Summary

One of the issues of particular concern for the investors, be them institutions or individuals, is also the extent to which the economic crisis that mankind is going through at the moment will impact the return on long term investments.

Moreover, will the financial and economic crisis call for a new approach in the field of investments?

These questions become increasingly relevant as the portfolios’ investment performance is a major factor for the future of many fields of activity. The vital signs of the economic life are strongly influenced by the economy’s capacity to generate sustainable growth on medium and long term. The pensions of the future generations, the healthcare and social work system, education or even important development projects of the local authorities are dependent on the return on investments.

This is why CFA Romania, the professional association of financial and investments analysts affiliated to the CFA Institute, proposed, at the International Forum FIAR 2009, the topic of Changing the investments strategies during the economic crisis. How will a V-type, U-type or L-type crisis affect the long term returns of the investment funds.

The members of the CFA Romania’s Steering Committee present at the event debated on the crisis impact on the financial investments in Romania, on the changing of the investment strategies under an economic recession, as well as on the long term returns expected from the investment funds.

Supporting the individuals’ living standards and the companies’ long term competitiveness depend on the investment performance. Under an economic boom, high returns create optimistic expectations for the future and trigger sub-optimal economic behaviors in individual investors. The current crisis causes a harsh assessment of those errors and, implicitly, lower investment expectations, as well as a review of medium and long term strategies, Dragoş CABAT, CFA, MBA, President of CFA Romania, stated at the conference.

At the opening of the Financial Investments Day, Adrian MITROI, CFA, MBA, PhD, Secretary of the Steering Committee of CFA Romania, talked about Allocating investment assets in individual portfolios. In his presentation he introduced psychological clichés that influence the investment decision of individual investors. Contrary to the arguments of the classical financial theory, that imply the investors’ strict rationalization and optimization of decisions, behavioral finance highlighted the psychological and emotional aspects induced by financial decisions, as well as their impact on the accuracy of the decision to invest or not at a certain moment.

Factors like group instinct, decision-making stereotypes, lack of investment planning, the impatience in following a plan previously set in place, the fear of regret and loss, overestimating the chances to gain and one’s own abilities, or the difficulty in accepting temporary failures cause investors to make suboptimal decisions when managing their own portfolios. These emotional issues, seen in all investors (actually, in all people, whether they invest or not, and that are present in all areas of life in general, not only in the investment field), are exacerbated at times of high volatility on the market or when the investment performance drops – like in the current crisis situation.

Actually, the surrounding economic environment subjects the investor to additional stress factors that enhance the current emotionalconflicts. This is why, at times of market decline, individual investors may get returns that are even lower than the market average. Because of the decision-making inertia, the investors do not notice the worsening performance of their own portfolio and try to postpone the psychological discomfort of admitting to the failure in the investments they made. The presentation’s conclusions pointed out the fact that market’s efficiency, as well as the inefficiency of active investment management lead to poor investment returns; the only possibility for minimizing the risk of capital loss relates to the fair and disciplined management of the investment process.

Further on, Bogdan BILAUS, CFA, Member of the Board of Directors of CFA Romania, treasurer, delivered the presentation Basic analysis under high uncertainty circumstances. During his intervention, BILAUS introduced the specifics of the process to assess the investment opportunities in times of crisis, with high volatility. By understanding the fact that the investment process is based on the fair evaluation of the assets included in a portfolio, we are in the position of changing the investment expectations we have, depending on the value we attach to our possessions. The approach of individual investors is either simplistic, namely increasing the risk factor related to the performance of an asset, or complex, requiring a review of the future cash-flows generated by an investment, as representation of the new market conditions.

Even if, in terms of the applied method, the discounting of the future cash-flows is the correct alternative for estimating the value of a company (of an investment asset), in fact the analyst is facing numerous uncertainty factors regarding the future estimations, the sales, the trend of the main cost groups, the evolution of the monetary policy rate and the trading banks’ interest rates, as well as other operational and financial risks. This is why the financial models are solely a tool, whereby attempts are made to re-set the future trend of a company’s performance. In times of high volatility, these models must be adjusted and made more flexible, so as to include the new risk elements.

Adrian CODIRLAŞU, CFA, PhD, Vicepresident of CFA Romania, presented Using Value-at-Risk models in portfolio management. In the current economic and financial context, where many prestigious financial institutions faced liquidity and capital adequacy problems, identifying a methodology of risk management that provides convenience for the market represents a major endeavor. Recently, VAR models represented an improved solution for risk management. Yet, because of the way this models are built and due to the much higher market volatility in the recent past, it has been noticed that even these models can generate incorrect decisions on protection against major losses. By underestimating the maximum losses of financial institutions, they can get into the situation of keeping insufficient reserves to cover the potential losses. This is why VAR models must be prudently evaluated and used in combination, for a correct estimation of maximum potential losses.

Continuing the Financial Investment Day, Emilia BUNEA, CFA, MBA, Member of the Board of Directors of CFA Romania, spoke About guarantees and returns: the danger of good intentions. BUNEA began her presentation by making a comparison, in terms of financial features and expectations, between state and private pensions, also indicating the investment risks that pension funds are facing, especially in the current macroeconomic context. The presentation also covered the main methods of mitigating the investment risks, linked to the time horizon to which they relate. By forcing the introduction of special guarantees for the return on investments, the argument was that, in real life, the yield that can be gained will decrease on long term. This conclusion is based on the remark that shares bring higher returns on long term for portfolios, which are clearly linked to a higher volatility.

As a conclusion, Dragoş CABAT, CFA, MBA, President of CFA Romania, delivered a presentation on The economic crisis and its impact on investment performance. CABAT described the evolution of the economic crisis in the world and in Romania. Thus, he brought arguments for both the contraction of investment opportunities, due to a market under-performance, and for the new reality of lower returns on assets, which will impact the investors’ results on medium and long term. Moreover, the low performance for investments is expected to be accompanied by an increase in the investment risk, therefore by a higher volatility, implicitly. The speaker concluded by stating the need to lower the investors’ expectations on long term, to build dynamic models for the main macroeconomic indicators, as well as to adapt the concepts on geographic and structural diversification of portfolio, in line with the new international context.

Depending on the international events and on the participants’ interest towards the organized events, the CFA Romania speakers will talk about other topical issues on investments, in the future.