After second-quarter results delivered some harsh realities to a number of banks, especially those vulnerable to the strength of the Swiss franc, many have reiterated their strategies to develop their wealth management businesses, even as they embark on wider cost-cutting strategies.
“Directionally, that’s where they’re heading. Wealth management revenues are a very welcome, stable quantity – in the last couple of years it has become a treasured revenue stream. Investment banking revenues go up and down with trading periods, and of course wealth management suffers too in low trading periods but it always has a base level. It is more reliable, but many firms still have a profitability issue,” says Alois Pirker, research director at Aite Group.
As Toby Pittaway, a partner in Oliver Wyman’s Wealth and Asset Management practice, points out, the appreciation of wealth management revenues has been building for a number of years, boosted in part by the financial crisis. But he says a number of banks have reaffirmed their commitment to growing their global wealth management businesses over the next 12-24 months.
“Also, like all good businesses, banks are always reassessing where they are,” adds Pittaway.
To name but a few: Barclays Wealth is embarking on Project Gamma, UBS is reportedly trying to protect and grow its relationship staff amid other job cuts, and - in the US - both HSBC and RBC confirmed that wealth is central to their strategies when they sold other businesses recently.
But the sector poses a number of challenges for both independent wealth managers and banks, not least the fact that the latest Scorpio report shows cost-income ratios of almost 80 per cent (click here).
But wealth management is a cyclical business, currently squeezed by low interest rates and risk appetites. These factors will eventually abate, and long-term dynamics for the wealth management business are strong (growth in Asia, aging populations in the West requiring retirement planning, political unrest driving asset security, etc).
Firms are looking to tackle the profitability issue across the board, says Pittaway, examining their coverage and advisory models, scale, and product manufacturing and delivery channels.
Particularly, there is a renewed focus on individual client profitability. “Individual client profitability isn’t such an issue when you’re growing a business, but it is when you’re trying to tackle efficiency,” says Pittaway, adding that this could result in clients being asked to commit more of their "spend wallet" to a relationship.
One recent example is Bank of America’s consolidation of its wealth management business outside the US. The move will see it cease to manage client money outside 20 “core” regions that cover 77 countries. This will produce a 3 per cent cut in non-US assets under management, although it is understood that efficiencies to be gained from the changes are designed to boost profitability and margins.
In easier times firms often take on clients that don’t meet their minimums, often through friend and family recommendations, says Robert Ellis, a principal of Fast Track Advisors who has examined the issue. In some cases average asset sizes are even below stated minimums, says Ellis.
Emerging from the scrutiny on client profitability is a renewed appetite for client segmentation. “The industry is really waking up to this,” says Pittaway.
Ellis notes that on this issue the important point to consider is that client segments are both practicable and have distinct needs in terms of product and delivery channels.
“[The banks] do see value in [client segmentation], but when you drill down to the strategies between segments in some cases they’re almost identical,” says Ellis. He believes this is because firms often try and spread resources equally between segments without analyzing the profitability of each segment. “And profitability is not linked to individual asset size,” he adds.
But as a number of banks seek to grow their market share at a time of low wealth creation in the West (Asia and emerging markets offer quite different dynamics, as well as challenges) profitability must be examined because competition will be fierce. It is notoriously much easier to expand client books in periods of strong economic growth.
On both sides of the Atlantic, the banks are competing with independent firms for clients. “Many banks have what might be considered less than their fair share of the wealth management market, and are looking to gain greater fee-driven revenues in activities that don’t consume balance sheet,” says Pittaway.
Some industry spectators say there is a movement towards the independent industry afoot, with boutique firms being set up post-crisis at a fast pace in the UK, and a number of advisors turning independent in the US.
“Statistics show an increased number of independent firms being set up – and some are offering something different – but I think it would be wrong to say the market will be skewed in one way or another; there is room for both,” says Pittaway.
Regarding the US market, Ellis is somewhat skeptical about motivations for going independent. He attributes some of the movement to the fact advisors who become independent at least a few years before retirement get a greater multiple of their book value when they retire. Wealth management is an aging industry, so were this true it could explain part of a trend towards independence.
