19.
Mandates rebalanced between components and solutions
Investment products that are simply components in an end investor’s strategy lose ground to preferences for mandates that have explicit outcomes attached. There is greater appeal for mandates that offer “solutions”: That is, they are closer to a complete answer to an end investor’s goals. Such mandates accentuate the fiduciary responsibility implicit in this approach.
KEY POINTS
- Solutions products or outcome-oriented products generally map to a spectrum of mandates: outsourced CIO (OCIO or fiduciary management), diversified growth, and other multi-asset, target-date, and liability-driven investment (LDI) mandates. These are investment products in which the benchmark is a specified target outcome (an example is achieving the Consumer Price Index [CPI] plus 4% pa in a multi-asset mandate). These products stand in contrast to components products, which map to mandates that are specific to an asset class in which the index is the benchmark (an example is outperforming the MSCI All Country World Index in a global equity mandate).
- Data on solutions mandates (see Boston Consulting Group 2017) suggest they amounted to 8% of total asset management industry revenue in 2017 but account for higher growth than other segments.
- The growth of solutions products relative to components products is a central industry trend. One factor in this growth is that end investors may prefer to receive their results in one stage, as close as possible to their ultimate goals, rather than go through a two-stage process involving asset class selection and manager selection. A second factor is the industry reducing its reliance on alpha, which is ultimately unsustainable (less than 50% of managers can outperform the index after costs).
- Future State of the Investment Profession summarizes the trend as follows: “Traditional active management community shrinks in size, but active management still flourishes in evolved form.” In this narrative, the active core components—historically the largest—decline the most. Private mandates grow, reflecting continuing expectations for better returns coming from private markets. Active specialist mandates lose only modest share, though hedge funds’ core strategies, such as long–short, decline.
- The application of fiduciary responsibility seems to resonate most strongly with the solutions area because solutions align so clearly with the fiduciary requirement to be loyal. Compare a solution with a product that is benchmarked against the equity index: Is a manager’s loyalty to producing good performance versus the index or to whether the equity performance is aligned to client need? The issue is not clear, for the firm or the regulator.
- Of the different mandates that attract “solution” categorization, OCIO and fiduciary management will likely grow fastest. The OCIO model has the most traction in developed markets, particularly the US and UK markets, but has the potential to apply in all markets in the next 5–10 years.
- Among survey respondents, 34% say solutions investments would see the strongest growth in product demand in the next 5–10 years, with a similar percentage across all regions. The next most common answer was cap-weighted indexing (i.e., passive) at 20%, followed by alternatives (including liquid alts) at 18%.
- In terms of the rate of growth over this same period, 30% think solutions mandates will grow significantly and another 50% expect them to grow somewhat.