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Affluent Investors Set to Take Off Abroad

While many mutual fund executives have been preoccupied with outflows from equity funds in the U.S. the past two years, it has diverted their attention from the tremendous sales opportunities that lie ahead in the next 10 to 15 years in Asia, Europe and, in particular, emerging markets.

That is the prediction of Strategic Insight, among the presenters at Fund Forum's Distribution Summit this week in Boston. International opportunities are "not something that many asset managers have thought a lot about yet," said of Jag Alexeyev, head of global research at Strategic Insight. "But already, today's emerging markets are not the same as they were only a few years ago. Coming out of the credit crisis, they have emerged stronger participants in the world economy, and the risk of investing in them is lower," he said.

The elevation in the importance of emerging markets on the world stage has happened much more quickly than anyone could have predicted, Alexeyev added.

In fact, Strategic Insight projections show growth in affluent and middle class investor assets in other regions of the world rivaling those of North Americans'. Assets held by Asia-Pacific high-net-worth investors are projected to grow the greatest, 82%, from $7.4 trillion in 2008 to $13.5 trillion in 2013. Strategic Insight estimates that the second-biggest growth in high-net-worth assets will occur in North America, with assets rising 39% from $9.1 trillion in 2008 to $12.7 trillion in 2013, followed by European high-net-worth investors' assets increasing 37% from $8.3 trillion in 2008 to $11.4 trillion in 2013. Finally, Latin American high-net-worth investors' assets are expected to grow 31% from $5.8 trillion in 2008 to $7.6 trillion in 2013.

Overall ownership of mutual fund assets around the world is also seen changing. While it will decline from approximately 50% in the U.S. in 2010 to 45% by 2013, and from approximately 35% in Europe in 2010 to 32% by 2013, Strategic Insight predicts, it will rise from 12% in Asia this year to 14% in 2013 and from 5% in Latin America to 7% in three years' time.

Investors will also continue to increasingly embrace alternative investments, notably absolute return, enhanced cash, portable alpha, 130/30, global tactical asset allocation and hedge funds, Alexeyev predicted. Inflows to alternative mutual funds increased from $27 billion in 2005 to $80 billion in 2008 to $160 billion in 2009, according to Strategic Insight. But when offering such funds, managers face the challenge of managing performance expectations, Alexeyev warned.

In terms of distribution channels, national broker/dealers remain the highest-selling standalone channel, said Dennis Bowden, senior research analyst at Strategic Insight. No-load fund sales are also growing very rapidly, attracting 85% of sales in the U.S. in 2009, he noted.

A recent survey of 1,000 advisers by FUSE Research Network, another presenter at the Fund Forum, also shows that U.S. wirehouses remain the dominant distribution channel and that these advisers are beginning to embrace international funds and alternative strategies-slowly moving out of cash and fixed income, which currently comprise nearly a third of their portfolios-3.9% and 25.8%, respectively.

Equity funds, particularly emerging markets and international, will absorb the bulk of that money, FUSE predicts. "Advisers are going to slowly allocate some of this money back into equities, although this is likely six to 12 months away," said Michael Evans, president of FUSE Research Network. "International equity specialists that get ahead of this transition will be positioned to gain assets."

Over the past year, wirehouse advisers' No. 1 reason for altering asset allocations was changing risk/return expectations, followed by regular rebalancing and tactical adjustments. Few brokers said they adjusted client portfolios as a result of a customer request.

When using screening/selection criteria to select products and services, wirehouse reps' main reason is to find the highest-performing funds based on relative returns. They also seek out asset managers with good reputations, followed by strong fixed income characteristics and absolute returns. Interestingly, fees and expenses ranked as their fifth most important criteria, a contrast from the financial services' overall ranking of No. 1.

Brokers also surprised by saying they rarely screen against Morningstar ratings or assets under management. However, they are more likely than the industry average to screen against style constraints and manager tenure.

Asked which fund companies have the best overall positioning at their brokerage, the reps cited American Funds, followed by Franklin Templeton, PIMCO, BlackRock and Lord Abbett. In terms of specific asset classes, the leader in the domestic equity specialty class is Ivy Asset Management. For both international equity-core and fixed income-muni, the leader is Thornburg Investment Management. OppenheimerFunds was cited as the breakout manager for international equity-emerging markets and fixed income-global/international. The other three standouts are Pioneer Investments (fixed income-high yield), Nuveen Investments (fixed income-municipals) and Royce Funds (domestic equity mid/small cap).