Survival of the fittest
The last couple of weeks have shown a continuation of the recent trend seen over recent years from asset managers, namely consolidation. The number of mergers and acquisitions continues to grow as active managers look to take action to protect their business from the twin and interlinked threats of competition from passive managers and falling market share due to investors looking away from the traditional large asset managers.
In some respects, this is not a new trend: over the last 20 years, there has been a succession of mergers and acquisitions as the industry has moved away from one that has been very fragmented to a more integrated structure focused on the power of distribution. However, over the last few years, the rapidly emerging threat from passive managers such as Vanguard and iShares has seemingly accelerated this trend as active asset managers wake up to the fact that their lunch is being stolen from right under their noses.
In addition to competition, asset managers face closer scrutiny from the FCA with the introduction of the Value for Money (VFM) statement laying down a clear marker to managers that products have to be delivering acceptable outcomes for investors. Historically, it has been very easy for asset managers to take a lazy approach to product range management, relying on investor apathy to allow poor quality funds to languish, while all the time earning a healthy annual management charge. Such was the economy of scale that, for some large fund groups, funds could fall to very low levels of assets and still remain profitable, giving little incentive for them to take decisive action and improve outcomes for investors.
This lazy approach to range management is no longer appropriate given the introduction of the VFM statement, forcing asset managers to justify that each fund is delivering value for investors. While it might take a year or two for the full effect of the statements to kick in, there are early signs that they are having an impact.
Imagine the scenario of an asset manager going through their VFM assessment on an underperforming fund. In year one, they confidently state that the fund manager’s process is a good one and they are sure performance will turn around. In year two, the fund is still underperforming and managers now recognise that the fund may not be offering good value. If the fund is still underperforming by year three, it will be almost impossible for asset managers to argue that the fund is still offering value for money and action should be taken. This could mean a change in manager, a change in strategy or maybe a change in charges. Either way, the status quo is unlikely to continue.
What’s all this got to do with consolidation? Well, the reality is that the gauntlet has been well and truly been thrown down to active managers and they have recognised that their market share – and potentially profits – are likely to come down. The easiest way for them to tackle this threat is to find ways of stripping costs out of their businesses, and mergers and acquisitions are the way to do it. Jupiter’s purchase of Merian only 18 months after Richard Buxton led a management buyout of Merian from Old Mutual shows how vital this has become, with Jupiter stating synergies as a major attraction of the deal. Hot on the heels of this deal was Franklin Templeton’s purchase of Legg Mason in the US to create a $1.5 trillion giant, while back in the UK we have seen Sanditon funds move to Crux, Premier merge with Miton and Liontrust gobble up Neptune in the past 12 months.
All of these deals have the opportunity for management to cut back office costs with operations, finance, legal, sales and marketing teams all likely to be earmarked for cuts. Add in the attractive possibility of merging sub-scale funds and reducing the number of expensive fund managers, and it’s easy to see how bigger is better when it comes to asset management.
Despite spending my career looking at active managers, I’m certainly not bemoaning this move towards fewer funds in the market. After all, I have been saying for many years that there are too many funds in the market that are frankly letting down their investors. The reality is that high-quality fund managers, offering well-managed, actively-managed funds at a sensible price to investors have little to fear from these changes to the industry.
As was highlighted in the FCA’s Asset Management Study back in 2016, the industry has been over-earning for too long with too little price competition resulting in poor outcomes for investors. With asset managers responding to the very real threats to their businesses via consolidation, it will be a case going forwards that only the fittest, leanest and best asset managers will survive and this is something that all investors should welcome.