Autumn 2013

INSIDE VIEW: Exclusive club

Smoking manHighly concentrated sales rapidly inflate the assets of a few funds, causing capacity issues and concentration risks. Jag Alexeyev at Strategic Insight says this could cause significant shifts in investment cycles in the not too distant future.

Investor contributions into funds in Asia have accelerated meaningfully in recent months; indeed, they have grown to record levels in Hong Kong.  

While the recent bond rout dented the momentum in June, the trend has been strongly up, and could continue as markets normalise.  

While this is good news for the industry, distributors and investors continue to rely on a few selected products and managers, resulting in highly concentrated fund flows. Assets have grown so rapidly that some funds have reached capacity.  

There has been seemingly insatiable demand for high income, multi-asset, and Asian equity strategies. The challenge of managing investment capacity and concentration risk is becoming more acute, though.

This has been most noticeable in Hong Kong, were gross retail sales of funds ran at $20 billion both in the first and second quarter, and net flows totalled $6 billion this year, according to the Hong Kong Investment Fund Association.  

One locally domiciled fund, the Schroders Asia Asset Income, accounted for 45% of total retail flows in the first quarter, but closed to new subscriptions at the end of MarchSimilarly, in April, JP Morgan’s Luxembourg domiciled (JF) Asia Pacific Income fund – another multi-asset vehicle – soft-closed after surpassing $5 billion in assets.

Net flows during the first quarter exceeded $3 billion, with one-quarter of this going into the Hong Kong dollar-denominated share classes.

But after these funds closed, flows surged into similar funds in the second quarter, including JPM Multi Income, and Schroder ISF Global Multi-Income, each of which captured almost $2 billion in the second quarter.

The acceleration in sales in Hong Kong, along with growth in other core markets such as Taiwan and Singapore, benefited both local funds and selected cross-border Ucits flagship funds, many of which absorbed remarkable flows during the first quarter.  

Franklin Templeton’s Global Total Return and Global Bond funds together captured $14 billion in the first half from all sources worldwide. Pimco’s top three cross-border funds together collected $12 billion of net inflows in the first half worldwide.

Last year, AllianceBernstein gathered more than $17 billion into its American Income and Global High Yield portfolios, driven heavily by purchases in Hong Kong and Taiwan.  

The universe of cross-border, international funds with registrations in at least one key Asian market together collected more than $95 billion of net inflows during the first half of this year from investors around the world, with fund buyers in Asia contributing a portion.  

Yet the top 100 funds captured $120 billion, since many funds were in net redemptions.

Such concentration has increased in recent years as distributors around the world have taken steps to build strategic partnerships with a smaller number of preferred asset managers.

In Hong Kong, select lists remain narrow; HSBC, for instance, features on its current select list funds from just nine third-party managers.  

One manager has ten funds on HSBC’s select list; two other managers have at least five products on the list.  

And a large number of managers have none.  

The preferred partners have not changed much over the years, making it difficult for other investment managers to gain traction in the region.  

Highly concentrated sales rapidly inflate the assets of a few funds, causing capacity issues and concentration risks, and potentially significant shifts in investment cycles in the not too distant future.

Some distributors and asset managers now are looking for substitutes and alternatives. The growing visibility and appeal of certain high conviction boutiques has been tempting.

However, the structure of bank-dominated distribution in Asia, entrenched sales practices, and limited development of high-quality advisory and discretionary solutions in the region, suggest that the status quo may not change quickly.  

Distributors remain reliant on a few managers that can provide world-class service locally, organisational stability, investment continuity and brand name recognition to facilitate sales.

In addition, large global managers with a broad fund range can more easily support product transitions without the cost of having to re-establish provider relationships.

The industry in the meantime continues to recover, laying a foundation for potentially broader and deeper engagements with investors over time.  

Locally domiciled long-term funds in Hong Kong, Taiwan and Singapore captured $10 billion of net flows in the first quarter, which was almost half of the total captured last year.  

Meanwhile, cross-border funds last year collected around $24 billion from investors in Hong Kong, Taiwan and Singapore – slightly lower than in 2009 and 2010, but significantly higher than in 2011 when inflows were only $3 billion.

The importance of local funds in core Asian markets has grown lately, changing the equation for investment managers and operational models for the region.  

It is still possible to make progress through an offshore-only strategy, but the opportunities missed without local funds are growing.  

For instance, the proposed mutual recognition platform for public funds domiciled in Hong Kong and China could not only help strengthen Hong Kong’s ambition as an international asset management centre, but also offer further opportunities and challenges to both international and local managers.          

Other transformations have influenced outcomes for managers, notably the shift to bond and income funds.  

Before the financial crisis, bond funds accounted for less than 10% of sales in Hong Kong, but their share rose to 70% last year.  

This declined to less than half of the business in the first half of this year, with the spike in sales of multi-asset income products and modest renewal of equity demand.  

Further developments are slowly reshaping the business in Asia. For example, the rising appeal of private banking channels for many asset managers, a change which over time will influence product and distribution strategy.  

And while the industry has so far escaped the enormous transition to a fees-for-advice model that is currently reshaping distribution in the UK and Europe, many executives in Asia are monitoring developments in case similar forces arise over time in the East.  

After all, just ten years ago, most European investment professionals did not believe it could ever happen to their business.

Jag Alexeyev is a senior managing director and head of global research at Strategic Insight

©2013 funds global asia

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