Fund distribution has changed dramatically in the last 15 years and with the RDR, just one of many things shaking up the industry, the rate of change can only accelerate, says Kira Nickerson, former editor of Investment Week
Fund supermarkets, independent advisers and multi-managers all have one thing in common – 15 years ago they weren’t large players in the distribution of funds. Today they dominate and over the next decade it is expected that will continue. Resurgence in direct consumer sales is also anticipated.
Distribution trends in the UK retail market have shifted radically over the past decade with a number of regulatory moves and technological advancements forcing product providers to adapt to the shifting dynamic.
Polarisation, in practice since 1987, was reviewed in 1999 with the recommendation it be scrapped. Depolarisation was enacted in 2004 and initially it was believed the move would lead to the rise of multi-ties and fewer independent advisers. But the advice channel did not shrink as expected.
Now, with the FSA’s Retail Distribution Review underway, a similar prediction in a fallout among advisers is anticipated.
What RDR will mean for IFAs is just one question relating to distribution, though other channels are also in flux. A few years ago, fund of funds was a relatively small sub-sector in the industry. Today, most major product providers have an offering in this space, expanding the number of top-end potential fund buyers.
The continued move in life companies towards open architecture, the increased popularity of fund platforms and broader research departments within private wealth management companies are other key issues surrounding the distribution landscape of the future.
IFAs
Andy Clark, managing director wholesale at HSBC Global Asset Management, noted it was not long ago IFAs constituted just 30%-40% of the distribution market with the rest made up of tied sales and off-the-page. IMA stats show that in 1999 the direct channel made up 17.8% of retail fund sales, IFAs accounted for 48.5% while tied/sales forces had 27.2%. As of 30 September 2009, 3.7% of fund sales were direct, more than 87% were through IFAs and just 6.8% were through tied agents/sales forces.
Although depolarisation did not halt growth in the independent advice market the way it was expected, many believe the FSA’s RDR will have impact as it fundamentally changes the way advice is remunerated.
Talk around RDR in the industry will lose some 40% of advisers as they shun the new professional exam requirements. But not everyone thinks the independent channel will be worse off post-RDR. Peter Hicks, head of UK retail sales at Fidelity, estimates there will around a 15% reduction at the independent end of the market. Even then he believes the industry may turn out to be hockey-stick shaped with a slight initial downturn followed by a large increase in the number of advisers. “In 10 years’ time there will be more advisers than we have today. More people need advice and as the industry becomes more professional, it will attract more to it.”
According to Robin Stoakley, managing director UK retail at Schroders, RDR will result in a smaller universe of IFA firms and the accelerated growth of ‘super IFA’s’, eg Towry Law and ‘network’-style service providers like Simply Biz and multi-tied businesses.
Advisers will have to reconsider the way in which they do business and whether or not they continue to make fund recommendations is a key concern. In this environment, third-party independent endorsement (Morningstar, OBSR etc) of product will become a key requirement for the adviser, Stoakley said.
Hicks said fund platforms will help advisers to maintain some asset allocation and fund selection services, an area expected to come under pressure post-RDR. Due diligence of funds in preparation for client meetings can take upwards to eight hours of an advisers time but via a platform, that is considerably shortened making it easier for advisers, he noted.
Fund platforms
Fund platforms – or supermarkets, as they were then called – came to fruition amid the tech boom with Fidelity FundsNetwork and Cofunds, created by Gartmore, M&G, Jupiter and Threadneedle, among the first to launch in 2000 and 2001. Struggling with technology issues in a hugely paper-based industry, the two were not expected to survive long and the following raft of competitors in this market were also met with scepticism. Hicks said: “I remember talking with advisers six years ago and they believed supermarkets would not make it another year.”
As of late 2009, FundsNetwork had more than £16bn in assets under administration while Cofunds has more than £20bn.
The future role of platforms post-RDR is still in question because of a forthcoming FSA consultation paper. No matter what this paper contains, Michael Warren, investment director at Thames River Capital, does not think the FSA will be able to temper the growing importance of this channel. The amount of assets already imbedded in platforms makes it virtually impossible for them to disappear, he said.
Like Hicks, Stoakley believes platforms will be a vital component of an adviser’s business going forward. He said: “In the future, all advisory business will be written via platforms.” B2C services via platforms is also expected to increase post-RDR.
Despite the growing arena and brighter future anticipated for platforms, Hicks still contends it will be just two to three large platforms working with the IFA channel that will emerge, while on the consumer/direct side it is likely to be more crowded.
The barrier to entry for platforms is high and there have already been a number of players enter the market only to exit shortly thereafter, he noted. Some can survive if they remain small but scale is where the profits are and getting scale is extremely difficult.
