As the industry works to cope with new regulation, wades through an outpouring of new products, learns to satisfy investors’ shifting priorities and manages the active-passive debate, the viability of business units will be questioned, and at times radical measures will be taken.
It’s still early days for these three trends shaping the future of asset management, but their impacts will be felt far and wide:
1) Regulation sparks more consolidation
It’s no secret that regulation such as MiFID is front-of-mind for every financial institution. It’s dominating attention and spending allocations, and potentially diverting money away from investing in growth opportunities. Pressure on fees will accelerate the consolidation between players, so expect more mergers and acquisitions.
We’ve already begun to see it last year with Aberdeen and Standard Life, Janus and Henderson, and BNY Mellon’s blending of its three largest US asset management groups. Not only do these consolidation efforts create substantially larger asset pools, but they also foster cross-regional expertise in the case of Janus-Henderson for their respective specialties in the US and UK.
Be ready for more of the same this year as business costs rise, fees decrease, and profit margins tighten.
2) ETF flood to continue unabated in Europe
The investment culture that held back the UK and European ETF markets, as covered by Pauline Skypala in February 2017 for the Financial Times, is evolving. In the years ahead, fund managers will continue to adapt to a new market reality and launch more ETF products.
At the end of 2016, the European ETF industry consisted of 1,560 ETFs from 48 providers with assets of US $542 billion, according to research firm ETFGI. Now, according to its most recent data from the end of 2017, the European ETF industry has 1,610 ETFs from 52 providers with assets of US $762 billion.
While the 50 new products launched in 2017 may not seem exorbitant, especially when stacked against the 129 launched in the more mature ETF market in the US over the same time period, it’s a substantial increase over the 18 ETFs launched in Europe in 2015. Additionally, the complexity of these products must be considered as a key variable when assessing the challenge facing investors.
There’s no end in sight to the creation of new ETF products, and investors must be increasingly scrutinous not to get caught up in the tides.
3) ETF risk concerns grow
After a near record-long bull market run, bears have long waited for a reversal of fortunes to test the resiliencies of passive products in a period of volatility. Looking ahead, the true risks of ETF strategies are going to become increasingly apparent.
While the market outlook for growth is strong – institutions like Credit Suisse are forecasting a 6-7% growth in earnings per share in the S&P 500 over the next two years – you can’t view these predictions in isolation.
ETFs are often positioned using a single style like value or momentum, but the reality is that there’s often substantial variance between seemingly identical products when you apply a more detailed factor analysis.
An excerpt from a fantastic blog by Aneet Chachra and David Elms of Janus Henderson highlights the “false sense of security” that ETF investors feel by treating ETFs as the new stocks:
“To be clear, this is not a fault of ETFs – rather that ETF investors can have the same behavioral biases as other investors. However the ETF structure perhaps lulls some people into a false sense of security as it seems safer and ‘passive.’”
Regardless of the investment vehicle, it remains critical to go beyond its product label, consider every variable, and discover what’s truly driving performance.
Finding and understanding these hidden or unintended risks will separate leaders from laggards.
The Road Ahead: ESG and AI set the course
As the asset management industry overcomes the pressing regulatory hurdles ahead and regains level-footing, it will be empowered to take proactive measures to secure their future success. Two key areas are primed for investment and innovation: ESG and artificial intelligence (AI).
ESG investing will continue to mature at a slow, steady pace, but could be poised for rapid growth as institutions gain a greater understanding of the underlying environmental, social and governance data from businesses – especially small-to-medium sized enterprises.
Further in the future, institutions and strategists are beginning to speculate about whether you can create a “time” factor and infuse it into trading algorithms, artificial intelligence and robo-advising tools (see John Authers’ article, “The Timing Factor”). It’s a fascinating area of research that may well shape the next era of factor investing.
What is certain, however, is that factors are here to stay. Rigorous, standardized factor analysis is only going to become more important as additional ETFs are introduced to the market, their risks are better understood, and regulatory scrutiny becomes more stringent.