Hsu on Risk Aversion

Jason HsuPh.D.

Chief Investment Officer

Research Affiliates Chief Investment Officer 620 Newport Center Dr, Ste 900 Newport Beach CA USA

Jason is at the forefront of the Smart Beta revolution, beginning with his pioneering work with Rob on the RAFI® Fundamental Index® approach. He has published numerous articles on the topic, including “A Survey of Alternative Equity Index Strategies,” which won a 2011 Graham and Dodd Scroll and the Readers’ Choice Award from CFA Institute. In 2005, he won the William F. Sharpe Award for Best New Index Research. As CIO, he oversees the research and investment management areas.

In addition, Jason is an adjunct professor in finance at the Anderson School of Management at UCLA and a visiting professor in international finance at the Taiwan National University of Political Science (NCCU). He has also taught financial management at the Merage School of Business at the University of California, Irvine, and at the Shanghai University of Financial Economics. For his service to UCLA’s Anderson School, Jason received the 2009 Outstanding Service Award.

He is co-author of The Fundamental Index: A Better Way to Invest (Wiley, 2008) and a contributing author to The VAR Implementation Handbook (McGraw–Hill, 2009), Stock Market Volatility (Chapman & Hall/CRC Finance, 2009), Model Risk Evaluation Handbook (McGraw–Hill, 2010), and Shadow Banks and the Financial Crisis of 2007–2008 (Chapman-Hall/Taylor & Francis, 2010). Jason has also authored more than 20 academic and practitioner articles appearing in journals such as the Financial Analysts Journal, the Journal of Portfolio Management, the Journal of Fixed Income, and the Journal of Investment Management. He is a member of the Board of Directors at UCLA’s Anderson School and serves on the editorial board of the Journal of Index Investing and the Journal of Investment Consulting.

Jason began his career working in derivatives research and in the trading area of Taiwan’s Far Eastern Securities. He has also been a consultant to Asian investment banks, securities dealers, and insurance companies on issues such as risk management, strategic asset allocation, and convergence trading.

Jason graduated summa cum laude with a BS in physics from the California Institute of Technology, was awarded an MS in finance from Stanford University, and earned his Ph.D. in finance from UCLA where he conducted research on the equity premium, business cycles, and portfolio allocations.


Awards & Recognitions

2013 William F. Sharpe Award - ETF/Indexing Paper of the Year for "A Framework for Examining Asset Allocation Alpha"
2011 CFA Institute Graham and Dodd Scroll Award for "A Survey of Alternative Equity Index Strategies"
2011 Financial Analyst Journal Readers' Choice Award for "A Survey of Alternative Equity Index Strategies"
2009 Outstanding Service to UCLA Anderson School of Management
2008 Institutional Investor 20 Rising Stars of Hedge Fund Award
2005 William F. Sharpe Award - Best Index Research for "Fundamental Indexation"

On Meeting Expectations

October 08, 2013
Posted by: Jason Hsu

The college football season is well under way, and in Orange County the temperature is starting to touch the bone-chilling 68° F that has us scrambling for our Burberry scarves. At Research Affiliates, it’s the time of year for employees’ annual performance reviews.

Ours is not a complicated evaluation process, in part because we believe that rigid complexity rarely works and, in part, because managers and staff would protest against the bureaucracy. We like to hope that we provide each other continual feedback so that there won’t be surprises in the annual reviews; heck, we like to believe that the annual review is pure formality. But there are surprises, and they aren’t always the pleasant kind.

In my experience, inevitably, a manager learns that an employee, even a fairly senior and experienced one, does not share assumptions about her role that seem obvious. A staff member learns that the project to which he devoted so much care was a low-priority assignment, and what he thought were unimportant problems to be fixed at his leisure proved debilitating to the group if not the entire organization. How can these things happen?

I posit that meeting performance expectations is not hard. However, setting expectations together with your boss can be hard. So hard, in fact, that many managers and staff members don’t do it very well, if at all.

Do you know what is expected of you? Do you believe that what is expected of you is what you are passionate about and capable of delivering?

When you are not 100% sure what is expected of you, working becomes like a cab driver ferrying customers without asking for the destination first. No matter how fast he drives or how skillfully he avoids traffic, there is little likelihood that he will get the passengers to the right place on time.

Setting aside the possibility that we don’t sit together and set unambiguous goals out of laziness, I imagine that we avoid getting clarity on performance expectations because of fear.

Many managers are actually quite happy not being clear. They simply sit back and observe which employees are skilled at figuring things out and executing without much explicit authorization or guidance. Of course, this approach has its unnecessary casualties. Clearly it wouldn’t be fair to make excuses for all managers; some of them are unclear because they aspire to be fodders for the next Dilbert comic strip.

What is a mystery is why many employees are happy to operate without perfect clarity in job expectations.

