Wealth managers to see hit on back of multiple market changes

22 August 2016 Consultancy.uk 5 min. read

Asset managers face an uphill battle to retain their hefty profit margins, according to a new analysis. The equity market and fixed income are projected to take a turn for the worse, while new legislation will require wealth managers to become transparent about their fee structures – which is likely to see the already fickle rich shop around for lower prices. Wealth managers can improve profitability by focussing on reducing costs and better managing clients.

The growing level of global high-net-worth-individuals (HNWI)* wealth, on the back of rapid growth in developing economies and appreciating equities over the past decade, has seen the total AuM increase by CAGR of 5%, from $52 trillion in 2007 to $71.4 trillion in 2015. Asset managers have, during that time, enjoyed relatively strong incomes. Recent reports, notably from the Boston Consulting Group, EY and PwC, have warned that the current state of affairs for asset managers is under threat from a range of fronts**.

A new report from Oliver Wyman and Deutsche Bank, corroborates previous warnings to the AuM industry about the changing conditions and the effect these factors may come to have on the sector. The report is based on interviews with wealth managers as well as HNWIs.

Market growth forecast vs industry growth projections 2015-2020

According to the firm’s analysis, a range of markets within which wealth managers invest are set to face headwinds. In the base case model for market development to 2020, equities are projected to fall from 10% CARG, over the period of 2002 to 2014, to 2% CAGR between 2015 and 2020. Fixed income is set to fall from 7% to 2% over the same period, while alternative assets will drop slightly, from 8% to 6%.

One of the areas in which AuM firms may be missing the mark is in their projections for market growth. In a survey among wealth managers, with a total of $11 trillion under management, the researchers found that the majority had market growth rates of between 8% and 10% to 2020 within their business plans. In relation to the economic modelling from the consultancy, which places overall growth at around 5% – there is a resulting total gap of up to 4% per annum until 2020, or $15 trillion by 2020. The firm is concerned that wealth managers will increase their risk taking, to meet their business cases – which could see an on boarding of a new wave of compliance risks.

Industry profitability projection 2015-2020

Besides decreased performance for their respective clients, a number of headwinds are also projected to place considerable downward pressure on profitability, which last year stood at a margin of 23%. The biggest hit (-8%) will come from fee reduction, resulting from a 16% reduction in 2015 investment product fee margins, while increased risk and compliance costs will see a total reduction in profitability of -3%. An increase in NIM will, however, boost profitability by 2%. To keep stable profitability, therefore, a total delta of 9% needs to be bridged.

The reduction in fees is driven by a range of factors, from increased competition between managers, to digital management to regulatory effects that are driving increased price transparency. The consultancy suggests, however, that price transparency will have the biggest impact, driven by legislation, including, among others, MiFID II/MIFIR in Europe and Canada’s CRM II.

Types of initiatives to close profitability gap

The consultancy suggests that the profitability gap or around 9% by 2020 can be reduced if wealth managers take a number of steps to reduce costs as well as develop new business models.

The top moves wealth managers can take include: reducing client churn through attrition management, a new focus on leveraging a range of channels to acquire clients, increasing access to alternative assets under management, and aligning regional footprints with growth hubs. The firm also suggests that a number of levers exist through which to improve the efficiency of the firm, and therewith, push down costs. According to the firm, this can be achieved by finding new ways to service the most valuable clients, as well as leveraging new channels to improve services, where possible – particularly looking at digital. Also, efficiently meeting increasing compliance costs, such that the cheapest mechanisms are implemented first time round, is an additional way of reducing costs and improving profitability.

Cost savings vs. automation potential by function

The firm also finds that a number of new technologies, which automate a range of processes, have considerable potential to deliver cost savings. Digital technologies, including automation, can, according to the firm, deliver more than just savings in cost – by, for instance, improving decision making and providing improved customer experiences.

The research suggests that back-office functions tend to be the most easily automated. The most profitable functions to be automated include KYC, reporting, operations, AML and risk management. Front office functions, such as succession, portfolio management and many aspects of client relationship are the least easily automated.

Christian Edelmann, a Partner at Oliver Wyman, says, “The growth of assets under management is likely to fall behind what wealth managers collectively assume in their business cases.”

* Those with more than $1 million in investable assets.
** See for more details the articles 'Wealth managers overestimate their skills and face digital disconnect' and 'Digital channels driving growth in wealth management landscape'.