Retail investors are rightly incentivized because most of their savings objectives
In the previous post we saw why institutional investors are struggling to transition to climate compatible financing. It is a story of time horizon and other poor incentives.
We believe retail investors can be the originator of the solution.
Why? Retail investors have better incentives: long-term horizon, greater awareness of macro risks, and lower perverse incentives affecting their value system.
First, the two main objectives of retail investors when savings are retirement, and building generational wealth (either through inheritance or financing the education of their kids). These are much longer terms than financial institutions (6-10 years on average):
- For retirement, an individual that starts saving at 25 could only need his money 40 years later when retiring and use it for another 25 years. This is a 65 years horizon!
- Same for generational wealth: the average inheritance age in the US is 51 due to the increase in life expectancy (MassMutual). Let’s say you start saving for your child when he/she is born. The transfer of wealth will only be 50 years later. Only saving for college tuition is a shorter-term horizon. It is still twice the duration of an average institutional investor horizon.
Retail investors are also more likely to want to avoid long-term macro risks and black swan events. Why? Because it fits their value system: world catastrophes are scarring, and humans have a natural tendency to be concerned about their legacy:
- Value system: it is much easier to have a solid value system as individuals compared to firms. We are not locked in fiduciary absolutism with quarterly earning calls and shareholder votes on whether we delivered our promises or not.
- Black swan events: Individuals are more willing to avoid deep negative events. It is one thing to factor these events in a risk model in an excel file, it is another to be wishing to experience it. It takes much more time for individuals compared to institutions to forget those. For example, the retail savings rate stayed much higher during the aftermath of the Great Depression or after the 2007-2009 financial crisis, leaving deep scars on individuals’ minds.
- Legacy: one great thing about us humans is that we want to transmit and care about how we will be remembered. This is especially true for climate change. Research shows that individuals are more likely to act upon environmental causes and climate change when confronted with what they will leave to future generations (Zaval & al.).
This is why we see increasing public pressure on the government and, financial institutions (divestment, new regulation in place), and why the early adopters of ESG were family offices (think about them as retail investors with institutional capabilities). And this is also why individuals feel a disconnect between their savings and their values.
At EarthQuake, we foresee that retail investors are the main driver of change. It is a bottom-up push that has already started and we are here to bring it forward.
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