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Five reasons why buying wealth firms may be too consensual
by Robert St George on Apr 15, 2014 at 10:48
Has buying stock in the listed wealth managers become too crowded a trade?
The wealth-management fan club is becoming decidedly cosy. Prominent recent members include Citywire AAA-rated Tim Steer at Artemis, Fidelity’s AA-rated Alex Wright and BlackRock’s + rated Richard Plackett – all three now hold Brewin Dolphin.
The bull case is familiar but was nevertheless bolstered for many by George Osborne last month. ‘The Budget is positive for wealth managers as it encourages saving and means pensioners will need more help managing their assets in retirement,’ said Wright.
‘We had been positive on the space as industry dynamics are improving thanks to consolidation and IFAs leaving the sector and regulation which pushed up fixed costs for the industry, giving a further advantage to larger wealth managers.’
With Brewin in particular, Wright highlighted the potential boost from ‘internal change as a new management team focus on cutting costs and raising margins closer to those of peers’.
Plackett’s colleague Mike Prentis likes wealth managers too, owning Rathbones and Charles Stanley and adding Brewin this year.
‘We thought it was the right time to get back into Brewin Dolphin,’ Prentis (pictured) explained. ‘It recently changed its management team and we were very impressed by the meeting we had with the relatively new management. We see it as a very steady business that gradually adds on more assets and doesn’t lose assets very often. The most usual way it loses assets is when clients die. The money is much more sticky than in a traditional fund manager where you can go through a period of underperformance and money flows out.’
Steer snapped up some Brewin shares immediately after the Budget, observing that the firm also scores full marks on his screening tool, having spied an opportunity when its shares remained flat even as Hargreaves Lansdown – supposedly a beneficiary of the same secular growth trends – shot up 14.5%.
Such a chorus of approval should necessarily send any contrarian fleeing, but there are broader reasons to fear that wealth-management stocks are not a one-way bet on higher savings rates and a consolidating market for investment advice.
Hargreaves Lansdown wants to eat your lunch
Hargreaves Lansdown is no more a simple execution-only broker than Amazon is a mail-order book seller. For all the professional snobbery about its fund selection and fee transparency, Hargreaves Lansdown is phenomenally popular among private investors. And its portfolio management service is now massively undercutting other discretionary managers, with total charges typically coming in below 50 basis points.
Toby Gibb, investment director at Fidelity, argues that the threat is still only incipient. First, he observes that more than 90% of Hargreaves Lansdown clients hold less than £250,000 through the platform – a very different profile from those clients sought by wealth managers. ‘The people who use it are generally quite comfortable managing their own portfolios,’ Gibb commented; those who don’t have the time, inclination or knowledge to do so will still rely on wealth managers. And in this segment, Gibb believes, ‘people are prepared to pay up for what they perceive as a good service’.
Gibb recognises the long-term risk from today’s younger and smaller investors beginning with and sticking with Hargreaves Lansdown, but feels that ‘that is some way off’ being an issue.
And the banks are sharpening their knives too
At the same time as Hargreaves Lansdown marches on, the banks that were supposed to have abandoned the investment advice market are slowly appreciating the attractions of such domestic businesses as they step back from international investment banking.
RBS chief executive Ross McEwan (pictured) has highlighted Coutts as a key driver of growth for his group, and specifically plans to tie Coutts more closely to its business banking division.
‘As well as deepening relationships with existing customers, we want to do more to connect our wealth managers with the wealth creators, who own and run the businesses as well as connecting them to our retail banking offers,’ McEwan has said. ‘We may be big, but we are actually not the best in the marketplace at doing this business.’
If RBS can improve on this front, competitors will have to confront a fearsome proposition that combines the country’s second largest wealth manager by client numbers with its dominant bank for small and medium-sized enterprises.
Barclays meanwhile has stated its commitment to becoming ‘the go-to provider of wealth and investment management advice’ as it attempts to revive the lossmaking arm and rebuild around a ‘lighter touch’ service.
