Passive investing has received a lot of attention lately, and no wonder. Last year investors poured roughly $115 billion into index funds nearly twice the record $61.1 billion set in 2007 whereas flows into actively managed funds totaled only about $38 billion, according to the Investment Company Institute, a Washington-based trade association.
But active managers have hardly been sitting on their hands. Many firms have been developing products and services to boost management performance crucial innovations at a time when dispersion (the difference between the return of an index and that of each component) appears set to rise from historic lows, thus creating opportunities for stock pickers.
Regardless of which side of the active-versus-passive debate they found themselves on or whether their product offerings included a combination of both money managers enjoyed a successful 2013, for the most part, with the majority of the biggest firms growing even larger. Total assets in the II300, Institutional Investors annual ranking of Americas top money managers, increased by $3.57 trillion, to $42.3 trillion.
The ranks of the top 15 firms are little changed from last year, with only Malvern, Pennsylvaniabased Vanguard Group and Allianz Asset Management of Newport Beach, California, switching spots, to third and fourth place, respectively.
Index fund giant Vanguard is the years biggest gainer, in percentage terms: Its total soars by nearly 25 percent, to $2.29 trillion. In dollar terms its $444 billion increase is second only to the gain notched by the No. 1 firm, New Yorkbased BlackRock, whose total jumps by $532.7 billion, to $4.3 trillion.
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Allianz is the years biggest loser, in dollar terms. It owns Pacific Investment Management Co., the fixed-income manager run by Bill Gross that sustained tens of billions of dollars in net redemptions PIMCOs Total Return Fund alone lost a record $41.1 billion last year after misjudging the Federal Reserves plans to scale back its program of quantitative easing. Allianzs total falls by roughly $69.2 billion, to approximately $2 trillion.
Not all fixed-income managers suffered. The No. 9 firm, Prudential Financial, manages $889 billion in total assets an increase of roughly 4.9 percent, or $42 billion, over last year and about 70 percent, or $628 billion, is in fixed-income securities. As of March 31, 2014, the Newark, New Jerseybased firm was enjoying its 26th consecutive quarter of net institutional inflows.
David Hunt, chief executive officer of Prudential Investment Management, which primarily offers actively managed strategies, says institutional investors continue to look for partnerships with active managers that can offer them a broad range of funds and advice. Investors such as sovereign wealth funds dont want to know how great a specific product is; instead, they want more objective and global analysis.
Asset owners want to know where were seeing price anomalies in global value strategies, say, or whether there is real risk in China real estate, Hunt explains. The firm already operates in more than 16 countries and has joint ventures in Brazil and China and plans to expand further to make sure it has adequate on-the-ground research, he adds.
Since the onset of the global financial crisis, exchange-traded funds, which can be bought and sold throughout the day and offer tax and other advantages, have been one of the bright spots for the industry. More than $247 billion streamed into ETFs in 2013 the second consecutive year in which such inflows exceeded $200 billion but the vast majority of these funds track an index and are thus considered passive investments. That may be about to change, however. Asset managers are trying to piggyback on that popularity with investors by launching actively managed ETFs.
State Street Global Advisors, which claims second place on the II300, with $2.34 trillion in assets under management (a gain of 12.4 percent, or $258.6 billion), is betting on some big brand names. Last year the Boston-based firm whose SPDR exchange-traded fund platform is the second-largest in the industry introduced a leveraged-loan ETF with GSO Capital Partners, the alternative-credit arm of Blackstone Group, a private equity firm headquartered in New York. GSO actively manages the fund, which capitalizes on investors recent interest in leveraged loans that offer some protection against rising interest rates, according to Scott Powers, CEO of SSGA.
In late May, SSGA an-nounced that it was partnering with DoubleLine Capital of Los Angeles to launch an actively managed bond ETF. The SPDR DoubleLine Total Return Tactical ETF will be managed by DoubleLine founder Jeffrey Gundlach and Philip Barach.
Even as investors opt for index funds, theyre often using them within actively managed portfolios. Powers says its a bit like the old balanced approach, where investors would engage managers to invest where they saw opportunities. But were managing toward much more sophisticated outcomes, and the tools were using are quite different, he adds. Clients hire SSGA to manage their portfolios toward a specific goal, such as de-risking a corporate defined benefit plan by matching assets to liabilities or creating customized target date retirement funds.
Now that an almost three-decade-long bull market in bonds is coming to a close, active managers are the better bet, market observers contend. Eaton Vance Corp., No. 30 on the II300, with $283 billion in assets (an increase of $44.8 billion over the prior years total), has been successful with recent launches like its multisector income strategies run by Kathleen Gaffney, who joined the firm from Loomis, Sayles & Co. in 2012. More-flexible fixed-income management makes a lot of sense as we likely get to the end of the bull market, insists Thomas Faust, CEO.
Professionals are often in high demand in times of market transition. Faust believes that changes in the municipal bond market will help spur growth at his Boston-based firm. Roughly $1 trillion in muni bonds is held by individuals in commission-based brokerage accounts, he notes, and defaults by such cities as Stockton, California, and Detroit have rattled investors, driving many to seek assistance in managing their portfolios. At the same time, liquidity in municipal bonds is low, making trading more expensive for individuals and working with professionals more attractive.
Active management can deliver great returns but only if investors are in the market. Delegating authority to the professionals can help. Mary Callahan Erdoes, CEO of J.P. Morgan Asset Management, the No. 6 firm, with $1.6 trillion (an increase of $171.7 billion), says that more than ever investors want multi-asset-class portfolios for which managers make the decisions on when and how much money to move into different types of investments.
Funds with broad mandates afford managers the flexibility to move into and out of asset classes. In addition, hedge funds have the flexibility to employ varying degrees of leverage or to move into less liquid investments, while fixed-income funds are able to roam the globe for opportunities in a changed world for bonds.
Erdoes says the run-up in the equity markets since the financial crisis has been a bitter lesson for investors that have been too conservative. Asset allocation works but you cant flinch at times like March 2009, when the market bottomed, she says.