Perhaps we fear that what we want to do and are capable of doing don’t line up with what our manager wants us to do. We fear that we would already fall short in the very process of setting expectations. So, instead, we let things remain ambiguous. That way we are free to interpret the demands of the job in our favor: we get to do what we want to do and what we are comfortable doing. And at the first mention of our misaligned priorities, we can point to the manager’s ambiguous expectations and protest, “You weren’t clear in setting goals.”

There is insincerity in the protest, of course. My belief is that if we had truly wanted clarity, we would have asked for it. We would have beaten it out of our managers if they insisted on being unclear. The fact of the matter is that we choose some level of ambiguity to avoid facing the uncomfortable question: Are we interested in the expected work and actually willing to meet the expectations?

Some of us are afraid that what is expected of us is to execute tasks with Swiss precision but with little autonomy and freedom for true creative thinking. But probably just as many of us are terrified of the possibility that what is demanded of us is to identify problems and create opportunities from them—that we are expected to be at ease and even thrive in an environment with great fluidity, changing priorities, and complex power dynamics at the senior management level.

Fear drives us to question the reasonableness of these expectations. This puts us in a drama with our manager—a perpetual cycle alternating between unclear expectations and unreasonable expectations, where we are the victim.

Freedom would suggest that we ask ourselves whether we are committed to meeting these expectations. “No” would be a wonderful answer. There is nothing more liberating and empowering than believing that you can choose no. There is no freedom if no was not an admissible answer.

Do you choose freedom? Do you choose clarity? If so, you must answer this question unambiguously: Am I interested and willing to meet these expectations?

The statements, views and opinions expressed herein are those of the author and not necessarily those of Research Affiliates, LLC. Any such statements, views or opinions are subject to change without notice.

The Impact of Tapering on Risky Assets

September 25, 2013
Posted by: Jason Hsu

Tapering has been deferred, but when the Fed starts retrenching, some risky assets are likely to be more attractive than others.  This article explains how tapering, the reversal of carry trades, and the flow of hot money may affect the financial markets.

The statements, views and opinions expressed herein are those of the author and not necessarily those of Research Affiliates, LLC. Any such statements, views or opinions are subject to change without notice.

How to Raise Your Team's IQ

September 03, 2013
Posted by: Jason Hsu

I have often found myself bored and uninterested in meetings, especially in brainstorming/strategy meetings. I had always chalked that experience up to my personal idiosyncrasy. After all, most “problem solving/idea generating” meetings are supposed to increase engagement and encourage free flowing ideas and creative exchanges. Only more recently did I discover that, according to research, many people find brainstorming/strategy meetings to be unproductive and dreadful.  Experiments also show that brainstorming/strategy meetings actually produce fewer creative ideas than the participants would generate independently!1

However, what makes brainstorming fail is not that a collection of people is inherently less able to solve complex problems or generate creative ideas than individuals working alone. It is the rules governing group interactions that are problematic. Specifically, the mandated politeness and the restriction against criticizing ideas in meetings lead to shallow thinking and superficial solutions. These in turn lead to the much despised outcome of substituting groupthink or HPPO (the highest paid person’s opinion) for truly novel ideas.

There is a lot of new research on the factors that make teams effective.  Research conducted at MIT and Carnegie Mellon experimentally established the existence of “collective intelligence.”2 Scientists found, just like individuals, groups have intelligence that can be measured.  Surprisingly, the collective intelligence of a group is unrelated to the average intelligence of its members or to the intelligence of its smartest member.  Instead the group IQ is related to attributes such as the members’ ability to read other’s emotions.  Not surprisingly, the proportion of women in a group is a key predictor of collective intelligence.  One the other hand, groups with overbearing leaders who discourage dissenting views were less effective in solving complex problems.  Great team dynamics truly makes the team more effective than the sum of its parts. 

This brings into focus the need for better meeting hygiene to foster better team dynamics.   

 

In a paper entitled “The liberating role of conflict in group creativity: A study in two countries,”3 Nemeth et al. discuss research conducted in the United States and France that showed meeting instructions, which directed group members to debate and criticize, led to better results; this contrasts sharply with the more commonplace practice of discouraging criticism or conflicts in meetings.  Concluding that dissent has positive value, the authors suggest that explicitly granting the team permission to criticize and debate may be more conducive for solving complex problems and producing creative ideas.   

 

I think that the original brainstorming literature did get it almost right—we need everyone, not just the very smartest or the most vocal people, to participate in producing effective team-based creativity. However, to shut down the criticism and debate mechanism, in my opinion, is a mistake. Once you close off the dissension outlet, deep critical thinking also shuts down. The trick, I think, is to abandon the shy and overly sensitive geniuses who cannot effectively participate without huge encouragement and without making everyone else feel like they are walking on egg shells. In the modern workforce, a significant predictor of low team creativity may be the presence of individuals who cannot “hold their ideas loosely” and “engage in a playful debating of competing ideas,” but instead take critical feedback personally and poorly.


