Gulf business models vary. The Funds Europe Asset Management Panel, hosted in Bahrain, discusses useful strategies and reasons to invest in them. (part 2)
Douglas Beal (partner & managing director, The Boston Consulting Group)
Scott Callander (director, Middle East, Axa Investment Managers)
Muneer Fulayfil (director, Mena, BNP Paribas Investment Partners)
Boyd Winton (director, financial services business development at the Economic Development Board in Bahrain)
Local asset management
Funds Global: How significant now are indigenous fund managers as providers of fund management services to both banks and sovereign wealth funds? Have they built or lost market share and what factors lie behind this?
DB: As far as local asset managers go, they are present in each of the GCC countries, but they are relatively small. Kuwait probably has the largest local asset management industry, and that was partly because the Kuwaitis decided to help support some of their asset managers with mandates from sovereign funds. Other GCC countries haven’t yet done that to a great degree.
Sovereign funds have not used their indigenous fund managers very much, except Kuwait, which had a specific programme of giving mandates to local fund managers as a means of giving them credibility. It was a relatively successful approach because these fund managers were able to take those mandates – about $3bn worth of them – and turn them into an additional $60bn of assets under management.
BW: In the past a lot of the SWF focus has been to invest outside the region. They had their oil wealth here, so investing in local markets was like doubling up risk. That’s why they invested off-shore, to diversify their income sources. As for the banks, a lot of that money has gone into indigenous managers, especially in funds accessing Saudi and the other local markets.
But a recognised trend over the last few years is for money in the region to stay in the region and this will continue as the economies keep on diversifying and developing, and managers with a permanent management presence in Bahrain will benefit.
MF: Local fund managers still haven’t made a mark on managing international assets and that’s primarily because of scale. But we have seen indigenous asset managers make a mark on the local market, and I think that is a significant development that is in line with the region’s economic growth.
As for the second part of the question, we believe they have gained market share in the past few years largely due to their growing array of capabilities in managing regional assets.
NF: Has SAIB picked up money from outside the region through BNP Paribas?
MF: We’ve started to strike deals with clients in Asia, so that’s helped us build the scalability for SAIB as well, and attract foreign money into the region.
Sharia-compliant funds
BW: Bahrain is now and has always been a leader in Islamic Finance. With respect to Sharia-compliant funds, in which indigenous managers are the leaders, this will be a strong growth area and we will see a lot more money going into those funds.
Currently there is a lack of both standardisation within asset classes and diversification of asset classes in these products. Going forward as the market develops new product classes, regulations are enhanced in other regions and Sharia laws become more standardised between regions, growth will boom and there will be a big advantage for indigenous managers.
SC: We manage Sharia mandates and where we see Sharia products continuing to find success is typically in GCC-focused products. We know there are quite a number of international equity products around but the scale of those in terms of assets under management is not dramatic.
In other words, when we look at the trends in asset raising, when a new fund is launched that’s sub-advised to an international fund management shop for, say, US equity, you tend to see capital raising cap off.
There seems to be some sort of resistance level at certain sizes of, say, US$100-200m. There are only a handful of international equity products that are Sharia compliant that are above $100m, which ordinarily would be deemed to be on the low side in terms of profitability, manageability, scalability, etc. It doesn’t meet a lot of the criteria for major global shops that will put in substantial investment in terms of systems and so forth.
I think domestic or GCC-wide Sharia has actually done very, very well at a local level. It is led by four or five key institutions and most of them are Saudi influenced.
Funds Global: Is interest in Sharia-compliant funds regional or global? Are you likely to get, say, Malaysian investors investing in Gulf Sharia-compliant funds?
MF: Interest in Sharia-compliant funds is regional and global and growing rapidly in importance and sophistication. Both Malaysia and the Middle East are going to act very closely together in the development of Sharia products for us. We try to combine a triangular sort of mindset where we use global teams in terms of the product development, and then Malaysia and the Middle East as the primary catalyst of where these products are going to end up. We gauge on a regular basis the level of demand and the complexity of the product that’s really required. We also work together with our colleagues from Najmah, the Islamic Banking arm of BNP Paribas.
SC: If we were to commit to one centre for Sharia-compliant asset management services, where would we put it?
Most fund management shops would prefer to start with one centre and then expand it. People have been thinking about whether to go to Malaysia or Bahrain, etc. It is still up in the air because there are subtle differences between what constitutes Sharia in Malaysia and what constitutes Sharia in the Gulf. The differences are not dramatic but what would be great is to see the scholars from both sides come together to agree a globally accepted standard.
Funds Global: Following on from the observation that asset raising in Sharia is sometimes capped at quite a low point: why is it so difficult for fund managers to raise funds here?
