Why equity funds like life in London
Tuesday 25 July 1995
For many years London has been the main international fund management centre, in the sense that it handled the largest amount of cross-border portfolio investments. But the sheer size of the US domestic fund management business has meant that the overall New York pool was larger, and both are eclipsed by Tokyo. But in 1993 London was ahead of metropolitan New York (which excludes Newark, just across the river) and last year London pulled ahead of New York and Newark combined.
Of course if one adds in other US fund management centres, in particular Boston, the US total pulls ahead again: the only other UK centre in the top 25 cities is Edinburgh at number 14. A further point is that the asset values are affected very much by the vagaries of stockmarkets and currency conversions: some of the changes in the size of funds under management result from real business acquired but many of the changes are a function of these mathematical changes. Remember that these calculations were at the end of last year, before the latest surge in Wall Street. Finally, remember that these funds are institutional funds: if one were to add in the private portfolios, New York again would show better relative to London.
Nevertheless the changes in the pecking order are almost more interesting than the ranking itself. Why does London seem to be garnering more business relative to its competitors? Are we being clever, or do we just happen to be in the right corner of the financial forest?
It seems to be both. Technimetrics identifies several trends in the fund management business which would seem to favour London. One is the growing trend towards overseas investment, an area of traditional strength. Next is the boom in emerging market investment, again a speciality of the City. A third is the growing use of "local" fund managers: a US or Japanese fund would tend to have European assets managed locally rather than from New York or Tokyo, but for much European investment London is the local centre.
So much of the advance of London is a result of being strong in the right sectors. However, the building up of that expertise in the first place shows something more than luck. For example, identifying the emerging markets as a key growth area was an important strategic decision which a number of London fund managers made about seven years ago and which has paid off very well.
There is, however, a bigger issue behind these figures which deserves attention: whether the cult of the equity is itself likely to go into a retreat. These figures are all about equity investment rather than investment in fixed-interest securities. Viewed from the perspective of the fund management industry it makes sense, for equity business is where the added value is greatest. Fixed-interest research is basically a macro-economic skill needing a tiny handful of people who make decisions based on data; equity research needs lots of bodies to assemble the knowledge base on hundreds, maybe thousands of companies.
From a UK perspective there are several reasons why one might expect a trend back to bonds: the downward trend in inflation; pressure here in Britain for mature pension funds to start to shift assets into fixed- interest because of the regularity of the stream of interest payments; pressures on pension funds to match the maturity of assets and liabilities. (If you have pensions to be paid out in 25 years' time it is convenient to have bonds which mature at the same date.)
These forces have been cited as an explanation why here in the UK there seems to have been some switching in pension funds from equities to fixed- interest in recent months. However, there is as yet no similar trend elsewhere in the world. Rather the reverse: the British cult of the equity (which is even stronger than the US cult) seems to be gaining converts elsewhere.
There are several reasons, on the demand and the supply side, why this seems set to continue. These include the build-up of private pensions on the Continent which will seek a fair proportion of equities in their portfolios; the long historical advantage equities have over fixed-interest in the rate of return they provide (even in periods of low inflation); and the spread of privatisation, which will massively increase the supply of equity.
Finally, the case that fixed-interest investments were less volatile than equities was rather blown to bits last year with the worldwide collapse of the bond markets. Few people in London thought that collapse would be wonderful for their business, but in investment, as in so many things, it is an ill wind . . .
Top 10 investment centres
Institutional equity holdings (end 1994)
New York 678
San Francisco 199
Los Angeles 189
International Target Cities Report 1995, Technimetrics, New York
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