As we kick off a new decade, the asset management and wealth management industries continue to experience a period of profound change that has caused many firms to reconsider traditional business models and client service approaches. Having partnered with senior management teams across the industry in an effort to help them grow their businesses, we have seen several common themes emerge throughout our recruiting assignments with clients which we felt are worth noting. By no means are any of them “silver bullet” ideas, but rather observations which may provide interesting food for thought as we head into the New Year.
Why standing pat is no longer good enough
It wasn’t too long ago that senior management of asset/wealth management firms could simply “clip the coupon” on their businesses, earning profits on a fairly predictable book of clients each year. Clients, in turn, were generally satisfied so long as performance remained relatively good (or at least average). The advent of passive products and their lower management fees have resulted in more investors shifting their portfolios to those instruments in recent years. For active managers, foregoing making new investments into growing their business has worked up to this point thanks to the stock market’s stellar returns compensating for those client losses. As we head into 2020, it seems likely that more active managers could come under stress without continued market action masking increased client redemption activity, possibly trending higher than the historical average redemption rate of 10-15% annually.
The Challenge: With asset bases that are either down or steady, the appetite for taking on additional risk associated with a new investment seems counter-intuitive, especially in the face of industry headwinds. Not only is it necessary in order to remain competitive, but not investing in the growth of the business can result in difficulties attracting and retaining talent who increasingly desire clarity from senior management teams into how they plan to grow the business and how employees will participate in that growth.
The Opportunity: Many active managers that have invested in introducing new products are seeing increased client demand for those products. The firms that have experienced the greatest success with such product launches have cited that success being rooted in the new product provided an investment solution to a need for clients and that the product is a logical extension of the firm’s existing product set.
The importance of having differentiated investment solutions
Constrained operating margins and continued outflows to passive products require that managers not only develop new products, but more importantly that they are differentiated enough from passives to justify higher fees. Gone are the days where managers could look to an all US equities lineup that featured well-diversified portfolios of 80 or more stocks. Instead, managers are looking to higher conviction, high active share strategies that invest in fewer companies that are fundamental research-driven or alternatives strategies such as private equity, private debt, infrastructure, and others. On the traditional equities side, strategies have mainly emphasized an international or emerging markets focus given they command higher fees, are viewed as less efficient areas of the market, and in some cases have fewer competitors in the space. Within alternatives, private equity strategies have seen strong interest in particular as more managers look to capitalize on opportunities to diversify away from the secondaries market.
The Challenge: some asset classes such as private equity and private debt have become increasingly overcrowded with growing dry powder given fewer deals to invest in.
The Opportunity: non-US strategies (both equities and debt) remain capacity-constrained and continue to be areas of the market where a) institutional investors are allocating significant pools of capital to active managers, and b) passive product is not as dominant.
Depth of investments knowledge is key (not just for investment staff)
Years ago, industry designations such as the CFA (Chartered Financial Analyst) and CAIA (Chartered Alternative Investment Analyst) were more the exception than the norm. Much has changed in recent years. On virtually every search that we are engaged on for investments or research professionals, having your CFA is either a requirement or a strong preference. It is viewed as essential for demonstrating your investment depth and credibility, both internally as well as with clients. Interestingly, we have seen more asset managers express a similar preference for their distribution and client relations teams to hold CFAs too. As managers have targeted the more sophisticated institutional buyer, their distribution/client teams are interacting with research staff at investment consultants or platforms and need to be able to “go toe to toe” with those individuals in product education efforts to win new mandates or model placements.
The Challenge: Obtaining a CFA is at least a 3-year process that requires a tremendous amount of focus and commitment which can be a challenge for even the most dedicated professional.
The Opportunity: Having a team of CFAs across the investments and distribution functions is not only great for optics but can create a powerful marketing message for the firm. It also speaks to the level of analytical rigor within an organization and can be an excellent recruiting tool as well.
It’s all about yield
With yields on 10-year bonds persistently hovering near all-time lows at 2.00% and showing no signs of a breakout anytime soon with an accommodative Fed, investors are thirsty for a greater return on their investments, hence why stocks have been so attractive. A number of our clients and other industry firms are planning to launch new multi-asset, yield-focused strategies that provide a higher level of return vs. traditional bonds approach. One client demographic that has been targeted specifically is retirees who have increasingly looked to their financial advisors for income products or other customized solutions. Asset managers plan to use either actively-managed funds or separately-managed accounts strategies that allocate among different asset classes based on market conditions.
The Challenge: Firms that offer equities strategies only may be somewhat hamstrung in launching a true multi-asset class yield-oriented product given it is perceived to not be in the firm’s “wheelhouse” as far as an area of investment expertise. Those firms may need to consider partnering with a third-party fixed income manager to make the solution more marketable.
The Opportunity: With stocks having enjoyed one of the longest bull markets in history and at all-time highs headed into 2020, it seems likely that volatility will pick up as it normally does, headed into an election cycle or potentially due to renewed concerns about slowing global growth. A yield-focused product that provides greater diversification across asset classes and a higher level of principal protection could serve as a good market hedge with an attractive return profile.
Speaking of yield, is value done for good?
Another year, another win for growth stocks. Not only did growth outperform value by over 10% in 2019, but a Morningstar analysis of returns showed that growth stocks have outperformed value stocks by an average of 2-3% annually over the past decade, with 2016 representing the last year that value outperformed growth. A strong innovation cycle led by new technologies (perhaps highlighted by FANG investing) paired with low unemployment, a strong consumer, and plentiful liquidity has resulted in the longest-running bull market in history. While each year has offered new hope, growth’s domination in recent years has begun to lead to discussions of capitulation in the marketplace eerily similar to 1999-2000 when several well-known managers closed their doors.
The Challenge: It has no doubt been a painful stretch for value managers through a prolonged period where growth has outperformed. Recent industry press has not helped, with most publications questioning the validity of value investing over the long-term and essentially constructing a narrative that equates to an epitaph for value investing. These headwinds are likely to become even more pronounced as we head into 2020.
The Opportunity: While things have been rosy for growth stocks up to this point, there do appear to be some clouds gathering on the horizon (high equity valuations, geopolitical trade tensions, global growth concerns, etc.) that suggest that we could be getting closer to the end of the current bull market than the beginning. Although it’s no sure thing, value strategies outperformed their growth peers at the end of the last bull markets in the early 2000s and in 2008 which may position value managers particularly well in the event there is a market pullback. In one of Warren Buffett’s more memorable quotes, he stated that “Only when the tide goes out do you discover who’s been swimming naked”. And with that in mind, it is entirely possible that we may see the beginnings of mean reversion this year.