Editorial note: Each year in December we develop our 10 ideas for asset management for the upcoming 12 months and this year was no exception. The months that followed have, however, been exceptional. The coronavirus (COVID-19) outbreak has had a significant impact on the industry and some of our ideas have become even more relevant since they were originally published.
We see the current market stress as having magnified the importance of balance sheet strength, with liquidity issues emerging for many funds and some institutions using their own capital to support their products.
Sustainability and climate expertise have taken on a new level of importance for end investors in the COVID-19 era. Those looking to demonstrate impact to society should consider this to be the perfect time to commit. The current situation is an opportunity to revisit and reset investment beliefs and priorities, and to place stronger emphasis on ESG and climate risk going forward.
In December we outlined cost-cutting as a priority for asset managers in securing their future and this has become even more pertinent. Some players will need to realize cost synergies quickly to defend profitability; while others will need look into more structural changes to their cost base to ensure that costs that have been taken out, remain out.
In our final idea we acknowledged the need to be strategic in implementing new technologies. The potential of technology to reshape the asset management industry has come into sharp focus in recent months, with COVID-19 becoming a catalyst for digital client interaction, for example. Firms will also need to cultivate softer skills in parallel to technological advances if they want to benefit from these beyond the crisis.
We will continue to monitor how the pandemic impacts the asset management industry and we will outline how the latest developments factor into our original hypotheses over the months to come.
The industry starts 2020 in what feels like a highly fractious world, and one which is likely to lead to quite binary outcomes. Against this backdrop asset managers not only have to make good portfolio investment decisions but also to steer their businesses through considerable change, be it climate, margin or technological advancements. This year’s predictions aim to identify the asset management trends for 2020 and stimulate ideas.
1. Capital and balance sheet management enter the lexicon of asset managers
Asset managers will begin thinking more strategically about how they manage their balance sheets and capital. While asset managers are unlikely to go on a bank-like capital raising crusade, they will become more purposeful in how they grow and manage their balance sheets. Part of this will be to signal financial strength and the ability to weather adverse events including operational or liquidity issues. As important, they will wish to bolster their financial resources to enable more aggressive seeding of new products, optimize financing arrangements and pursue strategic growth initiatives.
2. Climate expertise as a differentiator
Asset managers will start to build climate science expertise and integrate it into their investment process. Just about every asset manager has “done something” around ESG but few have yet built differentiated climate science expertise. This is going to change. While the consequences of climate change may not be fully felt for decades to come, the impact on society, the economy and regulation will create huge value shifts in the market much sooner. Asset managers looking to capitalize on these value shifts will explicitly incorporate climate science expertise into their investment decision-making processes.
3. Democratization of private markets
Supply of private markets investments will extend down the retail investor spectrum. To date retail investors haven’t had the same opportunities to invest in private markets, at least in part due to client suitability and liquidity concerns. However there is a strong case for broadening the investment set, provided there is appropriate guidance. Our calculations suggest a 5% allocation to Venture Capital in a DC scheme could increase the entire pension pot by >7% over the working lifetime of a 22 year-old. This trend will gain steam thanks to (a) improved liquidity with broadening of secondary markets, (b) vehicle innovation, (c) the challenge of a “lower for longer” investment environment, and (d) better handling of liquidity restrictions.
4. From "open banking" to "open AM" through API
Asset managers will invest heavily in API technology to enable them to “plug” into a larger provider ecosystem and unearth new business and operating models. Ten years ago the industry still used fax machines; today asset managers are developing APIs to allow them to connect to a broad ecosystem of service providers, and exchange data and information seamlessly. Leading asset managers will take advantage of these advances by working with digital innovators (e.g. online banks, fintechs) as well as traditional industry service providers (such as custodians, wealth managers), to develop new service propositions while driving dramatic efficiency gains in their operating models.
