Industry professionals are warning that the impact of the retail distribution review (RDR) on suitability and consolidation are causing discretionary managers to all buy the same funds.
Pointing to the growth of adviser outsourcing and model portfolio services, JOHCM UK Equity Income manager Clive Beagles (pictured) is the latest to publicly express his concerns that the RDR will enable large funds to dominate their sectors even more. He attributes this to increased commonality between model portfolios run by wealth managers and IFAs due to more stringent due diligence processes.
‘The largest four to five funds have dominated each individual sub-sector and the RDR accelerates that,’ he said, adding that in Asia Pacific equities, the top three houses run around 70% of the assets. ‘Model portfolios created by wealth managers and IFAs have all got the same bloody funds. I think it is quite dangerous,’ said Beagles, who has soft-closed his own fund.
Another boutique managing director echoes Beagles’ concerns. He says consolidation and the merging of buy lists means larger minimum sizes for underlying funds, which will polarise fund management further. This could mean that getting on the buy list for a large wealth manager could make or break a business.
Fund of funds gain advantage over DFMs?He estimates minimum fund sizes for private client managers range from £50 million to £150 million, while private banks can have a minimum of up to £300 million. This could kill off innovation and the potential for new launches to get off the ground. More nimble fund of funds managers could gain an advantage as they can access these launches and smaller alpha-generating managers at an earlier stage, he says.
His view is not entirely shared by a fund of funds manager, however, who not only highlights the potential risks, and the importance of due diligence when looking at small funds, but also the fact that some fund of fund managers can be short-termist, which creates difficulties for the underlying fund managers.
The manager says the best solution is for more nimble fund of funds managers to take a longer-term view as they have institutional backing. Nonetheless, he is concerned private client houses have followed each other in centralising their research processes and complying with requirements to not own too much of a fund.
He sees this as a response to regulatory pressure to demonstrate a robust process, but points out that if an investment decision goes wrong it will prove difficult to get out of a fund, as other discretionary managers will be looking to sell at the same time.
If private client houses are drawn to larger funds, he expects this to have ramifications for the broader industry and to increase the perceived business risk of investing with smaller firms, which in itself could lead to consolidation.
‘If you have had good performance and have got scale, you can get pricing power and can charge premium fees and consolidate your position. This means you can afford some underperformance and you are fortunate because you have got control of the market, but where does that leave the rest of the market?’
He expects small and mid-tier businesses to then seek to attract assets by competing on pricing, which could mean lower quality margins and revenues, and could lessen their chances of survival over the longer term.