Specialization Key to Maintaining Active Mutual Fund Viability – National Association of Plan Advisors

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Asset classes may fall in and out of favor, but a new report suggests that firms that truly differentiate themselves as a valued partner can expect to see sustained growth over the long term. 

Despite low-cost investment products “waging a war of attrition” on active mutual funds’ share of advisor assets, Cerulli Associates reports that 37% of active mutual fund families with $5 billion or more in AUM had experienced positive organic growth during the preceding five-year period ending with 2Q 2019.   

In “U.S. Intermediary Distribution 2019: Capitalizing on Specialization,” the firm assesses the universe of open-end fund families with greater than $5 billion in AUM and segments them into four tiers – Giant, Large, Mid-size and Boutique – to identify trends among those firms that have generated positive organic growth over the past five years.

Not surprisingly, the majority of active mutual fund families have faced headwinds in recent years as a broad-based bull market has limited managers’ ability to outperform and both advisors and clients focus more on cost. Cerulli notes that from 2014 through the second quarter of 2019, active funds saw nearly $900 billion in net outflows, while passive funds brought in more than $1 trillion over the same time period. But according to Ed Louis, senior analyst at Cerulli, “Active fund families that have grown organically have shown that there is, in fact, a viable path to success.” 

Offering a roadmap for smaller firms aspiring to join the ranks of the largest firms, the report notes that the 12 “giant” managers –  firms with $200 billion or more in active mutual fund AUM – control $6.9 trillion in active mutual fund assets, and half grew organically over the past five years. 

Brand-forward Strategy

One of the fundamental ways that these successful managers gained market share relative to their tier has been by pursuing a brand-forward strategy, Cerulli emphasizes. Brand-forward firms are those that have solidly entrenched themselves in the minds of advisors and end-investors as indispensable partners, the report explains. This has been especially important following the financial crisis, which rocked investors’ – and consequently advisors’ – faith in active management. 

“Firm reputation is very important to advisors when choosing an asset manager – in fact, nearly half (46%) of advisors build firm reputation into their selection process,” says Louis. “Successful managers lean heavily on the loyalty they’ve fostered among advisors and rely on it as a core pillar to drive growth.” 

Meanwhile, large fund families – those with $50 billion to $200 billion in active mutual fund AUM – averaged a five-year compound annual growth rate (CAGR) of nearly 2%. “Like the Giant managers, these firms tend to offer diversified product lines and often have the resources to provide advisors and broker/dealers (B/Ds) with value outside of solely investment management,” the report states. Cerulli further notes, however, that, while nearly 40% of large fund managers experienced net inflows, the segment’s growth was mostly driven by a few top performers.

For mid-sized ($20 billion to $50 billion in active mutual fund AUM) and boutique ($5 billion to $20 billion) managers, only one-third experienced positive organic growth over the trailing five years. Those able to generate positive flows effectively segmented advisor opportunities in the independent channels and equipped wholesalers with resources to interface with the more sophisticated investment process that top advisor teams employ, the report further observes. 

“Effectiveness in both these areas is crucial for smaller fund families as top teams control the majority of the assets in this highly fragmented space,” Louis emphasizes. 

Distribution Strategy

Cerulli further reports that advisor discretion and model use is the greatest factor (74%) currently impacting distribution strategy decisions and distribution executives expect it will remain so over the next three years.

Nearly two-thirds (62%) of advisors have the primary source of portfolio construction located at the practice level, but this can vary significantly by channel and core market. Wirehouse advisors are the most likely (37%) to use home-office models or recommended lists as a starting point. 

“In the face of mounting fee pressure, shrinking platform shelf space, and a growing number of advisors choosing to either partially or fully outsource investment decisions,” Cerulli says, “it is essential that asset managers be selective about where they choose to direct distribution efforts.” The report notes that this is especially true as products are far more likely to be removed from platforms not only if they underperform, but also if they fail to garner flows. 

As one head of key accounts told Cerulli, “We’re not expecting big sweeps like a couple years ago, but now firms are going to be reassessing their lineups continually. Year-over-year, if you’re not gathering assets, especially after five or six years, it’s clear that you’re not really going to get any and they’ll remove you.”