Asset Managers Must Hit `Sweet Spots' for Growth, McKinsey Says

  • Traditional North American firms surged to record $31 trillion
  • Compensation may fall 5% in 2015, Greenwich and Johnson report

North American money managers must do a better job of finding “sweet spots” that increase returns and manage risks if they want to maintain record profits amid competition from increasingly sophisticated, lower-cost passive investments, according to McKinsey & Co.

Traditional assets under management rose 11 percent last year to a record $31 trillion in the U.S., Canada and Mexico, the consulting firm said Wednesday in a report. Revenue climbed about 10 percent to $111 billion and profits were up 12 percent to $37 billion, also records. Industry operating margins widened to 33 percent, the highest since 2007.

The industry has continued a “bar-belled” shift, McKinsey said, with growth concentrating in portfolios that balance conservative and high-risk investments. While asset managers’ momentum persisted through the first half of this year, the outlook seems less certain after recent market volatility, according to Ju-Hon Kwek, a partner at the New York-based firm and co-author of the report.

“What sets top performers apart is the ability to identify and compete in the sweet spots that lay at the intersection of individual firm strengths and broader industry tailwinds,” McKinsey wrote. Managers also must show “a willingness to invest with conviction.”

Stock markets in New York, London and Hong Kong have lost ground or been flat since midyear, while investors in fixed-income securities struggle to find yield amid uncertainty surrounding the Federal Reserve’s timing on raising U.S. interest rates.

‘Market’ Growth

“A lot of growth has been driven by market appreciation,” Kwek said in a telephone interview. “Investors are looking at choppy waters ahead.”

Market volatility is expected to drive average compensation down 5 percent this year, according to a survey of more than 1,000 financial professionals released Wednesday by Greenwich Associates and Johnson Associates. Compensation may rise at hedge funds as investors move more money into alternative products in search of higher returns, a trend that will come at the expense of traditional fund managers’ pay, according to the survey report.

“Portfolio managers and buy-side traders have been paid well during the good times, with many professionals experiencing several years of steady compensation increases,” Johnson Associates Managing Director Francine McKenzie said in a release with the report. “As performance lags and asset growth slows, we do not expect firms to alter compensation structures to deliver increases or even maintain current levels.”

U.S. equity portfolio managers’ average annual compensation was fairly flat in 2013 and 2014 at about $690,000, including bonuses that made up about two-thirds of pay, according to the report. Fixed-income portfolio managers averaged $504,000 last year, with almost 60 percent from bonuses.

Active fund managers continue to hold on to market share against passive managers in the fixed-income area as investors seek higher yields. To compete against fast-growing passive products, active managers will need to develop “a sharper and more nuanced framing” of how they add value that includes their return profile and approach to managing risk, according to the McKinsey report.

“Leading firms have already begun mining open source data for investable insights that can be used to deliver alpha,” McKinsey said, referring to returns above market benchmarks.

The report was based on a survey of more than 300 asset managers worldwide, including about 100 from North America. Traditional assets include stocks and bonds but exclude alternatives such as hedge funds.

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