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Brawl in the family
As Société Générale Asset Management seeks to boost margins by selling more alternative investments, it must fend off competition from fellow SocGen unit Lyxor Asset Management.
When Philippe Collas became the founding CEO of Société Générale Asset Management in 1996, he looked to major markets abroad to jump-start a mostly domestic business. Within a year he had launched a high-profile, London-based operation, SGAM U.K. Then he bought Yamaichi International Capital Management from failed Japanese brokerage Yamaichi Securities Co. and followed that in 2001 by acquiring Los Angelesbased TCW Group, a specialist in mortgage-backed securities and distressed debt. Collas -- who in 2004 became head of Société Générale's global investment management and services division, overseeing all asset management, private banking and securities services -- also pushed France's second-biggest bank by market capitalization into China, India and South Korea through joint ventures with local banks.
"Size is everything," declares Collas.
Then again, maybe not. Société Générale Asset Management now ranks among Europe's top 20 asset managers, according to Institutional Investor's 2006 Euro 100; with E345 billion ($446 billion) in retail and institutional assets, the operation is almost six times the size it was a decade ago. But for all this growth, it has been dogged of late by low profitability compared with its French rivals and a series of embarrassing -- and costly -- stumbles.
For the first nine months of 2006, the division reported net income of E229 million, or about 5.6 percent of Société Générale's total. But its returns, as measured by operating profit per average asset under management, were a flimsy 14.2 basis points, well below the 16.5-basis-point profit margin at Crédit Agricole Asset Management. Even after adding in Société Générale's E66 billion in private banking assets, SocGen's combined return on assets is 17.7 basis points, versus 19.9 basis points for the equivalent mix of businesses at French rival BNP Paribas, according to Jean-Pierre Lambert, a London-based financial services analyst at brokerage Keefe, Bruyette & Woods.
One reason for this discrepancy is an asset mix overweighted with low-margin debt securities. In the third quarter of 2006, most of SGAM's E5.8 billion in new inflows came from fixed-income products, which account for 44 percent of assets. It's a problem top management understands only too well. "They need to adjust the mix," says Philippe Citerne, co-CEO of Société Générale.
SGAM must also reverse some of its recent setbacks. Despite a strong start -- it gathered nearly £7 billion ($11.3 billion) in its first three years -- SGAM U.K. has been plagued by poor performance in equities, client losses and debilitating staff turnover that began with the departure of its once-celebrated CEO, Nicola Horlick, who left in 2003 to set up her own money management firm. The ongoing problems have severely hindered SGAM's growth in Europe's biggest market for pension assets, and the management team was reshuffled in October.
TCW has also stumbled. Last year the firm's TCW Select Equities Fund lost 5.1 percent, versus a 15.8 percent gain for the Standard & Poor's 500 index. The fund -- once a consistent top-decile performer -- fared worse than 97 percent of its peers.
The job of revitalizing SGAM falls to Alain Clot, 50, a former head of strategy at Société Générale who succeeded Collas in 2004. His priority: improving global cross-selling opportunities within SGAM and increasing sales of fee-rich alternative investments, which account for E55.1 billion of assets and include structured products, hedge funds and private equity.
"That's where future growth of the business will come from," Clot says.
Boosting sales of alternatives outside France -- in particular, adding more single-strategy hedge funds -- will be crucial. About 60 percent of SGAM's alternative products are sold domestically, with the remainder distributed mostly in Europe and Asia. Clot's team wants to reverse the mix to bring in 60 percent of sales from abroad, including the U.S., where the unit will begin selling hedge funds later this year. The money manager aims to grow its alternatives business to 20 percent of total assets, up from 16 percent today.
But market-share gains won't be easy to come by. SGAM faces fierce competition from big asset managers that are building and buying alternatives businesses. Ironically, one of SGAM's major rivals comes from within SocGen: Lyxor Asset Management, a specialist alternatives manager launched in the late 1990s by the bank's derivatives group. Until recently, Lyxor focused on its hedge fund platform as well as passively managed structured products and index funds that didn't threaten SGAM's actively managed products. Now Lyxor is recruiting its own sales force, pushing its brand and launching hedge funds and absolute-return products that compete more directly with SGAM's offerings.
"We're coming out," Lyxor chairman Alain Dubois tells II. "Until now we've been undersold." Dubois, a former structured-finance executive at Lazard Frères & Cie., plans to grow Lyxor's assets from E61 billion to E100 billion by 2011.
Some analysts fret that Lyxor and SGAM are duplicative businesses that could confuse clients, but SocGen co-CEO Citerne says it makes no sense to combine them. "The revenue we get from the two businesses is higher than the savings we would get from merging them," he contends.
