In the cash business, it seems the rich are only going to get richer.
Consolidation among liquidity managers will thin the herd of small cash managers in the U.S. In Europe, where there already are fewer institutional players, the effect might not be as great.
Smaller institutional managers are being pushed to consolidate by historically low interest rates and new regulations, both of which are affecting profitability. It's becoming a scale business for scale players, experts say.
“We're actually surprised that consolidation hasn't happened faster,” said Joe Sarbinowski, New York-based managing director and head of institutional liquidity management at DB Advisors, the institutional money management arm of Deutsche Bank AG. “We expect to see more of it.”
Experts say there now are about 100 institutional cash managers in the U.S. In five years, that number could be cut to 25 or fewer. Among the heavyweights are Federated Investments and J.P. Morgan Asset Management in the U.S. and Amundi, DB Advisors and Goldman Sachs Asset Management in Europe.
Before the global financial crisis, cash funds “slipped under the risk radar” for many managers, Martyn Simpson, senior associate in Mercer's bond manager research boutique in London, said in an e-mailed response to questions. “Now all that has changed, which means many asset managers are considering just how much they want to be in cash management. It tends to be a low-margin business, so scale is important for profitability; it also helps performance as large funds have the ability to get good deals from issuers.”
Consolidation already has begun, according to data from consultant Strategic Insight Global. The largest 20 money market fund managers in the U.S. held a 91.6% market share as of April 30, up 3.1 percentage points from an 88.5% share two years prior. In Europe, the market share of the largest 20 managers rose 3.4 percentage points to 72.4% as of March 31, up from 69% two years earlier.
And since Jan. 1, 2009, three bond and cash powerhouses claimed $15.7 billion, or about 77%, of the $20.5 billion in searches for cash managers by U.S. institutional investors, according to data from money manager consultant Eager, Davis & Holmes LLC's Tracker Hiring Analytics. Federated Investors won $12 billion in new mandates, while Pacific Investment Management Co. and Wells Capital Management nabbed $2.3 billion and $1.4 billion, respectively.
“Most U.S. or European fund complexes will find it difficult to maintain cash funds alongside everything else,” said Benjamin F. Phillips, partner at money manager consultant Casey, Quirk & Associates, Darien, Conn. “However, while many small cash fund owners will consider selling, only a few large consolidators will rank among active buyers.”
J. Christopher Donahue, president and CEO of Federated Investors Inc., Pittsburgh, said managers ranked below the top 25 are all potential candidates for consolidation. “You can be assured we're calling on all of them,” he said.
Federated added $14.1 billion of money market assets in 2010 from the acquisition of funds from RidgeWorth Capital Management, a subsidiary of SunTrust Bank. Federated managed $271 billion in cash strategies as of March 31.
DB Advisors has merged two competitor funds into its own this year. Last week, it completed the acquisition of more than $5 billion in money market funds from Standard Life Investments, bringing total cash assets under management to e85.3 billion ($124.9 billion).
Standard Life decided to get out of the constant net asset value portion of the cash management market because of anticipated changes to regulations in Europe and the U.S., according to spokesman Brian Simmons.
“We think that Treasury-style money market funds will fall into the scope of banking legislation in the future,” Mr. Simmons said. SLI will continue to run £3.5 billion ($5.7 billion) in cash strategies in which the value of investments may vary.
Henderson Global Investors also cited the regulatory environment as a reason it merged about £3 billion in its cash funds into those of DB Advisors in March.
In June 2010, the Securities and Exchange Commission implemented amendments to Rule 2a-7, which governs money market funds, to improve the stability and liquidity. Also in 2010, the European Securities and Markets Authority established the first pan-European definition for money market funds.
Experts believe the new definition will help increase the size of the liquidity market in Europe. Kathleen Hughes, managing director and global co-head of cash distribution for Goldman Sachs Asset Management, said the clarity given by ESMA will “help define how investors start to think about cash” and “help drive this business in Europe.” Ms. Hughes said GSAM is looking to expand its cash business, especially in Europe and Asia. GSAM ran $240 billion in cash strategies as of March 31.
In March, Amundi Asset Management announced a push into money market funds aimed at European corporate treasury cash. The manager expects an additional e30 billion of cash to be up for grabs in the next three to five years, said Laurent Bertiau, Paris-based deputy head of the institutional investment division in charge of marketing and development.
“Most of the large companies in Europe are still cash-rich, and the combination of quantitative easing and market uncertainty is working in favor of risk-free assets,” Mr. Bertiau said. Amundi is not looking to add assets by taking over assets of competitors. “We strongly believe that organic growth is the way to go,” he said. Amundi ran e120 billion in cash as of March 31.
But additional regulations are expected in the near future, some of which could make running money market funds more costly, experts say.
“There's no doubt there will be another phase of reform in the U.S.,” said the cash chief at one large firm, who asked not to be identified. The next phase could include forcing liquidity managers, as well as banks and insurers, to back funds with capital in both the U.S. and Europe. If regulations moved toward some required capital for cash managers, it “could be enough to get a larger manager to rethink” the cash business, the manager said.
In a quarterly sector update, Fitch Ratings noted that pending Basel III requirements for banks will likely “favor deposits over securities for short-term funding.” That would shrink the investible market for money market funds, which might also “suffer from the aggressive promotion of deposits for cash placement,” according to the report.
Said Mercer's Mr. Simpson: “We would not be surprised if a lot of smaller players have simply stopped offering these products or have white-labeled them with a bigger player, and this will have happened under the radar. Over time, we expect this trend to continue with only a handful of large committed players remaining in the market.”
With white-labeling, one manager keeps certain duties, such as client services, while another manager actually handles the assets. One example is Eagle Asset Management, which closed its $2 billion cash funds in the fourth quarter of 2010 and mapped assets from each fund into corresponding funds run by J.P. Morgan Asset Management.
Money manager sources expect that consolidation will be episodic, rather than a flood of managers leaving the business at once.
Chris Redmond, London-based senior investment consultant in Towers Watson & Co.'s cash manager research division, is somewhat wary of concentration of assets among the largest players, many of which are asset management divisions of banks.
“There is an ongoing debate over whether or not a liquidity fund which is run by (a bank-owned) asset manager will be supported by the bank in a period of difficulty,” he said. While Mr. Redmond suggests that many pension fund officials believe in an unwritten rule that banks would bail out their cash funds, he thinks pending regulations would prohibit such a move. “If there was an event, the potential liability of the parent supporting (a huge cash fund) becomes very, very large,” he said.
Another consultant speaking not for attribution noted that money-market funds are not guaranteed investments, and that non-bank-owned cash managers still have default risk. “Large cash managers will become very careful about how they manage their money in order to avoid default risks. This favors large, multiproduct asset managers that can access creative investment tools to create yield,” the consultant said.
