As clients shift toward cheaper pension and insurance products, the profitability of asset managers in Europe looks set to take a hit, says a new report from New York-based Fitch Ratings Inc.
Although total assets under management (AUM) hit a new high in the European asset-management sector in 2014, the Fitch report notes that data from Eurostat, the statistical office of the European Union, show that household investments in insurance and pensions grew at a compound annual rate of 6% between 2008 and 2014, double the 3% rate for mutual fund investments.
This increasing preference for investing through pension and insurance products means that the profitability of European asset managers “is unlikely to be sustainable in the medium term,” the Fitch report says, as these pension and insurance products typically generate lower fee income than retail mutual fund investments.
“Strong inflows from offshore investors have helped delay the impact of this trend on overall profitability,” the Fitch report says, “but we still expect it to become more visible over the coming years.”
At the same time, asset-management fees are also already under pressure from a shift to cheaper, passive strategies from active strategies among both retail and institutional investors, the Fitch report notes.
“Some active asset managers have been able to maintain fee levels despite the rising popularity of low-fee passive products,” the Fitch report says, “but in light of international regulatory efforts to improve fee transparency, active asset managers’ high retail fees may come under pressure.”
In the meantime, this underlying consumer trend toward pension and insurance products is gradually increasing asset managers’ reliance on institutional mandates from insurers and pension funds, the report notes. On the upside, it suggests that those institutional assets may be stickier than retail assets as institutional investors tend to allocate large amounts and to stay with the same asset manager for a long time.
As a result, firms that fail to win these mandates may decide to cut costs to support profitability, the Fitch report suggests: “But asset managers typically compete for institutional mandates on the quality of their ‘solutions’ businesses, which can entail significant cost. Cutting costs out of the institutional side of the business could therefore materially dent an asset manager’s future prospects in an ever more institutional world.”
Moreover, cost-cutting measures that go beyond efficiency savings and impact areas such as the control framework, investment resources, middle- and back-office functions and IT resources could negatively affect their asset-manager ratings and their credit ratings, “even if they also strengthen profitability and financial flexibility,” the Fitch report says.
Although the trend toward institutional investment is Europe-wide, the scale and speed of change varies, the Fitch report says. For example, the swing to insurance and pension funds has been more pronounced in France than in Germany, “suggesting French asset managers will feel the effects sooner.”