”), in her essay “Zwischen Gewissen und Gewinn” (Between Conscience and Profit), Christa Stewens points to a central issue in discussions of economy and society, describes challenges and provides general answers.
"Conscience and profit" are not, according to my firm conviction, unbridgeable contrasts. "Conscientious" leadership decisions and humanity in leadership should not be regarded as unprofitable wishful thinking, well-meaning or unworldly utopian concepts. Rather values such as justice, personal dignity and liberty, solidarity and readiness to assist the vulnerable, including an acknowledgment of readiness efforts – should also be considered as gains, also in their economic aspects.64
One can wish that decision makers with financial weight would think in such a holistic and value-oriented manner and work to impress the next generation of managers with the importance of acting responsibly with the power they will soon wield. Yet it is obvious that all too many bankers and investors are more narrowly oriented toward profit in a purely financial sense and make their decisions based on what is most likely to bring financial profitability, even in very short time spans. Indeed, the very structure of financial markets supports this tendency. In posing the question of whether conscience and profit (“Gewissen und Gewinn”) are opposing forces, the research described here seeks to focus the question narrowly to meet the thinking of these decision makers on their own ground.
In examining the issue of infusing ethics into business practice, Klaus Beck identifies three approaches:
(i) to improve theory of moral education and thereby practice of moral education, (ii) to establish more and strict regulations supplemented with penalties and (iii) to enhance business people’s moral competence.65
64 Stewens, Christa (2005). „Zwischen Gewissen und Gewinn“ oder: Sind Menschlichkeit und Wirtschaftlichkeit unvereinbar?, in Uto Meier und Bernhard Sill (Hg.) Zwischen Gewissen und Gewinn: Wertorientierte Personalführung und Organisationsentwicklung. Regensburg. Verlag Friedrich Pustet. Page 71. (translation from German to English by the author) 65 Beck, K. (2003). Morals for Merchants - Desirable, Reasonable, Feasible?, Arbeitspapiere Wirtschaftspädagogik, 48. 166 Predicting Fund Manager Integrity and Profitability
A fourth approach, introduced and tested by this study, is whether the evidence will show that it may be possible: (iv) to change the market conditions by making moral competence more attractive to employers and investors.
If the evidence shows a positive correlation between ethical judgment capacity and profitability, this result would motivate increased attention to (iii) and perhaps, eventually, reduce the need for regulatory expenditure in (ii). While informing and influencing public opinion is one approach currently being used by many pressure groups to change market conditions, involving public information, providing SRI opportunities, boycott of goods, etc., the present study would contribute an examination of economic results that could point to a factual condition in the economy that would substantiate approach (iv) by taping into the logic inherent in the profit motive.
Is it true that “honesty is the best policy” as is commonly said? Are conscience and profit opposing forces, or mutually supportive? A more specific rendering of the question for the present study would be to ask ‘whether a well-developed sense of morality and ethical behavior is correlated with higher profitability among investment managers.’
This narrower question is not meant to oppose or deflect attention from the holistic view, nor the values that Stewens, Beck and others wish to support. Rather, in seeking to answer a more narrowly defined question, it is hoped that the results of this experiment will show that moral capacity is a positive influence on profitability. If correct, persons driven by profit, even if narrowly defined, may be encouraged both to ascribe more importance to moral and ethical capacity when making decisions about where to invest or which fund or portfolio manager to entrust with their capital, and also to begin viewing the broader moral landscape of business and economy.
Socio-Emotional Maturity and Fund Management
Where behavioral finance studies market swings by tracing the collective attitudes of investors, this study focuses on individual actors in these markets to see whether it is possible to predict which fund or portfolio managers are more likely to “go with the flow” of collective attitudes about the market, and which managers are more able to resist the crowd and follow their own genius. In an interview some years ago, legendary Magellan Fund manager Peter Lynch commented:
Some people say you can’t buy companies with unions, or you can’t buy companies in dying industries … These are prejudices and biases that prevent people from looking at a lot of different industries. I never had that. I think there are good and bad stocks everywhere.66
In this statement, Lynch portrays a level of socio-emotional maturity that allowed him to make decisions free from social convention – including the opinions of his investors – and kept him free from building up the prejudices and biases that would have interfered with his rational choice.
