Buzzing into the UK’s institutional honey pot

By Ian Fraser

The Fund Business

March 3rd, 2008

IT is ten years since Roger Urwin, global head of the investment consulting at Watson Wyatt (pictured left), galvanised UK pension funds into re-examining how they allocate and manage their investment portfolios.

In a seminal article published by the Financial Times on 14 February 1998, Urwin hit out at UK trustees’ allegiance to balanced mandates and warned that their obsession with buying “brand name” managers was leading to poor performance.

“The world changed after that article,” says Martin Harris, managing director of UK institutional business at Fidelity Investments in London, but who was with Gartmore Investment Management at the time. “The story was published soon after the CAPS numbers for 1997, which revealed that on a three-year basis the ‘chosen five’ had all delivered fourth-quartile performance.”

Until then, five UK-based fund management houses – Gartmore, Mercury (now Merrill Lynch Investment Managers), Morgan Grenfell Asset Management (now Aberdeen Asset Management), Phillips & Drew (now UBS) and Schroders – had had a virtual stranglehold of the institutional market in the UK.

However Urwin’s article opened trustees and consultants’ eyes to the fact that routinely putting 85% to 90% of pension portfolios into UK equities and sticking to well-known names was a recipe for mediocre investment performance. Suddenly the idea of chasing alpha by breaking down institutional portfolios into specialist mandates became acceptable.

“Exotic” asset classes previously not even on trustees’ radar screens – including global equities, global emerging markets, hedge funds, private equity, bond derivatives, commodities, infrastructure, property and hedge funds – gradually become more mainstream.

Increased institutional demand for these asset classes was underpinned by two wider shifts: out of UK equities and into overseas equities, and a more general shift out of equities and into bonds. “The bursting of the equity bubble and the bear market of 2000-03 reinforced that,” says Richard Owen, business development director at State Street Global Advisers.

A key consequence of all this was that the UK’s £900bn pension fund market suddenly became accessible to non-UK-based asset management groups. Those that made the biggest initial impact were those that had developed strong skills in managing recherché asset classes such as global equities in their home markets, where specialization was already the norm.

For example MFS, Capital International and Wellington Management capitalised on their investment skills in what is described as the “darling sector” of global equities. Other US players such as William Blair and Turner followed hard on their heels. Trustees and consultants like these managers because of their strong in-house research capacities and their focus on research process rather than on star managers.

A clutch of specialist fund managers owned by European banks and insurers such as UBS, Unicredito, Axa and Allianz – some of which are also US-based – have also been able to hoover up some of the juicier specialist mandates from UK pension funds.

The flipside has been that, perhaps because they had it too easy for too long, traditional long-only investment players have suffered consistent investment outflows in recent years. With their core skills increasingly commoditised, and UK equities a dwindling asset class, some are reinventing themselves, while others are facing an uncertain future.

So what is the best way for an overseas fund manager to crack the UK’s institutional market? What must they do to win over the gatekeepers of the industry – investment consultants such as Mercer, Watson Wyatt, Aon, Hewitt and Hymans Robertson?

The quickest way to build a presence is to buy an existing investment player. This was the approach taken by Merrill Lynch Investment Management, which paid £3.1bn for Mercury Asset Management – the then market leader in institutional investment – in 1997. Other examples include UBS’s acquisition of Phillips & Drew, Franklin’s acquisition of Templeton, First State’s acquisition of Stewart Ivory and Mellon’s acquisitions of Newton and Walter Scott & Partners.

This route is arguably less attractive now given the dearth of quality players on the market. However F&C, which has £103bn under management and is one of the top ten institutional managers in Europe, may be of appeal and was recently put on the market by majority owner Friends Provident.

The second route, more popular in recent years because of a lack of decent managers to buy, is to establish a greenfield presence in London. This is clearly a slower-burn option than growth by acquisition but has the advantage of enabling culture and investment style to be established from the outset.

The third option is to try and address the market UK remotely, relying on overseas-based investment staff and occasionally flying in the head of international institutional sales from Boston or Frankfurt. Except in very specific market niches, this option is described as a non-starter by most industry insiders and consultants.

