Money managers are facing the first big industry shakeout since the passage of ERISA.
Three years of brutal markets, coupled with bad relative and absolute performance that resulted in client terminations, have taken their toll.
"The problem is for niche players," said Peter Starr, principal and president of P.H. Starr Associates LLC, Boston. "Firms that didn't hit critical mass are realizing that they are vulnerable with just one strategy that they live and die by. They lose a few clients, there's a drop-off in the market, it's harder to build back up assets than it was in the old days, and they start to look at other channels of distribution - subadviser, RIAs, managed accounts. But they are in an uncomfortable position there that they are not used to, that of a hired gun. They don't control the economics. Their options are becoming fairly limited. You have to believe that there will be pressure to review five-year prospects, and if the answer to the question of whether they're adding value for themselves and the firm is no, many will look at options like acquisition by holding companies."
One casualty
Paladin Investment Associates LLC, Minneapolis, is apparently one of the casualties. The result of a management buyout in 2000 by executives of the former Investment Advisers Inc., Minneapolis, Paladin saw total assets shrink from $500 million to $256 million as of Dec. 31. About $100 million of the drop came from now-closed offshore mutual funds that Paladin subadvised for its former parent company, Lloyds TSB Group PLC, London.
Now, Paladin is closing. Fifth Third Bank Investment Advisors, Cincinnati, has hired all of Paladin's Minneapolis-based staff, but the deal is not an acquisition, stressed E. Keith Wirtz, who was Paladin's president and chief investment officer and is now CIO of Fifth Third.
When all of Paladin's existing clients have decided if they will follow the small-cap and midcap growth equity team to Fifth Third, the firm will be dissolved, said Mr. Wirtz. About 50% of Paladin's clients have agreed to move to Fifth Third.
For this story, manager asset losses since the beginning of the bear market three years ago were quantified by comparing U.S. institutional tax-exempt assets under management on Dec. 31, 1999, and Dec. 31, 2002, as reported by all managers in Pensions & Investments' annual directory of money managers.
Fixed-income manager GEM Capital Management Inc., New York, topped the list of losing managers, with U.S. institutional tax-exempt assets dropping 93.3% for the three-year period. GEM ended 2002 with $102 million in U.S. institutional tax-exempt assets, down from $1.5 billion at the end of 1999.
Growth victims
P&I's list of losers is also peppered with growth managers that have especially aggressive, volatile investment strategies, consultants said. Among them is Amerindo Investment Advisors Inc., New York, known for its go-go technology investment focus. Amerindo's assets under management for U.S. institutional tax-exempt clients dropped 91.1% in the three-year period, to $441 million. Other growth managers on the list are Dean Investment Associates, Dayton, Ohio, which saw its U.S. institutional tax-exempt assets drop 91.3% in the period ended 2002, to $88 million; and Gardner Lewis Asset Management LP, Chadds Ford, Pa., with a drop of 80.2% for the three years, to $491 million.
Spokesmen at GEM, Dean and Gardner Lewis confirmed the drops, variously citing client pullouts, market depreciation and performance as reasons. Amerindo's co-founder, Alberto Vilar, was unable to return calls, said Bill Smith, an Amerindo spokeman.
Many of the firms on P&I's list remain "good, solid firms with good, solid investment talent, but almost all of them are one-product firms without much of a marketing effort, and when they hit a certain point as their assets drop, they don't know what to do," said marketing and strategy consultant Bruce Bockelman, managing partner of The Bockelman Parkhill Group LLC, Naperville, Ill.
Said Paul Schaeffer, managing director in the San Francisco office of SEI Investments, Oaks, Pa.: "Everyone enjoyed the leverage on the way up ... and the same incredible leverage is at work on the way down.
"This is the first significant shakeout of the modern investment management industry. There just were not so many companies in existence before ERISA (the Employee Retirement Income Security Act) created opportunities for asset management companies," Mr. Schaeffer said.
"We're in a time of great dispersion and polarization between the winners and losers, more so than at any other time in the past," said Chas Burkhart, founder of private equity investor Rosemont Partners LLC, West Conshohocken, Pa. "We're in the early stages of huge turmoil for many money management companies, and the result is going to be a shakeout in the form of sales, liftouts, management buyouts. There's been little consolidation to date, but we're beginning to enter the stage where this will happen."
Consultants said at worst, the shakeout will result in some of the more troubled firms at the bottom of the heap being forced out of business.
Especially at risk
Firms plagued by personnel turnover and organizational change - such as Paladin and Husic Capital Management, San Francisco - are especially at risk without a rising market and healthy returns to compensate for the turmoil.
Husic just lost its second institutional marketing director in less than a year. John Langeler left this month, and Joseph M. Rusbarsky left last summer, the same time COO Kenneth Weeman quit (P&I, July 8). Husic's U.S. institutional tax-exempt assets dropped 87.3% to $412 million in the three years ended Dec. 31. Frank J. Husic, managing partner, chief investment officer and founder, did not return calls seeking comment.
"Nothing kills a manager faster than personnel turnover or severe organizational change," said John West, a senior consultant in the Santa Monica, Calif., office of Wurts & Associates, Seattle.
"Assets will flow out fast when people walk. If a $5 billion manager falls down into the $1.5 billion range, it might mean a partner will have to sell his place in Aspen, but will be able to maintain staff and survive. But if a manager goes from $1 billion to under $200 million, at 50 basis points (for fees), that's only $1 million in revenues, and no money manager can make it on that," said Mr. West.
Mr. Bockelman agreed, noting that many firms that used to manage well in excess of $1 billion now qualify as emerging managers. "When they get to this point, they basically have only a few options. They can hope and limp along, which is basically no plan. They can get capital from somewhere, although it's not clear to venture capitalists that asset managers are a good investment. Or they can consolidate with smaller firms, or permit themselves to be acquired."
