In this guest insight for Wealth DFM, ISS Market Intelligence’s* EMEA Data Leader, Benjamin Reed-Hurwitz, shares some practical ideas for wealth managers and DFMs looking to bolster their top lines with revenue growth under increasing strain.
AUM has long been the proxy for fund managers’ brand and financial strength. Why, then, is growing revenues becoming the new name of the game?
With the investment business still centred on asset-based fees, the growth of low-cost indexed solutions in developed fund markets means asset growth now generates less new revenue than in the past. Revenue growth is increasingly lagging asset growth as a result, breaking the historical link between the two.
Our analysis shows how this dynamic is playing out across markets, with the gap between asset and revenue growth widest in the UK and the European cross-border markets of Ireland and Luxembourg. For the UK and the cross-border markets, the growth gap was 5.3% and 2.8%, respectively, compared to a 1.3% gap in the US.
While a large, albeit shrinking, active fund market will continue to support the industry’s revenue base, asset managers are under increasing pressure to find new avenues to grow their top lines. Below we break down what the data is telling us, as well as the potential paths to success.
Index funds still winning
Index funds have upended the fund business in myriad ways. Such solutions accounted for about 30% of AUM at the end of 2023 in Europe, including the United Kingdom.
Overall, these two markets have witnessed index funds’ long-term AUM share increase by more than 15% in the past decade.
While no single factor has contributed to the rise of index solutions, the shift amongst advisers from commission-based to fee-based pricing structures has been a key contributor.
The separation of advice fees from product fees created fertile ground for advisers to request fee reductions, either in the form of lower cost funds or share classes from their asset management partners. Lower investment fees have served (and will continue to serve) as a means for advisers to control the overall cost-to-customer of investing without having to sacrifice their advice fees.
ESG is sustaining active popularity
Whereas index adoption is taking hold in a steady manner in the UK, the EU marketplace has seen the fortunes of active management vary more widely over the past five years.
Following the implementation of the EU’s Sustainable Finance Disclosure Regulation (SFDR), a surge in investment fund flows flowed into environmental, social and governance (ESG)/sustainable managed active funds.
Sustainable investing remains largely an actively-managed affair in the EU, with index solutions accounting for just 15% of the fund AUM covered by Articles 8 and 9. This compares to 44% for Article 6 funds, which are not primarily sustainably focused.
If fund buyers continue to equate sustainable solutions with active management and these solutions return to fashion, index funds may witness significantly less index fund adoption in than in the US.
ETF interest continues building
On both sides of the Atlantic, exchange-traded funds (ETFs) have grown by leaps and bounds in the past decade.
In Europe, long-term ETFs have crossed the €1.5 trillion asset threshold in 2024—and show no signs of slowing down. Flows remained positive throughout the challenging years of 2022 and 2023 amid significant barriers to further retail adoption of ETFs. ETFs are not widely available or efficiently transactable across many adviser and do-it-yourself platforms in Europe (including the UK).
ETFs in Europe gained traction early on with institutional investors and high-net-worth investors given their propositions around cost and liquidity. Interest, however, is building beyond the original investor base.
All is not lost for active management
Indeed, active management still generates the lion’s share of the revenue stemming from investment funds in the analysed markets. Even with index solutions representing 30% of long-term AUM, actively-managed funds account for well over 90% of the revenue pie in the UK, Ireland and Luxembourg.
The opportunity to win in the active space—even if it is a shrinking opportunity—remains an attractive one. Building a commensurate revenue base from index funds, which can be priced at a fraction of their active counterparts for core mandates, would prove a near-impossible task for today’s active managers.
European managers may wish to look west
Today, Europe’s position in terms of index solutions’ share of revenue and AUM parallels that of the United States a decade ago. European managers—both active and passive—may therefore wish to look west to determine the best course of action.
The UK, Ireland and Luxembourg have over 15,000 domiciled funds, and manager consolidation also appears to be a possibility, with more than 500 managers operating in those jurisdictions. What is less certain is where attention is turned beyond traditional fund structures.
While active ETFs are growing in Europe, they remain miniscule, and active ETF adoption lacks a clear path amongst retail clients across Europe, as there was in the United States, as platform and distribution dynamics have created barriers.
Nonetheless, active fund managers are likely to find new narratives if they hope to combat the market share losses seen in the United States in the coming decade. Expect ETFs, sustainability and the alternatives to be part of that story.
Where now?
Against an uncertain backdrop, managers will need to focus more on the generating revenue and profitability. Index investing has changed the game. Barring strong market growth, industry revenues appear ready to stagnate.
Increasingly, fund managers may also find themselves with less pricing power as consolidated buyers in institutional or retail channels rise to the forefront. In response, we can expect fund managers to be selective in expanding to new markets and more willing to ruthlessly rightsize operations where growth prospects dim.
When evaluating new opportunities, it will become increasingly important for managers to strike a fine balance between the earning potential of an opportunity—a function of both investor willingness to pay and available assets—against the costs of entering that market. AUM alone, will no longer suffice.
*ISS Market Intelligence is a provider of data and analytics to the global financial services industry (publishing the Pridham Report, among other well-regarded papers).
