The trend towards advisory firms outsourcing investment management has been gaining momentum for some time. Recently, however, there has been some reversal as smaller advisory firms consolidate while larger ones conclude that bringing investment in-house offers them greater control. At the same time, Mifid II disclosures have given an inconsistent picture on fees, which has also prompted some advisers to reconsider.
Before advisers take such a step, we would urge caution. Certainly, a larger practice may offer groups the resources to bring investment in-house, but advisers should not underestimate the resources needed to meet the demands both of today’s complex market and regulatory environments.
Those building portfolios for clients must contend with a smorgasbord of potential issues – from de-globalisation, to the march of technology, to social and political change – alongside the ‘day job’ of picking individual funds that are appropriate for their clients’ risk profile and return objectives.
Resilient portfolios
An increasing range of tools are available for investment managers to build resilient portfolios, capable of delivering strong performance in these difficult times. The investment trust industry, for example, has seen dramatic change, with the amount of money invested in alternative assets growing by 92% over the past five years, rising from £39.5bn in 2014 to £75.9bn in 2019, according to the Association of Investment Companies.
For their part, alternative assets now comprise around 45% of the mainstream investment trust market. This provides real opportunity for skilled investors to find uncorrelated assets to help smooth returns for clients.
There has also been a significant expansion in fixed income and property investment options across both open and closed-ended funds. From student accommodation to warehousing, there are specialist vehicles to allow people to invest in these niche areas. They bring new sources of capital growth and income potential to a portfolio.
Including these types of investments are likely to become increasingly important in a low-growth world where markets are experiencing higher volatility. Investors have grown used to benign markets. The rising tide of quantitative easing has floated all boats and, to some extent, made investment look easy. As global growth slows, however, it may prove a lot more challenging to deliver returns for investors.
Precarious environment
This could be a precarious environment for those at or near retirement. For them, volatility and the problems of ‘pound-cost ravaging’ are acute. Too much volatility early in retirement could see them drawing on capital to sustain their income, leaving them without the resources to support their income later in life.
Advisers considering insourcing should also not underestimate the importance of size. Real scale not only allows for a larger team, with greater specialisation, it also allows for stronger negotiating power with investment managers.
Today, there are a bewildering range of share class options, but the most cost-effective are usually only available to institutional investors dealing in large lot sizes. Those with a larger asset base are best placed to negotiate with fund houses for the best deal.
We all recognise the importance of costs over the long term. Certainly, there are problems inherent in Mifid disclosures that need to be resolved. Shifting investment selection back in-house would, however, appear to be taking a sledgehammer to crack a nut.
Institutional firepower
Discretionary managers are working hard to resolve some of the inconsistencies on Mifid reporting but, in bringing investment management in-house advisers risk losing the institutional firepower of discretionary fund managers without making significant savings elsewhere.
Platforms should also be a consideration. While the majority of platforms can accommodate a range of assets, there are still those that cannot transact investment trusts or make it difficult and expensive to do so. Even if financial advisers now have the scale and the investment expertise to manage investments in-house, they need a good infrastructure to ensure they can transact in a timely and efficient way.
We do recognise that for many advisers, control – over their costs, over their investment strategy, over their risk management – is key to the allure of insourcing. We would, however, argue that outsourcing can deliver that control. If an adviser feels a discretionary fund manager is no longer doing the job for them, they can readily switch. It is a far more difficult process to try and change internal personnel who are not delivering.
We are entering a more difficult environment, where the ability to be agile is likely to be increasingly important. The reasons for considering bringing investment management in-house are understandable but, for some businesses, it may prove a false economy.
Mickey Morrissey is a partner and head of distribution at Smith & Williamson Investment Management
