Faced with downward fee pressure and rising costs, the European asset management industry currently finds itself in the ‘discomfort zone’, according to consultancy zeb.
Although European asset managers have historically enjoyed high operating margins, zeb warned that the sector cannot rest on its laurels.
Zeb highlights multiple headwinds in the form of fee pressure, amplified by improved transparency; the low yield environment; the rise of passive investment strategies; rising costs due to regulation and the need to adapt to changing customer needs via digital transformation.
In addition, there has been a concentration in asset flows to a handful of asset managers – a trend that the consultancy expects to continue.
To emphasise this, it pointed out that in 2017 just 40 companies were responsible for half of total assets under management globally.
Falling profit margins
A survey of 46 asset managers with a strong European footprint (with a range of sizes and business models) showed that in spite of decent growth in assets under management, profit margins decreased to around 10 basis points in 2017.
Zeb notes that this was driven by lower revenue margins, reflecting a shift to lower cost strategies. This was partly down to improved price transparency and cost awareness among clients.
In order to tackle decreasing profit margins, Arnd Heßeler, an executive manager at zeb, suggests that asset managers can either step up cost-cutting efforts or try to offer investors real value for money, which will help to improve pricing power.
'In both cases, dedicated investments and a focused business model are required,' he added.
The winners and losers
Zeb’s research showed boutiques with assets under €0.3 trillion displayed the most profitable growth over the past five years, particularly those with specialisms or access to a distribution network.
Meanwhile, the weakest performers were the medium-sized players which offered both active and passive strategies, with above average cost-income ratios. These firms typically attempted to cover almost every asset class but failed to achieve scale.
Looking ahead, zeb attempted to simulate what the future could hold for the European asset management sector by modelling the three scenarios below on 46 firms.
While the outlook for scenario three looks bleak, zeb believes that this is the most realistic scenario for the sector.
In this instance, large active and passive players could experience a strong increase in net new money because they are able to offer lower pricing.
However, zeb estimates that they would experience further falls in profitability because their cost-income ratio is unlikely to improve, as their revenue and cost margins are already low.
Meanwhile, the consultancy forecasts that small active and passive firms would continue to outperform the industry average if scenario three plays out.
They would enjoy net inflows on account of their slimmed down and potentially more specialist proposition.
This allows them to maintain their profitability above the industry average, command higher prices and stream operations if need be due to their limited fund range.
Zeb believes that medium-sized active players will be particularly hard hit because they will find it tough to attract new money and are likely to face continued fee pressure.
How to move out of the ‘discomfort zone’
In order succeed in the challenging environment asset managers face, zeb suggests that asset managers do the following:
1) Define a clear strategic position by focusing on areas where they can generate a competitive advantage
2) Focus on distribution, sales and adapt distribution channels to digital customer needs in both retail and institutional
3) Review pricing and revenue sources – what other services can be provided to the client which can add value?
4) Cut costs and utilise new technology to digitalise operations
5) Improve data management