WASHINGTON - John Casey, a 39-year veteran of the investment management business, has some frank advice for asset managers struggling to get on the platforms of major broker/dealers.
"Being obnoxious is one step, and being aggressive is another," said Casey, chairman of Casey, Quirk & Associates, an investment management consultant in New York.
Arguably, at no time in the 80-year history of the investment management business in the U.S., has the landscape been more competitive. Today, according to research from the Investment Company Institute in Washington, more than 15,300 investment companies exist. There are more than 8,450 mutual funds in operation, over 6,000 investment trusts, about 630 closed-end funds and at least 200 exchange-traded funds.
That adds up to a lot of products fighting for limited space on the shelves of some 500 or so independent broker/dealers. Narrow that universe to the brokerage houses with the greatest reach, and the number of distribution opportunities shrinks to a couple of hundred.
Getting noticed has probably never been more important, either. The first batch of 79 million Baby Boomers enters retirement this year, and they'll be looking for places to put their savings or products to roll their 401(k) into. People are living longer, too, and should therefore need more access to opportunities to extend their retirement savings.
Then there's the revenue-sharing mess that's come to light in recent years. If anything, experts say, closer regulatory scrutiny of the practice could finally open the door for smaller players, who previously could never afford lucrative kickbacks for prominent shelf space. And, finally, the competitive fire within broker/dealers to find the next great asset manager is unlikely to ever subside.
These factors would seem to create the perfect storm for small and midsize fund shops. But it all hinges on getting their product in front of potential customers, a task that is largely left in the hands of discriminating gatekeepers, like independent broker/dealers and wirehouses.
According to Casey, however, standing outside those houses and touting your firm's unique investment message at the top of your lungs is just one way to grab their attention. In fact, quality and alignment are perhaps the most important factors driving the success of asset managers in the coming years, Casey said during a panel discussion on selecting asset managers at the 48th annual ICI General Membership Meeting, held here recently.
But before examining the factors that would contribute to high quality and proper alignment going forward, Casey said it might be wisest to look back at how the investment management industry arrived at the important juncture that it occupies today.
In the 1960s, about 16 major players dominated the investment management scene. Retail money management in those days was reserved for the wealthy, and portfolios were modestly comprised of straightforward bonds and equities. Fees were low, and money management was part of a broader relationship with investors, Casey explained.
By the early 1970s, however, three catalysts converged on the industry and forced change. First, there was a realization that retirement plans would become under funded if action wasn't taken; second, the stock market performed poorly in 1973 and 1974; and, third, ERISA was enacted, which called for more prudent management of retirement funds.
But the poor performance of the stock market, in particular, drove individual and institutional investors alike to seek alternatives, and, according to Casey, coupled with that era's low barriers to entry, gave birth to the boutique.
For the first time, "You could count on people, instead of things," Casey remarked.
In the 1980s, a second generation of investment management firms emerged and has lasted until only recently, Casey continued. Due to the outstanding performance of the markets and the rapid growth of mutual funds, among other smaller factors, assets under management soared and investment managers expanded their franchises. Personnel roles grew tremendously, as a focus on asset gathering inflated sales staffs. Different asset classes and new products also emerged, which demanded even more employees. And despite the growth, Casey said, executive management remained largely dictatorial.
As a result, the second generation is characterized as overdeveloped and overstaffed with overly complex infrastructures. Costs were high and mediocre products flooded the market. Unfortunately, Casey added, the markets were performing so well that quality, or the manager's ability to consistently meet stated investment objectives, was often overlooked. For example, between 1982 and 1999, the S&P 500 produced an average annual return of almost 20%, according to Casey's research. In fact, it experienced only one negative year, 1990.
"Everyone was doing so well, quality became less of an issue," he said.
In the last couple of years, according to Casey, the industry has begun its transition to a third generation, where competition is feverish (and, in some markets, not always friendly), opportunities for growth are few, and investors are much more sophisticated.
What's driving the evolution? Casey said it's a number of factors, including an extended duration of investor discontent, evolving intermediaries, a highly mobile talent base and vulnerable competitors weighed down by troubles like bad management, damaged brands or too much bureaucracy.
"We think half of the world's 50 top asset managers probably won't be around in the next five years, in their current form," Casey said.
Those firms that will survive and prosper will share the common traits of setting objectives with investors and working diligently to meet those goals; establishing energetic environments where talented employees can thrive; cross-selling as a means to retain investors and grow assets when opportunities are fewer; leveraging strategic opportunities with competitors; and taking advantage of alternative products, which are likely to become increasingly mainstream in the years ahead.
Size won't matter, either.
"We're in a size-neutral business," Casey said. "Big or small, it's irrelevant, and big is not a safety net anymore, either."
But just as quality will determine whether an asset manager is added to a distribution platform, so too will alignment. In other words, an asset manager's products and investment strategies should fill a hole or broaden the lineup of a distributor, while their firm's culture and organizational structure should be compatible.
"It's helpful to have a good performance record," but it's not the No. 1 factor, said Michael O'Keefe, head of the Global Client Group, Investment Management & Guidance at Merrill Lynch in New York. "We hunt for alpha, but also for packaged solutions."
For example, O'Keefe's 50-member team recently concluded a search for a new long/short product capability due to growing client interest in an absolute return, risk-managed solution. Asked what he would want if he were to build an asset manager from scratch, O'Keefe said, "Quality in its capability and a culture that would translate into powerful investment results."
Stephen Langlois, senior vice president of research at broker/dealer giant LPL Financial Services in Boston, said he likes it when a prospective asset manager understands his firm's organizational structure.
"We love it when people are cognizant of the opportunities we're seeking, or when they bring something new to the table," said Langlois, who also likes to see in asset managers "a passion to outperform and an ability to focus on what you're good at."
Langlois added that 83% of his firm's 6,000 affiliated financial representatives use LPL Financial's research and "more than half go into our recommended products."
Pressed on revenue-sharing agreements, O'Keefe and Langlois both replied that neither firm bases its recommendations on those practices.
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