Time up for the old school

The admission by Henderson Administration last week that it had lost a `significant' number of clients indicated how the fund management game has changed. The privileged circle is losing out, as obsession with performance concentrates the business in
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The Independent Online
PLAYING with other people's money is not as much fun as it used to be. At least, not for the smaller asset management firms that are gradually being squeezed out of the high-stakes game.

Henderson Administration, a company worth £214m that punts up to £12.5bn on global markets, announced a profit warning last week, explaining that clients were deserting in "significant'' numbers to managers that offered higher returns. Analysts estimated it had lost assets worth £2bn and promptly downgraded their predictions for the company's annual profits, due next month, from £22m to £18m. The share price tumbled 62p on Monday to 1,013p and lost another 36p by the end of the week.

The company, now led by chairman Ben Wrey, started its slide from the top rank of investment managers after the stock market crash of 1987. Until then, its strong emphasis on equities over bonds during a bull market had given it an advantage over rivals. As recently as 1989, it was still Britain's ninth largest fund manager. It has been losing 20 pension fund accounts a year lately, and it is now ranked 17th, despite several changes in top executives and strategies.

The fall gathered pace last summer, when the Essex County Council Superannuation Fund decided to drop it, along with BZW, from the quartet of companies handling its £975m pension funds. "They were having trouble producing the performance we were looking for,'' said Colin Cross, the fund's principal technical assistant.

Then the Telegraph and Cumbria County Council decided to replace it. "This wasn't a sudden decision at all,'' said Fred Morgan, pensions manager at the Telegraph, publisher of the Daily Telegraph and Sunday Telegraph. "We appointed Henderson to manage our two funds [worth £58m] in 1988. Since then their returns have steadily declined.'' The Kent County Council Superannuation Fund is presently reviewing its relationship with Henderson and will make a decision on Friday.

At one time such funds would almost never change their fund managers, settling for the occasional extended lunch as a means of keeping in touch. But for the past decade or more, there has been a greater tendency to adopt the US ethos, which last week saw the Endeavour Fund suing the UK- quoted Govett & Co fund manager for £12m, alleging fraud, negligence, misrepresentation and breach of contract.

Henderson has in part been a victim of a polarisation in the fund management business, between the big battalions at one end and the specialists at the other. Middle-of-the-road houses such as Henderson have been caught in a vicious squeeze.

To no one's surprise, the big winners have been familiar names: PDFM, Mercury, Gartmore, Baring, Schroder and Morgan Grenfell. Together these firms controlled assets worth £231bn at the start of 1994. A fifth of the 120 companies in the field hold 80 per cent of assets under management, according to Richard Weir, director general of the Institutional Fund Managers Association.

Even since the death of Robert Maxwell in November 1991 revealed the degree to which he had plundered the Mirror Group's staff pension plan, trustees have been fleeing towards perceived quality. "When a pensioner phones up and asks who's managing his fund, it's reassuring to be able to tell him a name he'll recognise,'' said one trustee.

That has also told against Henderson and its ilk, known to too few outside the charmed circle of the City's Square Mile. And that circle, loosely embracing the old school tie and a closely knit social round from Ascot to Wimbledon via Twickenham, is no longer as charmed as it used to be. Pension fund managers are increasingly selected by trustees who have never been to grammar school, let alone public school.

The City itself has become more meritocratic, recruiting former state school pupils who have graduated from the newer universities. That has fractured old employer-employee loyalties, resulting in greater layoffs and more frequent walkouts like last week's high-profile defections from the SG Warburg banking and securities group.

In the formerly staid pensions world, the new generation of trustees, instead of turning for advice to lifelong friends in the City's stockbroking firm and merchant banks - who might in turn recommend old pals - simply call consulting actuaries such as Bacon &Woodrow and ask to see the latest performance tables.

If trustees and their advisers have a fault in the post-Maxwell era, it is that they seem to be operating on the adage that "no one ever got fired for buying IBM," as one industry observer noted. Even if one or more of the big fund managers slips up, the blame will be dispersed so widely that little of it will stick to individuals. Putting one's neck on the line for a little-known manager is a lot more personally risky. Actuarial consultants deny that their recommendations are biased in this way, yet trustees say they rarely get encouragement to place money with high performing but small outfits such as Glasgow Investment Managers.

The shift to well-known managers was made possible by the advent in the mid-1970s of WM, an offshoot of Wood McKenzie, the stockbroker, and Combined Actuarial Performance Services, owned by the industry consultants. Both companies calculate indices that essentially show the average return earned by all 120 fund managers for their clients in different sectors of the business. They then compare individual managers with the median for UK equity funds or balance-with-property pools. Before, trustees could chart the performance of their managers only against benchmarks such as the FT-SE 100 or All Share indices.

