The investment fund industry: latest trends in a dynamic market
Mathieu Maurier, Country Manager for Societe Generale Securities Services (SGSS) in Luxembourg, looks at a number of issues currently facing asset management: UCITS, KIID, AIFMD, Capital Markets Union, RAIF, Pan-European Pension Product, ESG, digitalisation…
UCITS is still unassailable
Few fund structures are held in such high esteem as UCITS, a product which helped augment Luxembourg’s position as a leading European fund domicile and is widely purchased by retail and institutional investors worldwide. Harmonisation allowed UCITS to flourish within the EU while its strong reputation for transparency and investor protection enabled it to succeed on the global stage, acquiring a loyal following in Asia-Pacific and Latin America, turning the brand into a EUR 10 trillion plus industry.
Unlike other products which have struggled to stay competitive, UCITS has effortlessly evolved in line with market and consumer trends and expectations over the last 30 years. Following growing investor demand for greater portfolio diversification, regulators responded with UCITS III expanding the list of eligible assets managers could trade allowing firms to use derivatives, leverage and synthetic short positions.
Meanwhile, post-crisis versions of UCITS onboarded investor concerns about the asset management industry by imposing new protective and transparency measures, namely reporting requirements in the form of the KIID (Key Investor Information Document) and demanding that fund houses appoint a depositary subject to strict liability for any loss of assets or financial instruments, bringing the rules into line with the AIFMD (Alternative Investment Fund Managers Directive).
Remaining a leader
UCITS, however, is not indefatigable and faces a number of challenges, including the threat of rival passporting schemes emerging in Asia-Pacific and increased competition from low cost index tracking funds. The framers of UCITS (and AIFMD) have also been criticised – despite repeated standardisation efforts – for failing to prevent member state regulators from imposing additional requirements and surcharges on managers seeking authorisation.
Asset managers at the ALFI Global Distribution Conference in Luxembourg, last September 25 and 26 said gold-plating in individual markets was an impediment to cross-border distribution as it led to higher costs and heightened workloads evidenced by data showing that only one third of UCITS are registered for marketing in more than three EU countries. Regulators have listened to the complaints and are making meaningful changes through the Capital Markets Union (CMU).
A proposal from the European Commission in the context of CMU should homogenise member state marketing requirements, introduce consistency into how national competent authority’s fees are calculated, and scrap the requirement that managers be obliged to appoint local agents. By streamlining the UCITS registration process, EU regulators hope to make it easier for managers to attract more capital from the cash-heavy retail market in Europe, whose savings are suffering because of the low rates.
Leading the way with new products
EU product innovation is not exclusive to simply UCITS and AIFs. Luxembourg has enjoyed spectacular success with the launch of its RAIF (Reserved alternative investment funds) and it is a product which Societe Generale is putting a lot of its focus on. RAIFs are a blend of SIFs and SICARs but qualify as AIFs allowing nearly any asset management strategy to be wrapped inside it.
RAIFs do not require CSSF (Commission de Surveillance du Secteur Financier) authorisation although this lack of supervision is offset by indirect oversight by the AIFM, depositary and auditor, an arrangement that provides comfort to clients. The flexible structure has facilitated growth with EY calculating 200 RAIFs have been launched since 2016, while ALFI estimates the new product accounts for approximately 5% of all AIFs by regulatory regime[6).
PEPP: A product in the making
Another interesting product development – being instigated as part of CMU – is the proposed PEPP (Pan-European Pension Product), an initiative designed to enlarge the EU personal pension market following EC findings showing just 27% of Europeans aged between 29 and 59 have subscribed to a pension product. The PEPPs’ programme will promote competition among pension providers creating more choice for consumers and remedying the current regulatory disjointedness around personal pensions across the EU.
The scheme has strong industry and consumer backing, with savers receptive to the idea that PEPPs can be ported cross-border, while providers (banks, insurers, investment firms, asset managers, occupational pension funds) will reap commercial benefits if they become more active in the personal pension market. Given that only 11% of EU households invest in funds – versus 43% in the US – the PEPP could help consumers accumulate savings rather than remain wedded to low interest deposits.
