Kylie Minogue Asset Models & Who cares anyway

1. Kylie Minogue Asset Models & Who cares anyway Martyn Dorey Consultant 2 December 2003 Important Notice This document has been approved for issue in the UK by PSolve, a division of io investors Ltd., regulated by the FSA. Information contained in this document has been derived from sources that we consider to be reasonable and appropriate. While this information is believed to be reliable, no representations or warranties are made as to the accuracy of information presented, and no responsibility or liability can be accepted for any error, omission or inaccuracy in this document or related materials. This document may also include our views and expectations, which cannot be taken as fact. This information is supplied to you in confidence and you may not pass it on to any other party without PSolve’s prior written consent. Past performance is not necessarily a guide to future returns. The value of investments can go down as well as up as a result of market and currency fluctuations. Due to the above factors, an investor may get back less than was originally invested.

2. Objectives • Split presentation into three parts • Epistemology • Influence of internal culture on modelling • Reflections on debate earlier • Technical • Pay attention here comes the science bit • Behavioural aspects of optimisation • How do you put a price on the downside • Do we care? • What are the big issues we need to be thinking about over the year • Plan for next year

3. Step back in time • Whats the Kylie link? • This is an accessible conference • Fancied doing something different from neighbours & went into competitive pop business • Early success was short lived • Culture changed • Found herself out of a job • What was wrong?

4. Wouldn’t change a thing - • Kylie ultimate consultant: • Reinvent approach every decade using latest technology • Responded to changing cultural environment • Measurable feedback on approach • Did not specialise but got better at everything • Anything goes • Above all took risk • Got involved in the creative process

5. Kylie Vs. actuarial risk modelling • Creative thinking? • Is culture is stagnant • Press - do we take it too seriously? • Competitive approach in press and talks • Competitors in the top 40 • Breadth and depth of product philosophies/styles • Similar models used • 4 advisors 65% of FTSE 100 • Change of direction interpreted • weakness not creative strength • Bitchy? • Use competitors good ideas • Finish other peoples ideas • Integrated vs. segregated • Get involved in creative process • Seek contemporary creativity • Trying to be ‘hard’ • You can still be normal

6. Average in the middle 100% funded Getting ideas out. • Express risk as • Potential funding level • Potential contribution rate rises • Analysis examines different outcomes based on a simple bell curve • Most people concerned with poor experience • Also consider better than expected Better than average experience Poor experience Gray area =33% Gray area = 90% 90% of time X funded or better 1/3 of time Y funded or better

7. Mini case study (1) • Client likes bonds • With very little information from actuary basis for discussion

8. Shocked

9. I should be so lucky

10. Je Ne Sais Pourquoi? • 100% Equities • MFR low risk • FRS17 high risk • 100% Bonds • MFR high risk • FRS17 low risk • 50:50 lowest risk against all benchmarks

11. Probability of achieving objective 0.6 0.5 0.4 0.3 Prob where IR = 0.36 0.2 0.1 0 0.00 0.01 0.02 0.02 0.03 0.04 0.05 0.06 0.06 0.07 0.08 Risk against benchmark Obsession: Behavioural finance • Myopic risk aversion • Hope for out-performance • Need risk to outperform in long term • Too much risk under-perform in short term

12. Obsession: Behavioural finance Probability of achieving objectives • Myopic risk aversion • Hope for out-performance • Need risk to outperform in long term • Too much risk under-perform in short term Active risk Skill Increasing risk Increasing skill

13. Obsession: Behavioural finance Probability of achieving objectives • Myopic risk aversion • Hope for out-performance • Need risk to outperform in long term • Too much risk under-perform in short term Optimum risk Skill Increasing skill

14. Obsession: Behavioural finance Probability of achieving objectives active risk manager information ratio

15. Word is out: Cost to risk • It’s not ‘hard’ • Behavioural method? • If things go wrong how much do you have to pay? • Looks only at downside • Works with any distribution you like – here we will use stochastic • Could be thought of as an option • You will exercise option if your assets don’t deliver the goods

16. Cost to risk: What do I have to do? • Calculate the option: • PV(Min(x-obj),0) • Determine a benchmark • Determine an objective • Calculate distribution around this • Work out the mass function • Then calculate the expected value of downside

17. Output (1)

18. Output (2)

19. Who cares: • What is the biggest issue for the younger members • Generate • something you would like to hear someone talk about • Something that you would like to talk about • Opportunity to practice • Try out some ideas