EUROPE ROUNDTABLE: The harmonisation fiction

Ucits has brought a great deal of fund harmonisation but distribution is still hampered by product differences at a country level – crucially in the retirement market.

Phil Barker (head of distribution, Emea, Aberdeen Standard Investments) 
Richard Garland (managing director, global advisor, Investec)
Shiv Taneja (principal, Market Metrics)
Robin Creswell (managing principal, Payden & Rygel)
Sasha Miller (head of market intelligence, Schroders)

Funds Europe – Is global and European regulation harmonised enough to facilitate product development in a way that one product can be duplicated in numerous jurisdictions?

Robin Creswell, Payden – Ucits can now be distributed in most countries, and most countries have a fairly straightforward set of rules to get funds registered. At a high level that looks very good. But at the lower level, we see differentiation across local registration authorities. At one end of the scale you have the UK, which is a simple filing. At the other, there are conditions – you need agreements with a local representative in Spain, and a local distributor and representative in Switzerland.

That becomes quite costly. In France, there is another layer of cost.

Phil Baker, Aberdeen Standard – When you get involved in the more esoteric or more private market-type area, then of course it becomes harder, such as with multi-assets.

Richard Garland, Investec – Within Europe it’s still reasonably straightforward, but looking globally – Hong Kong, Taiwan – it gets more complicated. Is Ucits fit for purpose beyond Europe? In some places, that is now under some scrutiny.

Shiv Taneja, Market Metrics – Is it harmonised? No, it isn’t. Ucits is 30-odd years old now and it’s probably the most successful cross-border strategy from a product standpoint globally. Yet 70% of the assets continue to be raised and domiciled here in Europe.

Point two, when you look at where longer-term mutual fund growth is going to come from, it’s the retirement end of the business, not the conventional retail or wholesale end. That straight away makes any harmonisation a complete fiction. When it comes to creating one unified product platform, the first place you fall down is around country-level retirement regulation. So that’s where we are going to see the single biggest roll-out in terms of harmonisation.

Sasha Miller, Schroders – There are a couple of key drivers to that. One is that every country is competing to have the assets there – Ucits became Ucits because Luxembourg was very self-interested in driving that. The second is around tax, which is the key issue around retirement products. Even if we had product regulation and harmonisation, tax rules blow everything out the water.

Barker – If you’ve got an Oeic, a Sicav and a 40 Act fund, then you’re probably good to go with a global bank. But the other aspect is client – that varies in different countries, including around the DB to DC move as an example, or because of yield or risk appetite.

Taneja – Look at the Far East. Until the mid to late 1990s, the great success was taking Ucits products into that region. Today, it’s going the other way. Some of the traditionally biggest, successful Ucits markets are looking for local product.

Garland – We’ve made Ucits a bit too sophisticated, via the use of derivatives, for instance. Ucits has gone from being a simple structure with reasonably simple investment guidelines to something we’ve thrown the kitchen sink at. It’s also getting more difficult and more costly to develop and launch products.

Creswell – It is complicated, but if you want to have one product, one Ucits strategy, our experience is we can do that in just about any country. The only one where we’ve stopped is Hong Kong.

Taneja – Let’s draw this back to the UK: 85% of all product sold in this country is local product. It was only seven years ago that the platforms first started taking even the vaguest interest in looking at cross-border funds. Why? Client demand. That is what drives the product and the strategy and the product structure. Until wealth managers and the whole discretionary fund manager (DFM) business started taking off here, there was no demand for anything other than a unit trust. Why? The platform would say that’s because it is what the IFAs want. And the IFAs would say it’s because that’s the simplest thing to sell into the client base.

Garland – The IFA market in the UK is going away, it’s all about DFMs. They’re sophisticated, so they don’t really care where the product is domiciled. If you get critical mass via a Ucits fund with billions and the costs are lower, you may not need the same fund in both the UK and Luxembourg.

Taneja – The fund family with the smallest product range among the traditional top 10 UK funds raises three times more money than most other funds do. With local funds.