That may be good news for Société Générale's shareholders, but it won't make Clot's quest to sell more profitable alternative investments any easier. "We live with it, he says of the internal competition."
SGAM BEGAN LIFE BURIED WITHIN SOCIÉTÉ Générale's retail banking network. When potential buyers started circling the money manager in the mid-1990s, SocGen chairman and CEO Daniel Bouton grasped the division's potential and spun it into a separate subsidiary in 1996. "We wanted asset management to become less dependent on the retail network," recalls Citerne.
SGAM's then-CEO Collas, a former head of SocGen's merchant banking business in London, wasted no time charting an ambitious course for growth. He formed SGAM U.K. with powerhouse fund duo Nicola Horlick and Keith Percy, both of whom had worked for Morgan Grenfell Asset Management, then part of Deutsche Bank. The launch was well timed: Most U.K. pension funds had entrusted their assets to a few big money managers that were underperforming at the time, such as Gartmore, Schroder Investment Management and Philips & Drew Fund Management (later acquired by UBS Global Asset Management), and they were ready to embrace a new entrant. SGAM U.K. focused on U.K. and European equities and U.K. fixed-income and balanced mandates for institutions. In early 1998 it set out to manage £5 billion within five years; two years later it had reached that goal.
Collas also plunged into alternatives, recruiting Philippe Brosse, former head of structured products in Société Générale's capital markets division, to lead the business. "Trees don't grow to the sky," Collas recalls telling his new hire. "We need products to sell that are not correlated to the market."
Brosse looked to SocGen's investment bank for key recruits, bringing on Jacques Lucas to run structured asset management. Today structured products account for about 60 percent of the alternatives operation and include guaranteed funds, enhanced money market funds and index products like ETFs.
Brosse also hired derivatives specialist Arié Assayag to launch SGAM's hedge fund business, which includes the Premium Fund, its flagship fund of funds that since 2003 has packaged big-name, difficult-to-access managers like Caxton Associates, Moore Capital Management and Tudor Investment Corp. Premium charges a 1.5 percent management fee plus 10 percent of profits and has delivered strong returns.
Collas's 2001 acquisition of TCW was billed as a cross-selling opportunity. Before the deal only 2 percent of SGAM's assets under management were from the U.S and less than 5 percent of TCW's assets came from outside the U.S. Since TCW joined the SGAM fold, its asset base has grown from $86 billion to $144.9 billion at the end of 2006 and accounts for about 32 percent of SGAM's total assets. Half of TCW's assets are invested in U.S. fixed-income products such as the top-performing Total Return Bond Fund, which is directly managed by TCW chief investment officer Jeffrey Gundlach, who was named 2006 fixed-income manager of the year by Morningstar; most of the remainder of TCW's assets are in U.S. stocks. The firm also manages mezzanine debt and secured loans to the oil and gas industry, as well as private equity investments in power plants and other infrastructure projects.
SGAM's investments in Asia include two partnerships: a 2003 joint venture with China's Fortune Trust & Investment Co. that manages E900 million, and a 2004 joint venture with Industrial Bank of Korea that oversees about E3.3 billion. That same year SGAM also bought a 37 percent stake in State Bank of India's fast-growing SBI Funds Management Private, India's seventh-largest money manager, which now runs $3.42 billion. SGAM won't disclose how much or which funds it cross-sells through these operations, but as of September 30, 2006, only 7 percent of assets came from customers in Asia. In contrast, nearly two thirds of assets came from Europe and a third from the U.S.
ALTHOUGH SGAM CEO CLOT SAYS HE'S HAPPY with Société Générale's range of investment products, boosting distribution is his obsession. SGAM already has more than 800 distribution agreements in place. In addition to its presence in Asia, it has deals with leading European banks such as Spain's Banco Santander Central Hispano and Switzerland's Credit Suisse, as well as with small, independent financial advisers in the U.K. But the SGAM chief says more are needed. Cross-selling through his global operation, where Clot can exert more influence on the process, is also central to his strategy.
TCW is hailed as an example of how cross-selling should work. Since 2001 the subsidiary has sold $20 billion of its products into Europe, Asia and the Middle East, mostly U.S. equity and fixed-income products but also its proprietary private equity and infrastructure funds.
Under president and chief operating officer William Sonneborn, TCW aims for more cooperation with other SGAM units. "We are a big fan of continuing to push for more integration, especially on the product manufacturing side," he says. One possibility is an integrated offer for U.S. investors looking for international equity products. "We've just started looking at that but have a long way to go," Sonneborn adds.