1Michael Diehl and Wolfgang Stroebe, "Productivity Loss in Brainstorming Groups: Toward the Solution of a Riddle". Journal of Personality and Social Psychology 53 (1987): 497–509.
2Carolyn Y. Johnson, “Group IQ,” boston.com (December 19, 2010). Accessed August 27, 2013.  http://www.boston.com/bostonglobe/ideas/articles/2010/12/19/group_iq/?page=full
3Charlan J. Nemeth, Bernard Personnaz, Marie Personnaz, and Jack A. Goncalo, “The liberating role of conflict in group creativity: A study in two countries,” European Journal of Social Psychology, 34 (2004), 365-374. Accessed August 27, 2013. https://www.ilr.cornell.edu/directory/ja26531/downloads/Liberating_role_of_conflict_in_group_creativity.pdf.  DOI: 10.1002/ejsp.210.

The statements, views and opinions expressed herein are those of the author and not necessarily those of Research Affiliates, LLC. Any such statements, views or opinions are subject to change without notice.

Three Kinds of Inequality

August 14, 2013
Posted by: Jason Hsu

Would we be better off as a society if there were less inequality?

 

Let’s start by examining the three kinds of inequality that exist in the modern market economy, without the usual passion and prejudice commonplace in the popular press.

 

(1)  Consumption inequality is mostly about the inequality in the quality of living for individuals.  For example, if the top 1% ate most of the food, occupied most of the housing, and used up most of the medical resources, while the middle class was undernourished, lived in hovels, and got low quality medical care (or none), then there would be great consumption inequality between the rich and the middle class.  Similarly, there might be substantial consumption inequality between the middle class and those below the poverty line. 

 

            According to the 2011 CEX survey (note this is a statistically problematic survey), U.S. households in the top 20% income bracket, with average household taxable income of approximately $161,300, had estimated per-person expenditures of $29,500.  For the middle 20% (third quintile), where household income averaged $46,200, per-person expenditures were about $16,300. For the lowest 20%, those figures were $9,800 and $12,900, respectively.1 

 

(2)   Income inequality is mostly about the inequality in the values that consumers attach to the outputs of individuals.  Whether we agree, moralistically, with this outcome or not, a plastic surgeon makes significantly more money than a grade school teacher.  The difference in income is generally not related to intellect or the work ethic; it is related to the scarcity of different skills and the price consumers are willing to pay for them.  Surgeons are paid well because the skill is both rare and greatly in demand.  This is also true of high caliber artists, musicians, and athletes.  Yes, it is even true of bankers—if their specialized skills were not valued by a large number of people, then they simply wouldn’t be paid the high salaries.

 

(3)   Wealth inequality is mostly about the inequality in individuals’ power to dictate the production of goods and services.  Wealthy people are either in direct control of corporations or in a position to delegate control by voting their shares to appoint management.  Control influences what firms invest in and, ultimately, develop and produce for consumers. 

 

Substantial consumption inequality is troubling. 

 

I think it is clear that we, as a society, are opposed to very significant “real consumption” inequality–or inequality in the quality of living for our fellow human beings.  No question, there is consumption inequality, and in all likelihood it translates into inequality in the resulting human happiness.  We can all individually have our assessment on how inequitable is the quality of life for households in our respective country, but we probably agree that, as a compassionate society, we should be concerned about consumption inequality.

 

Is income inequality unfair?  Or is it just a coordination mechanism? 

 

Are we really opposed to income inequality resulting from our market economy?  Do we expect to get better outcomes if we pay similar wages to all labor outputs?  In a market economy, wage inequality arises as prices are set for various skills to induce more or less supply.  Grade school teachers are paid less than surgeons not because we value teachers less but because the cost of becoming a doctor is significantly higher; if we paid doctors the same as we pay teachers, we would have an insufficient supply of doctors. 

 

Most people probably don’t object too much to the income disparity between teachers and doctors.  What angers them is the income inequality between teachers and bankers.  For the sake of argument, let’s assume that the world would be better off if we reduced bankers’ compensation and, therefore, reduced the supply of bankers to our economy.2  Is that reason enough to argue that the free market economy is broken and that pay should be regulated by policymakers (central planning economy)?  Perhaps the market-based economy has made a mistake in its banker allocation; is that one mistake proof that market-driven income inequality is incompatible with a thriving and harmonious society? 

 

Are we actually opposed to wealth inequality?

 

Wealth inequality is a natural consequence of relatively high income inequality with relatively modest consumption inequality.  That is, if you earned a higher income than me but consumed the same amount, you must accumulate more wealth than I do. Of course, through aggressive taxation we could preserve high income inequality and low consumption inequality without creating wealth inequality.  So it is important to consider the benefits of maintaining wealth inequality in the population. 

