To centralise or segregate?

The structure of fund houses and wealth management groups, and the way they conduct their business, has never been more important. What we are seeing today is two conflicting camps battling to run the industry in their own image. On one hand, the large investment houses continue to implement the multi-boutique systems, where a group is constructed from a variety of different units, with different investment philosophies, using a shared operational platform. But on the other, the pressures of a crisis lead worried management to increasingly step into problematic areas in the group and impose a central control that runs contrary to the general management plan. “There’s a fierce battle between the so-called centralists and segregationists,” claims Amin Rajan, chief executive of Create-Research, who helped draw the industry’s attention to growing strength of the ‘Village of Boutiques’ vision in a seminal report issued five years ago. The multi-boutique model can be applied to 200 of the largest fund houses and wealth managers around the world and by mid-2008, calculates Professor Rajan, it had been implemented by 60 per cent of these. However, even before the current “financial tsunami,” the difference between the model on paper - with its attractive, multi-coloured presentations showing circles linked by arrows and dotted lines – and the stark reality was hitting those distributors being visited by self-promoting asset houses. The majority of these claiming to operate a multi-boutique business have failed to create an effective business model with clear operating leverage, believes Professor Rajan, the key problem being “dysfunctional tensions” created by the rules of engagement. While designed to boost creativity amongst investment professionals by giving them space to generate ideas, the danger is that many leading figures have become excessively individualistic, have refused to co-operate with other teams, have damaged morale and have had to be reigned in by top management, who have a lack of resources to effectively control their charges. An indication of failure Because there is a lack of direction at the top of the industry, management ends up becoming increasingly dictatorial because few board members have the experience to run decentralised business units, believes Professor Rajan. “Yes, they gave too much autonomy to people on the edges, but they also shied away from creating the necessary framework of accountability, as dictated by common sense,” he claims. “They preferred a quiet life in which they didn’t have to confront their investment professionals. Centralisation is an outward manifestation of their failure.” This will lead to a drain of talent from some groups when markets recover, he believes. But there are other firms, comprising about 15 per cent of the total, whose management had a global mindset and promoted genuine innovation and accountability. For these players, says Professor Rajan, “the model has secured clear bottom line benefits.” BNP Paribas Investment Partners, about to take-over Fortis Investments in a move which creates a E500bn plus funds house, is widely seen as being one of the groups which has implemented the model successfully. Its chief executive, Gilles Glicenstein suggests this is because the group has had much longer to implement the necessary culture changes. “Our multi-boutique model was created 10 years ago. But we recently decided to make it clearer to our clients by changing our name [from BNP Paribas Asset Management to BNP Paribas Investment Partners] and improving communication about the model,” says Mr Glicenstein. “We opted for a multi-specialist approach, as we don’t believe a big operation can succeed.” Such a model can neutralise risks, allowing the group to concentrate on those investment practices that work best, while costs are saved with a common operational platform, says Mr Glicenstein, adding that fund houses owned by Axa, SocGen, Allianz and Deutsche follow a similar approach. But his remarks mask some of the problems many groups have encountered in implementing such a rigid model. The challenge of integration “It has been a challenge for all those organisations who bought US managers and boutiques late in the game,” claims Jean-Baptise de Franssu, chief executive of Invesco’s Continental European business. “They are now thinking: ‘Here comes the storm, the integration work.’ With us, all the integration work is done. We are not looking at the consequence of the crisis saying that we need to integrate. We are looking at it saying: ‘What do our clients want?’” Mr de Franssu compares the situation to the last big crisis, the technology bubble of 2002/3, when his group, having absorbed eight acquisitions in six years, found itself bogged down with internal, organisational, rather than external, client-related issues. The multi-boutique structure was once experimented with at Invesco, but is no longer favoured, says Mr de Franssu. “Maybe one could say there was a time when we were a combination of boutiques,” he reveals. “Certainly today, we are a much more integrated organisation. Costs are saved through a large-scale integration process.” The quality of products is itself determined by the quality of people producing them, rather than the structure of the organisation, believes Mr de Franssu. His worry is that the multi-boutique system can lead to a lack of control from the centre and damage to the brand, if people are allowed to plough their own field without regard to the consequences. One fashion of recent years, often highlighted by boutique and multi-boutique operations, has been the promotion of the star culture among fund managers. While the star culture has been exposed by problems at some investment houses, including New Star, the notion of naming investment managers to attract money from distributors and retail investors still has its advocates. “The business has become more qualitative. If you are not in the first quartile or the first decile, then you have no chance with distributors,” believes Jean-Francois Pinçon, head of global distribution at Crédit Agricole Asset Management in Paris. “But it is also more people based rather than process driven; clients want to trust a fund management team. The person who is in control of investment management is more important than ever.” The brand of a fund house is still important in the minds of distributors, but not as important as it once was, claims Mr Pinçon. “Distributors we work with include our product in a solution for private bankers, they don’t sell it off the shelf. At the end of the day, that business is 50 per cent performance and 50 per cent relationships.” Putting each lead manager forward to distributors fits into the multi-boutique structure, says Mr Pinçon. At CAAM, much of the organisation’s success has been down to assets gained by Bruno Crastes, who runs a semi-autonomous London-headquartered bonds operation, based on specialist risk management techniques. Although the supremely confident Mr Crastes needed little encouragement, CAAM has been happy for him to be their face of fixed income management when clients need convincing. “Bruno does not run a separate organisation,” says Mr Pinçon, who at the same time acknowledges the success of pushing this star player into the limelight. “He is benefiting from the CAAM group’s functions in terms of legal, risk, finance and accounting, but it is important to respect that he has a certain independence in terms of investment