The asset management industry

Who manages money, and who sells to them?

The industry connects people who have capital with ways to invest it. Two sides matter. A manager that invests on behalf of clients is a buy side firm, because it uses (buys) the services of others. A sell side firm is a broker-dealer or bank that sells securities and provides independent research and recommendations to the buy side.

The industry ranges from independent “pure-play” managers to banks, insurers and brokerages that offer asset management alongside their main business. Some managers specialize in one asset class or style; “full-service” managers cover many; a “multi-boutique” is a holding company owning several specialist firms, each keeping its own culture and often an equity stake.

How are managers classified?

Three splits are tested.

Asset managersthe buy side

• By approach Memorize
  • Active try to beat a benchmark; higher fees
  • Passive replicate an index; low fees
  • Smart beta Use it simple, rules-based factor strategies
• By what they run Memorize
  • Traditional long-only equity, fixed income, multi-asset; asset-based fees
  • Alternative hedge funds, private equity, venture capital; management and performance fees
• By ownership Know the idea
  • Privately owned often by the founders and key staff
  • Publicly traded less common
  • Division of a larger financial group common

Active and passive. Active management tries to outperform a benchmark through fundamental or quantitative research. Passive management replicates the returns of a market index at low cost. Most assets are still actively managed, but passive is growing. Smart beta sits in between: it uses simple, transparent, rules-based strategies built on factors such as size, value, momentum or dividends. Fees and turnover are typically a little higher than for plain market-cap weighted passive funds.

Traditional and alternative. Traditional asset managers run long-only equity, fixed income and multi-asset strategies and earn most of their revenue from asset-based fees. Alternative asset managers run hedge funds, private equity, venture capital and similar strategies and earn management fees plus performance fees. They manage a small share of industry assets but earn a much larger share of revenue, because they charge more per unit of assets. The line between the two is blurring: traditional managers add higher-margin alternatives, and alternative managers offer “liquid alternatives” through regulated pooled products such as mutual funds, usually with less leverage, no performance fee and more liquid holdings.

Ownership structure. The ownership structure of a manager affects how it keeps and rewards key staff. Most firms are privately owned, often by founders and senior people, structured as limited liability companies or partnerships. Investors like to see managers with their own money invested next to clients. Publicly traded managers are less common. A common form is the asset management division of a large financial group that also offers banking or insurance.

Match each term to its description. If you hesitate between buy side and sell side, ask who is paying for the research.

Exam tip Broker-dealer means sell side. Anything that invests clients’ money means buy side.

What three trends are reshaping the industry?

Industry trends

• Growth of passive investing Use it low fees; active managers struggle to beat efficient markets
• Big data Use it new data plus machine learning
  • Social media data
  • Imagery and sensor data satellites, geolocation
• Robo-advisers Use it automated advice from a questionnaire
  • Fully digital
  • Hybrid digital plus a human adviser

1. Growth of passive investing. Passive strategies hold about a fifth of managed assets, mostly in equities, and a few very large providers dominate. Low fees are one catalyst. The other is how hard it is for many active managers to generate alpha, especially in efficient markets such as large-company equities.
2. Big data in research. Managers now analyze very large datasets, both structured (order books, security returns) and unstructured (internet activity), with statistical and machine-learning methods. Popular sources are social media data and imagery and sensor data such as satellite pictures and geolocation. The challenge is to find data with predictive power before others do.
3. Robo-advisers. A robo-adviser uses automation and algorithms for planning, asset allocation, tax-loss harvesting and strategy selection, usually from a questionnaire about goals and risk tolerance. Platforms range from fully digital to hybrids with a human adviser. Growth comes from younger and “mass affluent” clients that traditional advisers have underserved, from low fees, and from new entrants. Portfolios are often built from index funds and exchange-traded funds (ETFs).

Go deeper Why fee pressure matters for managers

When passive funds charge a fraction of active fees, active managers must justify their price with performance, and every manager is pushed to run at lower margins. Scale helps spread costs, which is one reason large providers dominate passive investing.

Go deeper Passive investing and market efficiency

Passive investing works best where prices already reflect information well, such as large-company equity markets, because there is less for an active manager to find. Where markets are less efficient or information is harder to get, active managers have more room to add value. The efficiency of markets is covered in the equity topic.