Lawrence Kohlberg and Robert Kegan found that development of cognitive, ethical and emotional abilities stretches out over a bell-curve in adult populations. Some of us remain emotional teen-agers, most of us become well-adjusted adults but tied to the conventions current in the social groups to which we belong, and a few of us grow beyond this stage to generate the capacity for self-authoring and true leadership. Further, socio- emotional development does not always run parallel with cognitive ability or ethical judgment. Basically, some fund managers may be able to construct and use highly effective quantitative programs, and yet be weak on the other human factors necessary to produce sound investment decisions. Even for this group, there is hope. As Robert Kegan says: “We must be clear that what we are calling “intelligence” is a capacity that evolves, and that this evolution can be encouraged.”67 There are ways to identify, address and ‘coach’ our various kinds of intelligence. No one needs to remain “stuck” at any developmental level.
66 Tanous, P.J., (1997) Investment Gurus: A Road Map to Wealth from the World’s Best Money Managers. New York Institute of Finance. 67 Kegan, R. (1994). In Over Our Heads. Cambridge MA: Harvard University Press 167 Predicting Fund Manager Integrity and Profitability
Current quantitative methodologies used in modern portfolio management are highly successful in preventing “human factors” from interfering with rational choice, yet one hears a few voices commenting that at the end of this line of development, we still need human judgment. Perhaps measuring the ability to maintain independence of judgment could provide a solution to this dilemma. In addition, though the SOI assessment is a qualitative process, requiring a schooled human evaluative capacity, the assessment result is a quantitative value, that can be expressed numerically, and can be factored into existing quantitative models as an additional refinement. Also of interest for the investment community more broadly is whether these assessments could help us identify the next Peter Lynch at an early stage.
Practical Considerations & Possible Areas of Cooperation
The research concept, described above, has been approved at the University of St. Gallen, and I am currently looking for an institution or institutions willing to support the data gathering and analysis stage of this project. Either or both of the assessments described (SOI and DIT) could be used, and the precise characteristics of the data set can be adapted to suit the cooperating institution.
The size of the data sample, and concomitant scientific validity of the research, depends largely on the availability of funding and access to fund/portfolio managers of, or connected to, the cooperating institution(s). A small sample size of perhaps 10 fund or portfolio managers would produce a “hypothesis building” study that could be useful in showing the utility of a larger research project. A scientifically valid study would require a minimum sample size of 100 persons, where the entire group would complete the DIT and a sample of perhaps 30 of this group would then be selected to also take the SOI.
To complete this research project in its smallest, hypothesis building iteration, the following resources are required: 1. Two hours of time each from 10 portfolio or fund managers (one hour to complete two questionnaires, and one hour for an in-person or telephone interview); 2. Financial results data (at least 5 years, Sharp or Sortino Ratio) for the portfolio or fund managers; 3. Interviews of 30 minutes each with persons who provide strategic direction (senior management) and management services (HR) to these fund managers; 4. Financial support for direct costs (including interview transcriptions, communications and possible travel) and stipend for the researcher.
A participating institution could participate in this research in several ways: 1. Enabling interviews of fund or portfolio managers as a pilot to test the methodology; 2. Provide advice on, and connections to, other companies that could be interested in this study; 3. Financial assistance, even of a token amount, would be greatly appreciated, and would send an important signal to any further companies considering involvement.
It is possible that developmental assessments will, in the future, be recognized as having significance for the financial services industry. I am looking for an institution willing to invest in this possibility. The participating institution(s) could benefit from this study through: 1. Immediate use (based on written agreement) of DIT and SOI; 2. Positive correlation with fund manager performance, if found, would lead to increased profitability; 3. Acknowledgement of support for the research in the publication of results.
