The global asset management industry enjoyed a third year of record profits in 2014; profits for managers rose to $102bn, matching their pre-crisis peak in 2007. Assets under management increased to $74tn, the highest figure recorded by the Boston Consulting Group’s annual survey.
However, this was largely as a result of market impact, as equity and bond values rose, helped by the promise of recovery and central bank intervention in markets. Net revenue growth didn’t rise with the same pace, as the pressure on fees squeezed prices, and investors continued to shift traditional actively managed products to lower cost tracker funds.
On-going increase in costs
The industry’s cost base has increased drastically, according to McKinsey’s 2015 report, by 44% since 2007. It is the rising regulatory and distribution costs that cause the most concern to most managers. Investing in regulation is good for our investors, we know. But the return for Managers on this type of investment is only felt much later, through the re-building of trust, and educating our end investors. We still have a long way to go.
Pay for staff, the largest cost, has jumped by 8% in the last 7 years in Europe. McKinsey’s Asset Management Leader said that companies should improve recruitment and staff development instead of hiring badly, and replacing them more frequently. People decisions are important.
At the same time as this, you have to remark what is happening on the passive side. Funds that aren’t actively managed, now account for 26% of global assets in public equity.
A closer look at passive funds
Actively managed funds allocate capital according to their strategy and target asset class. Successful investments generate the highest returns, and then attract back the most investment, and so active asset management invests in our world. By contrast, passively managed funds allocate capital according to the weighting of companies in a market index, not a company’s outlook for value creation.
Well-run actively managed funds are far more likely to invest in SMEs than index trackers, because they have an entire team of analysts and researchers to allow them to do it, whereas passively managed funds rely on market indices. The unspoken by-product of actively managed funds is their greater investment in our SMEs and the liquidity provided by them to other areas of our economy.
Index trackers do not keep up with sharp declines in market capitalisation
The other point about index trackers, or aka passive funds, is that by their very nature, they are not actively managed, so they keep on buying even when valuations are disconnected from underlying fundamentals. Their high level, ‘non-active’ analysis leads to waste when flawed businesses go through large declines in their market capitalisation. It’s a loss to investors, but also a loss to the well-managed companies elsewhere in the market who could have seen the investment, who could have used it to create jobs, add value. The macroeconomic impact of investing this way, is not being viewed by large asset owners. They are instead focused only on the fees charged by active managers.
Some say the fees are now too high, managers mention the rising cost of regulation, it doesn’t matter which way round it is, the short story is that investors don’t feel the returns justify the fees. We need to correct this. A number of top fund managers have been quoted in the press over the last 12 months stating they have the distinct impression the majority of their industry is under-performing. Even in major asset managers, entrepreneurialism, innovation, is essential. As usual, bigger is not always better. Brave is better.
Accepting orders via fax
In 2014 it was revealed that Google had commissioned research on how it could enter the Asset Management Industry. Technology in the digital age which has brought down Kodak, HMV, and even IBM, hasn’t even started in asset management yet. Most asset managers are still running on systems which our own small business upgraded years ago. In a world where you can order a new washing machine to your house within 24 hours, half of our industry still requires a fax machine to carry out their daily business.
Digital Interruption is coming
Just as with the others, it’s not if, it’s when. Digital interruption is coming. In the UK, auto-enrolment to workplace pensions is also coming. 5 million people have already been enrolled and many more are expected as the UK Government’s response to the pensions shortfall kicks in.
Ros Altman, the UK Minister of State for Department of Work and Pensions, warns pension providers not to take the compulsory custom for granted. ‘Pension companies previously didn’t engage with the end customer at all. They would sit there, waiting for a salesman to bring them the money. And so they designed the products the salesmen could sell, rather than the products that the end customers actually needed.’ By 2020, £100bn a year, will be flowing into pensions. If the existing pension providers don’t make the most of this opportunity, other people will surely arrive because there is so much money at stake.’
The asset management industry has an absolutely vital role to play in this. We shouldn’t rely on someone else to educate our end investor.
Adding value isn’t a nice to have, it’s essential. That’s the beauty of the private sector. We shouldn’t be like Kodak, resting on our $30bn market cap, until we aren’t around anymore. If we are going to let Asset Management become passive, and Google innovate more quickly, we will soon welcome a new digital version of our asset management world, at a cost to our industry and an even greater cost to our global economy.