Growth driver demographic change

One of the biggest growth drivers for the asset management industry is provision for old age, which is gaining in importance in the light of the ongoing demographic change. The combination of longer life expectancy and declining birth rates will put too much of a strain on traditional pension insurance schemes in the long term. As a result, those in employment today are being forced increasingly to provide for the future and old age through funded schemes.

In the western industrialised countries, the investment horizon is therefore becoming longer and longer - unlike in past decades, when the main purpose of saving was to finance medium-term consumer wishes: buying a refrigerator, a colour TV or a car. If money is saved or invested in the short term, it makes relatively little difference whether the return on it is 5% or 6%. Where a 30-year investment is concerned, however, the compound interest effect means that this extra one percentage point of return already increases the overall investment performance by a third.

Ultimately, it is a question of managing and increasing assets as efficiently as possible. Where there is a long investment horizon, this means investing mainly in high-yield securities, which are usually riskier. In this connection - as illustrated by some Anglo-Saxon countries - the legal framework created for funded retirement schemes, whether personal or occupational, plays an important role.

Asset management can have a significant impact on prosperity at macroeconomic level: For example, US citizens, who held 42.6% of their financial assets in high-yield shares and investment funds in 2006, earned an annual real return between 1991 and 2006 that was 1.2 percentage points higher than that obtained by Germans, who tend to favour low-yield bank deposits and hold a mere 24.5% of their assets in shares and investment funds. Investors should therefore place great importance on obtaining as high a return as possible on their investments. A growing return-based investment approach increases competition among asset managers.

Internationalisation

In a world in which investors can follow developments on the markets round the clock in real time, covering attractive investment markets globally is no longer the sole success factor for asset managers. Instead, asset managers must have experts in place locally to identify and seize specific investment opportunities in the non-stop flood of market information. Only bottom-up research of their own allows asset managers to competently offer their clients global investment opportunities by specifically selecting promising securities.

On the other hand, global presence is also a major factor in the ability to sell investment strategies internationally. Like in the automobile industry in the 1990s, large asset managers with an international product platform can use the know-how of their product and market experts globally and in this way obtain lower "unit costs" per investment idea. This is important, as the performance of asset managers depends almost exclusively on the competence of their financial experts, who track new market trends and translate these into innovative investment products.

Anyone who wants to win more market share worldwide needs, in addition to internationally active distribution partners such as private banking units, access to local distribution channels and detailed knowledge of the local regulatory environment, both of which usually also require a significant local presence.

Specialisation

Investment funds gave broad classes of investor the chance for the first time to share in the yield opportunities offered by an increasingly globalised economy. Over a period of decades, the industry repeatedly discovered new investment segments for its clients. From country funds, regional funds and sector funds to highly specialised investment fields such as glass- fibre technology, opening up new investment segments was for a long time a constant driver of innovation. This was followed by new product concepts which, to optimise risk/return, offered combinations of different asset classes starting with shares and fixed-income bonds or accommodated investors' desire to preserve capital.

The times when comfortably participating in the performance of selected share or fixed-income-bond segments was enough of a raison d'être for the industry now belong to the past. Instead, to ensure strategic asset allocation, it is being forced to take more and more really long-term issues such as BRIC, climate change or demography into account.

Clients' demands have increased proportionately to the product diversity and professionality of the asset management industry. Clients expect their asset manager to provide yield and risk management tailored to their personal investment needs, which increasingly requires the inclusion of more and more poorly correlated asset classes such as hedge funds, commodities or private equity. The return-on-investment pressure in the industry calls for a high degree of specialisation and division of labour. Optimising return and risk calls for the use of techniques which until recently were the domain of investment banks. Some providers are therefore sharpening their profile by focussing on individual competencies or asset classes.

But what about the allrounders? They need to deliver innovative products across the board, to adapt the best ideas and techniques of the financial industry as a whole and use these to the benefit of their clients. The international orientation of investors is reflected here in a growing concentration on a small number of international providers who are able to reconcile the complexity of different client requirements and the diversity of global investment opportunities within their organisation.

Market experts believe that this trend will continue in the future, creating ever-larger entities. In only a few years from now, they say, there will therefore be a small group of 5 - 10 European mega providers, each with more than € 1 trillion worth of assets under management.

The growing freedom from a regulatory perspective and the increasing attractiveness of investment business due to the growth in personal wealth have led, in turn, to traditional asset managers vying more and more strongly for funds with investment banks, private equity funds and hedge funds. The emergence of 130/30 fund strategies, the boom in investment certificates in Germany and the creation of certificate funds and fund certificates are good examples of the increasingly porous boundaries between players who have met the broad client demand for partial hedging and asymmetric return profiles.

Clients have followed developments in the asset management industry and grown with them. This means that they have become much more performance- and price-conscious. In addition to market yield and market risk (beta), they are increasingly focussing on the contribution that active portfolio management (alpha) makes to the return on investment. Because of rising risk management demands, the funds invested by institutional investors in particular are being split between passive core strategies, which merely mirror the market via individual indices, and active satellite strategies aimed specifically at obtaining returns above benchmarks.

In both segments, competitive pressure is rising: Where active satellite strategies are concerned, this happens mainly via performance expectations, as only active asset managers who can continuously deliver higher-than-market returns in the medium and long term will have a sustainable business model. This leads to a growing importance of alternative asset classes, increasing diversification and - specifically with regard to the business model - to a decision to occupy a niche (e.g. geared to regions, asset class or investment style) or take up a position as a global allrounder.