The implications of this study include whether an attitude of stewardship, implied in part by moral and emotional maturity, is more likely to lead to medium and long-term wealth creation than an the “Liar’s Poker” approach embedded in popular imagination. Moral and emotional maturity are traditional values,
168 Predicting Fund Manager Integrity and Profitability and also arguably the most essential for facing and mastering the increasingly complex global environment.
I welcome any suggestions you may have that could improve this study, and to any form of cooperation you may suggest. Please feel free to contact me for any further information or clarifications. I look forward to your response.
With best regards, I am
Sincerely yours,
Jon M. Ebersole
Attachments: • A Sample from the Defining Issues Test (DIT) • Stages of Socio-Emotional Development in Adults
169 Predicting Fund Manager Integrity and Profitability
A Sample from the Defining Issues Test (DIT) The following is an example of the kind of problem posed by the DIT. Eight such problems are posed in an actual DIT assessment. The scoring of this assessment leads to a ranking on the six-level scale below. “The Heinz Dilemma”: Heinz’s wife is dying of cancer and needs a drug that an enterprising druggist has invented. The druggist demands such a high price that Heinz cannot raise the money. Should Heinz steal the drug to save his dying wife? In deciding how Heinz should respond, evaluate (scoring from 1 to 5, with 5 as most important) which of the items below raise the most important considerations, and then order them from 1 to 12, with 1 being the most important. Score Rank The “Defining Issues” 1-5 1 to 12 Whether a community’s laws are going to be upheld. Isn’t it only natural for a loving husband to care so much for his wife that he’d steal? Is Heinz willing to risk getting shot as a burglar or going to jail for the chance that stealing the drug might help? Whether Heinz is a professional wrestler, or has considerable influence with professional wrestlers. Whether Heinz is stealing for himself or doing this solely to help someone else. Whether the druggist’s rights to his invention have to be respected. Whether the essence of living is more encompassing than the termination of dying, socially and individually. What values are going to be allowed to hide behind a worthless law that only protects the rich anyhow. Whether the druggist is going to be allowed to hide behind a worthless law that only protects the rich anyhow. Whether the law in this case is getting in the way of the most basic claim of any member of society. Whether the druggist deserves to be robbed for being so greedy and cruel. Would stealing in such a case bring about more total good for the whole society or not?
Six Stages in the Concept of Cooperation Stage 6 The morality of non-arbitrary social cooperation: Morality is defined by how rational and impartial people would ideally organize cooperation. Stage 5 The morality of consensus-building procedures: You are obliged by the arrangements that are agreed to by due process procedures. Stage 4 The morality of law and duty to the social order: Everyone in society is obliged to obey, and is protected by, the law. Stage 3 The morality of interpersonal concordance: Be considerate, nice, and kind: you’ll make friends. Stage 2 The morality of instrumental egoism and simple exchange: Let’s make a deal. Stage 1 The morality of obedience: Do what you’re told. From Lawrence Kohlberg’s theory of moral development. (Table based on Kohlberg, 1981 and Rest & Narvaez, 1994)
170 Predicting Fund Manager Integrity and Profitability
Stages of Socio-Emotional Development in Adults
Developmental S-2 S-3 S-4 S-5 Level Instrumental Other Dependent Self-Authoring Self-Aware Organizational Individualist Group Manager Leader Perspective Contributor Management Proto- Pre-Bureaucratic Bureaucratic Post-Bureaucratic Orientation Bureaucratic View of Others Instruments of Needed to Collaborator, Contributors to own need contribute to own delegate, peer own integrity and gratification self image balance Level of Self Low Moderate High Very High Insight Values Law of the Jungle Community Self-determined Humanity Needs Overriding all Subordinate to Flowing from Viewed in others’ needs community, work striving for connection with group integrity own obligations and limitations Need to Control Very High Moderate Low Very low Communication Unilateral Exchange 1:1 Dialogue True Communication Organizational Careerist Good Citizen Manager System Leader Orientation Frame of Reference Stratification from Susan Cook-Greuter (1999) & Otto Laske (2005)
Robert Kegan’s stages of Socio-Emotional Development, as illustrated by Jon Ebersole
171 Predicting Fund Manager Integrity and Profitability
5.5 Short Letter Requesting Research Cooperation
name address Bank / Fund Fax: Email:
Date
Interview Request
Dear ______
At the suggestion of my doctoral supervisor, Prof. Dr. Martin Hilb, I take the liberty of writing to you regarding research I am undertaking at the Institute for Leadership and Human Resource Management at the University of St. Gallen.
