Contrary to popular belief, there is no Chinese curse that declares “may you live in interesting times”.
Nevertheless, it is a neat encapsulation of the irony that peaceful times are dull. We would be hard pressed to remember a year as fraught with political change than the last 12 months. Interesting times indeed.
The outcome of the EU referendum came as a shock to many in the financial community. A vote to Brexit led to David Cameron’s resignation and a rise to Prime Minister for former Home Secretary Theresa May. In November, the election of Donald Trump as de facto leader of the free world appeared to hail a new populist, right-wing trend.
More recent events implied that has stalled, however. While Geert Wilders’s right-wing PVV, despite having the second largest number of seats, was effectively black-balled from coalition discussions, the GreenLeft has raised its seats more than three-fold to become the Netherlands’ largest left-wing party. Emmanuel Macron defeated Marine Le Pen to become France’s youngest president, despite having founded his party En Marche just a year ago.
That said, a more subtle definition of the populist trend is crystallising: the momentum is purely anti-establishment and not necessarily a lurch to the political right.
On 8 June, the UK general election results starkly illustrated this theme. May led a campaign focused on “strong and stable” leadership, intended to deliver a landslide majority and thus strengthen her hand during Brexit negotiations. Meanwhile, more than 750,000 people had passed their 18th birthday between the 2016 referendum and this year’s election.
A 72 per cent turnout among 18-24 year-olds, versus the 45 per cent who voted in 2015, looks like it had a significant impact on the result. The Conservatives’ attempt to obtain a commanding majority, from what pollsters regarded as an a priori certainty, ended in a humiliating plea to the 10 MPs in the Democratic Unionist Party of Northern Ireland to support a government that, as I write, seems doomed to a short life. One might coin the outcome the “young remainers’ revenge”.
This anti-establishment theme is not restricted to politics. The pillars of the investment industry are being shaken by the winds of reform.
Fund managers come out fighting
Former Investment Association chief executive Daniel Godfrey resigned in October 2015 as “establishment” members threatened to leave the trade body in response to his “narrow and aggressive” reform agenda.
In May this year, Godfrey launched The People’s Trust as a response to a perceived lack of customer-centric principles within the wider investment industry.
Most significantly, the anti-establishment theme has percolated down (or is that up?) to the regulator. The FCA’s Asset Management Market Study interim report may ultimately have a greater impact on the financial services industry than the RDR.
The report challenges the fundamental tenet of investment management – that experts can consistently deliver exceptional returns after costs. Most remarkable was the unforgiving tone and the brutal accusation that the industry is uncompetitive, lacking cost controls and unwilling to set clear fund objectives, while its governance structures do not act in the interests of investors.
A “hard rain” is also falling on fund managers’ balance sheets. Active managers’ profits are decreasing, even as their assets under management have risen during the eight-year bull run.
McKinsey forecasts fund groups’ profits in Europe could collapse by a third this year due to rising regulation and competition from passive alternatives. But those margins in the UK are still close to 40 per cent post-bonus payments. A healthy company in any industry would expect operating profits of around 25 per cent with no similar disbursements. There appears to be plenty of profit sharing opportunity available for investors.
In response to increasing pressures, there are many across the financial services establishment (and not exclusively in fund management) who would prefer that the regulator kept its distance, particularly on the twin subjects of price and value.
They are prone to remind their critics that the basis of capitalism is a “free market”, where healthy competition alone should create better value and improved outcomes for investors. This is typical of tired establishment mantras. Capitalism depends on a collective trust that tomorrow will be better than today. Investors who sacrifice spending now expect reward in the long term, while wider society benefits through that economic process.
There is no such thing as a free market; markets by themselves offer no protection against fraud and snake oil salesmen. That is why we have ethical standards, laws and regulators. It is not a comment on the many but awareness of the behaviours of the few.
However, challenges to the political and economic establishment are about structures, not people’s morals. To quote journalist Owen Jones: “The objective is to change the system and the behaviour it encourages, rather than replacing ‘bad’ people with ‘good’ people.”
Next generation investment
Critics of the investment establishment find fund managers an easy target. Lazy senior management tolerating beta delivery at alpha prices, inelastic pricing and ignorance of the end-investor’s requirements have served to smear genuine alpha deliverers with the same slop-soaked brush.
A core of outstanding active fund management has delivered long-term outperformance for patient investors and, comparatively speaking, their industry standard charge is a premium commensurate with the outcomes they deliver.
Unfortunately, a new generation of investors may be led to believe that tomorrow may be better than today, but rather more so for the wider investment industry than the investor.
It would be a tragedy if an anti-establishment generation ignores quality active management, simply because they cannot see the good for the fees.
Graham Bentley is managing director at gbi2