SC: When you look at data for total assets under management in the region you get numbers that are so wide apart – from $1.5 trillion to $3 trillion or more even – and of this, if you consider industry perception which is not that well qualified, you will believe that 50% of assets are with sovereign wealth funds.
This year we’ve already seen a number of surveys coming out that suggest the data related to sovereign funds has been far removed from reality for a while.
However, there is money here and so the question mark is about strategy. If you segment the market into sovereign funds, government pension plans and social security funds in one compartment, the banks and the major distributors in another, and then have a separate segment for family offices and corporates, you can then start to define how to access that market.
Funds Global: And what about non-resident Indians and non-resident Pakistanis, are they significant? Is that too low a margin for many asset managers?
DB: No, it is not low margin.
SC: The Indian community came here 40, possibly 50, years ago, and are largely responsible for a lot of the development in the region. Given the contribution they have made, their influence is extremely strong and they are important investors in the area.
MF: Yes, this is an important retail and HNWI market segment that likes, besides regional and global investments, to also invest back into India and we are catering to the requirements of such clients through our joint venture in India – Sundaram BNP Paribas – a very well respected Indian asset manager within the Indian investment community.
SC: But they’ve also invested into the region. There are many major families in this region who are actually as ‘local’ as anybody else now because they’ve been here for that long. So the non-resident Indian and Pakistani business is not to be ignored, not by any stretch.
BW: A lot of people have come out here expecting to find a pot of gold. But the effort needed to tap into that has been underestimated. People thought they’d just come out to the region and do it easily. However, now that global economies and markets have slowed they’re finding it tough and wondering where the investors that they’ve heard about are.
But if you have a quality operation, and you’ve got the right people with the right experience in the region, there is still money to be found.
Fuds Global: Is there a perception that a number of managers have packed their bags and gone home since the financial crisis?
BW: I’m not fully aware of the number that have packed up their bags and gone home, but I think they’ll have to have a good look at what they’re doing and how they are doing it. It’s not just fund managers, though, it’s people all across the economic spectrum.
There are a lot of people that started up a business ten or even just two years ago and said: ‘Okay, let’s call ourselves investment managers, let’s call ourselves a financial services firm’. They invested some money and it went up – they made 50% in gains. They invested some more money and that went up too. Then, all of a sudden, over the last year it’s gone down by 50-100%.
People are looking at their business models and where they can really make money and what their competencies and specialities should be.
Funds Global: We have heard that indigenous asset managers are quite strong on the ground in Kuwait. But in the Gulf more generally, is there still much scope for joint ventures with credible partners?
DB: Going by discussions we’ve had with both local asset managers and with international asset managers, both say yes, they’re absolutely keen to do joint ventures.
What we also find, though, is the reason that there have not been more joint ventures is because of a mismatch between what the local and international asset managers both want to offer, and what they want in return.
International managers said they needed local distribution, access to deals, and to be connected to the right people in the right markets. In return, they were willing to offer investment management expertise.
The locals, however, aren’t interested in expertise, they want international distribution – and want to give their own local expertise in return.
SC: And that raises again the issue of the business model. When we approach a conversation – and we’ve had many over the years – we’ve always stated an intent to explore these things, but without commitment.
We found that there was a lot of overselling going on at a local level, so the partner or potential joint venture that approached us would come with a declared set of credentials that really didn’t match reality.
MF: I think the joint ventures that we have done are the cornerstone of our business development strategy. I don’t think we could have achieved what we have over the last year without our JV with SAIB in 2008.
Domiciles
Funds Global: When establishing a fund, to what extent is a fund domicile important in the Gulf?
BW: Very important. Bahrain already has the legal and regulatory infrastructure and the vision required for funds to be domiciled and managed here. One of the differences is Bahrain is very much looking for the private sector to lead its growth. It wants the private sector to come in and take charge of what’s going to happen going forward, whereas some of the other domiciles are probably led by government or large families.
I think your business model will, in some respect, determine where you want to be, and obviously the infrastructure available in a centre and the reputation of the regulator.
But there is also room for centres to specialise or to work together, like in Asia. I don’t think business is just going to go to one centre.
MF: Historically, the choice of domicile has been a minor issue. But going forward, especially as regulations change, at BNP Paribas it is going to be very important for us to consider domiciles that are well regulated.
SC: And to be fair, throughout the region generally, the regulatory frameworks are largely modelled on the FSA, although Bahrain’s framework is quite a bit older in terms of evolution. This gives regional investors a lot of comfort that the correct regulatory attitude has been taken.
