Active asset managers are facing dilemmas and hard choices to protect their businesses from the flood of passive investments. One option is to cannibalize their own products.
Flemming Højbo writes analyses for AMWatch about the Nordic asset and wealth management sector. Højbo was head of communications in the asset management industry for 15 years, and before that, he worked for 25 years as a financial and business reporter and as an editor. | Photo: Jan Bjarke Mindegaard / PR
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Being passive does not really fit into the classic view of Nordic culture influenced by a Protestant work ethic. Here, what matters is hard work where you have to be active and diligent to achieve results. Perhaps that is why it took a while before passive investments got a breakthrough in the Nordics.
It took time to convince Nordic customers that you can make money from being a lazy investor. That you don’t have to chase the perfect timing or search for a particular stock to generate returns. That you don’t necessarily have to pay a lot of fees for frequent trading or pay higher fees for a portfolio manager to take care of your assets.
Challenging the active managers
Eventually, the tidal wave of passive investments also washed over the Nordic shores. This situation is a challenge for the traditional active asset managers.
Figures from the Danish market show the challenges faced by active managers. According to the investment guide Indeksinvest.dk, the first half of 2024 saw a net outflow of almost DKK 7bn (EUR 938m) from active equity funds, while passive equity funds had a net inflow of DKK 5.4bn (EUR 723.5m).
This is a significant trend. Since the beginning of 2018, passive equity funds have increased their share of the Danish equity fund market from 8.6% to 23.5% this summer.
Leading institutional investors are following the trend, such as Denmark’s largest commercial pension company, PFA, which has implemented a completely index-oriented strategy for its DKK 220bn (EUR 29.5bn) global equity portfolio.
“We have slowly but surely focused more and more on the index-anchored side of the strategy and less and less on the active,” Group CIO Kasper A. Lorenzen recently told AMWatch.
Warnings against exposure risks
Some asset managers have warned against the growing exposure risks of passive investments. One of them is Storebrand CEO Jan Saugestad. Earlier this year, he told AMWatch that investors should reconsider their passive strategies because of a record-high concentration of passive exposure to a small group of US companies.
In general, the passive investors have had a growing concentration risk towards “the magnificent seven” tech-stocks: Apple, Microsoft, Amazon, Nvidia, Alphabet, Meta and Tesla. Even BlackRock, the world’s largest asset manager that has capitalized big-time on the index-investing boom, recommended a shift to more actively managed strategies at the start of 2024.
A gamechanger or just a break?
Now, the financial market turmoil in recent days, and the downturn for “the magnificent seven” stocks in particular, could be a wakeup call, demonstrating the risks of passive investments tracking such concentrated indexes. It could renew the focus on the reason behind index-tracking in general.
Despite the warnings and the wakeup call, it still seems to be wishful thinking for the active managers that a correction or even a crisis in the financial markets could be a gamechanger to stop the tide of passive investments. More likely, the turmoil might be a break from the passive push if active managers have the ability to outperform during the times of turbulence.
Can they fight back?
But what can the active managers do long term? Are they just to get used to a future when passive investments take another slice of the market every year? Or can they strike back and regain market shares? So far, the active managers have struggled to find the business strategies for combating the competition from passive.
First it seemed to be a matter of winning the game of presenting the best performance figures, but it didn’t turn out to be a contest that the active managers could win.
For a while it seemed that the ESG and sustainability focus could renew and enhance the position of active managers, as the idea of active ownership including engagements and shareholder activism as responsible investors should fit well with the raison d’être for choosing an active manager.
But those considerations also failed to beat passive investments. Instead, passive ESG strategies were successfully introduced, poised to disrupt active managers. For example, the Handelsbanken Global Index Criteria Fund got a lot of traction, and earlier this year, it became the world’s largest Article 9 fund.
If you can’t beat them…
Another business strategy is based upon the proverb ’if you can’t beat them, join them.’ Traditional active managers are supplementing actively managed funds with passive products, while some managers are being pulled into ETFs.
Maj Invest is one of the managers that is dedicated to active strategies and has decided to launch ETFs, and according to CEO Jeppe Christiansen, the manager will offer ETFs as well as active mutual funds in the future.
This strategy leaves the active managers with a dilemma, as they risk that the inflow into their passive products is outflow from their active products.
But, cannibalizing their own business may be the best choice they have – if they can’t come up with other and more efficient game plans for protecting their active strategies.
Flemming Højbo has researched and reported on the financial sector for decades. Flemming was a financial and business reporter, and an editor, for 25 years, as well as a communication partner and head of communication in the asset and wealth management industry for 15 years.