The days of investment managers defining themselves as regulated fund managers, private fund managers or separate account managers are gone.
Many managers are beginning to offer their strategies in new ways in response to today's hyper-competitive landscape and investor-empowered marketplace. Packaging strategies in '40 Act mutual funds, collective investment trusts (CITs), limited partnerships or other vehicles can provide opportunities to fully capitalize on the market and help managers diversify their underlying assets, investor bases and revenue streams, while building their brand in new markets.
According to a recent KPMG report ("The cost of compliance"), 13% of global asset managers said they were considering opening a '40 Act fund, most of whom expect to have their product in the market within the next three years. If you are one of those managers, you will need to take the following marketplace challenges into consideration in order to launch a successful registered fund:
The Ideal Investor. You need to ask yourself, "Who is my ideal investor?" Do you want an institutional investor base? Or a retail investor base to diversify revenue sources? The answer to this question will affect every other decision you make. More so, each underlying market segment has its own nuances and specific rules of engagement. The buying criteria and the ease of penetrating those segments will vary.
Strategy Suitability. You need to ensure that the investment strategy you pursue is one that your target investor finds suitable and appropriate. For instance, a statistical arbitrage hedge fund or private equity portfolio with a multi-year lockup and high-minimum investment levels would not be suitable for the mass retail market. On the other hand, while direct investment by most retail investors may be inappropriate, consultants designing customized target date funds are increasingly incorporating non-correlated strategies to broaden sources of diversification.
Product Packaging. Managers of '40 Act funds, whether directly or via a sub-advisory relationship, must be registered with the SEC and adhere to liquidity and diversification requirements as well as leverage limits. Private funds have worked well in the institutional and private banking segments but have not been widely adopted in the retirement space.
CITs provide slightly more flexibility than mutual funds in allowable holdings, although they bring with them a level of regulatory complexity. And while ETFs continue to take significant market share in the US across segments, there are critical success factors that must be considered, such as first-mover advantage, low fees, brand awareness and trading volume to ensure tight spreads.
Distribution Channels. While managers can market directly to the end investor, the most cost-effective solution tends to be selling through an intermediary. Consultants, gatekeepers and sub-advisory sponsors offer a more leveragable approach and provide insight on the critical success factors for each specific market.
For example, field-level sales teams are critical for the wirehouse channel. The sheer number of financial advisors in each wirehouse requires field-level sales teams to penetrate effectively. Even the historically open-architecture RIA custodians (like Schwab, Fidelity and TD) are now requiring advisors in the field to specifically request new fund families to be added to their platforms.
Marketing and Distribution Strategy. The US market is huge-more than $13 trillion in mutual fund AUM alone-but rife with fierce competition. In order to create a quantifiable and repeatable alpha-producing strategy, you will need a strong brand in your target market. Leveraging your consultant relationships, pursuing sub-advisory arrangements and working with family offices may be the most cost-effective means of gaining traction. A well-developed distribution strategy should clearly define the channels and advisor types that your particular strategies can be best matched against.
Regulatory Requirements. The regulatory considerations are determined by your market. If you plan to target the retirement market, for example, you must understand and abide by ERISA rules and regulations. Additionally, many investors demand strict risk management and compliance policies and procedures as industry best practice, regardless of whether they are required by law. The SEC also requires that all mutual funds designate a Chief Compliance Officer (CCO), so you must determine whether to hire an experienced CCO or assign those compliance duties within.
Time-Frame. So, with all of that set, when can you expect to achieve reasonable revenue and margin objectives? You must set realistic expectations early on as with all product launches and distribution strategies. Success, however, does not come easily, nor does it come quickly. This ultimately boils down to, "how committed are we?" Is the decision to target this market part of a long-term strategic plan, or must you succeed within a short period of time? Success stories abound, but the list of failures or less-than- rousing successes is incessant.
'40 Act packaging in products such as mutual funds and ETFs can provide an extremely flexible and potentially lucrative vehicle for you to deliver your best thinking to the public at large. But while opportunities abound, you should not underestimate the barriers to entry and costs associated with achieving the generally accepted milestones for successful US distribution. However, if you're willing to make the strategic bet and take the risk, there are clear paths to aid in your success.
Jonathan Dale is Director of Distribution for SEI's Investment Manager Services division.