One troubling distraction is the performance dive at the $3.5 billion-in-assets TCW Select Equities Fund, whose team also runs $17 billion in institutional assets using the same strategy. The troubles coincided with the decision by longtime manager Glen Bickerstaff to step back from day-to-day management in early 2005. Bickerstaff, now vice chairman of TCW, wanted to spend more time with his family; a pair of analysts who have long worked with him, Craig Blum and Stephen Burlingame, took over as lead managers. Insiders blame the fund's dramatic decline on the out-of-favor concentrated growth style of the team -- which holds roughly 29 stocks and has a low turnover rate -- not the management change. "Blum and Burlingame were carefully groomed," says Morningstar mutual fund analyst Reginald Laing.
Still, assets in the fund's largest retail share class, the I shares, fell from $3.3 billion at the end of 2005 to $2.65 billion at the end of 2006. This year through mid-January, the fund was up 2.3 percent, compared with 1.36 percent for the S&P 500.
In Europe, stronger cross-selling through the small but strategically important SGAM U.K. operation -- which manages £9 billion and has shown no asset growth since the beginning of 2005 -- hinges on a rehabilitation effort. Turmoil intensified that year when Saker Nusseibeh -- SGAM's chief investment officer for global equities, who had joined from TCW -- left for rival Fortis Investments in Boston. Nusseibeh says he left because his contract with SGAM ended. SGAM insiders contend he switched firms because he was not made CEO of SGAM U.K. after Horlick left in 2003. In any event, his departure coincided with weak performance and the loss of some mandates, including from the Public Employee Retirement System of Idaho and the Ohio Bureau of Workers' Compensation.
In 2005, Clot moved SGAM U.K.'s global equities team from London to Paris. In September 2006 he merged the London- and Paris-based European equities teams under a single head, Eric Turjeman, in Paris. That decision led three members of the London investment staff to defect to Morgan Stanley Investment Management: Matthew Leeman, who was manager of the European Special Opportunities Fund, and Ricardo Bindi and Jonathan Day, who both ran European equities. Other notable departures last year include SGAM's head of U.K. equities, Hugh Sergeant, and U.K. smaller-companies manager Richard Staveley both left for London-based River and Mercantile Asset Management. SGAM's London-based head of emerging markets, James Syme, defected to Baring Asset Management.
In October, Clot appointed a new CEO to stabilize SGAM U.K.: Jean-Baptiste Segard, 45, former head of corporate clients at SGAM in Paris. Based in London, Segard replaces co-CEOs John Richards, 45, who now manages U.K. equities and runs asset allocation, and Alex Buffet, 49, who was transferred to Paris to run marketing for all of SGAM. The new chief, who took up his post in January, says his first task is to shore up the investments team with nine new recruits in U.K., European and emerging-markets equities, bringing the group to 26 investment managers. Segard plans to improve sales of products manufactured in London through the group's global network -- for one, a Japanese stock fund called Core Alpha Japan that has attracted £80 million in new assets over the past year. He also wants to increase distribution of SGAM products, such as TCW's equity and bond funds, in the U.K. Segard says having former co-CEO Buffet in Paris will help integration, which in turn will help stem turnover. "People will be focused on their mission and will not be wondering who is doing what," he says.
SGAM'S MOST CRUCIAL BATTLE for profit growth will play out in the fast-growing market for alternative investments, where Clot must contend with an increasingly assertive Lyxor, which is headquartered in Société Générale's two gleaming office towers at La Défense, just around the corner from SGAM's own modern building in Paris's business district. Together SGAM and Lyxor rank as the biggest alternatives manager in Europe, with more than E100 billion, ahead of such major players as State Street Global Advisors and JPMorgan Asset Management.
But Clot has reason to be the envious sibling. Although Société Générale does not break out Lyxor's profits from the derivatives group, Kian Abouhossein, a banking analyst at JPMorgan in London, estimates that Lyxor had net income of about E200 million in 2006 on revenues of E500 million and assets of E60 billion. That would mean Lyxor delivered two thirds the estimated profit of SGAM with less than half the revenue and one sixth the assets.
Lyxor chairman Dubois reports to Christophe Mianné, SocGen's global head of derivatives, and last year recruited a new CEO, Laurent Seyer, SocGen's former head of Swiss structured product sales, to better market Lyxor as a stand-alone manager.
The two operations' structured product lineups are complementary. While Lyxor's offerings are packaged as passively managed products, SGAM specializes in offerings with an actively managed component and rolls out a new product every three days, on average. In 2005, for example, SGAM launched Europe's first leveraged ETF, which offers exposure of up to twice that of France's CAC 40 index. The product earns a 0.6 percent management fee and a floating-rate financing charge on the leveraged portion that consists of the money market rate plus 0.5 percent.
