2016 ushered in an age of techno-utopianism when a computer algorithm called AlphaGo made history.
It beat the 18-time world champion of Go, a fiendishly complicated ancient Chinese board game with an astonishing 10170 possible moves – more than the total number of atoms in the entire universe.
It provides stunning evidence of the leap from the traditional algorithms that carry out routine instructions to the era of cognitive computing: systems that work and learn like human brains as they crunch vast amounts of structured and unstructured data; not to mention blockchain, which will cause massive disintermediation in all businesses.
Fund management is especially amenable to such revolutionary advances. Data is its lifeblood and intermediaries cause all manner of information asymmetries across its entire value chain. But their adoption so far has been a matter of more haste, less speed. The reasons are legacy IT systems, legacy thinking, day-to-day pressures, high margins and low risk appetite in corporate culture.
As the new decade unfolds, this dynamic is set to reverse – due to two underlying structural catalysts that are already reshaping the fund industry beneath the surface of today’s euphoric markets, which are far removed from their fundamentals.
First, the fund industry desperately needs organic growth. One of its largest client segments – defined benefit plans – is advancing rapidly into the run-off phase with aging demographics. In the 2010s, as much as 85% of growth in global AuM came from markets that were artificially boosted by central bank largesse that brought forward future returns. The next bear market may well be very painful when it comes.
So, finding the new generation of long-term clients is vital. In this context, the rise of Millennials as a distinct investor group could have a profound impact. As an Internet generation, they haven’t known the world without technology. E-commerce is in their DNA.
Many among them stand to be the beneficiaries of the biggest wealth transfer in history – from their baby boomer parents, the richest generation in history. Their ranks will be swollen by women investors, who now own a rising share of global wealth. These newly emerging clients will have different risk profiles and product needs.
The second reason behind the faster rise of AI is alpha–beta separation becoming more pronounced. Many among the new generation of investors will want to manage their own retirement planning, while expecting strong digital client experience that is on a par with what they are accustomed to in other sectors.
They will want to see a clear line of sight between fees and returns. Managers without a meritocratic fee structure are in for a hard time. Active or passive funds will no longer be theological concepts. Everything will boil down to price and value-for-money.
Fund managers thus face two daunting challenges as they plan for the new decade: how to grow the business organically by shrinking its cost base; and how to adapt to accelerating innovations that are so disruptive in their impact.
Those who can rise to the challenges are assured a place in a vibrant industry where technology-driven operating leverage will be a key differentiator. The rest will become unwitting victims of new Darwinian forces that will reshape their industry – if the examples of the retail, media and music industries are any guide.
If you are interested in the implications for fund managers’ business models, please see my article in today’s FTfm (27th January 2020).