He says there is an argument for independent firms that can offer a unique value proposition, but that the traditional case of independent investment advice becomes less valid as all major firms move towards open architecture.
Both models face difficulties, says Pittaway: “The large banks have relative advantages in cross-referrals and scale product manufacturing; meanwhile, the flipside is that small firms can be nimble through keeping overheads down and better linking compensation to production.”
As the onslaught of acronyms such as FATCA, RDR and the AIFM directive demonstrate, regulation is another factor wealth management firms increasingly have to contend with. “The regulators are moving the goal posts,” says Pirker, “and in light of this firms have to take a step back and make adjustments.”
There are examples of firms tweaking their business models, often relating to which services they provide where. Signs firms are examining this issue, as well as the BofA announcement, are that HSBC is the latest in a string of private banks to pull out of the offshore US market. Meanwhile, Standard Chartered Private Bank is either selling its operations in Miami, Uruguay and Chile, or moving these booking centers to Asia and Europe.
Offshore, onshore converge
Nowhere perhaps has the regulatory landscape had such an impact than on the offshore business models.
“To an extent this model has previously relied on a lot of secrecy, as it has opened up and taxes have to be paid, this has pushed all firms onshore essentially, and they have to provide performance to retain assets,” says Pirker.
“The offshore model has traditionally been very profitable which has been used by many to fund growth in onshore markets,” says Pittaway. “The new offshore model, with international clients looking for service and security rather than tax secrecy, is a lot more demanding. However certain off-shore centers such as Switzerland and London can still do very well out of this.”
One example is that RBC Wealth Management, despite the regulatory hurdles provided by the SEC, is actively pursuing the expat US market from London, as other banks desert this client segment, focusing on the opportunity created by becoming experts in this and providing a fully-compliant service.
Is there a sweet spot?
Amid escalating regulation and clients expecting more for less, industry commentators suggest there is a “sweet spot” in wealth management. Ellis says that, broadly, the mass affluent market is the sweet spot, with (in the US) as much wealth combined as the high net worth and ultra high net worth markets and fewer client demands, and the possibility of higher margins.
Recent developments in this space include JP Morgan planning to add some 150 offices to its Chase Private Client business. The service is for clients with around $500,000 of investable assets, who do not have the larger sums needed to be a client of JP Morgan’s private bank. Bank of America plans to double its advisor headcount for the mass affluent space to over 1,000 this year alone.
“The mass affluent opportunity is big but challenging, you have to have the right model in place,” says Pirker. “Services delivered through advisors are moving upstream, but what do you do with the smaller flies? If you don’t have a strategy in place you have to wave goodbye to those clients.”
“Technology has become the preferred way to access information and access money, and it’s not only mass affluent customers that require these services. The tech revolution took place alongside the financial crisis – the development of smartphones, etc, mean that people expect a lot more in terms of servicing capabilities,” says Pirker. “Merrill Edge, that’s a conscious decision to aim at $250,000 accounts, but it’s available to all wealth segments because clients are asking for it.”
A case of branding
Pittaway says any discussion of a sweet spot needs to be specific to each firm: “It all comes down to how strong your relationships are, and what your advisory model is.” In his view, the institutional product within investment banks makes a natural fit for higher-end HNW clients while banks with a strong retail offering should find it easier to profitably penetrate the affluent market.
As well as cross-overs with clients’ needs, this is also an issue of brand, points out Ellis: “A strong brand can even be a weakness, because you might find it harder to change markets.”
One thing on which there seems little disagreement is that a client focus is becoming essential, and Ellis views putting the clients' needs first as they to survival.
“Firms have to be even more creative. There will be firms that are doing it better and firms that are doing it more profitably, and if you can’t update your business model you will be driven out of the market. In that sense this business has changed, before maybe you could get away without being the most innovative company but you can’t nowadays. Clients are not shy about moving their assets,” concludes Pirker.