Opinion

James Saft

SAFT ON WEALTH: The asset management shakeout

March 14, 2013

March 14 (Reuters) – The gusher of new money that has fed
the growth of the global asset management industry for a
generation has slowed to a trickle, making the next few years
make-or-break for many firms.

Growth in new money flows will slow to less than 1 percent
annually for each of the next five years, according to a study
by industry consultants Casey Quirk, as against 6 or 7 percent
in the good old days before the crisis.

That is sure to put pressure on many existing firms, many of
which owe their institutional framework to a time when a simple
focus on traditional products aimed at baby boomer savers was
enough to ensure success.

“In as soon as ve years, league tables of industry leaders
already will look different,” Kevin Quirk and Benjamin Phillips
of Casey Quirk wrote in a February industry study ().

“Most large rms today, saddled with the costs of serving
slower-growing legacy client segments and unable to redirect
resources toward newer, better opportunities, will struggle to
maintain their historical growth trajectories.”

Asset management, to be sure, is a good business: worldwide
revenues in 2012 were about $350 billion, generating about $100
billion of earnings. The ratio of earnings to revenues for the
entire industry is not too far off of what Google Inc
is able to generate and about three times as high as Wal-Mart
Stores Inc, so there is plenty of gravy even if growth
rates are going to reduce.

Let’s look at asset management with an investor’s eye. If
the industry sees revenue growth – even at a low level – the
value of those best-performing franchises will rise.

We will be living in a low-growth world for at least several
more years, and businesses with steady and rising cash flows and
a reasonable defensive moat will be very attractive indeed.

As such, of course, asset management attracts a constant
stream of new capital and entrants. This makes it tough to
maintain a sustained competitive advantage. Banks will be
plowing capital into asset management, technology firms will be
seeking ways to make end runs around financial services firms to
get directly at consumers and, as always, thousands of new small
hedge fund and other firms will start, grow and sometimes
wither.

FOLLOW THE MONEY

Most of the growth, however, is going to be outside of the
traditional business of serving domestic developed market
clients with standard equity and bond products.

Instead, look to alternative models for the fastest growth.

Between now and 2017, Casey Quirk estimates that upward of
20 percent of the revenue opportunity will come from private
equity and hedge funds, and so-called “solutions,” an industry
buzz word used to cover thing like target date funds.

Another 15 percent will come from passive investment, a low
cost, scale-driven business that, as it grows, pressures margins
throughout the industry.

There will also be a huge global play; both in serving newly
affluent investors from emerging markets and an ongoing
diversification of big-market money into global stocks and
bonds.

Of particular importance is the fact that 80 percent of the
growth is going to be from individuals, with the highest growth
rates among high-net worth and above investors, according to
Casey Quirk. Mamas, tell your babies to grow up to be private
bankers.

So, the winners in the industry will be able to position
themselves for that growth; either by projecting an image that
they can actually create high alpha – or outperformance -
especially in unusual asset classes, or by being cheap and
efficient sellers of a market return.

Being able to knit it all together into a coherent
portfolio, what we commonly call asset allocation, will also be
increasingly valuable, and is a skill in surprisingly short
supply.

So who are the losers? In a lot of ways it is the same group
that has been losing for years: those who hug investment
benchmarks, never strongly outperforming or underperforming;
firms that do a little of everything but can’t credibly package
it for clients; anyone who isn’t the cheapest at offering a
low-cost market return product like an index fund. When returns
are only 6 percent a year, as they may well be, benchmark
performance at an active management price isn’t going to cut it.

The big difference going forward is that in 2017 we will
have suffered a decade of low inflows, and, in developed
markets, will be looking at another 20 years in which baby
boomers will be eating their investments rather than adding to
them.

That is going to amplify pain for those who are already on a
long, slow slide.

It is kind of like in freshman-year Calculus. Asset
managers: look to your left and look to your right, one of you
may well not be here in four years.

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