The overwhelming benefit from wealth inequality is that valuable businesses are directed by people who are far more successful at running businesses than the rest of us.  It is worth asking why we don’t see large corporations build giant pyramids in the desert, or whimsical castles perched on top of tall mountains, or other wasteful projects.  Because shareholders wouldn’t allow it.  In a market economy, you only get to stay wealthy and stay in control of productive assets if you are continually good at producing what is desired by society.  The wealthy may have control over the “how” but not the “what”—that is, the heads of corporations get to decide on how to deliver goods and services to consumers, but they are beholden to the tastes of consumers in what they deliver.  

 

So what? 

 

I think the negative attention heaped on income and wealth inequality is dangerous.  Let’s focus on a goal that is far more agreeable to most of us—more consumption equality.  Indeed, let’s acknowledge that income and wealth inequality are not problems; in fact, they are probably solutions.  Can we have more consumption equality without disrupting our market economy?  I would simply caution against a naïve and emotional assumption that consumption inequality can only be reduced by eliminating income and wealth inequality. 


 
1See http://economistsview.typepad.com/economistsview/2008/02/consumption-and.html for a debate on the CEX statistics and an explanation on how lower income households can spend more than their taxable income.
2 It is worth pointing out that some Wall Street rocket scientists would be making large bombs if they weren’t working at hedge funds.

The statements, views and opinions expressed herein are those of the author and not necessarily those of Research Affiliates, LLC. Any such statements, views or opinions are subject to change without notice.

 

 

The Human Side of Aging Demographics

July 22, 2013
Posted by: Jason Hsu

Recently, I attended a talk on aging demographics and geriatric care. The speaker has been in the geriatric care area for 15 years. She lamented that if we keep referring to old people as problems and burdens, then the aging demographics would indeed manifest itself as an enormous problem. However, if we think of the old people as clients, who would need our care, and as service providers, who would help us understand our own mortality and what is important to our lives, then the aging demographics would, in fact, be an amazing blessing to our society. 

 

Her words ring true for me. 

 

As I face my own aging parents, I realize that I would give up a lot (certainly a lot of money) to spend quality time with them and to care for them in their old age. The fact that they will live longer so that I would be more financially capable and flexible to provide them with care in their last ten or more years, and that they will be grandparents well into the next generation’s teenage years, are blessings. These are tremendous benefit to our civilization. But, somehow in the popular media, we have treated our parents’ increased life expectancy and their predictable dependency on us as enormous calamities and burdens.  

 

I do not mean to make light of the fact that, as productive people leave the workforce and the ratio of workers to non-workers falls, the pace of economic growth will slow down significantly.  But GDP is such a one-sided measure of what is valuable to our society. GDP is merely a measure of the dollar value of the goods and services we sell to each other. But much of what is important to a human life is not bought or sold and reflected in GDP! Friendship does not enter into GDP, love and family do not enter into GDP. A human being caring for another human being and the experiences that we impress on each other do not enter into the calculation of GDP.

 

From a non-financial perspective, our parents are every bit as productive as their younger selves. They might not be able to design or build new commercial products; they are however, exactly capable of being frail parents and doting grandparents. I have only heard of people who wished they had more time with their parents and grandparents and of people who gain a deep insight into life through time spent with their dying parents and grandparents.

 

In the future, many of us will be, in one form or another, a caregiver to the elderly—whether professionally or simply as a family member. But I hardly see that as a horrible outcome. Providing warm care to another human being is, arguably, just as interesting a life experience as it is to analyze another person’s investment results or to market the latest smart phones to young adults. 

 

Some people worry that there will be a lack of doctors to handle all of the needed care. I think we simply need to come to the realization that no amount of quality health care—no miracle drugs or operations—will keep death away. I do have a slight concern that geriatric care might crowd out medical resources for providing other health care to the younger part of our society, but, frankly, I expect that our society will make sensible choices when the time comes.  In addition, on this latter point, it would be a wonderful opportunity for humanity to explore this challenging social question as a civil society.

 

Arguably, when our society is older, we might finally realize that we don’t need a new iPhone every six months, a whole new wardrobe every season, and a new car every three years. So, yes, GDP growth might decline, but it would be because we demand these baubles less, not because we are less capable of paying for them.  And, from the perspective of producing goods and services, our society might benefit from producing much less of the things we don’t need at the expense of depleting the raw resources of this planet. We have been so focused on growing our consumption and calling it progress that many of us actually believe consuming more means a more successful society. Perhaps the aging of the population is the universe's way to remind us that it is time to show our children a different measure for life's success and meaning.

The statements, views and opinions expressed herein are those of the author and not necessarily those of Research Affiliates, LLC. Any such statements, views or opinions are subject to change without notice.