Voices: Asset management’s dismal drama needn’t be a crisis
The global active asset management industry faces an existential threat. And that might not be a bad thing.
In the face of stiff competition from low-cost index-tracking products, managers need a better strategy than simply cutting fees. As the world deals with a warming planet, the growing number of clients who want their money to perform well socially as well as financially is presenting a challenge and an opportunity for all flavors of fund management. In certain pockets of the industry, there’s also some hope for companies that specialize in esoteric strategies or can expand into faster-growing Asian markets.
Bulking up through mergers was long touted as a potential route to salvation for asset managers by offering economies of scale and cross-selling opportunities. Now this is viewed more as a placebo than a panacea. The three biggest industry combinations in recent years — Standard Life with Aberdeen, Janus Capital with Henderson Group, and Invesco with OppenheimerFunds — have all suffered customer withdrawals and falling share prices in the wake of their deals.
The lesson was that strapping together two different cultures leads to infighting and turf wars, which, in turn, distracts portfolio managers from making money and the sales force from winning new business and retaining existing customers. “Asset management is a people-driven business based on relationships and trust between the firm and clients and the firm and its employees,” UBS analysts Michael Werner and Federico Braga wrote in a research report in January. “When two asset managers merge, these key relationships often become strained due to the uncertainty of how the merger process will impact the different stakeholders.”
If that’s the case, where does the industry go from here? The climate crisis highlighted by the Extinction Rebellion protest movement provides one path to success. As allocators of capital, fund managers are uniquely placed to pressure companies whose shares they own to curb their carbon emissions, increase gender diversity in the ranks of upper management, and close gender pay gaps across the workforce. This extends the tent of stakeholders whose interests the fund managers serve to include employees, customers, shareholders, and society as a whole.
“We used to think the whole responsibility of the asset manager is to make money,” Hiro Mizuno, who oversees $1.6 trillion as chief investment officer of Japan’s Government Pension Investment Fund, told a seminar at the University of Oxford Saïd Business School in January. Now “we’re more proud of our long-termism,” he said.
The money managers who are able to differentiate themselves with solid environmental, social, and governance credentials stand to prosper, especially as a younger generation enters the workforce and starts to put aside savings for investment. Only companies that can prove they’re investing with a conscience will win that new business.
Chris Bowie, who helps oversee more than $21 billion as a portfolio manager at TwentyFour Asset Management in London, initiated a fund in January to invest in corporate bonds screened for ESG credentials. He says he’s been “flabbergasted at the interest” from potential customers since its introduction.
But companies going this route have to take their broader responsibilities seriously. Any attempt at greenwashing for the sake of appearances could backfire badly. And at some point millennials, who’ve become accustomed in the digital age to music, films, and more being available almost for free, will face a harsh reality. Holding corporate executives to account costs money, which will have to be raised by increasing the fees levied on investment products, many of which have been sold in recent years at ultra-low costs. Whether savers will pay the price of a more moral approach to putting money aside remains to be seen. Other forms of specialization may provide a path for some active managers to distinguish themselves from their peers. Boutique firms able to demonstrate unmatchable expertise in emerging-markets stocks and bonds, high-yield corporate debt, real estate, or other niche asset classes can thrive as one-trick ponies, albeit on a smaller scale than the one-stop shops offering a fuller suite of investment opportunities.
Ashmore Group, for example, specializes in fixed-income assets in emerging markets. The company has posted 12 consecutive quarters of investor inflows, with its assets under management swelling to more than $98 billion by the end of last year, from $77 billion a year earlier.
Geographically, Asia offers the best growth opportunities for asset management, as an expanding middle class becomes wealthy enough to invest for retirement. A report by Deloitte estimates that China’s assets under management could rise almost 80%, to $3.4 trillion, by 2023, from the $1.9 trillion the nation’s retail investors put aside in 2018. And that’s the consulting firm’s base scenario; in its bull case, investments more than double, to $3.9 trillion.
For Western companies, teaming up with Asian fund management outfits probably offers the smoothest path to winning regulatory approval to sell investment products in the region. China is preparing to open its financial markets this year, allowing foreign companies to take full ownership of ventures in the country. In December, China’s regulators agreed that Amundi, Europe’s biggest investment manager, with $1.7 trillion of assets, will be allowed to take control of a partnership with Bank of China.
But those domestic companies won’t stand idly by. “By 2029 the largest asset manager in the world will be Chinese,” Cyrus Taraporevala, who’s responsible for almost $3 trillion of assets as the CEO of State Street Global Advisors, wrote in an article for the Financial Times in October. “Time, scale, and momentum are on China’s side.”
Of course, the key reason investors have been abandoning the active crowd and pouring money into index-tracking funds in recent years is the failure of stock pickers to deliver returns.
Hedge funds have been the hardest hit by investors declining to pay for underperformance. They delivered average returns slightly below 13% last year, according to the Bloomberg Equity Hedge Fund Index, less than half of the gain posted by either the MSCI World Index of stocks or the S&P 500. Investors pulled almost $100 billion from the industry sector in 2019, research company EVestment estimates. So it’s little wonder that more than 4,000 hedge funds have shuttered in the past five years, according to data compiled by Hedge Fund Research.
More broadly, in the five years through June 2019, more than 78% of U.S. large cap funds underperformed the S&P 500, according to S&P Global. On one- and three-year performance measures, about 70% failed to shine. In Europe, measured against the S&P Europe 350, the one-year underperformance by equity funds was a staggering 90%, with the three-year figure showing that more than 82% lagged the benchmark.
So the biggest contribution active managers could make to their survival is to simply achieve what they claim to be able to do — beat the benchmarks against which they measure their performance.