Multi-manager providers are among the numerous victims of the sub-prime aftermath as investors fled from risk. And it could very well be that the onslaught has not yet ended.
Benjamin Poor, a director at Cerulli, an independent consultant, foresees further tightening in the multi-manager space as clients’ disappointment is “scorched into their brains”.
He says: “We will probably see the multi-management world contracting. From a client perspective, the results haven’t been as strong as they would have liked. Therefore clients might question why they should pay for a multi-manager product when they could have done better having their money in cash or tracker funds.”
Mike Brown, head of fund sales at Collins Stewart Fund Management, a multi-investment boutique, says: “The last few months have demonstrated quite clearly that the trust people placed in the multi-manager industry hasn’t been justified.
“Investors trusted multi-managers to look after their money, to give them a little bit of the upside and protect them from the downside. There are a lot of people who haven’t really delivered on that.”
Figures from Morningstar show that European funds of funds delivered on average -17.64% between June 2008 and May 2009 and -11.32% over two years. The research firm’s performance analytics do not differentiate between fund of funds and multi-manager products. The approaches are similar in that products in both categories include more than one manager.
Although these numbers might not look so dismal compared to the broader market performance (single manager funds returned -33.51% over the same period), the underwhelming results were still a disappointment for investors.
Poor says that both retail and institutional clients will be rethinking their position on multi-management and the biggest challenge for providers is to prove they can provide value.
“In the past six or seven months we have seen more outperformance by active managers so the trend [against multi-managers] could reverse, but… I worry that the recovery in active management and outperformance of multi-managers may come a little bit late to win the hearts of many clients,” he says.
The multi-management world grew exponentially in the last decade and according to some this could be one of the reasons why the concept is now suffering.
Antony John, CEO of FundQuest, BNP Paribas’ global multi-management arm with €25bn of assets under management (AuM), believes multi-management formed its own bubble in the investment world.
He says: “Seven to ten years ago you would have struggled to find twelve multi-managers among the top 100 investment management groups. Three years ago on the other hand, you would struggle to find twelve that did not offer a multi-management capability.”
John suggests that many firms jumped on the bandwagon and not all had a strong offering. “Clients felt they were paying alpha fees for what was at best beta performance.”
Gary Potter, co-head of the Thames River Capital multi-manager team, with £200m (€228m) in AuM, says: “Our experience shows that in continental Europe many of the multi-manager solutions offered by the big banks tend to be more index-aware, almost index trackers. By having a value, a growth and a core [fund or manager] you end up with an index-type return.”
He explains that investors who thought multi-management offered diversification and ongoing manager selection to protect against the drawdown were clearly let down.
The crisis made it perfectly clear that diversification cannot always be a bullet-proof strategy when many diverse markets correlated with one another in 2008. Having assets spread across different managers failed to cushion the blow.
But not in all cases.
Brown, at Collins Stewart, says: “It’s very easy to say that everything correlated to one, and that it all fell off a cliff – but that’s a sweeping generalisation.” He explains that one of his firm’s products, the Select Opportunity Fund, performed quite well. It was down 3.58% net of fees between June 2008 and June 2009. But its international peer group was down 15.3%.
Rob Burdett, co-head of multi-management alongside Potter at Thames River, says: “Diversification for the sake of it didn’t work. But in our opinion, diversification through manager choice did work. Within the universe of managers, half outperform and half underperform. If you selected the ones that outperformed you did well. We tend to have a bias towards boutique managers and a number of those happened to have high cash weightings last year and we are very comfortable with that as long as we know what they’re doing.”
Awareness of a manager’s activity is now more important than ever. John, at FundQuest, says: “A sign of how difficult things are is that a number of managers are asking to increase the amount of off-benchmark positions they can take.”
This is not necessarily a good thing. If a manager wants to take off-benchmark positions in its own area of expertise and has a track record of spotting companies at an early stage of development, then that’s acceptable. However John says that in the majority of cases it’s a “recipe for disappointment”.
And unfortunately, in the investment markets at large, disappointment has come hard and fast. Bernard Henshall, head of multi-manager distribution at Scottish Widows Investment Partnership (Swip), which has £62m in multi-manager AuM, says market performance has made it more of a challenge for multi-managers to prove their worth, yet this is something they must do if they want to keep commanding the higher fees usually attached to their service.
Multi-managers have in the past justified their higher cost by claiming they deliver better performance together with a slew of additional benefits like portfolio rebalancing and risk management.
Now, as fee pressure permeates every aspect of the asset management industry, multi-managers are under pressure to either prove they deserve the money they’re paid, or to lower their fees.
Opinion on which way the fee structures will move is split. Some forecast an increase in the usage of passive products, which could lower cost, while others predict a more alpha-driven service, which may demand even higher fees.
Henshall, at Swip, says: “We are seeing a certain amount of polarisation in the industry with managers either offering beta products, which will give market returns at a relatively low price, or higher alpha and high-value products.
“Clearly fund of fund and multi-manager offerings fall into the high-alpha, high-value category. They have to [fall into this category] to justify the fees and it is our duty to justify the fees we’re paid. If we don’t, we lose customers.”
