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McKinsey: Where Active Management Survives
European investors have poured more money into active than passive strategies, and snubbed passive multi-asset products almost entirely.
Active management isn’t safe in the U.S. But its chances of living a longer life are better in Western Europe, according to McKinsey & Company’s new report on European asset management.
“From an asset-mix perspective, between 2013 and 2018 Western Europe did not experience the same market share displacement by passive strategies as the rest of the world (and specifically the U.S.). Active strategies still play a relevant role in capturing net flows especially in fixed income and multi-asset,” according to the report, which came out Wednesday.
Although the shift to passive isn’t as extreme as in the U.S., asset managers in Europe can’t ignore the trend. Fee pressure is still acute and costs are high, explained Christian Zahn, a partner in Frankfurt and one of the report’s authors. Active management is being propped up in some countries such as Germany by captive bank networks, Zahn said in an interview with Institutional Investor. Banks, and their in-house advisors, dominate distribution in the country. “It’s still easier to push active.”
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Investors are exchanging active funds for passive at varying rates region-to-region. Between 2013 and 2018, investors in Western Europe poured a net €265 billion into active equity strategies, and €180 billion into passive equities, according to McKinsey. Investors in the rest of the world withdrew more than €1.2 trillion from active equity strategies and put €1.7 trillion into passive stock funds. In actively managed multi-asset portfolios, Western Europe had €690 billion in net flows, with a negligible amount going to passive multi-asset.
Overall, uncertainty in global markets and macroeconomic factors like €7.8 trillion in European bonds that have negative yields is testing the industry and investors’ faith, according to the consultant. European managers’ assets, revenues, and profits hit highs in 2017, only to be hit by challenging markets last year. Then markets swung again.
“Market valuations have since recovered with a vengeance, as European AUM have reached a record $22 trillion, though revenue and profit pools for the year are not likely to reach 2017’s high- water mark,” the report’s authors wrote.
According to Zahn, “The industry has lived off incredible market performance, but if you take capital markets performance out and look at just new money, then you see that costs have grown much faster than revenues. That is a key finding,” he said. “Once capital markets tank a bit more — as you saw in the fourth quarter of last year — then it’s going to be a huge issue for the players.”
McKinsey reported that, year-over-year, 2019 assets under management have increased by approximately 10 percent, with the average manager up 3 percent. But profits haven’t followed. McKinsey expects margins to be down by approximately 2 percentage points because of pricing pressure and growing overhead costs.
The report’s authors highlighted that MiFID II, the sweeping financial services regulation, is having profound effects on the industry.
Distributors are winnowing down their lists of approved funds and raising performance standards, making it harder for asset managers to make sales. Large managers have also decreased broker-produced research spending by 20 to 30 percent, replacing it with research from smaller specialist boutiques. MiFID II has made investors more sensitive to fees, a trend that is buoying the lower-cost, exchange-traded funds industry.
Asset management is under pressure, but McKinsey’s Zahn argued that managers also have an opportunity to disrupt their industry mid-transition. “Think about what else your end customer might want. For example, some distribution partners need to invest in digital, so would it be possible for you to provide technology for your distribution network?”
“We see asset managers taking more transformative approaches,” he said. “One is to think about the 80 percent of financial assets that could be investable, but aren’t in the industry, such as deposits and illiquid assets. “What kind of solutions could you offer to draw those assets in?”