The industry is emerging from a five-year lull precipitated by the 2008 global financial crisis. In recent years, advisors and firms have pursued sweeping market and regulatory reforms in response to unabated pressures from elevated dry powder; a mixed fundraising environment; a low-yield environment; compressed earnings; and heightened regulation. The deep structural shifts taking place are leading to new operating structures capable of potentially restoring investor confidence and expanding market share of retail and institutional assets.
Advisors and firms are moving forward with strategies specific to the needs of investors in their asset class. Within the mutual fund sector, efforts are underway to diversify into non-traditional products, thereby offering investors greater access to higher-yield alternative asset classes. Funds of funds and hybrid funds are meeting a number of investor needs for tailored solutions while more specialized instruments-master limited partnerships and business development companies-are building market share.
Advisors and firms in 2013 are broadly focused on six strategies to further restore investor confidence and attract assets to the industry.
Managing regulatory risk. Sweeping regulatory changes have rocked the industry, prompting reform measures that impose greater costs and infrastructure demands. The continued push for cooperation among global regulators is likely to impose additional regulatory and compliance costs.
Regulatory requirements are enhancing governance, risk management and operational transparency within the industry. These developments are expected to go far in convincing institutional and individual investors to make industry products key to their asset allocation strategies going forward. Furthermore, fundamental changes to operating models are preparing the maturing asset management industry for sustainable, long-term performance.
Adjusting pay practices to risk. The days of outsized compensation packages for top managers may be behind us for reasons that go beyond the economy. General partners are getting less remuneration in negotiated deals from limited partners, in turn reducing compensation levels down the staffing chain. In addition, a regulatory crackdown on excessive executive compensation practices is underway, and say-on-pay rules are giving stakeholders sentinel rights over compensation packages. To incent risk-appropriate actions, compensation packages increasingly include deferred compensation and clawback provisions. As advisors and firms expand globally, being able to adjust pay practices to risk becomes more important.
Adapting divergent strategies. Advisors and firms are adapting in their own way to introduce or emphasize alternative asset classes, structures and strategies. Smaller specialists are demonstrating unique expertise and value-added performance improvement techniques, thereby winning investors over to funds that in prior years may not have gotten a second look. Some larger firms are moving to offer a wide spectrum of asset classes attractive to a broad investor base. Other firms are moving away from a variety of asset categories in order to specialize in real estate, distressed assets or specific geographic regions.
Combining converging structures. A small number of registered hedge funds are converting to mutual funds to seek public equity from investors generally attracted to conventional mutual funds. Simultaneously, some mutual funds are adding alternative investment options to their portfolio offerings. As convergence plays out, competition will build and consolidation may occur as funds seek economies of scale.
Capturing emerging growth opportunities. The global economy expanded slowly during the past three years, reducing investment opportunities in international markets. The bright spot continues to be emerging markets, where organic growth outpaces that of developed economies. Emerging markets such as Brazil and Asia continue to capture a larger proportion of new global investment. Even many of the smallest asset management firms are being drawn to these markets for potentially higher returns tied to faster growing economies.
Simplifying investments. Complex asset strategies predicated on program trading or derivatives have lost much of their appeal; the more complicated and opaque the strategy, the less interested investors have become. Many investors lost money and confidence with asset advisors. Managing risks-counterparty, liquidity and systemic risks-is critical to minimizing losses and enhancing investor confidence in the industry. Simple investment strategies that take advantage of the correlation of client segmentation and asset classes are closely tied to future growth. As the industry adjusts to risk and economic conditions improve, more retail, retirement and institutional money is expected to stream in from the sidelines.
Ongoing reforms are positioning the industry to build on specific niche markets, fixed income, emerging markets, hybrid assets and alternative investment strategies. The mix of asset class and industry-level strategies are beginning to mainstream alternative investments, further securing a place for these instruments in the asset allocation strategies of a broad client base.
Michael Patanella is the National Asset Management Industry Leader at Grant Thornton.