Asset management firms are the trusted advisors of the financial services industry. They manage huge sums of money on behalf of their clients, which include large pension funds, sovereign wealth funds and retail investors, with the aim of growing it over time and they receive a fee for their services.
The scale of the asset management industry is huge. Assets under management globally hit $64 trillion in 2012, the latest available figures, and $33.2 trillion of these were in the US. And while investment banks have scaled back since the financial crisis, the asset management industry is anticipated to get even bigger – PwC says AUM will hit $102 trillion by 2020, or growth of 6% a year.
The asset management industry is anticipated to get even bigger
Broadly speaking, there are two basic kinds of fund:
Passive: Also called ‘index-trackers’, passive funds mirror the performance of large financial indices like the S&P 500 or the FTSE 100. The money going into an index tracker is put into stocks or bonds in the same proportion as the in the relevant index. The advantage for investors are that the fees are low, the risks of human error are minimal and turnover in the portfolio is also lower.
As well as passive mutual funds run by huge institutional investors like Vanguard, exchange-traded funds (ETFs) are a good example of passive investment. They track an index, or a ‘basket’ of assets, but are also a tradable security, so their value goes up and down like a stock on a stock exchange. The ETF market is worth $2 trillion in assets under management.
Active: This is where human skill and experience comes into the fund management industry. A team of portfolio managers, analysts and researchers use their expertise and a plethora of research, quantitative analysis, forecasts and judgement to make a decision on what assets to invest in with the aim of beating the market.
A fund is judged on how far above or below it is on a particular index – in equity markets this could be, say, the Dow Jones Industrial average, but they’re also competing in bond markets and host of other asset classes. The problem is, it can be hard to beat the index, and even if a fund manager does this consistently, they still charge investors higher fees for the privilege.
Bottom up investors are more interested in the financials of a particular company than broad macro themes
Active vs passive management is only one great divide in the fund management industry. Another is top down versus bottom up investment. The former is concerned with a big picture view of a particular sector, asset class or geography first, before delving into the finer financial details.
Bottom up investors are more interested in the financials of a particular company than broad macro themes. This assumes that gems can be found even in industries that are generally not doing well.