While the wealth managers are cutting each other’s throats too
As the battle between Brewin and Charles Stanley in the High Court emphasises, for any wealth managers who weren’t already aware, the industry’s recruitment market is particularly vibrant at the moment.
Investec’s chief executive Stephen Koseff (pictured) has acknowledged this publicly, a move unlikely to dampen wage inflation, as he accepts. ‘We are selectively recruiting investment professionals to try to capture flows,’ he has said. ‘There is a cost attached to that, but that is something we believe is strategically important for us as we continue to build a very strong organisation and a strong brand.’
Investec has been busily hiring in Scotland, for example, poaching nine from Deutsche and Barclays; but it has lost too, with three defecting from its Guildford office to join Rathbones.
This is reflected in escalating employment bills at the wealth managers. Brewin’s fixed staff cost rose by 7% to £105.3 million in 2013, and its variable staff costs by 26% to £43.7 million – with the company citing staff retention as a driver of that alongside performance-related payouts. At Rathbones fixed staff costs jumped by 10% in 2013 to £39.8 million, hiked by recruitment for new Newcastle and Lymington offices.
At the same time, insurgents are attacking the incumbents with vigour from all sides: players like Nutmeg are chasing lower net worth clients, while firms such as Vestra are rapidly building their resources to take more business at the wealthier end of the spectrum.
The cash challenge
One potential negative from the Budget was the overhaul of the ISA rules, with savers now allowed to stash their entire £15,000 in cash rather than being compelled to invest if they wished to take advantage of their full tax-free allowance.
Despite industry invective against the erosion of wealth from record low interest rates, there is a mass preference for cash ISAs. In the 2012-13 tax year, £40 billion was ploughed into cash ISAs compared with less than £20 billion for stocks and shares ISAs. An allocation to cash is not entirely without merit, of course, but behavioural finance would suggest that most people take the path of least resistance – and with ISAs that means cash. It should not be presumed that a broader savings culture will automatically translate into a more vibrant investment market.
Gibb doubts that any such switch to cash will move the dial too far for wealth managers, though. ‘It is a relatively small part of a portfolio, and I do not think it will have a huge impact on these businesses.’
More broadly, there is also the danger that once auto-enrolment is fully rolled out savers will become more complacent about their long-term wealth planning and will therefore not turn to wealth managers.
But set against this Gibb points to annuities reform as a ‘big positive’ for wealth managers insofar as it prompts more people into income drawdown. ‘They’re going to look for someone to manage that. While wealth managers won’t pick up all of that, it is an incremental positive that was not there before.’
The great FCA unknown
The Financial Conduct Authority (FCA) caught the industry by surprise in its latest annual review, unexpectedly launching a probe into how wealth managers use in-house funds. ‘We will assess how wealth managers and private banks effectively control the conflicts of interest that arise when client assets are invested in in-house investments,’ the regulator announced.
This is admittedly unlikely to affect the listed wealth managers to a great degree. Chris Macdonald, chief executive officer of Brooks Macdonald, told Wealth Manager that it was ‘not a major issue’.
Yet it does follow the FCA’s appointment of ex-Kleinwort Benson boss Robert Taylor (pictured) as head of its newly created wealth management and private banking supervision division, signalling the authority’s interest in the area – emphasised by the recent referral of an unnamed wealth manager to its enforcement and financial crime division.
Gibb suspects that a tougher regulatory environment will in fact strengthen the major wealth managers. ‘Their competitive position is becoming more positive. There is a greater regulatory burden, and that favours larger players versus smaller players because it creates barriers to entry.’
He adds that with advisers leaving the market, and those who remain nudged to outsource investment by the increased scrutiny, there will be more money for wealth managers to collect.
As to risks such as potential mis-selling scandals, Gibb remarks that the listed wealth managers ‘do have well qualified people working there’.
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Look up the shares
- Brewin Dolphin Holdings PLC (BRW.L)
- Rathbone Brothers PLC (RAT.L)
- Brooks Macdonald Group PLC (BRK.L)
- Charles Stanley Group PLC (CAY.L)
- Hargreaves Lansdown PLC (HRGV.L)