The charms of a golden circle
Michael Kinney looks at the co-ordination of investment strategy across groups
More and more multinational companies are reaping the benefits of the cost savings and improved profits which can result from global co-ordination of their world-wide benefit plans. Such companies will prove a considerable force in the consequent globalisation of the fund management industry.
What issues are affecting these companies? Why should they control their world-wide benefit plans? What features should be in the global strategy?
Costs: First and foremost, companies look to reduce costs and centralised control is necessary to achieve this. These companies are also likely to be centralising control in other aspects of their businesses such as the treasury function which will have been centralised, and will be looking for other costs to minimise.
Centralised control and local buy-in: Many multinationals aim for great-er centralised control. But if the ultimate aim is to 'think global and act local', the strategy must also accommodate local benefit plans each of which will already have its own established identity, strategy and practices. The quality of the relationship be-tween headquarters management and each local operation can significantly affect the success of the implementation of global strategy, particularly as local trustee bodies may not legally be bound by the decisions of the sponsor company. Global strategies which ig-nore local sensitivities may well en-counter problems!
Global reporting, custody and administration: To achieve control, management will require clear reporting. The co-ordination of managers' activities and the consolidation of reporting is essential, hence the role of the custodian is important.
Access to quality managers: Any global strategy will clearly seek to im-prove performance whilst controlling investment risks, which can only be achieved through the services of top quality fund managers. Smaller plans within the multinational will be able to gain access to such managers by combining their muscle the group's larger plans . The resulting economies of scale will also have the advantage of reducing fund management costs.
Corporate activity: Globalisation means that many multinationals are involved in corporate activity. A recognised and consistent strategy is needed as benefit plans of new acquisitions come within the fold.
Regulation: The inconsistency be-tween pensions regulations in different countries means that any global policy must be carefully formulated to accommodate each plan, including the legal and tax structure of the relevant investment vehicles.
Cross border investment: Deregulation and harmonisation widens the scope for cross border investment as companies take an aggregate view of assets and diversify on a global basis. Deregulation may permit increased in-vestment in assets with higher potential returns, such as equities, while local requirements to invest in assets such as bonds are reduced. The growing need for benefit plans to invest in-ternationally will create a corresponding de-mand for international managers.
Having identified the issues affecting its benefits plans, a multinational will wish to formulate a global 'best practice' policy meet its requirements. Such a policy will consider issues such as investment strategy, manager structure, manager selection, reporting and monitoring requirements. Clearly any global policy for a multinational must not only suit that company but also accommodate its subsidiaries. The global policy seeks to benefit from economies of scale and overall control of risk but it will also need to include specific guidelines for different regions, for example relating to asset allocation.
No industry strategy model has yet evolved, but it is possible to piece to-gether some of the basic principles. Each benefit plan within the group will have (to varying extents) both domestic and international assets:
Given the need to achieve buy-in from local benefit plans, it is common for local plans to have discretion when appointing managers of their own domestic assets - equities and bonds. This is particularly the case for plans in small markets, where even the large global managers may not have a local presence or notable skills.
The alternative is for headquarters to provide guidance on which manager is to be appointed, be it a local or global manager. The global policy is likely to involve the co-ordination of international assets of all plans within the group which can happen several ways.
Passive management offers the ad-vantages of simplicity, predictability of performance, and obviates the search for managers with skills in all markets. It may also be an economic necessity if the value of assets does not warrant the costs of active management. However, passive management reduces the scope for outperformance.
If passive management is not the answer, then how should the assets be actively managed? Should there be a few global managers to manage all the international assets of all benefit plans, or should specialists be used?
One solution may be for headquarters to insist that all plans use one manager, or choose from a panel of managers, for international assets. Such a preferred panel is often referred to as a 'Golden Circle'. This approach has some advantages:
p Local plans will have access to top quality global fund managers which might normally be out of their league.
p Reporting and consolidation of in-formation at group level is improved.
p Operational and administrative economies of scale are achieved to-gether with scope for reduced fund management charges
However, there are also disadvantages:
This approach gives limited choice to local plans, which may discourage them from buying-in to the global policy. It will be up to headquarters to sell positively the advantages, or possibly solicit local input during the selection of members for the Golden Circle.
It also ignores any in-built requirements of local plans for specialist management, particularly if a plan has considerable international exposure where regional specialists may be preferred.
Specialist managers will clearly be employed if local plans - or headquarters - believe that the performance advantages will outweigh the increas-ed administration costs. An alternative to the single panel of global managers is the creation of separate panels for regional specialist briefs. Indeed, local plans may be given the choice between global or specialist structures, and panels for both could be maintained. However, whilst such flexibility may render the global strategy more ac-ceptable to local plans, it will also re-quire global custodians to facilitate re-porting requirements, and maintenance of preferred panels for all potential specialist briefs will result in considerably increased effort and cost.
What will the multinational need to consider when appointing a manager to a Golden Circle of active global managers to provide international management for all local plans? All the usual selection criteria apply but some are particularly relevant to this role.
Tailored locally: Providing asset management services tailored to the needs of each benefit plan can be very complex, as not only are asset management skills required in a wide range of markets, but investment vehicles must comply with local regulations.
Global organisation: Any manager offering asset management skills in virtually every market is likely to be a global organisation. A global manager offering a local view is preferable to a local manager offering a global view.
Resources: A manager needs considerable resources to invest actively in all markets and a rigorous analysis of what resources are available is essential. This includes examining the structure of the manager's business. What are the strategic business objectives, and what are the implications for the future resourcing of fund management?
Consistent global style: The consistent application of investment skills across markets is important, and the manager should have a global style and process. For example, the 'global ex US' and 'global ex Japan' products should be consistent in overlapping markets. This indicates that a successful manager has a systematic process and is prepared to invest in technology to support that process.
Administration: The requirement of headquarters to control and monitor assets means that the manager's administration must be efficient. This is also dependent on investment in IT, which can be expensive. Experience in mutual funds, or defined contribution products, may be useful as these demonstrate a track record in communication and administration skills. Communication and language skills are essential for efficient service to all local benefit plans.
Fee scale: Multinationals seek to make savings on management fees. A competitive global fee scale is needed rather than a series of scales for each product.
Track record: The performance record must be good enough for local plans to buy-in to the strategy. Whereas some companies overlook a poor track record for a domestic search if other features of a manager are attractive, this is less likely to be the case when appointing a global preferred provider.
The strategy adopted to achieve these savings may include a panel of preferred global managers. But it must be remembered that a Golden Circle is only part of the solution. Implementation needs to be flexible and responsive to the needs of local benefit plans, whilst allowing headquarters to control global investment policy.
Michael Kinney is with Bacon and Woodrow in London