Boutique firms wait patiently for a return to active strategies

Boutique money managers are biding their time, waiting for the investment pendulum to swing back to the active strategies that can benefit their firms.

Institutional investors moving to passive management now are driving asset flows to the largest of the large money managers.

“This could be a two- to three-year cycle, so grit your teeth and hold on,” said Janna L. Sampson, co-chief investment officer and managing member of the Lisle, Ill.-based boutique OakBrook Investments LLC.

But most small managers said they are just fine with moderate asset growth and staying relatively small.

“Being a smaller firm, we continue to see growth and opportunity on the institutional side,” said Tim Sheehan, senior vice president of BPV Capital Management, a Knoxville, Tenn., manager that manages equity and multiasset-class strategies with $1.93 billion in assets under management as of April 1.

Added Mr. Sheehan: “We don't want to be too big, but we do need to offer more strategies to be meaningful.”

As reported in the May 18 issue, the global AUM of large money managers rose 114% in the 10 years ended Dec. 31, while total assets of the smallest firms dropped 40% during the same period. (Largest was defined as having $100 billion or more in total AUM, smallest as having $2 billion total AUM or less.)

“This movement toward large is significant, but somewhat distorted, because the move is really toward passive,” explained Tim Barron, chief investment officer at consultant Segal Rogerscasey in Darien, Conn.

OakBrook's Ms. Sampson said: “The fact that we are seeing U.S. flows into index funds favors the larger firms. And there are very few, if any, small index fund managers.”

But the move to passive isn't the only thing driving assets to the biggest firms. Ms. Sampson added assets also are flowing into international strategies, including emerging and frontier markets. “While there certainly are some boutique international firms, international investing requires a larger investment staff,” she explained. “You need boots on the ground, which can be prohibitive to a boutique manager.”

OakBrook Investments had $1.89 billion in AUM as of Dec. 31, up 64% from the same period a decade prior.

Scott Herrick, director of national marketing and client service at Becker Capital Management Inc., Portland, Ore., said that “branding and advertising” also “makes it harder to compete with the larger firms.” The larger money managers can afford to blanket their brand across the entire investor community, he explained.

Becker Capital had $3.25 billion in equities, fixed income and multiasset-class strategies as of Dec. 31, up 35% from year-end 2004.

Despite those challenges, executives said what boutiques with $1 billion to $5 billion in AUM can do is stick to their knitting, tell the industry what makes them unique in the marketplace and keep their clients happy.

Christopher Neill, senior vice president and head of institutional relationships at Thomas White International Ltd., Chicago, said that for a boutique manager, “the biggest advantage is flexibility and customization.”

Douglas Jackman, director of the institutional department at Thomas White, added: “Client access to the senior people is definitely another advantage.”

“As a boutique, if you can specialize in one or two things really well, you can do well,” said Mr. Neill. “We're not trying to be all things to all people.” Thomas White manages $2.32 billion in global, international and emerging markets equity strategies, up from $192 million a decade ago.

In order for boutique asset managers to survive — or even thrive — in today's environment, it is essential that they advertise to asset owners what makes them special. “If you have a particular niche, you have to target the type of client that will be attracted to that niche,” said Oakbrook's Ms. Sampson. “But it's difficult.”

Mr. Barron of Segal Rogerscasey agreed. “A small firm has to figure out what are the kinds of asset owners or consultants that like what they do and target them,” he said. “Those managers that try to be all things to all people tend to be nothing to no one.”

George Young, a partner and co-portfolio manager at Villere & Co., New Orleans, noted although “having good performance is important,” it doesn't matter much if institutional investors don't know about it. “If a tree falls in the forest, does it make a sound? If a manager performs well and no one knows it, does it matter?” he asked rhetorically.

And while smaller managers can be incorporated into larger firms, most sources interviewed for this story said that's an option that interests very few boutique managers.

Janie Kass, the San Francisco-based managing director for money management consulting firm Margolis/Kass Advisors Inc., pointed out that being bought by a larger firm goes against the very reasons most senior executives at smaller managers went into business for themselves.

“It's also something about culture. A lot of people started at bigger firms and wanted to be part of something smaller,” she said.

Ms. Kass added: “Some of these firms don't want to grow beyond $5 billion. Now will that change with time? Who knows?”

Andrew Dyson, the London-based executive vice president and head of global distribution at Affiliated Managers Group Inc., said a boutique could be a part of a larger manager like AMG, Legg Mason Inc. or BNY Mellon Investment Management, while maintaining its individual identity.

“They can retain their independence but get the benefits of scale,” said Mr. Dyson.

And some boutiques are acquirers. BPV in December bought investment advisory firm Skyview Investment Advisors. Then in April, it bought Cain Brothers Asset Management, with $1.65 billion in assets in fixed-income strategies.

“We're looking at other outside strategies that we don't have,” said Mr. Sheehan. “But the strategy (if we acquire) has to be consistent with our investment philosophy and fit with our culture.”

Looking ahead, several industry experts pointed out that active management will come back in favor with asset owners, to the benefit of smaller managers that have been performing well.

“With all these assets flowing into index funds and index (exchange-traded funds), that's creating more inefficiency in the market and that could force the pendulum to swing the other way. That's where smaller managers could benefit,” said Eileen Neill, a managing director at Wilshire Associates Inc., Santa Monica, Calif.

“We're going to see a shift back toward active management. The large managers are going to continue to get their market share. But by hiring a smaller manager, (the managers) can bring something different to the table,” said Becker's Mr. Herrick. “I don't think (anyone has) ever done a study that says bigger is better. I don't think it's there.” n