Diane Hallock reports on a booming industry

Portugal's fund management industry remains firmly in the grasp of the nation's largest domestic managers, who by all accounts show no sign of losing their hold on the lion's share of this rapidly growing market. By law, Portugal's commercial banks hive off their asset management and pension fund management functions into distinct subsidiaries. More than 90% of Portugal's pension assets are managed by these subsidiaries, called sociedades gestoras de fundos de pensoes (SGFPs), with the balance in the hands of insurers.

Portugal's pension funds now represent some $10bn in assets, says Bernie Thomas, senior consulting actuary at Watson Wyatt in Lisbon. Although minute by European standards, this pool of money is growing at an estimated 25% per annum. This rapid growth is mirrored in the mutual funds sector, now reaching an estimated $20bn, says Pedro Sommer Carvalho country head at William Mercer in Lisbon, although much of this is short-term money held in treasury or cash funds he cautions.

Pension funds are very conservatively managed, and according to a Watson Wyatt survey, the average asset allocation as of the end of 1996 shows that almost 70% of the average portfolio is still held in domestic bonds, although foreign equity and bond holdings have shown a slight increase over 1995 and now amount to just under 5% of the total. The average return on pension funds was 13.2% in 1996, according to the same survey, up from 10.9% and 7.2% for 1995 and 1994 respectively. Regulations have recently been amended to allow pension funds to hold a maximum 35% in equities, says Watson Wyatt's Thomas, up from 25%, al-though the ceiling can be bumped up to a maximum of about 50% through investments in domestic mutual funds. A couple of funds have come close to this 50% figure, he adds.

The mutual fund industry also re-flects a national predilection for low-risk and predominantly domestic assets, although there are signs that this is changing. For CaixaGest, the asset management arm of Caixa Geral de Depositos and the largest player in the market with $5bn under management, the fastest growing and most popular of their 16 funds are those investing in equities, says general manager Fernando Maximiano. While a link-up with the Paris-based CDC (Caisse de Depot et Consignement), which for instance manages their $600m European equities fund, has helped ease the way into new fields, Maximiano adds that their plan over the medium-term is to move all of the investment picking in-house. By year-end, he predicts, they hope to launch an emerging markets equity fund, and are currently looking for partners to help them in this venture.

The appetite for equities is on the rise, agrees Antonio Beck, managing director and Portugal country manager at Bankers Trust in London. While fixed income instruments could, not long ago, yield some 300 basis points, they now only return about 60-70 basis points, estimates Beck. Interest rates have dropped in line with convergence, concurs Rui Martins dos Santos, chief economist at Banco Portu-gues de Investimento. Average short-term rates, he adds, are now in the re-gion of 5.7%, as compared to 7% a year ago, with long-term rates following a similar downward trend.

It helps that money poured into equities has been yielding good re-turns, says Marcos Lagoa, treasury manager at Barclays in Lisbon, with the stock market posting gains of 35% last year, and another 35-40% year-to-date. Even as fund managers play to the risk-averse nature of the local in-vestors by offering products, such as bonds indexed to equities, which guarantee protection of capital, movement is clearly towards portfolios with riskier assets agrees Jose Maia, executive board member at CaixaGest. As interest rates decline, he continues, investors are looking to equity funds to boost returns. Within the context of a 15% overall growth rate for the industry, says Maia, the equity fund segment has soared 110% between January and April of this year, and new products like fund-of-funds and what he terms the 'portfolio version of PEPs' are also growing exponentially.

Looking ahead, as investors be-come increasingly adventurous, a new breed of domestic money managers will reap benefits. One such 'niche' player is the Banco Privado Portugues, an institution established last year which is dedicated to asset management, says director and head of equities Miguel Henriques. This institution has already amassed some $300m under management, mainly from foreign institutional investors, and has two equities funds up and running. The game plan for the next several years is to build up a roster of domestic clients, including pension funds, adds Henriques.

As the market matures, new instruments will infiltrate the menu offered by money managers. Portuguese funds are beginning to look at products like derivatives as a hedging mechanism, says Luis Gouveia, portfolio manager at Banco Espirito Santo in Lisbon and until the concept of 'guaranteed funds' is approved by the regulators, managers get around this by issuing bonds that are linked to market indices and then cover their positions with swaps, he adds. Mercer's Carvalho notes that, 'some managers are starting to look at benchmarking to define their long-term goals' and with the growing prevalence of higher-risk investments, he feels that performance measurement will start to become more of an issue.

While this remains predominantly an insular market, several foreign players have made inroads into it. One of them is Schroders which has won mandates from two large corporate clients totaling some $150m, says Schroders consultant Hugo O'Neill. He rates the chances of foreign players gaining market share as improving, on the basis of two factors: op-portunities in fixed-income are dim-inishing; and Portuguese equity markets have peaked and an ever-greater proportion of Portuguese money will soon be moving abroad. According to local sources, the select group of foreigners having some success in this market includes names like Dresdner and Deutsche Morgan Grenfell, LGT Management, and Lazard Freres. Foreign mandates tend to originate through the Portuguese banks and funds and not directly, with most foreign players opting to cement an alliance with one of the Portuguese banks as a means of getting a foothold in the marketplace.

Nevertheless, the success of foreign fund managers has been stymied not only by lack of distribution, which leaves those players who don't form sales agreements with local financial groups to operate in very small niches, but also by a perceived lack of trust. The impression that non-indigenous managers do not understand the local market is endemic and will take time to overcome, asserts CaixaGest's Maia.

The big question for the future, says Barclays' Lagoa, is what route the local names will take when they start to look seriously at investing overseas- wheth-er to contract out the business or to do it themselves. However, with international equities and bonds at present making up barely 5% of the average pension fund portfolio, this dilemma looks to be a still distant prospect.

Diane Hallock is a freelance journalist

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