The market trend during the past two years has changed the mindset of institutional investors and increasingly directed their attention towards a quantitative-structured investment style. Still a new approach in Europe, it accommodates new and additional investor requirements exceptionally well.
A current poll shows that, although 86% of investors demand high professionalism as to dealing and controlling risks in funds from their asset managers, in reality only 56 % of them can fulfil these requirements. Inherent risk control is one crucial criteria of the quality of quantitative-structured investment techniques. Another plus of this new investment style is the comprehensive reporting that can easily be provided by such quantitative-structured investment managers and to which almost three quarters of all investors assign a high priority. According to the survey only 40% of traditional asset managers were able to comply with these high standards.
Apart from the enormous increase in investment volumes, other new trends can be identified that enhance the positive development of asset managers offering quantitative products. The incorporation of new investment companies in Europe is leading to a market that is increasingly transparent for investors. Today about one out of six investors uses a financial consultant, which frequently recommends risk diversification through different investment styles. As many institutional investors already have their assets professionally managed in a traditional style, a quantitative-structured investment style is viewed as an ideal supplement. Furthermore, the competition in the fast-growing European asset management market has become fiercer: foreign service providers continue to enter the market, partly by way of fund platforms.
In 1970 only 10 companies were competing in the German market. The number has since risen to more than 80. In view of the current developments in the German pension fund market, which is said to have a market potential of about e1,200bn, this trend seems to be continuing still. As a consequence, the unique selling points of each asset manager will become an ever more important basis for their market position.
Another trend shows that investors are constantly growing more sophisticated. In addition to a satisfactory performance, they expect higher transparency and a more customer service orientation from their asset manager. Interestingly, however, it seems that in spite of competition around the globe, investors are willing to award a mandate to a foreign asset manager only if they already use the services of at least five domestic asset managers. This is certainly the reason why the volume of quantitative-structured mandates is still quite low in Germany.
Although the quantitative investment style has been established as an essential part of the product spectrum in the US market for more than 20 years, up to now only a few companies are in a position to offer this investment style in Europe. Obviously, for cultural reasons European investors tend to have their funds managed in their home country and by asset managers who have been in business for at least three years or more. These criteria seem appropriate to guarantee a sustainable, individual management of the investors’ mandates. Therefore, only some years after the first establishment of asset managers offering quantitative-structured products, did this product line see an increase in interest throughout the European market place.
Looking at the split-up of mandates, it can be seen that the trend to investment into specialist asset classes continues. Only 27% of all mandates are ‘balanced mandates’. Moreover, one can see that large investors increasingly use the possibility of risk diversification through the use of innovative investment styles and new asset classes.
A high level of confidence in ‘active investment management’ can be detected on the investors’ side. Only about 2.3% of German investors have their funds managed passively. This correlates with the target of ‘outperformance’, which 70% of investors name as their most important criterion for the choice of asset manager. Risk control and the demand for outperformance can best be achieved by an actively quantitative-managed investment approach. Here the advantages of a traditional active management style are combined with those of the passive management style.
In the traditional active management, investment decisions are made by a team of fund managers. The subjective assessment of external and internal analyses leads to the investment decisions regarding individual stocks and the general construction of the portfolio. The fund manager intentionally deviates from an underlying index by active management. On the other hand, this approach does not rule out the risk of wrong subjective decisions. But, it can achieve a return exceeding the chosen benchmark in the long run .
In contrast, the objective of a passive management is to replicate an index as accurately as possible, predominantly using an objective, systematic and clearly structured approach. It does not bear risks that are incurred by subjective management mistakes, but it also does not allow a positive deviation from the benchmark. The investor’s return usually corresponds with the index/benchmark performance.
The quantitative-structured investment style combines the advantages of both approaches: the opportunity of outperforming the benchmark by using an active investment management approach on the one side as well as avoiding management mistakes on the other, by following a clearly structured, objective and disciplined investment approach.
In Germany, we are the first quantitative asset manager exclusively offering a quantitative-structured investment style. We can also look back at a three-year success story. With 32 mandates for institutional investors and about e2.5bn of assets under management, it has paved the way for the quantitative-structured portfolio management not only in Germany but at least in continental Europe as well. We were able to exceed our break-even point as early as in our second year in business, showing a cost-income ratio of well below 100%.
The most important ratio to assess the success of investment decisions is the information ratio, indicating the relation between active return and active risk of a fund. In practice, only one quarter of all fund managers shows an information ratio exceeding 0.15. Across all our equity funds under management, we at present show a top-level information ratio of over 1. In addition to tailor-made investment approaches for institutional investors, our range of products encompasses two equity mutual funds.
Marc Bechtel is executive manager and Ilona Wachter senior manager at DG PanAgora Asset Management in Frankfurt
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