Governments are acting maturely and logically about how they want to build their financial sectors, and it may get to the stage where for a business it becomes increasingly difficult to select a centre.
But from an investor’s standpoint, the domicile question is probably of key importance. They want to have exceptional confidence that the provider itself is regulated by a major regulator like the FSA, QFCRA or DIFC and they will want to see a series of supporting statements to say so.
Asset servicing
Funds Global: How important are the custody banks and other asset servicers in this region? Do local players understand their role and see them as useful?
MF: Custodians, administrators, transfer agents, etc, are essential in terms of the development of the industry globally. Their importance lies in offering best practices, technology and market liquidity, among other things. So these are relevant for this region too, but there is still room for development, specifically in some of the GCC countries.
We are closely working with clients to get them to understand what the various components are of asset servicing. We also suggest to them to consider alternatives to brokers to manage their assets.
SC: When you look at the services offered by custodians and asset servicing firms, like stock lending, there are many different functions that clients increasingly want now.
It’s a function of evolution again. When you look back ten years, the sort of investment products available were extremely simple, straightforward, clean, uncomplex. Yet as they’ve grown, local players have had to recognise that in order to enjoy international standards of governance and risk management, they’ve needed to go out and hire asset servicing capability – and it’s not a decision they take lightly and it is also constantly reviewed.
This indicates the sophistication that has really emerged over the last ten years. It’s a recognition that asset management is not simply about managing money to create alpha; it’s about the full A-Z provision of solutions to make sure money management happens in a highly effective way.
Pension funds
Funds Global: At what stage of development are the pension funds and broader long-term savings industries?
BW: Governments recognise that with a growing population there is a need for pensions. But the population here is youthful by comparison to Europe.
Saving is really done by governments and families, but in Bahrain rules are coming in that mean certain percentages of expatriate and local salaries must go into pension funds. A lot of firms here do have their own savings schemes where a 5% employee contribution is matched, but it’s still nascent.
DB: I think outside of state pensions there’s little or no industry within the Gulf. Again there is a major element in terms of development for the fund industry and should be a joint effort between the private and the public sector, after all we’re talking about issues related to both local security and national security, and this is why I think it’s also very important for us to be there at the early stages and work with various groups.
SC: There are new funds being set up, but they are typically for governmental institutions. Their first liabilities are probably 20 to 25 years away, given the age of the workforce.
In terms of private pension planning, one of the key issues is the transient nature of the workforce. To establish domestic providers of pension plans is almost pointless because unless the employee stays here for 10 or 20 years they are not going to reap the benefits.
So our view is that the key players who will continue to win that market share will be the international life companies that come in with off-shore life or long-term savings products. They seem to do a pretty fair job working with the major private banks to provide good quality products to expatriates.
Provision for the non-government, non-expatriate local – that’s the bit that I think is unaccounted for today.
Funds Global: Coming back to sovereign wealth funds, does the high bar these funds set for asset managers revolve around producing alpha?
SC: I don’t know if that’s a trend peculiar to SWFs. It is more of a global issue, but we believe completely in active management and we believe that sovereign funds globally will continue to use active managers across
asset classes.
However, quite rightly they have to recognise that some markets are too efficient and are quite complex for managers to create sustained alpha year in year out. And so at Axa IM we have concentrated our time focusing on areas of the product spectrum where we have a proven history of alpha and sovereign funds continuing globally to support us in those product sets. We still believe that there is a trend that they are still willing to allocate to alpha managers.
DB: Asset managers need to provide resilience in variable market conditions and deliver on their promises. Those are the core ingredients for a successful business.
SC: Twenty-five to 30 years ago when the first sovereign funds were being established, there were an extremely limited number of asset management firms even showing up in the Gulf, and the decision-making locally was more bank-led because the funds had relationships with the banks.
As sophistication has increased, and that’s for more than ten years now, managers have been aggressively challenged. You don’t walk in and walk out with the money – you probably go through a far more robust selection process with a sovereign wealth fund than you do with many international pension funds.
DB: That’s certainly true.
SC: You are exposed to far more individuals in the process because the teams are quite large. Most pension plans in Europe will have seven or eight guys in totality taking care of the pension scheme of a company, and then they may have a consultancy firm come in to provide research capability and so forth. In the Gulf there is typically a long-term commitment to employ high-quality staff in sovereign funds and invest in in-house talent rather than hire external consultants.
It’s a very different approach that asset managers have to take and it’s far more intensive than many people appreciate. And that swings round to the final point I want to make which is, yes, there’s a considerable amount of liquidity in the market here, but is it that easy to attract? The answer is no, you earn it, based on a broad range of criteria. Being a big brand name doesn’t entitle you to the business.
©2009 funds global