Ronnie Bowie, senior partner at Hymans Robertson, warns managers considering this route they risk alienating trustees and potential clients because of lack of awareness of legal and regulatory differences. He gives the example of one US player that tried to impose terms that were unacceptable to a UK client. “It queered their pitch as far as further referrals were concerned.”

SSgA’s Owen believes that having a properly staffed London office is essential. “Consultants will be looking for that sort of commitment before they can recommend a manager,” he says. “They’ll want evidence that the manager is investing in people, systems and the right products for the UK market. It probably helps to hire somebody who has been immersed in this market for some time.”

“At the end of the day, performance is the most visible indicator of success but the consultants also need to be convinced that you are capable of continuing to deliver in the future. If you can do all that, whether you’re based in the UK or overseas doesn’t really matter.” SSgA today manages £184bn for UK based institutional clients of which £12bn is in active equities.

Roger Miners, head of institutional business development at RCM, part of Germany’s Allianz, says: “Not being English isn’t problem – but having an understanding of the UK market is absolutely crucial. For example someone from a non-consultant driven market would probably struggle here.”

Investment consultants unanimously agree. “We’re looking for a general commitment to the UK market,” says Andy Barber, global head of manager research at Mercer Investment Consulting. “However, I don’t think it matters where the investment factory is.”

However, Marcus Whitehead, a partner at investment consultants Barnett Waddingham, believes that having at least some UK-based investment staff is critical. “For our client base, that definitely matters.”

But are there still gaps in the market, and if so where are they? Whitehead says: “The market is fairly well-covered. However there’s always going to be room for quality managers who speak the trustees’ language instead of stringing them along with marketing-speak.” Barber says emerging markets with faster growth in GDP and savings may now be a more attractive proposition to overseas asset management groups.

However there are still plenty of opportunities to win business in the UK institutional market even if it is becoming more mature and crowded. If the numbers of manager searches last year are anything to do go by, the hotspots continue to be global equities, UK fixed income, property, global TAA and funds of hedge funds.

And according to a recent report from Lehman Brothers the biggest future growth is going to come from liability-driven investment and continued diversification into alternative asset classes, particularly infrastructure and environmental funds, all at the expense of equities. What a difference a decade makes.

Case study: MFS shows the way

When Boston-based MFS started pounding London’s pavements in search of mandates seven years ago, it initially had to endure a certain amount of mockery. “We were constantly being asked if Corian was better than granite for kitchen worktops and whether we’d throw in some kitchen advice for free,” says Anne Healy, managing director UK and Ireland at MFS. MFI is a well-known supplier of fitted kitchens in the UK, while MFS was at the time an unknown quantity. Even though it had had an investment presence in London since 1998 it didn’t start actively targeting UK institutional clients until 2001.

Asked how the Boston-based manager got established in the UK Healy, who joined from Schroders in 2005, says: “You have to put in resource to make it work. Understanding local culture is essential. You can’t expect just to replicate what you do in Boston or New York.”

However what also clinched it for UK institutional clients was MFS’s track record in global equities, which had fortuitously become “the darling product,” according to Healey. The international footprint of most investment consultants helped. They were already very familiar with MFS’s investment offering in the US, so it wasn’t too much of a leap for them to recommend it to UK-based clients as well.

Today MFS’s office next to St Paul’s Cathedral employs 52 people of whom 17 are investors. Between them they manage £7.5 billion for UK institutional clients.

Ronnie Bowie of investment consultants Hymans Robertson says he is impressed by the way in which MFS has managed its growth. “One of the main things we want to know is, if the UK business grows, how they are going to cope with that?” He says the fact that like Baillie Gifford, MFS is prepared to periodically close certain asset classes to new business demonstrates it is more committed to existing clients than to growth at any cost.

Key Success Factors

• Demonstrate commitment by investing in a properly staffed UK office
• Target the investment consultants
• Raise profile for example by offering free training to pension fund trustees

This article was first published in The Fund Business, formerly Portfolio International

Short URL: https://www.ianfraser.org/?p=553

Posted by Ian Fraser on Mar 3 2008. Filed under Article Library, Latest Articles. You can follow any responses to this entry through the RSS 2.0. You can leave a response or trackback to this entry