In hedge funds SGAM's ambitions place it more squarely in competition with Lyxor. SGAM runs E7.3 billion in hedge fund assets, of which 58 percent are in actively managed hedge funds of funds. Lyxor oversees E23.3 billion in hedge funds, funds of hedge funds and absolute-return funds that are mostly passively managed. To bolster growth, Brosse, SGAM's head of alternatives, is setting his sights on global opportunities, increasing the worldwide sales team responsible for hedge funds from 15 to about 25 people in Europe, the U.S. and Asia. Last year he installed a dedicated hedge fund sales team in London at SGAM U.K. He also is recruiting four salespeople in New York and has dispatched a specialist salesperson to Los Angeles to help sell TCW clients a U.S. version of the Premium fund of hedge funds, which has returned an annualized 8.86 percent from its September 2003 launch through December 2006, versus 4.76 percent for the HFRX global hedge fund index.
The sales pitch emphasizes Premium's steady returns and low volatility. "We will never be the best performer in the world," says Brosse. "But we master the risk."
Lyxor also is ramping up its hedge fund effort, recruiting 15 salespeople of its own, mostly in Europe but also in Asia and the U.S., and it has started selling U.S. tax-exempt investors the world's biggest managed account platform composed of hedge funds, which invests in 170 top names, including long-short manager Omega Advisors and event-driven manager Paulson & Co. Later this year Lyxor plans to offer its managed account platform to taxable U.S. investors.
Lyxor's Turqoise fund, launched in December, competes directly with SGAM's funds of funds. Turquoise is an actively managed fund of hedge funds that was created by SocGen's proprietary trading desk in 2002. The fund invests in more than 50 external managers and has returned an annualized 9.7 percent since inception, with volatility of 4.9 percent. Lyxor's new sales team will market the product to institutional investors in the Netherlands, Switzerland, the U.K and across Asia.
As SGAM fends off the competition in funds of funds, the money manager must also boost the single-strategy funds it sells in anticipation of heightened interest from institutional clients. SGAM currently manages just E3.1 billion in single-strategy hedge funds, including volatility arbitrage, event-driven and credit strategies, and plans to add three more single strategies in the coming months, possibly long-short Japanese equity and fixed-income arbitrage. Brosse says the single-strategy products will stand out for their risk management and solid, steady returns: They aim for performance of 15 to 20 percent a year and annual volatility of less than 15 percent.
In September, SGAM launched the first-of-its-kind SGAM AI Equity Sicav, a Luxembourg-based fund group that offers three long-only funds from hedge fund managers Caxton, Highbridge Capital Management and Renaissance Technologies Corp. The funds have already raised about $1.1 billion from banks, insurance companies, asset managers and private banks in France, Italy, Spain and Switzerland. The minimum investment is E1,000, with a 2.5 percent management fee and a 10 percent performance fee.
"It's normally difficult for investors to access these managers," says Sophie van Straelen, founder and managing director of Paris-based hedge fund consulting firm Asterias. "But Société Générale has packaged them so they are more accessible and liquid." Brosse plans to add 20 funds to the SGAM AI Equity Sicav platform this year, including European and Japanese equities.
Still, SGAM's single-strategy offerings may encounter more competition from Lyxor, which is also launching innovative hedge fund products. One new offering, called Generis, features four quantitatively managed funds that each replicate an arbitrage strategy. Although banks such as Goldman, Sachs & Co. and Merrill Lynch & Co. are launching synthetic products that replicate hedge fund indexes, Generis is the first product to clone single strategies, Dubois asserts.
One advantage for investors is pricing: Traditional hedge funds typically charge 2 percent of assets plus a 20 percent performance fee, whereas Generis funds charge a 1 percent management fee and a 20 percent performance fee. The first Generis fund was launched in June 2006, and the other three were launched in December. They are being sold to funds of funds, pension funds and private banks.
Lyxor's second new line of branded funds, called Quantic, groups three multistrategy absolute return funds based in Luxembourg. The manager of these funds takes a view -- say, that the correlation among stocks worldwide will fall -- and then asks external investment banks as well as SocGen's financial engineers and traders for the best derivatives products they can offer to play these strategies. Each fund has a different performance objective: The first aims to outperform the three-month Euribor by 150 basis points, the second by 300 basis points and the third by 600 to 800 basis points. Two of the funds were launched in June 2006; the third, and most aggressive, was launched last month.
With Lyxor emerging as an asset manager in its own right, the unit is increasingly likely to fight for the same clients and mandates as SGAM. But Lyxor will never be the same kind of asset manager, looking to sell all funds in all markets. "We are a global player," says Clot. Of course, that distinction won't matter much to the CEO's superiors if his growth formula can't transform broad reach into burgeoning profitability.