State street stands up for retail investors

State Street Global Advisors (SSgA), while predominantly an institutional manager, is starting to make much more noise in wealth management. A recent deal with UK bank Abbey National, to manage insurance and fund assets on behalf of private clients, follows on from similar sub-advisory mandates from insurer GE Life and Italian financial services distributor Mediolanum.

More than £20bn (E30bn) has been handed over to SSgA in the first instance in a transitionary arrangement. The next stage, already in progress, is for the mandates to be farmed out to Abbey’s roster of external managers. But Abbey officials pri-vately confirm that the American asset management giant will be allowed to keep between £10bn and £12bn of the money to be handled in passive and enhanced indexation strategies.

This fits in tidily with SSgA’s crusade to extend indexation strategies from their current, comfortable, institutional client base to the more volatile portfolios of the man in the street.

“We are very aware of the drain on returns through costs which active managers inflict on investors,” says Alan Brown, outspoken global chief investment officer at SSgA, respon­sible for making calls on assets worth $1200bn (E990bn). “A larger proportion of money is managed passively among institutions than retail investors. Retail investors are not really in a position to find good managers, therefore most of them would be better off finding a low-cost, passive solution.”

The problem, laments Mr Brown, is that retail investors never behave as they should, in terms of buying assets.

“In 2003, when markets were low, subscriptions to funds were also low, as everybody was worried about the Iraq war. Markets were cheaper then, and more attractive, but investors ignored the opportunity. Now markets are 30 per cent up and investors are piling back in. It’s a typical human behavioural response, which minimises your wealth in the long-term.”

Natural pitfalls

The trick for private clients, believes Mr Brown, is to observe the behaviour of some of the “wiser” institutions – not all of them however, as he also believes the investment community as a whole must shoulder the blame for wholesale mismanagement of pension fund assets.

“We need to help investors avoid the huge natural pitfalls they fall into,” he ventures. “If you see a 25 per cent discount in the high street, you buy the goods. But if you see a 25 per cent discount in the market, not only do you not buy, but you sell what you already own.”

The only real difference between the private client and the institution is liability. “The liabilities of the pension plan are explicit, while the retail investor’s are implicit, but they are essentially the same. The goal is to earn a real rate of return greater than inflation.”

Mr Brown recently oversaw a review of positions to see if private clients had the correct allocations. The whole group’s asset base was included, with the exception of SSgA’s E145bn cash book and the securities lending programme.

“For self-selection defined contribution plans, 100 minus your age is the basic formula for the percentage of your assets you should hold in equities,” concludes Mr Brown, whose study found the most sensitive factor affecting the allocation was the number of years left to a client’s retirement. The product solution thrown up by this research is a “lifestyle” asset allocation plan, accompanied by an age-based default solution. “In practice,” Mr Brown adds, “everyone goes to the default solution. They do not want to define their own asset allocation.”

More regular savings

“We shouldn’t expect the retail world to become too sophisticated immediately, but we need to educate them,” says Mr Brown, who also believes that finance should be a mandatory subject across Europe’s school curricula. The finance industry, he says, should respond by launching a greater number of regular savings plans for mutual funds, allowing investors to average over peaks and troughs to avoid risk, rather than timing bulk investments.

The SSgA policy is currently to increase these retail assets handled on a sub-advisory basis for third party institutions, accounting for $110bn. “Outsourcing is one of the biggest trends, which will boost our assets and profitability,” Mr Brown believes.

But this has not always been the case. In the past, State Street accessed retail money in the US through its private asset management business, which has now been sold. “This was a very profitable business for us,” says Mr Brown. “But we had earlier closed down our banking business, which was the main source of referrals. Without a branch network, we no longer had the means to grow the business.”

State Street still owns BelAir on the US West Coast, which accesses family office clients, with average portfolios of $30m to $40m. The London operation also handles these types of accounts as institutional mandates.

Mr Brown says he is moderately interested in the distribution market, but is scathing about the abilities of independent financial advisers (IFAs), preferring to use banks and fund of fund houses, which can incorporate SSgA funds. He also believes distributors sell actively managed products to private clients – often inappropriately – because they attract higher commissions.

“By the time you take the costs of an active equity fund, in a low return environment, the investor is lucky to get a return better than government bonds. They could have bought those themselves, without having to speak with an unwashed IFA,” says Mr Brown.

“People are not rushing to put money into savings plans. Most people develop deep pockets and short arms, they get out the cross and the garlic when they see financial salesmen approaching.”

“The sub-advisory side is much better suited to what we do,” admits Mr Brown. “We don’t have to devote a whole lot of people to it. There is a limited number of people to call on, which shows the efficiency of working in that space. In fact we need many more people working on the wrap programme in the States.”

Brown: finance should be a mandatory subject at school