The change to the performance-related selection of managers produced a ratcheting effect. As trustees switched to better-performing fund managers, the average rose. Even an average return is no longer good enough. Mr Morgan said Henderson's performance was slightly above average for one of the Telegraph's two funds, slightly below for the other. Last year, only the top four companies - PDFM, Morgan Grenfell, Mercury and Schroder - matched or beat the industry average, according to Bacon & Woodrow.

The new emphasis has already been felt by fund management firms. Eight have merged with or been taken over by bigger rivals since the start of 1992 - including Henderson's purchase of Touche Remnant two years ago - compared with just one a year in the previous three years. Several have dropped out of the business to concentrate on other areas. One insider estimates that another 20 companies could disappear from the field over the next decade. New players, typically foreign banks, are growing scarcer as the barriers to entry rise.

Potentially more significant is the extra risk being taken on board by the funds. Higher returns are not just a function of better management. They also come from taking bigger chances. On average, fund managers earned a 28 per cent return for their customers in 1993. During last year's bear market they witnessed a 5 per cent loss. Managers are coming under increasing pressure to gamble more heavily as trustees worry about the possibility of their sponsors having to top up funds that have eroded. Many fund managers now have more than 80 per cent exposure to equity markets.

The obsession with returns could lead managers to ignore the special needs of individual clients. "The industry's consultants have not been rigorous enough in analysing the sort of investment strategy needed for a particular fund,'' said Mr Weir. Pensions World, a trade magazine, quoted industry sources last May as saying that the issue has been "conveniently ignored'', although it is increasingly coming to the fore.

A fund that has the bulk of its liabilities far in the future is in a better position to take long-term bets on emerging industries such as biotechnology than a mature fund such as the Coal Board, which has to pay most of its beneficiaries now. Managers of mature funds should be willing to give up performance in return for security, but that conflicts with their need to show a high-performance rating to potential new clients.

Another criticism is the effect on liquidity. Institutional investments already make up the bulk of the equity in most blue-chip public companies, and many of their smaller brethren. Sudden moves by fund managers to buy or sell particular stocks therefore influence stock prices. As power becomes centralised in the hands of a few players, so it becomes harder for them to find a ready trading partner willing to sell them shares they want to buy, or vice-versa. The London Stock Exchange is more than big enough to handle this problem, but exchanges elsewhere are more vulnerable to manipulation.

Power always has a price. Gordon Bagot, the research and consultancy director at WM, warned: "You might find their size inhibits them." Large fund managers who want to get out of a particular stock have a choice between trying to do it all at once, and thus depressing the price, or releasing the shares on to the market in dribs and drabs over a period of weeks or even months. The same logic applies if they decide to re-balance their portfolios between equities and bonds.

Being less agile than their rivals, they could underperform the industry average during volatile periods. A string of bad luck over a period of three years or so could push them down the same path as Henderson.

If that does not happen, smaller asset management firms may be forced to follow the American model. The US business is far less centralised than in the UK. Fund managers there have specialised in niche markets where they have a small but secure client base.

So far in Britain, the majors have succeeded in limiting the threat of specialist rivals by setting up their own in-house teams of experts. This is a route Henderson is beginning to study closely, not least because specialist fund services - based on particular regions, industries or segments like smaller companies - normally attract higher percentage fees than for handling a broad-based portfolio. But the performance standards, and the risks, are higher too.

The top ten

Mixed-with-property pooled pension funds

Fund manager Return Fund

% pa value

over at end

5 yrs of `94

Glasgow 13.4 3

Morgan Grenfell 11.8 148

Zurich Life 11.4 2

Bank of Ireland 11.1 23

Schroders 10.9 447

Albert E Sharp 10.6 14

Mercury 10.4 1,688

Gartmore 10.2 659

Britannia 10.1 435

Clerical Medical 9.8 575

The bottom ten

Mixed-with-property pooled pension funds

Fund manager Return Fund

% pa value

over at end

5 yrs of `94

Provident Life 7.4 49

Commercial Union 7.3 72

Scottish Amicable 7.2 658

Provident Mutual 7.1 976

Eagle Star 7.0 60

FP AES 6.7 71

Old Mutual 6.5 10

Foreign & Colonial 6.5 25

Scottish Provident 6.4 97

Guardian 5.3 242

Table information from Combined Actuarial Performance Services