Investment banks' toe in the water
Banks dominate the European asset management industry. Banks have about 10 times the amount of assets under management from institutional and retail clients than either insurance companies or independent fund managers.
Diana Mackay and Rodney Williams, both managing directors at London-based Feri Fund Market Information, estimate that at the end of December 2003, banks controlled €2,416.9bn of assets in 17,010 funds, compared to €262.6bn in 2,510 funds managed by insurers, and €318.1bn for independent asset managers in their 3,763 funds.
Banks’ assets under management are growing faster than the other two industries. Feri estimated that at the end of December 2001 banks ran €2,341.9bn, insurers looked after €260.4bn and independent fund managers controlled €296bn.
Although it is impossible to split out the full service banks that have investment banking arms alongside the corporate or consumer accounting divisions from pure investment banks or deposit-taking operations, it is common for continental banks to offer both alongside their asset management subsidiaries. And investment banks are trying to extend their domination of the wealth industry by offering pension fund consultancy alongside asset management and debt and equity financing.
Angus McFadyen, principal of Axiom Partnership, which advises investment management firms on strategic issues and markets, says there was a strong logic in investment banks expanding into other areas because “they understand public equity and bond markets. The investment banks have this knowledge so they say ‘why not put it to good use?’. Plus, management thinks it is a good idea to have a comprehensive menu of services: investment bank, brokerage and asset management”.
Suzanne Donohoe, co-head of Goldman Sachs Asset Management Europe (GSAM),agrees. The rationale for building an asset management had three reasons, she says. “First, to focus on a diversity of revenue streams; second, to extend the type of services offered to clients; and third, and most compelling, is the strategic view that organisation which excel at research, risk management, a global approach and teamwork are likely to outperform over time. In addition, asset management is not hugely capital intensive and is complementary to investment_banking.”
Jon Little, chief executive at Mellon Global Investments (MGI), says: “Investment banks having asset management arms is not a new trend but they have been pushing harder recently.”
Donohoe adds: “GSAM was formally organised in 1989. Goldman Sachs was the last major Wall Street firm to start an asset management division because we were focused on fund managers_as clients in the firm’s securities business and did not want to compete with them. Lines blurred, however, and it became clear that all major investment banking and securities firms would end up being both competitive and collaborative in a number of areas. Couple that with the fact that fund management is an attractive business to be in and we started to grow aggressively from 1996, largely organically. Three acquisitions added to our capabilities..”
McFadyen says investment banks split between either organic growth by recruitment of people into their asset management divisions, for example, Société Générale and Goldmans Sachs, or by acquiring whole businesses, which Citigroup, JPMorgan Fleming, HSBC and UBS have mainly done. As to the respective success of each method it depended on the company’s culture, he added.
Mark White, head of international institutional business at JPMorgan Fleming Asset Management(JPMF), says asset management provided “lustre value” for investment banks but with a long lead-time. He said there was no incompatibility in having businesses running on different tempos and long lead-times, such as private equity and asset management within the shorter term trading culture of an investment bank.
Donohoe agrees. “I believe that we can be appropriately ‘long-term’ in our orientation despite being a part of a global investment banking, securities and asset management firm. This is because there is a clear and deep understanding at the top of Goldman Sachs that this business is different from investment banking or trading, with different criteria for success, different policies with regards to our people and different time horizons over which to measure the business. We have a very diversified asset management business, with 10 ‘centres of excellence’ from cash to private equity and hedge funds, which provide stable revenue streams from a variety of different markets, even in the dark days of the 2001 and 2002 equity markets.”
But other investment banks have taken a different approach. Morgan Stanley earlier in the year sold its private equity arm to its management. And McFadyen says the investment banks’ attitudes were always to be looking for the “next big deal”, so they have shorter time horizons. “Investment banks say they are in it for the long-haul but this is rubbish, as evidenced by investment banks hiring and firing by deal flow.”
But the investment banks are proving successful in asset management, and there are lessons for other fund managers. White says its primary distinguishing factor “is consistency of performance on appropriate level of risk. Increasingly we do have that and with superior service to respond to clients’ needs. Plus thought leadership on issues at times of stress.”
Changes in the industry were benefitting the investment banks as well, Donohoe says. “The asset management business is set for more consolidation. It is a very professional game and it requires significant investment to do well in it. Those that got into the business in the mid-1990s are questioning their ability to generate returns or compete. Firms are looking to outsource to a manager of choice, as sub-advisers, and GSAM will be active in this arena rather than making acquisitions.”
She adds: “In the last nine months there has been huge interest in new_products. Pension plans have expanded their asset exposure, as they have not hit their return profile.”
Little says that although investment banks could be less focussed on asset management in their business, or more set on production by a process than other fund managers, “where investment banks are successful is in hedge funds, as it is a natural spin-off from the proprietary trading mentality”. He also says an integrated asset manager and investment bank could find it easier to call clients, but he adds: “Clients have concerns on big integrated firms with buy/sell-side research and proprietary trading.”
And investment banks are expanding into pension fund consulting. Andy Green, head of strategy for UK at Mercers, says: “Investment banks have been wanting to talk to pension plan sponsors for some time now. Investment banks are one step nearer the end product - derivative swaps or structured-type products - that pension funds increasingly need. But although investment banks can manage any conflicts from talking to sponsor and trustees, when they are the seller of a product this needs full transparency of fee and advice and counter-party risk. This is a new problem for pension fund: when they provide derivatives and act for the other side of the swap then the purchaser must be satisfied they have got the best price and suitable independent advice. But it is only with hindsight that you can see where conflicts are material, ie, if it becomes a monetary loss. And you cannot tell the full extent of counterparty risks.”
On possible conflicts of interest Donohoe says: “We bend over backwards to make exceptionally clear what our role is in the firm. GSAM is an independent asset manager, with proprietary research, models and its own traders. Clients may ask questions and do further due diligence but they do get comfortable in the end.”
As to the move into pension fund consulting she said: “We do not look to be hired for manager searches but we are close to market and have experience of risk management. It can be good to have a second opinion as to what a pension_fund structure should look like. Clients look for help in formulating their own thinking on asset liability studies. We are happy to offer this as a value-added service. There is an element of cross-selling here but it also showcases our people talent.”
But Hartmut Lesser, managing partner at Germany-based Feri Institutional Management, says: “For a number of years banks have moved into consultancy as a door opener for their asset management services. But it has not worked on a large scale. One reason is there is an obvious conflict of interest between banks doing asset liability modelling/consultancy; for them it is not strategically important but a door opener.”
White thinks the move into pension fund consulting was a response to short-term issue. It is a cyclical thing as interest rates have fallen and accounting rules have changed leading to a funding crisis and driven by propensity of clients to make wholesale restructuring of pension fund and corporate structure.
Despite this caution as to the limits of investment banks expansion plans, it is expected they will continue to push harder into asset management for institutional investors, especially as pension plans require more esoteric products to manage risk.