Problem
Mrs. Angela Armstrong is a 70 year old widow with a modest lifestyle and no income beyond what her investment portfolio of $1.5 million generates (about $90,000 per year), and a small government pension of $10,000.
You have know Mrs. Armstrong for about 10 years. Although she has never clearly articulated her investment goals, over time you have learned that her primary
investment goals are:
• To not lose money
• Maintain the purchasing power of her assets after fees and taxes
Her desire not to lose money stems from the fact that she recalls that he parents grew up in a lower-middle class family and she was one of seven children and money was always tight.
One of her tendencies is to spread her money around many different banks, and she speaks regularly about various "buckets" of money - such as one for generating her income, one for gifts to her children and grandchildren, and one for paying her bills. You have been challenged by the fact that Mrs. Armstrong is quite stubborn in her opinions, and rarely, if ever, listens to you when you recommend that she change her way of thinking about her investment portfolio allocation. Her knowledge of financial concepts is limited, but she is willing to meet with you regularly to discuss issues over tea.
You are concerned that she is too conservative in her approach and will not accomplish one of her key goals - keeping her purchasing power - because she invests only in Government of Canada bonds and cash. By taking this approach, her portfolio will not keep up with her spending after inflation and taxes in the long run; therefore she is putting herself at risk to outlive her assets.
You reflect on your relationship with Mrs. Armstrong, and you realize that the only recommendation she has accepted is to buy sovereign bonds to slightly increase her returns. You suspect that behavioural biases are influencing her and not permitting her to feel comfortable with changes to her portfolio.
You ask Mrs. Armstrong if she will take a 20 question assessment to examine her investor behaviour. A portion of the results of the assessment are attached. (her answers are in bold)
As part of your customer process, you have also administered a risk tolerance questionnaire for the purpose of generating a mean-variance optimization portfolio recommendation (RAA). The result of the questionnaire shows that Mrs. Armstrong's RAA was 75% bonds, 15% stocks, and 10% cash. Her actual asset allocation is 100% bonds.FINA 708 CASE STUDY Mrs. Armstrong.
You are convinced that Mrs. Armstrong needs to have a riskier portfolio to reach her investment goals. You are convinced that she has invested so conservatively is primarily due to behavioural biases.
In the space below, answer the following questions
A. Is Mrs. Armstrong and Active or Passive Investor?
B. Which of the 4 main behavioural investment types does Mrs. Armstrong fall into?
C. Explain the risks of the existing structure of Mrs. Armstrong's portfolio.
D. Based on the results from the behavioural test, name and describe 3 behavioural biases that Mrs. Armstrong is susceptible to. Are these biases cognitive or emotional? Explain how these biases are affecting her investment decisions
E. Based on the information above, should you Moderate or Adapt to her Biases? Why?
F. What do you believe is an appropriate behaviourally modified asset allocation for Mrs. Armstrong?