Active vs passive: the distributor view

28 May 2018
By Tiziano Giannotti

By Fiona Maciver

Several months on from the arrival of Mifid 2, it’s a good time to review distribution-related developments in the active-vs-passive debate. Though possibly too early to identify meaningful trends, a combination of flows data and the qualitative feedback gathered during interviews with fund selectors nevertheless highlights current forces of change for both the active and passive camps. It is also apparent that recent market volatility has played havoc with the hypothesis that sales of passive funds would rapidly gather momentum in a post-Mifid-2 world.

Future asset-allocation intentions

According to Fund Buyer Focus research, appetite for passives is continuing to increase among European fund selectors, trending up across most markets and channels. Over the 12-month period to 31 December 2017, Europe’s distributors increased their average allocation to passive products to 22% – up almost two percentage points on the previous year. Advisory and discretionary channels were the biggest users of passive products among the fund buyers interviewed. Meanwhile at a country level, the most price-sensitive market, the Netherlands, has the highest allocation to passives: 40%. More than anywhere else, active managers looking to compete in this market must offer highly differentiated, alpha-generating products to stand any chance of attracting new business flows.

Has the tide turned?

While market conditions, regulatory pressures and loose monetary policy across developed markets have supported the growth of passives, any extended period of market volatility is expected to swing the pendulum back to active management. While recent sales data are fairly encouraging from the point of view of active managers, with March’s sales favouring active funds, the majority of flows were in mixed asset products. Retail investors – the primary clients of such funds – have a tendency to retreat in difficult times and will need reassurance that products will not provide any nasty surprises in a downturn. Meanwhile fund selectors are looking for more innovation from asset managers to offer alternative strategies in challenging market conditions, as well as high levels of support. Innovation can help managers set themselves apart from competitors as well as demonstrating that they can respond to client needs.

Active and passive thoughts

Inviting qualitative comments on any subject can be akin to opening a can of worms, but reviewing distributors’ perspectives on industry change is useful in pinpointing the key areas of concern. Regulation and the cost of investing continue to feature heavily, with a natural corollary being a high volume of feedback on the prospects and needs for passive and active products. Views on active management range from extreme pessimism to a more positive outlook for true alpha generators.
In the glass-half-empty camp, distributors paint a doomsday scenario for active management, citing overpriced, benchmark-hugging funds as a problem, and the belief that active funds cannot provide added value. In the more optimistic camp, buyers see the best actively managed offerings as a force for good, weeding out underperformance and allowing quality managers to shine. The common ground between the two is the recognition of significant industry change where both passive and active managers will have to demonstrate value in the overall package that they offer to distributors. Price alone is not a sufficient differentiator.

Outlook

Whether active, passive or hybrid, demonstrating value and relevance in a rapidly changing marketplace will be key to asset-manager survival. The pressure on the cost of investing is not going to go away for intermediaries or manufacturers – a race to the bottom is not in the interest of manager survival or the choices available to the end-investor. Active managers in particular will have an uphill struggle to convince selectors of their added value. To succeed, they will have to offer compelling alpha-generating strategies and become increasingly specialised as passives become a core component of portfolios. Asset allocation and multi-asset strategies are likely to see higher demand, but the current dominance of the active variety will come under attack as passive strategies eventually evolve into this space