Institutional investors, facing both lower returns over the
next decade and growing liabilities, are taking control of the
one factor they can: costs.
A recent survey of 89 participants from 86 large money
managers found that asset managers are increasingly discounting
fees in the face of pressure from big institutional investors.
According to the survey, conducted by Institutional
Investor Membership groups, 21 percent of respondents
reported that discounting had pushed fees down by up to 20
percent. Another 23 percent said fees declined 20 to 40
The asset management industry is among the most profitable
in the world, but fee pressure combined with lower market
returns from investments could significantly drive down
margins. Asset managers are also being hit by the growing use
of cheaper and commoditized passive strategies that simply aim
to match the performance of an index. In a paper in the
Financial Analysts Journal last year entitled "Murder
on the Orient Express: the Mystery of Underperformance,"
Charles Ellis writes, over the past several decades, fees
for institutional investors have risen from less than 1/10 of 1
percent to nearly 1/2 of 1 percent of assets for equity
investments (less for fixed income and more for such
'alternatives' as private equity and hedge funds)."
Institutional investors are throwing their weight around,
but it helps to have more weight. Sixty-four percent of
managers in the U.S. and Europe said the size of the mandate
was the most important factor in determining whether they would
lower fees. In recent years large institutional investors,
including the $117 billion Teacher Retirement System of Texas,
have entered into so-called strategic partnerships with
traditional and alternative asset managers. These relationships
redefine the contract with asset managers, giving them broad
latitude over investment decisions but also giving investors a
big break on fees.
In a survey finding that might put the most pressure on
asset management fees, investors are increasingly demanding
"most-favored-nation" clauses in their contracts. Under these
arrangements, managers agree the fees charged to a client are
not higher than those that other clients with similar mandates
are paying. Three quarters of respondents said they offered
these deals when investors requested them.
Of course, not all managers are yielding to their clients;
53 percent of managers say performance fees, increasingly
popular with institutions, have remained steady in the last
year. A study last year from State Street Corp.s Center
for Applied Research found that institutional investors are
allocating more to alternatives, such as high-cost hedge funds,
private equity and other illiquid investments.