Creswell – Below a $1.5 billion fund size, it is not economic to get compliant in all these different countries. We probably spend half a million dollars a year dealing with the regulatory hurdles.

Garland – For any distributor now, if the fund’s assets are not over $100 million, they don’t want to talk to you. They want funds with assets of $500 million, because they have a 10% limit and they don’t want to do any work on setting up a fund unless they can invest $50 million.

Barker – In the past you could have built the fund size up through in-house money or the retail market – little bits, platforms, nominee deals, it all creeps up. But that market is reducing globally.

Miller – It goes back to the client-demand perspective. There are some opportunities potentially for very similar strategies, but actually a lot of what we sell in the UK is quite distinct from what we sell in Europe and Asia.

Garland – Rationalising or consolidating fund ranges also presents an optics problem. The suggestion is that closing a fund means you are a loser. But most of the time it’s got nothing to do with the fund’s performance, it is more to do with focus and economics.

Miller – The decision not to launch everywhere at once is because we want to incubate a lot of strategies. If we want to be innovative as an industry, we have to enable ourselves to do that, and close products if they don’t work.

Garland – As an industry, we need to offer fewer products. You want to focus on what you’re good at.

Funds Europe – What is the prevailing product type in the UK and Europe at present, and what are the underlying drivers for that demand?

Taneja – If you look at the top five funds across Europe, including the UK, in the first nine months of this year, the first four of them had ‘income’ in their name, and the fifth one had ‘yield’. If you look just at the UK, where 15 years ago 75% of all net new business was equity-based, the top five funds in terms of net sales in that period had either ‘absolute return’ or ‘multi-asset’ in their name. So put the two together, and that’s the only thing that sells across Europe.

Garland – If you look at the biggest funds across Europe and the UK, the top 50 are all fixed income or multi-asset.

Taneja – From my perspective, the two biggest issues we face stem from MiFID II. One, an immediate contraction of distribution, which has begun to happen across Europe. Two, on the back of that will be contractual problems. In Germany and the UK, look at flows into IFA/wealth manager-driven businesses. If you are not in the top three in terms of gross sales, you lose the ability to generate sales for three-quarters of the total amount of business in that marketplace. If you’re not one of the top three funds at a given point in time, you effectively live off 25% of the overall pie, while the top three funds get the rest – 68% in Germany, 70% in the UK. The flipside, which can be a nightmare for asset managers, is wealth managers will focus on one product from each organisation. That is what leads to your blockbuster, why one fund has 40 billion in sales.

Barker – We’re definitely seeing more interest now we are a bigger group from distributors that do more business with fewer groups and a wider range of funds from the chosen groups.

Garland – Distributors are working with a more limited number of managers, and choosing one fund per asset class, maybe two if you’re lucky, so they’ve got just 40 funds on their recommended list.

Taneja – It was recently suggested there had been a 25% decline in the number of IFAs in the UK. That’s not correct: it’s 5%. What is true is that the influence IFAs now have in the UK is much less than what it was 10-15 years ago.

Creswell – We get a slightly nuanced view of the market because of our distribution, and we’re seeing some interesting developments. First of all, there is a combination of investment in inflation-linked funds with the World Government Bond Index. We have clients who have put 5% into one and 5% into the other as part of their overall allocation. That’s telling us the inflation cloud, or fear of a cloud, is returning.

Garland – There is an awful lot of money going into short-duration bond funds because people are very nervous, they’re worried about rates going up and the level of the equity markets.

Creswell – Another strong trend is ESG. We’ve seen a strong pull away from prescriptive ESG products in the last six months towards principle-based ESG, which is in my view much better.

Garland – It’s dramatic how quickly this is coming. It used to be a matter of showing you have ESG embedded in your general investment process, that it was part of your DNA; but now clients also want discrete products, the Swiss private banks in particular.