In contrast, competition in the case of core strategies takes place solely via the price. The result is that providers specialising in core strategies face declining pricing power and can only operate profitably in the market in the long term by making a correspondingly high turnover.

Yet, for clients, the possibility to choose between these different product strategies is, on its own, not usually a solution to their specific problems. So the importance of solutions tailored to individual needs, i.e. absolutely client-oriented products, is growing in the field of asset management. It is only by seeing things through the client's eyes that asset managers can overcome a product-based silo mentality and deliver sustained added value.

Client orientation

Particularly business with institutional investors, where asset manager and client deal directly with each other, offers enormous potential for this approach. Activities in this segment range from individual portfolio management and outsourcing company pension commitments to integrated asset/liability management as part of fiduciary management services. The added value that an asset manager can therefore deliver is, not least, that clients can concentrate more strongly on their core business. Particularly in the institutional business segment, premium asset management providers are currently expanding their supply chain in the area of near-client services.

Retail clients, too, are looking increasingly for solutions for their individual investment objectives. Developments in the field of dynamic investment strategies or dynamic adjustment of product structures to investors' life phases show that the industry can provide suitable products.

The ageing of western industrialised countries means that more and more people are going to have an ever longer phase of their life outside their active working life. Until well into the next decade, asset formation among the working population under 60 will continue to exceed capital depletion among the over-60s. From around 2020 onwards, the ratio of asset formation to asset depletion will be reversed in many countries. The asset management industry will therefore have to extend its range of offerings more strongly away from savings/accumulation products towards payout/decumulation products. In the process, fund-based pension products are likely to gain in importance over classical fund products.

Efficiency

Like in other sectors, the asset management industry's business models must be efficient. The forms efficiency takes differ. (International) scalability of product strategies is certainly one of them. To achieve this aim some players opt for a strongly centralised organisational structure, while others - such as Allianz Global Investors - bundle and package the best strategies and products of their specialist investment units via central management functions, in line with local client requirements and distribution partners' needs.

Global functions in securities trading or research also ensure efficient use of economies of scale in core business. Cross-border funds business still offers plenty of efficiency-enhancing potential that could be increased by further harmonisation of national (tax) legislation, e.g. on cross-border fund mergers.

Client-oriented asset managers are also interested in smooth, low-cost handling of business processes. This means that they are increasingly looking for ways to outsource individual, non-strategic parts of the supply chain or to integrate them into larger units specialising in such processes in order to improve efficiency in this field of business, which is being shaped by economies of scale.

The changing face of distribution

A major success factor in asset management is access to clients. More and more retail clients now expect their financial advisor to offer a wide range of investment products from different providers. This inevitably affects the distribution architecture, as it creates new opportunities for sales through external providers: online banks and brokers, independent consultants, as well as banks and savings institutions. Europe-wide, the share of non-proprietary distribution channels in the average volume of assets under management between 2004 and 2006 rose from 16% to 20%, whereas the share of proprietary distribution channels dropped from 81% to 74%. In Germany, non-proprietary distribution channels already have a 25% share.

Conversely, the sales performance of established proprietary distribution channels, traditionally banks, is likely to decline as a result of the introduction of so-called open or guided architecture in fund distribution. Switching from product-driven to client-solution-oriented markets will also give independent consultants, brokers and sales organisations more influence. Client demand for integrated financial advice is also catered to by the one-stop financial services model in which banking, insurance and investment products are available from a single provider.

The changes in the distribution landscape mean that asset managers have to respond increasingly to the individual needs and requirements of more and more distribution partners. As far as access to these distribution organisations is concerned, product and service differentiation, along with suitable added value services, are becoming major influencing factors. They are thus increasingly assuming a wholesale function, offering distribution partners their core competencies and demand-, client- and sales-based solutions in an institutionalised approach. In business with institutional clients in the area of occupational pension schemes, blending institutional and individual client marketing through customised consultancy services for employees ("instividual" approach) is gaining in importance.

In business with price-sensitive clients, two developments can be observed. Firstly, clients who need little in the way of advice are increasingly buying investment products on online platforms. Secondly, so-called managed accounts, meaning integrated asset management for mainly high-net-worth individuals, are growing in importance. Like in the US, such services, which - in contrast to commission-based or transaction-based products and services - generate portfolio-based fees, are likely to play an increasingly important role in Europe as well.

A paradigm shift in the remuneration scheme operated by distributors would inevitably have a sustained impact on the structure of fees in the funds industry, which is still largely determined at present by its distribution partners' transaction-driven commission models. Whether and when there will be a switch to remuneration models based solely on assets under management or on asset manager outperformance is not yet clear today. Yet this would synchronise the interests of clients, distributors and asset managers on the remuneration side.

Market confidence

The wide range of different functions, client groups and client strategies poses a challenge when it comes to shaping a consistent market profile. The competencies assigned to distributors and producers are a possible source of friction between them. Yet, along with correct brand positioning, a clear profile in the marketplace is, in particular, becoming an increasingly important confidence-building tool and a long-term success factor for the investment industry. The growing financial self-reliance at both personal and corporate level is likely to firmly strengthen asset manager brand awareness and thus reward the efforts made by providers in this area.