I am developing a simple instrument to identify fund managers with potential for exceptional performance at the earliest stages of their careers. To verify this instrument, I am interviewing top fund managers in Swiss banks with proven records of exceptional performance. The goal is to identify certain characteristics that successful fund managers have in common.
Your assistance would be greatly appreciated in securing the agreement of one or more top fund managers at RBS Coutts to make 45 minutes available for a recorded interview. Confidentiality and anonymity are guaranteed.
Participating institutions will be the first to receive the results of this study, and provided with the instrument (excluding any necessary training) at no cost. At your request I would be happy to meet with you to explain this research in more detail.
In the coming days I will contact your office to secure your response. Please feel free also to contact me directly at any time. Thank you for taking the time to consider this request.
With best regards, I am
Yours sincerely,
Jon Ebersole
172 Predicting Fund Manager Integrity and Profitability
5.6 Banks and Investment Companies Contacted
Banks and Investment Companies Contacted by Jon Ebersole in pursuit of an agreement to host dissertation research
Bank/Fund Action Taken* 1 AIG emails, letter 2 ALTIN.ch conversation at presentation, emails, phone calls 3 Alternative Bank ABS letters, phone calls 4 AXA Investment Managers letter, meeting, emails 5 Bank Vontobel AG letters, phone calls, meetings 6 Banque Sarasin & Cie SA letters, phone calls 7 Care Group AG letters, emails, phone calls, meetings 8 Citibank phone calls, meeting (in Dobbs Ferry, NY, USA), letter 9 Clariden Leu AG letter, phone call 10 Credit Suisse, Private Banking emails, letter 11 Deutsche Asset Management, email exchange Frankfurt 12 Deutsche Bank Research letter, phone call 13 EIM SA (Fund of Hedge Funds) multiple letters, emails, proposal, two meetings in London and one in Nyon 14 Ethos Foundation emails, phone calls 15 Goldman Sachs & Co. email, phone call, letter 16 HSBC emails, meeting HSBC Private Bank email, letters, phone calls HSBC Republic Investments Limited letter, phone calls 17 ING Private Banking email exchange 18 La Roche & Co. Banquiers letter 19 The LGT Group letter, phone call 20 Merlin Global Enterprise AG email, letter, phone call 21 Norddeutsche Landesbank phone calls, letters, meeting (New York) 22 Partners Group letter, phone call 23 Pax World Management Corp. letters, phone calls Pax World Management Corp. and Pax World Funds 24 Pioneer Investments letter, emails 25 Raiffeisen Schweiz letters, phone calls 26 RBS Coutts Bank Ltd. letter, phone call 27 Skandifinanz AG letter, phone call, meeting 28 Thomas Lloyd Group plc letter, emails 29 UBS phone calls, letters, emails, meetings 30 Zürcher Kantonalbank letter, phone call *Unless otherwise noted, meetings took place in the Zurich area
173 Predicting Fund Manager Integrity and Profitability
These tables are provided without names. The same table with names listed has been sent as a confidential document to Prof. Dr. Martin Hilb.