Hicks said while many focus on the technology-enabling platforms, they forget the costs and work associated with operations management. For example, say a platform gets an income distribution from one of the many popular multi-billion pound funds, Hicks explained: “The platform then has to sort that for everyone – separating those who want the income re-invested and those who want the payment.
“That process alone is easier and cheaper for a platform to deal with if they have 20,000 clients than if they have 200,000,” he added.
Fund of funds and discretionary managers
Fund of funds are taking an increasingly large piece of business. A decade ago there were just a handful of well-known multi-managers in the UK retail market but since then that sector has undergone rapid growth.
As of the end of the third quarter 2009 there were 369 fund of funds, 290 of which are unfettered, now available to investors with combined funds under management of just under £40bn. This compares to five years previous, September 2004, when there were 194 fund of funds, 137 of which were unfettered, with assets of £13.8bn.
“Multi-manager is here to stay in a big way and I see it as a real growth area,” Clark said. With this kind of growth it is important for a group to have products in this area but he thinks the big winners in this space are likely to be those who have been doing it for quite some time.
Clark is not alone in that assertion. Ian Chimes, managing director at boutique Psigma Asset Management also sees continued growth in fund of funds but believes there will be greater distinction between products. Multi-manager will go the way of the Equity Income sector, getting bigger and yet more concentrated on the experienced, Chimes said. “Manufacturers will have to have a credible offering in this space with the lion share of assets going to 6-10 well-known veterans.”
Warren pointed out multi-manager offers a solution for those who cannot afford discretionary services. Groups will have to have some form of multi-asset solution and then it comes down to performance, he said. “We know from the Equity Income sector that the big money goes to just a few.”
There will always be some advisers who want to continue offering asset allocation services and pick the funds themselves, but with commissions disappearing they will have to look for cheaper ways to construct funds, Clark noted. Prices among fund of funds were once considered to be unfeasibly high, with double charging causing these vehicles to look too expensive with TERs around 3%-4%. Over time, the TERs of these products have come down to around 2% and Clark believes they will fall even further in the years ahead.
Consumers
Clark believes post-RDR more focus will be paid to consumers. There will be those who deem they cannot afford to pay for advice and will invest on their own. Services, platforms and marketing are all expected to expand back into this area in anticipation the direct consumer will once again be an important market.
Hicks said increased consumer focus will be one major change in a post-RDR world. While there are certainly services that already cater to the direct audience, over time this area has waned in favour of IFAs. Now it is likely to move back a bit with many offerings appealing to the direct market both via platforms and groups themselves. Stoakley also feels internet services will cater heavily to the direct market.
In light of renewed attention to the direct channel, brand will become even more important.
Banks may dominate the distribution channel in Europe but in the UK they are disregarded by many product providers. Banks have tended to be the bad guy in the UK distribution story, offering mediocre products to the direct market with high charges and no advice. With greater regulatory and pricing pressures, banks could well step up and take some of the business from the direct channel. Stoakley added that high street banks could increase their share of investment business as the IFA universe reduces.
Other
Private wealth managers are another channel of growing importance and since they are already on fee-based remuneration models, they will be less impacted by RDR. That is not to say changes are not already occurring in this market. Chimes pointed out five years ago there were just a couple of people within these groups needed to get fund approval. Teams screening funds are now larger in size and there is a greater level of specialism with some just focused on equity funds or commmodities, he noted. Research departments are getting bigger, although no unwieldy, and more institutional in their process. In order to get noticed and on the buy lists of these distributors, groups have to have a high-profile manager, good performance and process, he added.
What does this mean for product providers?
With such a changing landscape for distribution, what will it take for fund houses to survive? Chimes said boutiques and large groups with strong distribution will continue to thrive but those in the middle will face a difficult time.
With companies focusing more on product strength in order to get on the buy lists and attract investor attention, higher demand is expected to be placed on funds with high alpha. On the lower end, passive funds will have a role as well as advisers look to create cheaper portfolios and reduce costs for their clients. Unburdened by commission concerns, passive is likely to be attractive for advisers while their relative simplicity is expected to draw more direct consumers. Again, like groups, it is the products in the middle that will be under pressure.
Stoakley said: “Funds delivering closet index performance with ‘full fat’ active fees will come under pressure to either move to a higher alpha strategy to justify the fee, or to move passive/semi-passive and reduce fees. There will be significantly reduced demand for ‘core active’ funds unless they have proved to consistently add value, and they are considerably cheaper than they are currently.”
Both Stoakley and Chimes point out multi-asset strategies are here to stay and will grow in the near term. Multi-asset vehicles will be mainstream, replacing traditional old-style balanced managed funds as advisers look to de-risk portfolios by reducing volatility and increasingly offer packaged advice, Stoakley added.
