Published inFUNDfire – An Information Service of Money-Media, a Financial Times Company
Written by Andy Klausner, CIMA, CIS, the founder of AK Advisory Partners LLC., a strategic consultancy serving the wealth management industry.
While no segment of the financial services business has been shielded from the devastating effects of the credit crisis, the outlook for many smaller investment management firms seems particularly dire. As such, I believe that the next 12 to 18 months will be characterized by a wave of mergers and firm closings.
Particularly hard hit will be small firms (managers with $1 billion or less under management) and mid-size firms ($1 billion to $2 billion under management). While many managers above that threshold will continue to lay-off staff and reduce costs, many in this larger segment of the marketplace should survive relatively intact and perhaps become more diverse as they buy up some of the firms that can no longer remain freestanding.
My bleak outlook for smaller and mid-sized investment managers results from the fact that these firms are being squeezed on multiple fronts.
- These managers will be impacted externally by the significant changes taking place among their distribution relationships. As the larger sponsor firms continue to consolidate on both the retail – Smith Barney and Morgan Stanley– and institutional – Callan Associates and Mercer– sides of the business, opportunities for smaller andmid-size managers will inevitably decline. In addition, there will probably be few opportunities for managers to add additional strategies or enter new programs with these merging wealth management sponsors until the current sponsor integration process is complete. The same goes for managers seeking to stand out to institutional consultants who are integrating their operations together.
- These shops will also be impacted internally by the economic reality of lower revenues (resulting from lower AUM) and higher operational costs (resulting from theincreased need for transparency). This will affect their internal profitability and thus their long-term viability.
- Last but not least there is of course the issue of performance. Any manager thathas not performed in line with its peer group is especially vulnerable in today’s market environment. Firms that are smaller and have only one or two strategies will find it hard to survive.
On the retail side, as trends lead to fewer but significantly larger sponsor firms (with tens of thousands of advisors), the pressure on managers to have larger marketing teams will also increase. And as more advisors join or start their own registered investment advisor firms, the independent distribution channel’s decentralized nature will add to a manager’s cost of sales support and client service. Advisors and clients will also continue to need a lot of handholding and they will increasingly look to their managers for support – both in-person and via value-added materials. The annual cost to compete in this marketplace may just become too high for firms with limited resources.
On the institutional side, standards for new managers will continue to increase. There will be stronger demand for increased transparency, verifiable operationalcapabilities, and well-documented compliance procedures. Firms with greater resources available to them will be better equipped to satisfy the increasing scrutiny of institutional consultants and sponsors. Those firms without the staffing and systems to rise to the occasion will face dwindling prospects.
For all managers, it is more important than ever that they be able to clearly articulate their value-added proposition and demonstrate why they should be considered for particular assignments.
Nevertheless, for all of the above reasons, it seems clear that the investment management market of the future will be characterized by fewer and larger firms. Along the way, all firms will see pain. Smaller firms will have to merge or close. Larger firms will also have a rough time – witness Harvard Management Company’s recent decision to lay off 25% of its staff.
But the larger firms have the resources to survive. They will emerge as the winners. Whether bigger will be better for clients long-term will not be known for many years.