management,” he adds. No room for the STARs But the notion of star managers – and measurement of individual professionals by their performance as a tool for distributors and selectors – is one rejected by Phil Barker, head of European distribution at Edinburgh, UK-based asset management house Standard Life Investments. Because SLI, which runs more than £120bn (E133bn), is a late starter in European distribution, it is not encountering the outflows which have hit its much larger rivals. It is believed to have added new assets of around £1bn from European distributors in 2008, to make a total of £5bn, and is recruiting new staff in Continental Europe. Its strengths are corporate bonds and real estate funds. “We are looking at pan-European distribution groups such as UBS and Credit Suisse,” confirms Mr Barker, who looks to expand the contacts he has with private banking arms in London across the rest of Europe. “There are very robust screening processes at these organisations. The big distributors are looking for strong, repeatable fund processes, not star managers. They want big groups rather than boutiques, groups that can offer good client service.” The death of the star manager culture has been seen not only in selection units of the larger European banks, but also the smaller fund of fund managers, he adds, with a new emphasis on risk management, and how it fits into the investment process. “Maybe in the past, when performance in the main was positive, star fund managers …had the edge. But now it’s back to basics in terms of process and fund structure and what distributors and managers hope to achieve.” Although there have been vast organisational changes at Pictet in Geneva, one of Switzerland’s fastest growing private banks – with the new business model favouring expansion of asset management activities for external distributors, rather than discretionary wealth supervision – there is currently no question of the bank giving up its partnership structure, which involves significant levels of central control. “Pictet is still a partnership and that is the key of everything we do,” says Rémy Best, the bank’s partner responsible for fund activities. His Pictet funds division runs E45bn today, compared to E5bn ten years ago. Less than half is managed for internal clients, once the key target audience of all Pictet products. Quality of service While private banking is a more stable business, Mr Best knows it is asset management which will provide the high growth his demanding co-partners require, although he plays down internal targets, saying quality of service rather than growth is the key business objective. But efficiency drives mean that when funds fall below SFr100m (E67m) in value, they are typically closed or merged. A centralised team is dedicated to this on-going product management and development. The object is to anticipate needs of the market, and to close down some funds, such as the recent shut-down of a Continental European equities product, which there is no longer any interest in. Getting the business structure correct has become a pre-occupation at some of Europe’s largest banks, where losses in investment banking have led to withdrawals on the wealth management side amidst a loss of confidence among clients. But it is not correct to always blame the enemy within. Speaking at the recent FT Private Banking Summit in Geneva, UBS Group board member and head of wealth management for North, East and Central Europe, Juerg Zeltner, admitted the industry has disappointed its key private client customer base. “Even some of the advice we have given – and then the way that advice was transformed into products – has been disappointing,” confirmed Mr Zeltner, whose global wealth management and business banking arm supervises assets worth SFr1,932bn (£1,304bn). Ineffective hedging of structured product risk was identified as a particular, industry-wide problem. “I think we have over-promised and under-delivered, and if we are quite honest, we have done that also because it was very attractive to us,” said Mr Zeltner, speaking from a broad, industry standpoint. Mr Zeltner expects a new business model to emerge, involving much greater interaction between clients and advisers. But the cost of this means wealth managers will have to get used to earning much lower gross margins. UBS is advocating a re-balancing of currently un-optimised portfolios and a rigorous re-think of asset allocations. “Eventually, we need to have more than one asset allocation,” he suggested. “We should allow the client to pick: ‘Do I want to be globally diversified? Do I want a strong home bias? Do I want a core module that is indexed and a satellite module that will go and generate alpha?’ These changes will happen as the group moves away from its famous one-bank, integrated structure, with private banking services, for Europe in particular (as the bank has suffered problems in expanding its US business) now at the crux of its offering. “Basically we were forced to reposition the bank,” Mr Zeltner told the conference. “UBS will no longer be the UBS that we thought it would be. You will see further deleveraging, you will see the investment bank further going back, you will see that our balance sheet will be cut…..it will be a much smaller bank, and at the core of it you will see much more of a wealth management firm than ever. “We will still need investment banking services….because the clients ask for it, and yes, we will still need global asset management services, to serve our private clients. But at the cornerstone or at the heart of UBS you will find one of the largest and hopefully leading wealth management firms on the planet,” he explained. Managerial shortfalls Professor Rajan of Create-Research confirms that recent events have raised questions over the integrated model, linking capital markets, asset management and private banking within larger organisations. “The one-bank structure is necessarily complex,” he says. “It requires exceptionally good managers to run it. Most of the large finance power houses are run by people who have been promoted on the basis of their ‘craft’ skills. Few of them have had experience in managing people and technical resources.” As a result, believes Professor Rajan, “such houses are full of bullet proof barons who runs their part of the business like distinct tribes that thrive on Machiavellian politics.” While he believes these barons cannot be given free reign, over-centralisation will bring its own problems, leading to a clamour for more flexible structures, with the solution lying in a more federal approach, with each unit having its own profit & loss responsibilities. “I can see many banks and insurance companies going down this route once the crisis is over,” concludes Professor Rajan. As far as wealth and asset management are concerned, the multi-specialist approach is the only way that large organisations can succeed, claims the Professor, although he has his doubters. “In my view, the multi-boutique model is the most appropriate one for large houses, where, by their very nature, bureaucracy has long proved a kiss of death for talented individuals as well as alpha generation,” he says. “Today, most large houses lack creativity, innovation, dynamism and speed to capitalise on opportunity sets that evolve and vanish at even faster speed.” But making the new system work is the hardest part. And that is down to human endeavour and ingenuity, rather than some secret magic quality inherent to the model.

Juerg Zeltner