A recent article in the Financial Times’ asset management supplement spoke volumes about what's wrong with the industry it covers. The piece, “Bank-owned funds used as props”, prompted FT Alphaville to run a parallel one headlined “Double agents in asset management”.
The original FTfm article revealed that fund managers owned by banks systematically ride roughshod over customers’ interests by using their funds to prop up the flagging share prices of their parent institutions. If there's a bigger indictment of the fund management industry, I can’t think of it.
Let’s simplify. An investor hands a fund manager £1,000 to look after, on the understanding it will be invested where the fund manager believes it can generate the best return.
Instead, the asset manager puts a large chunk of the money entrusted to him into shares of the bank that owns his firm – probably because these shares have been falling and probably also following pressure from the bank. When the share price of the bank continues to tank, the customer is left severely out of pocket.
But even though he's been using customers’ funds to assist an illegal share support operation – similar to the one for which three of the Guinness Four (Ernest Saunders, Gerald Ronson and Anthony Parnes) served time in jail – the fund manager goes undetected and unpunished.
Steve Johnson's FTfm article quotes José Marin, professor of finance at Madrid’s IMDEA Social Science Institute and co-author of the Price Support in the Stock Market research paper as saying:
“There is a huge agency problem in the asset management industry. There are double agents who work for the asset management firm but they also work for investors. Regulators should be worried about this. It is very robust evidence."
Marin’s report focused on the Spanish mutual funds market, which is half controlled by bank-owned players, between 1990 and 2009. It identified 31 episodes in which bank stocks slid sharply. In the subsequent quarter, funds unaffiliated to banks were net sellers of banks' stock, but affiliated funds “significantly increased their holdings of parent bank stock", buying almost five times as much as non-affiliated funds sold.
Marin, who has made his findings known to Spanish regulator the Comisión Nacional del Mercado de Valores, suspects he may have uncovered what may be the tip of an iceberg that is not confined to Spain. He and co-author Benjamin Golez of Barcelona’s Universitat Pompeu Fabra intend to carry out a similar study in the US, where 40% of funds are affiliated to banking and insurance groups.
Separately, Douglas Ferrans, ex-chief executive of Insight Investments, an asset management group formerly owned by HBOS, who is now chairman of the London-based Investment Management Association, has warned of similar conflicts of interest in the UK market.
“Is a bank-owned asset management firm really going to speak out publicly on a governance issue if the parent company has a banking relationship that generates significant fees in that area?
Similarly, is an insurance-owned asset manager going to lead the charge on a governance issue if there is a business relationship within the group that commercially dwarfs the asset management relationship?
Only a few brave souls do so and they do so particularly well. But they are in the minority.
So we have to act responsibly and, where necessary, inform our conflicted parents of our fiduciary duty to our customers. If they don’t like it, it is clear they should divest themselves of their investment management businesses and only then can the conflicts be conquered and the behaviors altered."
That would, of course, be the correct stance to take but, as so often in asset management, pragmatism tends to prevail over principles. Perhaps the time has come for fund managers to swear their own version of the Hippocratic Oath?
Further reading on the asset management industry:
- Money Managers, by David Pitt-Watson
- Viewpoint: Anthony Bolton: Savings is a Growth Industry
- Having recognized role in crisis, fund managers put themselves on the couch, by Ian Fraser
Tags: asset management , banks , conflicts of interest , fund management , illegal share support operation , Spain