Barker – The specific approach we have adopted is ‘impact investment’. Rather than screening out investments, impact investing is about investment that has a positive impact. It is also a positive response to passive investing. A quote I have heard that could apply as much to ESG screening as it does to passive management is that, as fund managers, ‘We are stewards of our clients’ money; algorithms do not have a conscience!’

Creswell – Historically, because ESG excluded you from certain opportunities, there was a suspicion that you might subsequently get a lower return. There’s been a strong intellectual push to say that’s not true – but in the last six months the evidence is being challenged.

Garland – ESG is now one of the must-haves for a mainstream asset manager.

Funds Europe – The quest for yield is still a major force in product design and demand; what innovations has the industry seen? Have we seen different product strategies in the European markets in particular?

Taneja – Active funds throughout 2016 raised about €90 billion of net sales across Europe. Active and passive were about equal. In the first nine months of 2017, active has gone to $470 billion, of which equities is the biggest component.

Creswell – There are two different things happening in fixed income and equity. In fixed income, institutions are very wary of lamely following an index. The feedback we get from clients is they don’t mind if we are in most of the components of the index, but they want a sentient analyst looking at every line item to avoid some of the big accidents.

On the equity side, managers are getting quite good at developing new products which can’t easily be replicated. Maybe we’ve had our feet held to the fire, but people are getting more innovative. For example, we’ve launched a global equity product under the heading of innovation. We’re a fixed income house, so we’re using our fixed income research to drive our equity choice.

Taneja – Equities last year went from a net outflow position of $50 billion, to the first nine months of this year of more than $120 billion. Bonds went from $130 billion-plus last year to $260 billion. That continues to be the big powerhouse – and within that, global has shot right back, having been way down the tables in the summer of 2016.

Barker – We’ve seen an increase in the institutional space of buy and maintain mandates, more focus on price, and for packaged solutions where brand, reputation and risk-adjusted performance are all key.

Garland – People want high-conviction, unconstrained equity portfolios with high active share. They want funds which don’t look like the benchmark, and concentrated high-conviction funds are the perfect complement to cheaper passive funds. There is also a lot of demand for multi-asset income funds.

Miller – We’re in a much better environment for alpha generation now. So, going into this year, around 30% of funds in the UK in fixed income were beating their benchmark. Now it’s 75% of fixed income funds, and over 50% on the equity side. In general this should be a good time for active management.

Barker – With regards to the private market, there is a general discussion about wholesale clients giving up liquidity, and the need to provide a product that has some liquidity in an illiquid market.

Garland – Investors now want quasi-liquid alts – not too illiquid and not liquid. People went into liquid alts funds, but found that this asset class couldn’t quite do what was expected of it. So investors are looking for something in-between. In the US they have ‘interval funds’, which provide limited liquidity on a quarterly or half-yearly basis. The fund manager can invest for the long term and not worry about constant redemptions.

Funds Europe – The vacuum of bank lending in recent years has prompted the development of non-bank lending vehicles. How has the asset management industry responded and will it create a new asset class?

Creswell – We don’t have a dedicated loans fund. Technically they can’t exist inside Ucits. We do have bank loans in our Ucits in Dublin, and the reason we can do that is down to the custody model that Brown Brothers Harriman has developed. We like that, because we want to own bank loans.

Master limited partnerships (MLPs) are the finance medium for the oil sector in America. We’re big owners, but you have to make quite disciplined distinctions between bona fide AAA high-quality loan product and the rest. So we do see a non-bank market developing – we see securities, we see product and we want loans in our funds. In some cases we can do this, in other cases we can’t.

Miller – We have a relationship with a Dutch lending group and find that there is a supply-led side around banks retreating, but there is also a demand-led side from clients who can access capital in a more efficient way with potentially less collateral. There is that dynamic in play as well.

Funds Europe – How fierce is the battle between active and passive in the UK and Europe? How are active managers responding to the challenge, and how will passive managers continue to innovate?

Garland – How will passive managers continue to innovate? They will take their fees to zero. I was talking to a very large European distributor who now pays one basis point for passive US equities and two for Europe.

