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Why investment houses must be big or niche to survive

Why investment houses must be big or niche to survive

Advisers are faced with a future where only the “very big” or the “very niche” survive, according to Simon Gergel, who runs the £686m Merchants Investment Trust.

The recently announced merger of Aberdeen and Standard Life Investments created a company named Aberdeen Standard Investments, in which Gergel has been investing.

He said: “This is described as a merger, but really it is a takeover of Aberdeen by Standard Life, with no premium paid.

"The asset management industry is moving to a point you have to be either very big or very niche to compete. The guys in the middle are going to struggle.

"The cost savings from Aberdeen and Standard Life merging will be very substantial, and there have not been a lot of outflows. The companies complement each other nicely. Aberdeen has a strong emerging markets franchise, whereas Standard Life has little presence.”

He said increased pressure on fund houses from passive investing and regulatory costs could be the driver of merger and acquisition activity.

But Michael Werner, diversified financials analyst at UBS, disagrees that this is the way the fund management industry is heading.

He said: “There has been an increase in large-scale European M&A deals recently but we think this trend is unlikely to progress.

"Despite the on-paper benefits of M&A, integration risks are high in this people-driven business and only firms facing structural challenges or outflows are likely to pursue large-scale deals.

"The only scenario where we see large-scale M&A deals accelerating is in a market correction where asset prices decline more than 10 per cent.”

He said the benefits of economies of scale usually begin to evaporate once the assets under management (AUM) of the firms has reached £50bn, with the benefits only marginal once the AUMs reach £30bn.

Mr Werner said the increased cost of regulation is unlikely to be a driver of future acquisition activity, as many expect, because, in his view, firms with AUM of more than £5bn will find the impact of increased regulatory cost has only a marginal impact on profits

Paul Mumford, who runs the Cavendish UK Opportunities fund, has long been skeptical of the investment case for asset management companies, and he said merger and acquisition activity doesn’t increase the likelihood of him investing in the combined firms.

He said the reason he tends to avoid investing in the asset management and broader financial services sector is the cyclical nature of the companies.

Mr Mumford said the fate of those sorts of companies is very much linked to the performance of the stock market, and economies of scale doesn’t address that.

One fund manager who is a long-term investor in asset management companies is Nick Trian, who runs the £4bn Lindsell Train UK Equity fund.

He said savings achieved as a result of technological change will drive margin growth in future.