Home to trillions of dollars of global wealth, mutual fund firms face an unfamiliar belt-tightening as changes in the way people invest and rising costs chip away at rich margins.
After years of underwhelming returns in a low-interest rate environment, savers are dumping high-fee funds in favour of cheaper investment products, forcing asset managers to look more closely at the balance between income and costs.
Increased regulation after the global financial crisis is pushing up the cost of doing business for the established players while nimble technology-driven rivals are springing up to offer alternative investment products at a lower price.
“Strong inflows over a number of years have mitigated the need to make hard, cost-cutting decisions,” said Alastair Sewell, regional head for Europe, the Middle East, Africa and Asia-Pacific in the fund and asset manager group at Fitch.
While the first signs of pressure are already being felt, Sewell said the biggest hit would come if an economic downturn prompted more investors to move their money.
“When the cycle turns, and we start to see a trend towards outflows – that is when the cost-cutting question will start to bite,” he added.
Firms could respond by cutting jobs, particularly among back-office staff, streamlining product ranges and making greater use of technology. More takeovers of the thousands of small firms operating globally could be another consequence.
A Reuters analysis of the annual reports of the world’s biggest, listed, standalone asset managers between 2005/6 and 2015 showed the strain is already being felt. While some operations have been trimmed, more cuts may be on the way.
The average firm analysed increased assets by over 200 per cent in the decade to 2015 but just five of the 11 firms managed last year to grow assets under management – the primary driver of revenues.
Changing investor habits are already seen in Europe
Eight firms posted a fall in revenue generated by each employee between 2014 and 2015, while the four firms which broke out their management fee margin – the ratio of net fees earned to average assets under management – all showed a fall.
While nine still managed to raise operating margins in 2015, for example by growing their asset base or moving to more profitable products, just Swiss-based GAM Holding cut staff, the biggest cost.
Despite that, bosses of some of the firms chalked up a bumper year personally. BlackRock’s Larry Fink, for example, pocketed $25.8 million in compensation, up eight per cent from 2014. This year, though, BlackRock, the world’s biggest asset manager, and Pimco, the US-based bond house owned by German insurer Allianz, have both launched plans to shed three per cent of staff.
Consultants PwC suggested total assets managed by the global funds industry would grow to $100 trillion by 2020 though they said rising costs were expected to weigh on profits.
Within that figure, global demand for cheap exchange-traded funds (ETFs) would also rise, following the lead of the US, where ETFs account for 17 per cent of total industry assets, trade body Investment Company Institute (ICI) said.
Between 2012 and 2020, passively invested mutual fund assets are expected to grow from $3.4 trillion to $10.5tr, while passively invested institutional mandates are set to grow from $3.9tr to $12.2tr, PwC said. The biggest fund firms in the industry are taking notice.
“There are fixed costs to managing funds. Asset managers must either bring these down or find other ways to pass them on to investors,” said Bill McNabb, chief executive of Vanguard, whose firm manages $3 trillion across both passive and active funds.
As a result, average fees are already starting to fall. Equity investors in the US, for example, have seen their yearly costs drop from one per cent of assets at the turn of the century to 0.68 per cent last year, the ICI said. Fees paid by European investors have fallen eight per cent over the last three years, industry data tracker Morningstar said.
Changing investor habits are already being seen in Europe, where households were investing more in pensions and life insurance products, resulting in large, but lower-margin mandates for asset managers, Fitch’s Sewell said.
In the US, new Department of Labour rules covering retirement accounts are expected to push assets to fewer providers and lower-cost funds. At the same time, regulators have ramped up rules for disclosure and transparency, which are expensive to meet, including in hiring staff to ensure compliance.
European firms are likely to save costs by cutting fees paid to intermediaries who sell their products to retail investors, but bigger overhauls of fund ranges and headcount will be needed. This could involve reducing the number of share classes in each fund, merging products and using technology such as BlockChain to make custody and trade reconciliation processes cheaper.
A mass cull of front-office staff is unlikely but sales, distribution and trading jobs are at risk, with the latter replaced by algorithmic trading.
BlackRock, which has over 13,000 staff, already uses data to pinpoint which financial advisers are most likely to recommend its funds for clients, while Franklin Templeton now uses software to part-write fund commentaries.