Asset managers had record growth in profits and net flows in 2017, but the next bear market could cut their margins by five to 10 percent, Boston Consulting Group warned in a new report.
Given the continued pressure that investors are putting on fees, coupled with projections of muted future returns, asset managers won’t have the flexibility they need during the next downturn to maintain their margins at current levels, BCG said in its 2018 report on the $79.2 trillion global asset management industry, released on Thursday.
“With fee erosion continuing, a market correction will have a dramatic impact on the industry. Margins could easily go down to 30 percent or below,” said Renaud Fages, head of global asset management, in an interview with Institutional Investor.
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Asset managers’ health in 2017 was wholly dependent on booming markets, the BCG report said.
“The record profitability and improved margins of 2017 were largely the result of buoyant financial market investments and related net flows, evidence that many asset managers continue to depend on market swings,” wrote the authors of the 2018 report, entitled “The Digital Metamorphosis.”
“In short, the high growth in profits and flow that asset managers experienced in 2017 was probably a blip, not a trend. We doubt that it will persist,” the report said.
In 2017, asset managers’ profit margins increased by 1.4 percentage points, to 37 percent of net revenues. Costs dropped from 17.3 basis points to 16.8 basis points.
BCG is calling on asset managers to take stock of their businesses now and use profits from the past year to reinvest in their businesses.
In an analysis of global public asset managers, BCG found that publicly traded firms in the top quartile of total shareholder returns, or share-price appreciation plus dividends, were able to avoid price cuts for clients. One segment of this group focused on niche strategies or alternative investments. The other segment consisted ofthe biggest asset managers, which have benefited from the continued popularity of passive strategies.
The most successful firms were also able to either cut costs or contain costs, and they were able to even increase the average fee by diversifying into specialized strategies,” said Fages.
Conversely, a few mid-size firms that focused on traditional strategies were also top performers.
“If they continue on this performance path, such managers are likely to suffer shrinking market share and greater fee compression, which in turn will increase the difficulty of investing to access the top talent and innovation needed for future growth,” according to the report.
Asset managers should look far different in five years as the result of digital initiatives, including data analytics, says BCG. But they’re not there yet.
“The digital assets of even the most advanced players fall far short of the operational and customer platforms of the world’s leading digital-first businesses — from Amazon, Alibaba, and Apple to Baidu, Facebook, and Google,” the report said.
“I see innovation, but it’s still experimental,” says Fages. “Few traditional players are looking at leveraging alternative data and big data to support their portfolio managers.”
Fages said hedge funds are further ahead in supporting their managers with advanced analytics, but even alternatives firms can be resistant to change.
“It’s hard to convince portfolio managers who have been successful to do things differently,” he said.