Increasing pressure on profitability at active asset management firms in 2009 is likely to cause considerable changes in the industry, according to research from Watson Wyatt, which also suggests asset owners should prepare accordingly.
According to the report, which is based on global Watson Wyatt data compiled and analysed in London by the company’s Investment Consulting division’s Thinking Ahead Group, active managers are starting the year with revenue between 30% and 50% below 2008 levels.
If the market stays flat, this means even poorer earnings for 2009, the Watson Wyatt researchers said in their report, The Future of the Asset Management Industry.
And although the worst of the pain would be over for pension funds and other institutional investors if returns were to stabilise now, “for asset managers the pain is just starting,” says Watson Wyatt’s European head of investment consulting Paul Trickett.
“Earnings for 2008 were down between 10% and 15% from 2007; that is beginning to look attractive for 2009."
Another of the report’s key points is that the ad valorem fee basis on which the asset management industry is centred – whereby fees are determined on the basis of the value of the assets under management – means that profits will remain under pressure as long as market returns and new inflows remain low, and while there is little appetite for raised fees.
It concludes that asset managers will continue to reduce headcount, ultimately by around 10% (mainly in non-core roles) and costs (mainly in variable pay) by around 20%, in order to return to profitability.
"This is clearly an unstable business environment for active managers,” Trickett added.
“’People’ issues are likely to be superseded by ‘business’ issues as the principal concern of management, and chief among these will be consolidation, regulation and sustainability."
Trickett added that the nameplates of existing asset managers are expected to change substantially during the next few years. “While in the past there has generally been a bias against change in ownership, we need to consider that some of these changes could be materially positive for the survival of a firm," he noted.
Among the actions Watson Wyatt recommends asset managers take include revisiting whether the current extent of active management in place remains appropriate.
Other actions include diversifying the manager line-up; renegotiating fees and terms; focusing on sustainability issues; and thinking through ‘worst case’ scenarios that could compromise the future performance of their managers.
The report concludes that pursuing active returns remains a worthwhile activity, providing, as Trickett says, that “the resources exist to have a competitive advantage in identifying, hiring and terminating active managers”.
Also, “we believe in the virtues of passive management, and continue to advise that this is the more appropriate route for the majority of funds”, he adds, even though these are “not immune” from many of the problems being encountered by active managers.
Watson Wyatt Investment Consulting is a part of the Watson Wyatt Worldwide, a New York Stock Exchange-listed, Arlington, Virginia based global consulting firm.
