By Mark Gilbert
(Bloomberg Opinion) --The asset management industry is in a deep funk. Active products, which enriched stock-pickers more than customers, are out of vogue. Margins are dropping faster than the mercury in a polar vortex. Regulators are examining everything from benchmarking to marketing. Maybe salvation can be found in the Star Trek movie “The Wrath of Khan.” Bear with me.
Spend long enough reading about the industry, and two thoughts are likely to strike you: That most firms in the business of managing other people’s money are in terminal decline, and that they brought it on themselves by overcharging customers and under-performing simple, cheap index tracking funds.
The latest broadside against the industry doesn’t come from a regulator or a disgruntled investor. Instead, it’s from asset manager Baillie Gifford, founded more than a century ago in Edinburgh and best known these days for being Tesla Inc.’s third-largest shareholders after founder Elon Musk and U.S. asset manager T Rowe Price Group Inc.
In a report entitled “Riding the Gravy Train,” partner Tom Coutts takes his peers to task in no uncertain terms. He contends that his industry has reached “the point of the maximum rate at which it extracts value from its clients’ assets. Let’s call it Peak Gravy.”
By charging too much for their products and focusing on their own interests rather than those of their customers, asset managers have fouled their own nests. “The euthanasia of some of these particular rentiers is long overdue,” Coutts says.
His solution is one I’ve championed before. Rather than allowing asset gatherers to accumulate fees in line with their size, they should simply charge a small levy to keep the lights on and link the bulk of their charges to the performance of their funds. Coutts suggests a “0.2-and-20” model should replace the outdated “2-and-20” format, where funds charge a 2 percent annual levy and keep a fifth of the profits.
But there’s a more radical change promoted by the editors of the Epsilon Theory website, and here’s where Star Trek comes in. In the second movie based on the TV show, there is a training exercise called the Kobayashi Maru simulation, designed by the examiners to be unwinnable. It turns out that Captain James T. Kirk triumphs in the exercise by changing its parameters. “I reprogrammed the simulation so it was possible to rescue the ship,” Kirk replies when asked by a fellow officer how he did in the test as a cadet. “I don’t believe in the no-win scenario.”
Active managers face a similarly bleak situation — and their salvation lies in pursuing similarly parameter-changing strategies to those Kirk adopted to beat the Kobayashi Maru. Move the discussion away from costs, as Epsilon Theory argues.
Epsilon’s writer may be unidentified, but the author has a point. The most vulnerable asset managers are the medium-sized firms trying to stay afloat by offering lookalike products that straddle the active and passive worlds and try to be all things to all investors. For them, the key to survival is surely differentiation.
Epsilon Theory points to the flood of firms bolting environmental, social and governance considerations onto their existing products, and is rightly dismissive of the “virtue signaling” often involved. But the trend to taking socially responsible investing seriously will only accelerate. So asset management firms should get serious about hiring the talent and buying the data that will enable them to engineer smarter funds that can appeal to this growing customer base.
And rather than taking a one-size-fits-all approach, it makes sense to focus. There’s no reason to expect a firm that’s expert at navigating environmental concerns to be similarly skilled at analyzing governance issues.
Specialization like this, or in other areas, offers a chance to own a particular slice of the market, albeit a niche, and to earn some respite from the relentless pressure on fees.
It’s not an approach every firm can take. But if the alternative is to perish and be swiftly forgotten — like one of Star Trek’s red-shirted crew members — then, charting a new, narrower course probably makes sense for at least some asset managers.
Mark Gilbert is a Bloomberg Opinion columnist covering asset management. He previously was the London bureau chief for Bloomberg News. He is also the author of "Complicit: How Greed and Collusion Made the Credit Crisis Unstoppable."
To contact the author of this story: Mark Gilbert at [email protected]
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