Fiduciary Finance

Fiduciary Finance

Investment Funds and the Crisis in Financial Markets

Martin Gold

This multi-faceted analysis of institutional investment defines ‘fiduciary finance’ institutions as the third pillar of the financial system, alongside banks and insurers. It documents the role played by investment funds and the money management industry during the recent financial crisis, and provides an unashamedly critical review of the business disciplines which can dominate investment practices. It clarifies the economic significance of the investment industry (circa $60 trillion in assets) and the features which differentiate fiduciary finance from traditional financial institutions such as banks and insurers.

Chapter 2: The Investment Business

Martin Gold

Subjects: economics and finance, money and banking


INTRODUCTION Within the literature, the exponential growth of fiduciary finance has been recognized albeit only relatively recently (Del Guercio, 1996; Gompers and Metrick, 2001). The industry’s incentive structures attracted scrutiny amidst concerns about the efficiency and stability of financial markets (Committee on the Global Financial System, 2003). Similarly, the business organization of financial fiduciaries has only received scrutiny in the literature relatively recently.1 Prior to the financial crisis, research had focused on the linkages between the financial fiduciaries and speculative bubbles in market pricing.2 Whilst scholars typically depicted investment within a relatively narrow frame of portfolio management decisions (allocating capital across financial markets and selecting individual securities) the industry’s overarching function is to aggregate capital from savers into fiduciary products, which are constrained according to a stated investment strategy. A myriad of product/compliance structures capture investors’ capital and a ‘food chain’ of economic actors (whose functions generally have not been explored in detail within the literature) is employed to invest these funds into the markets. In Australia and many other countries, a culture of risktaking has been mandated by government policies, which have shifted responsibility to individuals to provide for their financial security in retirement. The industry’s growth and market events have brought incredulity about the industry’s value proposition and closer scrutiny of the many consultants and agents servicing the industry. 2.2 THE FIDUCIARY FINANCE BUSINESS MODEL Financial fiduciaries typically operate according to a commercial rationale emphasizing profit maximization for their owners. The nature of ownership has considerable implications for...

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