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Crisis Aftershocks Compel Recalibrations at Advisors

BOSTON -- Boom and busts in the financial markets are nothing new. However, the landscape emerging in the aftermath of the crisis of 2008 is far different from anything asset management executives have seen before. Be nimble, be quick and be ready to answer to discerning investors-institutional and retail.

That was the message from Citi Global Head, Securities and Fund Services Neeraj Sahai, speaking at NICSA's General Membership Meeting here on May 20.

"There have been four standard deviation events in the past 10 years, not least of which was the $15 trillion that was wiped out [in the Great Recession] and the $2 trillion deficit facing pension funds. Nevertheless, you've been there before," Sahai said, pointing to the the OPEC (Organization of Arab Petroleum Exporting Countries) oil crisis of the 1970s and the dot-com crash of 2001 as just two examples. In the '70s downturn, U.S. long-term mutual fund assets fell 41% between 1971 and 1981. In the eights years of 1997-2005 surrounding the tech bubble, assets fell 37%.

"Severe uncertainty is the new norm. Traditional asset management is back, but the underlying forces are different. Winners will be those that build an agile business architecture," Sahai said.

That said, "recalibrating to an intermediate state will be more difficult to manage," he said.

While the economies of leading nations are "back in growth mode and the global economy came back much faster than anyone projected due to the resolve of the G20"-U.S. GDP for 2010 is projected at 3.2%, China's at 11.9% and India's at 7.2%-"the U.S. recovery is still vulnerable to shock, and long-term structural issues remain," he said. There are the issues of still alarmingly high unemployment, huge government deficits around the globe, consumer confidence still way below historic levels (60 or less) and the EU crisis.

More importantly, traditional asset managers are faced with the tremendous problem of overcapacity. The number of U.S. equity funds is north of 5,000, yet net inflows plummeted to a nadir of $300 billion in 2008 and then rebounded to about $1 trillion in 2009. Citi estimates that asset management profits will be just over half of what they were in 2007.

Sahai pointed to the business models of two very different but highly successful businesses as examples for financial services firms: IBM ("the route of reinvention from mainframes to software") and Zara ("design on demand").

For money managers, there are several trends working in their favor, Sahai said. "Conservative is fashionable. There is less-extreme alpha shopping," Sahai said. "More risk-balanced returns and risk infrastructure are back in vogue."

While investors are scrutinizing fees like never before, fund complexes have the opportunity to offer "value-for-money fee structures."

As far as the reemphasis on fiduciary standards are concerned, Sahai said. "large institutions, including pensions, are turning back to familiar territory."

And, certainly, the DB to DC movement of trillions of dollars continues, with "target-date and target-risk funds to experience significant growth," the global head of securities and fund services said.

To take advantage of these forces, asset managers must "recognize that different forces are at play." Clients are more professional, heterogeneous and geographically dispersed and demanding, and the "client approach" has become far more conservative, with a premium on liquidity and alignment of interests with clients.

The greatest alpha opportunities that Sahai sees ahead are in emerging market equity, EM fixed income, EU mid-cap and distressed debt.

The source of new assets will come only one-third organically, and in this channel, sovereign wealth funds, central bank reserve funds and national pension funds (in Asia) will be the drivers.

Dislocation will account for two-thirds of the new assets, with the DB-DC shift, outsourced insurance assets and wholesalers seeking solutions for retail investors, particularly high-net-worth.

Regulation, of course, is on everyone's mind, Sahai said. The government will inevitably impose stronger fiduciary standards, require increased transparency and ask advisors to begin shouldering client risks.

The Value Proposition

How to handle all of these factors? Sahai pointed to five key areas that money management firms must change:

1.) Product Innovation

2.) Investment Performance

3.) Risk Management

4.) Profitability

5.) Client Services

Move from new product pushes to holistic investment solutions, Sahai said. Stop offering alpha at any cost and focus on risk-based returns. Risk management, to date, has focused on everything but the back office. Going forward, it will encompass everything, he said.

"Clients want holistic solutions, rather than product push. They want personalized alpha, not a portfolio that eats a benchmark," he said.

The traditional focus funds have had on their own profitability over those of their clients will completely reverse in the coming years, with a new emphasis on product and client profitability, Sahai said. Instead of a "Show me the money" mentality, financial services companies will have to find a balance between performance, transparency and liquidity.

While asset management firms have long prided themselves on their investment prowess, going forward, they are going to have to "offer investment excellence on the front end through a deep talent pool, with deep insights into asset allocation, trade features and cross-correlation," Sahai said.

Business capabilities will have to have a laser focus on "innovation processes, strong CRM function, a strong focus via outsourcing and executive bandwith to manage external alliances," Sahai said.

In conclusion, he quoted Bahrain-based brand futurist Vahid Mehrinfar: "The only way to own the future is to invent it."

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