In this article, first published in Finance Dublin, Lisa Kealy analyses the results of our 2014 EY ETF Survey which shows regulated funds are entering a period of strong growth but managers still have concerns over remuneration. The regulated funds industry is expecting to see large growth in the coming years, far above the average rates seen by the wider funds industry.
As the economy finally turns a corner, the regulated fund industry is united with optimism in expecting near double digit growth for the next five years. This is incredible when you recognise that only relatively recent net new money growth rates for the overall industry have been in the range of 3%-5%, thus showing clear signs that fund managers are feeling pretty optimistic.
To hit this growth rate, Managers are targeting actively managed funds and solution-based products while at the same time tapping into investors’ search for yield in the on-going low interest rate environment. And this was confirmed within EY’s recent global regulated funds survey in which manager’s ranked actively managed equity or fixed income funds at the top with solutions-based products coming in a close second.
Another significant note from our survey is that more managers expect growth to come from increasing their penetration in current markets (54%), than from taking their existing products into new markets (22%). Delving deeper into this data we can see managers in Europe are more likely to look at geographic expansion as an opportunity than managers in North America and Asia who are more likely to seek growth from adding distribution channels.
It is quite clear that Managers still see growth potential in their existing products while also targeting solutions-based products as additional sources of growth. As direct-to-consumer looms large on the horizon, they are focusing on the competitive advantage that can be gained in their existing markets if they can develop products that play to the expectations of customers and their desired outcomes, such as absolute return strategies, lifestyle products and guaranteed capital products. In today’s low interest environment if managers can create and successfully market products that will outperform traditional savings products, they stand to gain meaningful market share.
So while Managers are sure of the products they are going to market with, they have less confidence in terms of who is going to supply this growth. Most are targeting growth from a combination of retail and institutional clients, however, this could be be hampered by the fact that roughly 60% of Managers believe that retail investors have a relatively low awareness and understanding of their products. This is particularly true of smaller managers, nearly three quarters of whom say retail investors have a relatively low understanding of their products.
The level of awareness or understanding of investment products by European retail investors lags global levels significantly. No European manager was prepared to say that investors had a relatively high understanding of products, compared to 55% in North America and 50% in Asia and Latin America. Given the importance of retail investors as a customer base, this presents a significant challenge for manager’s growth aspirations, especially for smaller managers who don’t have such large marketing budgets.
In terms of product and distribution strategies over the next five years, Sixty-three per cent of managers believe that social media will influence, although managers in Europe and Asia are more bullish about this than those in North America. Managers are hoping that social media will help to develop investor knowledge as well as brand and product awareness among the retail investor audience. However, in markets like Europe, the shape of the distribution model means that the ultimate investor relationship is further down the value chain: social media may help, but it is not going to solve the entire problem of how engaged and well-informed European retail investors are.
The heavy EU regulatory agenda – which is influencing European managers’ pay practices – is part of a global shift to more ‘structured’ remuneration practices expected in the next five years. This is highlighted in the survey results which show a trend towards remuneration practices closely aligning the interest of managers with their investors across the industry. Although currently, it is European managers who see their remuneration as being strongly affected by regulation, UCITS V and AIFMD are not just a European issue. Managers in other jurisdictions need to understand the extraterritorial effects of the regulations.
Most managers employ multiple compensation models. All European managers require at least part of compensation to be deferred, in comparison to 55% of North American managers. However, within the next five years, 80% of managers globally expect to partially defer compensation.
European-based managers are currently less likely to use equity as a component of compensation than their North American counterparts. However, as UCITS V and AIFMD are implemented, European managers expect to use equity or co-investment arrangements.
It is surprising that nearly 25% of managers say that bonuses are awarded on an entirely discretionary basis, and, given UCITS V guidelines, that this applies to 33% of European managers. 65% of managers award at least some discretionary compensation, and more than half the bonus is discretionary for 40% of managers.
For investment professionals specifically, over two-thirds of managers believe that more than 50% of their compensation should be performance based, but currently just 40% of managers tie 50% of these employees’ total compensation to product performance.
All in all, a very positive growth story for the regulated fund industry, due to expectations of near double digit growth for the next five years. And in a European context, Ireland should be set to do well as a domicile of choice. Ireland not only has a reputation of high quality regulation, innovation and world-class levels of service, but is the European domicile of choice for cross border fund distribution with over 30% of the European cross border market.
Note: survey respondents represent approx. 30% of total global AUM in regulated funds. 42 managers across North America, Europe, select Latin American markets and Asia were interviewed.