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Perspective

Do You Speak Dolphin?

State Street

November 28,2016

Humans have an innate desire to gravitate toward the concrete and avoid the abstract. For the financial services industry, that means there's a certain level of false comfort dictating our actions and choices.

Think fast—who is the smartest person you know?

Now, why is that person the smartest? Do they have the most high-profile and demanding job? Are they in academia? Do they know how to do something you don't? Are they a walking encyclopedia?

In October 2016, renowned astrophysicist Neil DeGrasse Tyson spoke at Symphony Hall in Boston. His talk, Delusions of Space Enthusiasts, looked at how the space program influences and is influenced by geopolitical, economic and cultural realities. To close out his talk, DeGrasse Tyson opened up the hall for questions from the audience. He ended the night with a question from a 7th grader who asked if he believed humans were the smartest species.

DeGrasse Tyson replied, "Of course humans think they are the smartest species – we are grading ourselves on a test we wrote!"  He went on to explain that researchers have been able to teach some dolphins basic English, which many see as a sign of dolphins’ incredible intelligence. "But," he posed to the audience, "has a single human learned to speak dolphin?"

Being the 'smartest' is actually incredibly subjective.

Degrasse Tyson's story, while humorous, also raised a very interesting point. We often look to the smartest person in the room for answers, but being the 'smartest' is actually incredibly subjective. It’s safe to assume most people consider themselves intelligent, especially in their given field. Maybe you even think you're toward the top among your peers. And while you may be incredibly smart and very good at your job, there's a danger in assuming you're the smartest person in the room every time.

State Street’s Center for Applied Research found there is a certain level of false comfort in the financial services industry. This is derived from our human desire to gravitate toward the concrete and avoid the abstract. We're inherently biased to like things the way they are, as opposed to figuring out how else they could be. As a result, the industry exhibits a tendency to rely on defined ways to classify, measure and document investment choices. However, this is often done without regard to whether these metrics add legitimate value.

For instance, consider the fact that cap-weighted indices have been the de-facto benchmark for active management across the industry. But the sluggish performance of these indices in the last 10 years has brought into question both the validity of the assumptions behind the CAPM theory, and the relevance of cap-weighted benchmarks in the industry as a whole.

When it comes to asset classes, long considered the building blocks of any investment strategy, the industry has created categories by placing different assets in buckets after making assumptions regarding their risk and return characteristics. The financial crisis put those assumptions to the test and blurred the lines between asset classes.

Meanwhile, risk metrics are being used to justify different investment strategies, yet a hyper focus on some of those risk metrics distracts us from the achievement of our real investment objectives. By relying on industry artifacts that confirm we're the smartest person in the room (or at least, delivering for our clients the way we always have without considering how we should be) we actually limit just how successful we could be.

We're writing our own test, and then grading our own answers. And no one is even thinking about speaking dolphin.

Topics: Operational Efficiency


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