ESG becomes real
Investors – especially millennials – are increasingly putting money to work at asset managers with proven ESG (Environmental, Social and corporate Governance) strategies and track records. ESG is integral to asset management and we have seen a shift towards sustainable investing at institutions, beginning firstly in the Nordics, and subsequently France, UK, Switzerland, and Japan. Capturing millennial investors, who are going to receive a large transfer of global wealth in the next few years can be done through ESG strategies.
As ESG is interpreted and applied differently across institutions, asset managers need to provide very bespoke solutions on a client-by-client basis. ESG investing has noticeably matured moving beyond excluding unethical companies from portfolios towards active engagement whereby asset managers will use their voting rights to reform shortfalls in corporate behaviour and enhance sustainability standards.
The EU – through its Sustainable Finance Reforms – is also nudging asset managers towards ESG. While attitudes to ESG are famously miscellaneous, the EC is looking to create a standardised definition. Creating a fixed terminology for ESG would provide transparency to investors and simultaneously preclude managers from filling out multiple ESG questionnaires from clients in different markets, all with conflicting views on sustainability.
Asset servicers can help managers with ESG. Depositary banks, for example, are increasingly developing services to ensure managers running ESG strategies are sticking to the terms of their investment mandates. Depositaries and trustees will also be able to support managers with investor reporting of ESG, which is another requirement contained in the EC’s proposals. By embracing ESG, asset managers can broaden their market appeal to underserved younger investors looking to deploy capital.
Turning distribution digital
Attracting younger, digital investors will also require major changes to distribution practices. Distribution– until recently – has remained somewhat aloof to digitalisation, a weakness which means the process of buying and selling fund units continues to be highly manual. However, disruptive technology such as artificial intelligence (AI) and Blockchain are being increasingly used in customer onboarding and KYC/AML checking, which has the potential to make distribution a far more seamless effort.
In addition, the industry is giving serious consideration to robo-advisors, or automated investment platforms. This technology allows investors to select funds for their portfolios using smart devices, shaving off transactional costs and effectively disintermediating the traditional IFAs and wealth advisors. Robo-advisory is a fast-growing market, having accumulated more than $200 billion in assets,chiefly because it provides a much easier path for tech-smart younger investors to buy funds.
Despite this, robo-advisors do have a chequered performance record, with studies showing the products have failed to beat industry benchmarks. Nonetheless, experts at ALFI said more data was needed before people could reach a firm conclusion on the intrinsic worth of robo-advisors. Others also believe robo-advisors will pivot away from simply following an index towards more active management, in what would be a major development, and a potential challenge to existing fund managers.
Asset Management in 2019
UCITS – along with the fund domiciles that support it – is growing, buoyed by regular product innovation and solid regulation. ALFI, for example, estimates UCITS could enjoy a compound growth rate of 5% over the next three decades, potentially quadrupling its AUM to EUR 42 trillion by 2048. However, asset management faces a number of challenges from technological disruption and Brexit over the next 12 months. The funds’ industry has no choice but to respond and evolve.
Article published in Deloitte Performance Magazine (25.01.2019)
 Efama (March 12, 2018) 2017 was an exceptional year for the European investment fund industry, with net assets of UCITS and AIF surpassing the EUR 15 trillion mark
 Maples and Calder (March 15, 2018) UCITS and AIFMD update: Cross-border fund distribution proposals
 ALFI – Luxembourg Reserved Alternative Investment Fund
 SGSS – The RAIF: What can we expect?
 EY (October 2017) RAIF: A success story
 ALFI/Deloitte (November 2017) Luxembourg Private Equity & Venture Capital Investment Fund Survey
 European Council (June 19, 2018) Pensions: Council agrees its stance on pan-European pension product
 Eurofi (September 2017) Regulatory update
 ESMA (November 16, 2016) How can we improve outcomes for investors in investment funds?
 Barrons (February 3, 2018) As robo-advisors cross $200 billion in assets, Schwab leads in performance
 Financial Times (August 24, 2018) Robo-advisors fail to beat market benchmark
 ALFI (September 25, 2018) UCITS assets could quadruple to EUR 42 trillion by 2048 according to ALFI’s 30th anniversary report