Ed Moisson, head of consulting at Lipper FMI, says: “The pressure to justify charges is likely to increase in an environment where a range of passively managed funds have annual charges five times less than funds of funds.”
Burdett, at Thames River, says it all boils down to performance. “If you can deliver the net returns and there is a reason for the cost, then it can be justified.” He says that questions regarding fees and total expense ratios (TERs) are now being asked more frequently.
In Thames River’s case, Burdett says the firm overcame the TER issue because its performance record, net of fees, is good.
However, not all feel multi-management will continue to command the premium fee that it has in the past.
John, at FundQuest, says: “Some new norms have been established. The typical TER for a fund of funds is now around the 2% mark and a manager of managers is paid around 1.4%.”
These figures represent a fall in TERs of around 35 basis points and 45 basis points respectively from 2008, according to data from Lipper FMI.
John believes costs could be compressed even further. One way of pushing down fees is for
multi-managers to make more extensive use of passive products like exchange-traded
Brown, at Collins Stewart, says: “If you want pure beta you look at ETFs… This does not mean that our funds are an aggregation of ETFs… I would be surprised if there are many managers who aren’t using ETFs or passive investments for strategic asset allocation decisions. There is little doubt in my mind that this is something that will grow within the industry.”
But Burdett, at Thames River, doesn’t agree with the use of such instruments. He says: “Multi-managers who use ETFs cease to be a multi-manager. There is no multiple of managers and no expert between us [the multi-manager] and the asset class. You simply end up hunting indices.”
“We’ve turned down mandates where we’ve been asked to use ETFs to drive down the TER. This is because [by asking us to use passive products] you’re cutting off one of our biggest value-added areas, the manager selection.”
According to Brown, though, using ETFs strictly for beta exposure makes investment sense. “There’s no point in going to an average manager to get beta because you’re assuming manager risk,” he says.
Entrenched in the fee argument is the issue of transparency. As a result of the crisis investors want to know exactly what they’re holding, where it is and what they’re paying for it. This feeling was further exacerbated by the Bernard Madoff scandal.
Multi-management could easily lend itself to opacity, due to the different layers of fees and agreements with several managers, but providers say they are capable of giving investors peace of mind.
Jamie MacLeod, chief executive of Skandia Investment Group (Sig), says: “Investors will want to see what they are getting for their money and we are keen to ensure they understand all the benefits of multi management.
“While multi-manager products may be perceived to be more complex, they still operate within the same very tight regulatory framework as any other fund… With increasing regulatory pressure multi-manager funds typically provide a robust business solution that addresses the increasingly complex requirements of the regulator.”
Brain versus brawn
Sig oversees around £56bn and according to MacLeod: “Scale is vitally important. We think smaller multi-managers will find it increasingly difficult going forward.”
Henshall agrees. “We have seen smaller providers drop off. To be strong commercially you either have to be of a certain scale or you have to have a distribution mechanism. Some fund managers have the intellectual capacity but no way to take it to market. Brains aren’t enough; you need muscle as well.”
According to MacLeod, Sig’s size allows it to operate in a cost-effective manner. He speaks of the firm’s research function as an example. “If you look at the largest global multi-manager firms they have research departments of anything from 40 people upwards. In our activities, we oversee some £56bn across 17 countries transacting over £100m a day, so we have the scale to justify a world-class research function of that size… The costs of our research base is spread across both multi-manager and single manager funds.”
Although Potter, at Thames River, also says very small providers are vulnerable, he feels also that very big multi-managers are not necessarily in the best position either. He says: “It’s like an oil tanker: the bigger it is, the harder it is to turn around. If you wanted to move a manager or a mandate it would take you a fair bit of time to close it down and start something else.”
Potter says Thames River operates somewhere in the middle – it has scale but retains a certain niche, boutique flavour. According to his colleague Burdett, size does not necessarily lead to lower costs.
He says: “If you double the assets held by the largest multi-manager their fees will fall by a fraction of a percent. The manager selection can generate far in excess of that. If you agree with our view that the managers generate the alpha, then we would argue that you’re better off controlling capacity.”
Although the recent past could have made investors apprehensive about multi-management, Shamindra Perera, managing director at Russell Investments, with US$151bn (€105.8bn) of AuM, argues: “This is precisely the wrong time to exit multi-management. If we are entering a period of lower returns but higher market volatility, a good multi-manager with suitable mandates and appropriate discretion should be able to add significant value to clients’ portfolios.
“In fact, as we see more and more UK pension funds turning to fiduciary management given its superior governance structure, we believe that the use of multi-manager funds will increase rather than decline going forward.”
The most positive signs for the future of the multi-manager model have been emanating from the UK. For example, Sig’s Spectrum range of risk-targeted funds posted around £200m of net inflows in the last twelve months and Thames River recently won two institutional mandates to run money on behalf of SATRA Technology Centre and the Armed Forces Common Investment Fund.
Figures from the UK’s Investment Management Association (IMA) show that funds of funds posted total net sales of £1.2bn in Q2 2009, which was higher than the £1.1bn seen in Q2 2008.
©2009 funds europe