Exchange trade funds (ETFs) and passive funds are growing at twice the rate of active funds, according to a new study carried out by BNY Mellon in conjunction with EY.
This change in asset balance comes at a time when the top 20 fund management houses are gaining market share at the expense of their smaller competitors.
The study, The Impending Profitability Challenge for European Fund Managers, highlights the increased pressures on firms as compliance costs rise and investors demand cheaper products and claims that the European funds industry faces extra expenses totalling between USD300 million and USD500 million (approx EUR220 million to EUR365 million) per annum over the next three years to address new regulatory requirements.
This translates over the next three to five years into a 'conservative' 3%+ increase in cost/income ratios correlated to a 2%+ uplift in total expense ratios (assuming profit pools remain at current levels).
These pressures may lead to increased consolidation of asset management firms and create significant barriers to entry, as small firms struggle to survive. Larger fund managers will benefit from offering multi-asset products, as well as their robust risk infrastructures.
A comparison of the global fund management industry since pre-credit crunch shows that assets under management have recovered, there are more independent fund managers, and the top 20 list of fund managers is US dominated in terms of ownership;
Banks are expected to continue to sell their fund management businesses and it is likely that large independent fund managers will continue to acquire them;
Increasing barriers to entry related to the regulatory and accountability framework, specifically in relation to the cost of implementation, have started to deter start-ups and force consolidation at the bottom end of the market;
The focus on the transparency and governance agenda – from both regulators and investors – will inevitably exert downward pressure on fees;
That downward pressure will apply particularly to the ETF segment, where average European fee levels are similar to those of passive funds and falling at an average rate of 1% per annum depending on the instrument;
Both investors and regulators exhibit a growing thirst for passive funds, and as a consequence these funds are growing at twice the rate of active funds, resulting in margin compression.
Daron Pearce, EMEA Head of Global Financial Institutions at BNY Mellon, says: "In recent years we have seen major changes in both institutional and retail investor behaviour, new approaches to fund distribution and accelerated product innovation, all of which impact fund manager cost/income ratios. There are a multitude of initiatives that fund managers could consider in the face of falling profitability and rising costs/income ratios. These include reconsidering the opportunities of long term restructuring and building partnerships with third party providers for middle and front office functions. This is not just an issue for CIOs, but also something that needs to be focused on at the CEO level."