5. Selling internal assets externally
Given the challenge in growing revenues, firms will look to package internal assets and capabilities, and try to sell them externally. With pressure on fees and weak net flows, large scale players and hedge funds that have invested heavily in developing technology and infrastructure tools (e.g. risk and portfolio management systems, trading tools and other proprietary capabilities), will look at these “assets” as potential new business opportunities. While there are some prominent examples of firms having pursued this strategy for years, those willing to redefine what truly are their proprietary “crown jewels” will pursue this path as a lower- cost and potentially faster way to drive growth.
While the consequences of climate change may not be fully felt for decades to come, the impact on society, the economy and regulation will create huge value shifts in the market much sooner.
Julia Hobart, Partner, Wealth & Asset Management
6. NLP as business as usual
The use of Natural Language Processing applications will explode across the activity chain, quickly becoming a table-stakes capability for asset managers. NLP is already used in the AM industry, but it is typically deployed in siloed applications or remains confined to more technically-minded portfolio managers and analysts. The widespread availability of NLP algorithms and well-defined use cases will extend its use across AM organizations. While human expertise is still essential in calibrating NLP algorithms and “training” the models, AMs will look to deploy it anywhere people are currently spending time distilling meaning from text. This will lead to step-change improvements in efficiency and insight generation.
7. Cost cutting to fund bets on the future
Firms will no longer look at cost cutting as an end in itself, but as a means of making bolder bets to secure their future. We don’t deny that improving efficiency and cost sustainability are important, but asset management is a scale business and, increasingly, a winner-takes-all game. Asset managers can’t cut their way to scale, long-term profitability and market relevance. Firms will be forced to make difficult decisions on what to focus on and invest in, as well as what to stop doing (and who to stop paying). Importantly, the savings that firms achieve won’t be reinvested in a diversified way. They will make larger, bolder bets as the “cost” of maintaining too much optionality will end up being self-defeating.
8. Asset managers pass their pain to infrastructure providers
Asset managers will push fee pressure down to administration and infrastructure providers, triggering a wave of consolidation. As asset managers continue to experience fee pressure, they will increase scrutiny of their “infrastructure” providers (i.e. custodians, depositaries, administrators and ManCo providers). Many of these services, at least in the liquid securities space, are seen as commoditized and therefore a pure scale game. However many providers still operate in sub-scale territory and will struggle increasingly to justify their fees. This will trigger consolidation among infrastructure players to create true “one-stop shops”.
9. Clearing the fog on performance reporting
High performing asset managers will drive new levels of transparency in how they report performance and thereby demonstrate their true added value, leaving others in a vulnerable position. Clients have become hypersensitive to investment costs and have been pushing down on fees for years. Instead of letting clients define the narrative, asset managers will take matters into their own hands by improving the transparency of their performance reporting. This means things like stripping out returns due to simple-to-replicate factor-based strategies and other market betas to make it fully transparent where and how they added value. Firms that generate true alpha will be rewarded for this; others will find it increasingly difficult to justify their fees.
10. Technical skills aren’t the answer to all problems
Firms will over-emphasize, over-compete and over-pay for technical skills while under-investing in bringing in and cultivating “softer” skills. The perception that moving increasingly to a digital and tech-enabled world means the most valuable resources are coders, data scientists and engineers, is somewhat misplaced. Although they are certainly critical to asset managers’ futures, delivering the desired results will also require “creatives” and people with skills and perspectives from outside traditional asset management circles. In the scramble to “go digital” and apply “advanced analytics and big data”, many will be disappointed by the results they get from technology; not because they couldn’t secure the technical skills, but because they lost focus on the “softer” skills needed to motivate, manage and organize complex cross-functional teams that the “new world” will require.
For more information or advice about any of the trends in asset management outlined above, contact a member of our dedicated team.
Christian EdelmannPartner, Co-Head Of EMEA, Financial Services, And Global Head Of Wealth & Asset Management
Julia Hobart Partner, Wealth & Asset Management
Kamil KaczmarskiPartner, Financial Services
Joshua Zwick Partner, Financial Services
Matthias HübnerPartner, Financial Services