Taneja – The argument was that, eventually, the money they make will come from stock lending.

The cumulative growth rate of the net business in the active market in Europe for the last five years is 30%. The flows of active and passive in 2016 were almost equal. But in 2017 it’s four times higher for active than in 2016. Is active trying to fight its corner? Absolutely. Is this going to sustain? I don’t know.

Garland – Passive funds don’t do very well with fixed income. You look at high yield ETFs, they can’t match the benchmark. More specialist fixed income lends itself better to active management.

Barker – The piece we haven’t touched on of course is smart beta.

Garland – Smart beta is just slicing and dicing an index in a different way. It’s still passive, just dressed up as active.

Miller – We manufacture some smart beta, but only within our multi-asset portfolio. So they’re totally customised to the exact baskets we want to have at any given point in time. But we don’t sell it on its own, and that’s the key thing.

Creswell – At the right cost, there is a social good in active management because active managers are a big part of price discovery and the functioning of capital markets. There will be so much money in passive that when they are all trying to rebalance there will be a cost associated with that – and that’s when the active managers can show their skill.

Garland – The scariest thing as an active manager is the fee compression. We’re getting squeezed far more than expected and it’s getting tougher and tougher. I’m working on opportunities at the moment in Europe where distributors want active equity management for less than 20 basis points. We are very clear that we will not manage active equity portfolios for these fee levels. But there are managers who are willing to run active portfolios for less than 20 basis points. MiFID II is a major catalyst for distributors to demand managers reduce their fees.

Taneja – For all the potential misery MiFID II is going to heap on the industry, there are two potential positives. One, it’s going to rationalise this business, taking out a lot of people who ought not to be here; and two, it will leave behind a much more meaningful active industry, at a much lower price point.

When you look at the five biggest firms in 2017, three of them are big bank/insurance-owned asset management companies across Europe. With the exception of Pimco and BlackRock, everyone is eating their own cooking.

Creswell – The new mid-sized manager will now be $300 billion. There will be consolidation, but there will remain a continuum from small to large, it’s just that small will be an order of magnitude bigger than it was ten years ago.

Funds Europe – How important is Brexit to the asset management industry, and how might this change the landscape for the business?

Barker – The plan for us is to be slightly bigger in Luxembourg and Dublin, but as a business we’re actually in a decent place and shouldn’t get too caught up in all of the headlines that surround banks.

Garland – The only issue is delegation and Esma [the EU financial regulator].Assuming that all calms down, we should be fine. That said, we’re putting more people in Luxembourg now, because you’ve got to have a real presence there.

Taneja – It’s much more of a banking issue than an asset management issue. Once all is said and done, it is more of a problem for a Continental manager thinking about the UK market. But the bulk of them are already here.

Miller – Yes, I think the UK market will get much more competitive.

Creswell – We think it’s important to grow distribution. We don’t really have conventional distribution, but we’re opening an office and building a hub in Milan which will manage relationships around Europe. Most country common law allows you to contract with other corporations wherever they are. So since we know we’ve got unfettered access for 16 months, the thesis is to invest in relationships in Europe now. The more prosaic side is that we have two or three hard contingency plans. If we need a MiFID firm in Dublin, we’ll have a MiFID firm in Dublin.

Garland – The problem is then everybody’s hiring and you can’t find the people, it’s a nightmare.

Miller – Our business is already set up in terms of having a UK presence and a very strong European country presence. We don’t see a significant shift, though in the UK it will become a much more competitive market. More firms are coming in as active asset management growth is more challenging going forward, so they are looking for growth overseas; a lot of US managers are looking here. That is a point of consideration for the next five years.

©2017 funds europe



Innovative US companies are providing some of the solutions to the climate crisis and transition to a more sustainable economy. We see potential opportunities in areas including renewable energy and…
This white paper outlines key challenges impeding the growth of private markets and explores how technological innovation can provide solutions to unlock access to private market funds for a growing…


Visit our dedicated Ireland channel for all the latest news and analysis on the country's investment industry.