Four banks agreed to single interviews with fund managers, one of these provided two interviews, resulting in the five interviews that were scored, as described in section 3, the “Specific Empirical Section.” Two of the four banks are among those listed in the table above, since they turned down the full research project. In both of these cases, the persons who facilitated and agreed to the single interviews were different from the persons who had previously declied the larger research project and were not aware of the earlier interaction.
It would be impossible to reconstruct all the networking that took place to find the contacts listed in the table above. Prof. Dr. Martin Hilb and Dr. Julia Indera Ramlogan were kind enough to provide some of these names. Others came from friends, acquaintances, participating in seminars and presentations, and through internet contacts. The table below is indicative but not complete.
Affiliation/Role Action Taken* 3 A SA, Fund Analyst letters, meetings Academic email exchange Christian Science Monitor email, offered article Citywire.co.uk emails, phone calls, possible article or conference presentation Edhec Risk Advisory email exchange FiNews.ch, Journalist emails, meetings Forma Futura Invest AG letter, phone calls Fund Analyst, Independent emails, meetings Harcourt Investment Consulting AG attended 6 quarterly “Harcourt Hedge Fund Seminar” breakfasts Hedgeweek.com, Hedgemedia Ltd., letters, offered article Hedgeworld.com email, phone call Index Day seminar attended half day event in Zurich Investor emails, meeting Investor emails Investor emails, meeting Newsweek, and Slate.com Business email, offered article Columnist Ökumenisches Institut Luzern presentation made at “Forum Ökumene 2009” Opalesque Ltd., www.opalesque.com offered article, they posted research proposal on their web site Peritus Investment Consultancy letters, meeting UBS – Wolfsberg letters, emails, meeting, made presentation at conference Xing.com (an on line network) Emails, meetings *Unless otherwise noted, meetings took place in the Zurich area
174 Predicting Fund Manager Integrity and Profitability
5.7 Curriculum Vitae of Author
Jon M. Ebersole, MA, MS Postfach 204, CH-8910 Affoltern am Albis, Switzerland [email protected]
SUMMARY
• Founder and Managing Director, Dialogue Services GmbH • Mediator certified by the Swiss Chamber of Commercial Mediation • Master Certified Developmental Coach, Interdevelopmental Institute, Boston
Professional Experience Dialogue Services GmbH October, 2000 – Present Self employed as coach, mediator, trainer, meeting facilitator, and policy consultant. Organization for Economic Co-operation and Development 99-00 Coordinator and Special Advisor, Development Assistance Committee (DAC), Task Force on Conflict, Peace and Development Co-operation, Paris, France United Nations 94-98 Humanitarian Affairs Officer, OCHA, Geneva, Switzerland Human Rights Officer, UNAVEM III, Luanda, Angola Training Officer and Political Affairs Officer, UN Secretariat, New York, USA World Conference on Religion and Peace 92-94 Director, Program on Humanitarian Assistance, New York, NY, USA Employed in Non-Governmental Organizations 78-92 in New York, Beirut and Jerusalem.
Education & Awards Doctoral Candidate, Univ. of St. Gallen, Institute for Leadership and Personnel Management 03- M.S. in Public Administration, New York Univ., New York, USA 92 Adjunct Fellow, Center for International Studies, NYU School of Law 91-92 M.A. in Cultural Anthropology, State Univ. of New York at Binghamton, USA 90 T. J. Watson Foundation Fellowship for the study of sectarian and international conflict 83-84 B.A. in Peace and Conflict Studies, Earlham College, Richmond, IN, USA 81
Other Activities Member, Swiss Chamber of Commercial Mediation 03 – Present Member, InterDevelopMental Associates (a network of consultants) 07 – Present President, Board of Directors, Willowtown Apartments, Inc., NYC housing cooperative 93-95 Member and Corporate Secretary, Board of Directors, Global Information Network, Inc. 92-96 (U.S. affiliate of the InterPress Service, a nonprofit news wire service based in Rome) Advisory group memberships and consultancies in human rights and humanitarian affairs
Languages English (native speaker), German (fluent working language), French and Spanish (basic).
175