The money management industry is already under a significant amount of pressure from the rise of low-cost ETF’s, which are stealing business from relatively high cost underperforming mutual funds. And recently a threat has emerged in the form of Robo-advisers, low-cost asset management platforms that appeal to the younger generation who are unwilling to pay high fees to investment managers when computers could do the same job for a much lower cost.
These are just two of the headwinds the asset management industry now faces. Morgan Stanley believes there are six disruptive threats for the industry on the horizon.
Traditional asset managers are under threat
The top three challenges analysts at Morgan Stanley sees the industry are macro issues, the declining cost of beta and smart beta and regulatory pressures. The three other challenges listed by the bank are new competitors and intensify rivalry among established players, changing demographics and technology.
The most uncontrollable of these six challenges is the macro environment. Low-interest rates and sluggish global growth are pressuring fund managers’ performance. Today, macro explains over half of the average stocks returns, up from 30% before the crisis. Against this backdrop, active managers are struggling to outperform, challenging the common perception that active managers will achieve better results than passive investments in weak markets. Only 16% of large cap managers beat their benchmark through May 2016, versus 34% during 2015.
These lacklustre return figures have sent investors fleeing towards passive index trackers/ETFs. Since 2007 these passive investments have seen over $800 billion of inflows, while active funds have reported outflows of over $700 billion — these figures are limited to domestic US equities only. And as passive investments become more and more popular the fees charged continue to fall. Vanguard ETF’s charge 13 bps vs. iShares at 39 bps. Meanwhile, the average dollar-weighted expense ratio of mutual funds is about 100 bps. The median fee rate for Smart Beta funds has fallen by 25bps since 2012.
Morgan Stanley estimates that the profit pool for the asset management industry is around $83 billion, but as management fees fall and new competitors enter the market, it looks as if asset managers are going to be left chasing an increasingly small percentage of this profit pie. Robo-advisers are also threatening to consume a chunk of this profit pool. Vanguard currently has the largest Robo-adviser division in the United States with assets under management of $31.1 billion and a market share of 59%. The typical account fee for a Vanguard Robo account is only 30 bps, or 70 bps less than the average mutual fund fee.
Tech-savvy millennials are changing the game
Falling fees and the rise of the Robo-adviser on the only threats to the profit pool. Asset managers also need to be worried about changing demographics. Tech-savvy millennials appear to be more focused on social/environmental concerns and brand recognition when it comes to finding wealth managers.
According to a Harvard Institute of Politics survey, only 14% of millennial respondents said they trust “Wall Street” to do the right thing all or most of the time. While according to a LinkedIn survey 67% of millennials say they would try financial services from brands they trust that have succeeded in other sectors, like Nike, Google, Apple. Morgan Stanley’s own surveys show that 58% of millennials are interested in Robo advice, and 69% of these have logged into their brokerage account using a mobile device during the past year.
As millennial’s look to Robo-advisers and low-cost passive investments, Baby Boomers are withdrawing funds from the asset management industry as they reach retirement and draw down on pensions.
According to Morgan Stanley 401k assets crossed over into net organic outflows in 2014 and the low return environment is driving an increasing desire by Boomers to seek out solutions-based products to provide yield/current income during retirement. Simply put, Boomers are withdrawing their funds from the traditional asset management industry.
Still, three key drivers should propel underlying organic asset growth over longer-term: (1) Wage growth, (2) Rising global wealth, and (3) Outsourcing of institutional assets.
The companies that can adapt to the changing environment will be, in the words of Morgan Stanley be able to, “feast on market share gains, while the rest see famine.” The bank sees BLK, BX, IVZ, OAK as the managers that are best positioned to benefit from the changing market themes.