Behind the headline figures

It has often been remarked that trends in US mutual funds, the largest fund market in the world, are mirrored by developments in European fund markets, but with a time lag of a few months.

At face value this would seem to be continuing, particularly throughout the second half of last year, but with much less delay. Fund assets in the US totalled $7200bn (€6000bn) and asset growth in 2003* was up 13.2 per cent. Fund assets in Europe totalled €3.40bn and asset growth was up 13 per cent.

Looking behind the figures we can see some interesting differences. Net sales of funds in Europe, across all sectors, have almost consistently outpaced those of US investors throughout 2003. (See Chart 1.)

The most noticeable divergence between US and European investor behaviour has been in the equity fund sector. Since April last year, confidence has been growing, and every month has posted strongly positive equity fund flows, generally with an upward trend, in both the US and Europe.

Sizeable intake

In the US it has been a tidal wave. (See Chart 2.) Equity fund inflows have totalled the equivalent of €119bn, a figure not only reversing last year’s equity fund outflows of €36bn, but, for reference, also towering over post-crash 2001’s equity fund intake of only €30bn.

In comparison, European investors’ equity fund appetite has been much more muted with net sales of €33bn, which, if annualised, looks likely to end the year at about the €35bn mark. (This would be a rise of 29 per cent over 2002’s total and just under the €40 bn figure achieved in 2001.)

But analysing where this money has come from reveals an underlying development which has yet to be really spotted. (So remember, you saw it here first!) In terms of net sales as a percentage of asset growth, only 7 per cent ($59bn, €48.4bn) of the US $844bn (€701bn) asset growth has come from new money. In contrast, 48 per cent (€192bn) of Europe’s €400bn asset growth has come from new sales. (See Chart 3.)

American investors have moved the bulk of their money around the system whereas European investors are investing afresh. The US equity fund momentum has been almost totally fuelled by a shift out of bond and fixed interest products.

However, alongside their mutual fund activity US investors have also been turning to individual managed account programmes. These are individual portfolios mandated on behalf of an individual, by a financial adviser, and containing a variety of investments. The account is valued in the same way as mutual fund but has more efficient tax usage than traditional fund investment.

Managed account programmes are a growing development. Recent analysis by Cerulli Associates, the Boston-based financial research company, shows that assets in managed accounts have increased by 36.6 per cent over the last five years to a Q3 2003 total of $450bn.

Year-on-year growth figures (see Chart 4) comparing separate accounts with long-term mutual funds also show that accounts had more staying power during the market downturn.

According to Cerulli, improving technology and innovation is allowing broker-dealers in the US, who account for two-thirds of managed account programme assets, to offer programmes to smaller and smaller investors. The concept appeals to financial advisers because of the tax efficiencies, customisation, pre-set portfolio models and the degree of advice efficiency embedded in the product delivery. Cerulli estimates that assets in managed accounts could more than double within five years, thus creating a $1trn market segment.

Complex products

In Europe we do not have managed account type vehicles steering potential flows away from fund products. However, there are early signs that structured product usage is on the increase. After an early flirtation with funds-of-funds, European investors – in many instances led by their country’s bank-dominated product provider environment – are moving into more complex products.

The underlying theme is the attraction of equity involvement, and the scale of the equity fund revival across Europe is bigger than pure equity fund flows suggest. In many European markets the volumes into guaranteed funds has also surged because of their promise of equity style returns but with limited downside risk. The guarantees are generally linked to equity indices, but in various statistical analysis the funds are categorised in the catch-all “other” segment because the underlying investments generally have little to do with stock market investment.

Spain is a prime example of guaranteed fund usage where in 2003 the sector captured net sales of some €12.7bn, compared to a meagre €719m in pure equity funds.

Elsewhere in Europe, investors have been attracted to savings products that offer index-type links but which fall entirely outside the mutual fund arena. It is estimated that index and discount certificates have caused a €10bn dent in German mutual fund flows this year, and other forms of structured notes have had a similar impact in the Netherlands.

The combined inflows into equity and equity-related mutual fund products amount to €56.8bn for 2003 (to end-November) of which the “look-alike” segment accounts for 43 per cent, or €24.4bn.

The European equity revival is clearly coming from opposite points of the wealth chain. At the top is the high net worth contribution, which has been critical to the success of cross-border fund groups but, for the general investing public, guaranteed options are proving very attractive.

The high net worth investors take professional advice and use much more customised, sophisticated products as well as funds from non-domestic investment groups. Over the past few years we have witnessed the financial threshold for accessing HNW services becoming increasingly lower (just like managed programme accessibility in the US). If the traditional mainstream lower-worth investors also start increasing their use of manufactured structured products in favour of traditional long-fund investment, then we will have some interesting statistics and market modelling to analyse in the year ahead.

* Reference to 2003 statistics is based on January to November results only.

Rodney Williams, managing director, FERI Fund Market Information

Website: www.feri-fmi.com

E-mail: infoplus@feri-fmi.com