No end in sight to Europe’s fund universe expansion

Last year was a game of two halves: the first, a continuation of the bear market in its final lap and the second the first tentative steps towards recovery. Global events beyond the reach and influence of asset managers were the drivers. The Iraqi situation drove stock markets around the world to fresh lows and only as the formal conflict ended did markets begin to develop some upward momentum. The predicted bounce proved elusive but by the end of the year the worst performing bourse, Italy, boasted a rise of 20 per cent and the best (Germany) hit 44 per cent.

This fed through to the fund industry, which registered a rise in assets of 13 per cent, more than making up for the 10.6 per cent decline suffered in 2002. More important was the fact that new money accounted for nearly half, 48 per cent, of this asset rise.

Shifting sands

From mid-year, evidence was building of a significant asset allocation shift. Sales in money market funds started to wither and the Italian short-term bond bubble, which characterised the first six months of the year, went into outflow in the second. The story was almost identical in the fixed income sector down e62bn in the first half and up e5bn in the second.

In the US, similar outflows resulted in a direct switch into equity funds. In Europe the story was more complicated. Equity funds were undoubtedly enjoying new found investor interest but the volumes were some way below levels that could reasonably be anticipated. Net sales of equity funds were 40 per cent up on 2002 but several important domestic markets were static or in marginal decline. Among the big winners, though, were the so-called “international groups” trading out of Luxembourg and Dublin, which contributed more than half (e27bn) the net inflows of equity funds.

The year-end result in asset terms was that 34 per cent of Europe’s fund assets were invested in equities, 28 per cent in bonds and 22 per cent in money market instruments (see table 1).

France remains the largest fund market in Europe with a 17.8 per cent share of retail fund assets. Its dominance is the result of the heavy weighting of investment in money market funds, a vehicle commonly used for high interest deposit savings by the French. The exclusion of money market funds would lead to a ranking that placed Italy in pole position, followed by Germany. France would be ranked fifth on this calculation (see table 2).

In this analysis, Luxembourg and Dublin assets have been allocated to the markets from which their funds source most of their assets. Those funds that cannot easily be linked to a national market fall within the international category and these funds sell on a truly global basis – in 147 countries at the last count.

However, assets domiciled in Luxembourg, in particular, were a significant e879bn at year-end and by the first quarter of 2004, the figure has exceeded e1000bn for the first time. Thus, Luxembourg is by far the largest domicile of funds – some 50 per cent larger than France, which takes second place.

International group sales

Net sales of investment funds in 2003 totalled e227bn, an increase of 57.6 per cent on net sales volumes achieved in 2002. In the first half of the year, while a local feature was the strong push by Italian investors into short-term bond products, the international groups also enjoyed strong sales inflows particularly in US dollar bond funds, and there is evidence to suggest that Asian investors added considerable strength to these sales volumes.

In the second half of the year, with the swing away from fixed-interest sectors, equity funds came into their own with the international groups taking the lion’s share of available business. This put them in the lead in terms of total net flows, overtaking last year’s leader, France (see table 3).

Luxembourg, as host to most of the international groups was also a prime beneficiary. Companies domiciled there achieved e74bn of net inflows in 2003, 33 per cent of the European total. Dublin domiciled funds totalled net inflows of e15bn.

It is a hard fact of life, though, in the European fund industry that the latest fashion or seductive product design sells - and that the previous year’s colours or frumpy old mainstream products get left behind.

Fund proliferation

Over the last decade the number of new fund launches across Europe each year has averaged about 2000 and 2003 was no exception with 2200 new funds appearing.

Fund proliferation has been the subject of many column inches of commentary from consultants and industry gurus since the fund industry first ever began. Now, with over 30,000 active funds across Europe there are undoubtedly too many products for the asset pool currently available (as we commented in last moth’s issue). A comparison with the US only serves to highlight the issue, where there are 7000 or so funds for a market twice the size of Europe.

The equity funds sector witnessed the most numerous launches with 552 new funds or sub-funds being created, then being relatively closely followed by 502 new guaranteed funds.

Unsurprisingly, Luxembourg was again the most active centre in the creation of 716 new funds, 210 of which were equity and 164 bond funds. France launched 599 new funds with its heaviest focus 36 per cent (214 funds) being on guaranteed funds, an emphasis repeated in Spain where 29 per cent of its 266 new fund creations were also guaranteed (see table 4).

New launches generated net new sales of e108.4bn – nearly half (47.8 per cent) the total net sales volumes for the year. This underlines the image of European investors jumping into the latest investment fashion although the facts are somewhat distorted by the impact of limited duration fund launches, many of which carried guarantees.

The industry is caught in a bit of a trap here, especially groups with a pan-European focus, because merging funds can be problematic, especially across borders. It may lead to regulatory and/or taxable events plus, in addition, there are numerous practical difficulties, not least the fact that assets will be lost when dormant investors are notified of the merger. Industry experience has been that many opt to redeem their holding to buy a new car, or go on holiday rather than switch into the recommended reshaped fund.

The rise and fall

That is not to say that there were no checks and balances. The 2200 new fund launches were largely balanced out by 2114 mergers or closures, leaving Europe with a net addition of 86 funds. This compares with 2002’s just slightly higher birth rate of 2206 new funds but a much slower pace of 1223 consolidations or closures, resulting in 983 new funds joining the universe in 2002. An early outline count for the first two months of 2004 indicates 193 new fund launches but a net reduction of five funds overall.

In the case of Italy, and to some extent France also, many of the mergers are the result of rationalisation following high-level banking mergers. In Germany, a simplification of the rules has encouraged mergers of domestic products while in the UK, the demands of profitability during the lean bear market days forced the pace of product reduction.

Doubtless this type of balancing dynamic will continue but, unfortunately, so will the never-ending output of product development departments pressured to find, and implement, the latest investor seduction solutions… and this time next year we will have even more funds in Europe.

Rodney Williams, managing director, FERI Fund Market Information.

Website: www.feri-fmi.com

E-mail: infoplus@feri-fmi.com