4 Q 2011 Preview Issue Founders Quarterly

4Q 2011

The Postmodern Global Asset and Wealth Management Era

Founders Quarterly

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management advisory and insights for financial services institutions Founders Advisory

Contents

Founders Advisory www.foundersadvisory.com 2 4Q 2011 Preview Issue

This Founders Advisory material is intended exclusively for distribution within the purchasing firm. Distribution to or use by any other firm, subsidiary, affiliate, external field force, or client is prohibited (as is reproduction in whole or part in any media, including electronic or company communications), except by permission. Analysis relies on data sources deemed to be reliable. Although believed to be accurate, this information is not guaranteed and may be incomplete. Founders Advisory. All rights reserved.

Founders Advisory is a management consulting advisory firm and provides custom ideas and insights to institutions in the worldwide financial services industry, serving firms focused on global asset and wealth management such as asset managers, wealth managers, pension consultants, brokerage firms, platform providers, insurance firms, technology firms, and capital investors (including venture capital and private equity firms).

1. Introduction

Ideas and Insights Overview Key Attributes Founders Quarterly

Founders Reports

Methodology for Upcoming Report

Forthcoming Themes for Ideas and Insights

2. The Postmodern Global Asset and Wealth Management Era

3. The U.S. Retail Intermediary Asset Management Marketplace

4. Appendix

How to Subscribe to Ideas and Insights

Founders Advisory Overview Increasing Complexity of the Industry Value Chain

Manufacturing

Research

Assembly

Distribution

The Future of Open Architecture

Growing Importance of Relationship Management and Client Service

Finding Future Flows

Platform

1. Introduction Founders Quarterly

The purpose of this issue of Founders Quarterly is to provide an introduction to Founders Advisory’s Ideas and Insights knowledge services. The overview summarizes our methodology and highlights important features. We then describe the Founders Quarterly and Founders Reports knowledge offerings. We also provide a methodology for our forthcoming report on the U.S. retail intermediary asset management marketplace. Next we provide a primer on the postmodern global asset and wealth management era. In this section we set the stage for Ideas and Insights from a primarily macro perspective. We will examine many of these items in more detail over the coming quarters. We then provide a preview of our recent knowledge effort focused on the U.S. retail intermediary asset management marketplace.

We focus on giving advice and recommendations. In other words, we emphasize the “so what do we do now?” versus the “nice to have data and information” end of the spectrum of knowledge development. We also apply a structured problem-solving process that is fact-based. We iterate this process via active dialogues and debates with leaders in the industry. Founders Advisory’s management has a proven history of advising leading financial services firms and developing innovative knowledge and insights. We have authored numerous reports and worked on several management consulting engagements with topics including retail and institutional asset management global distribution, wealth management, professional buyers, product strategy, managed account advisory, and platform development—all on a global scale.

Founders Advisory delivers advice and insights that are actionable, focused, creative, pragmatic, and catalyzing


Overview Introduction

Ideas and Insights Overview Founders Advisory concentrates on strategic distribution and business issues impacting the global asset and wealth management marketplaces. We use in-depth original and primary knowledge development to generate actionable Ideas and Insights catered to senior management. Founders’ Ideas and Insights leverages deep industry relationships and works closely with senior executives via ongoing dialogues and proprietary surveys. We explore problems and trends, and design surveys based upon direct feedback and collaboration with industry executives.

Key Attributes • Focus on delivering actionable advice

• Analyze marketplace with a global perspective

• Provide innovative solutions to thrive in the postmodern era

• Emphasize things that matter from both a macro and micro perspective

Founders Advisory’s management has conducted more than 100 interviews and discussions with asset management distribution leaders over the past 6-12 months. These dialogues have helped to shape many of the key ideas and insights presented in this report. Additionally, Founders Advisory conducted an invite-only online survey during September 2011 that was completed by more than 30 heads of U.S. retail intermediary distribution. These participants represent more than $4 trillion in U.S. retail intermediary assets and roughly $18 trillion in worldwide assets under management. For more information on this report and a preview including proprietary survey insights, please see section three below.

Our Ideas and Insights knowledge offerings include both Founders Quarterly and Founder Reports


Overview Founders Quarterly Founders Quarterly is our vehicle for delivering Ideas and Insights on a regular basis. We explore and provide advice for relevant global asset and wealth management issues and problems supported by our deep industry knowledge, applicable senior-level industry experience, and in-depth knowledge development and problem-solving process. Each quarterly issue draws upon our ongoing dialogues with senior executives from around the world and our multiple ongoing invite-only proprietary surveys. We distribute an issue each calendar quarter in electronic format.

Founders Reports are based on a particular component of the global asset and wealth management marketplace and/or value chain. All reports are directly linked to a proprietary survey and targeted interviews with senior executives in the industry and supported by our in-depth knowledge development and problem-solving process. For more on Founders Reports knowledge services see below for a description of our methodology for an upcoming report.

Forthcoming Themes for Ideas and Insights

Founders Reports

Methodology for Upcoming Report Founders Advisory is launching a report on the U.S. retail intermediary asset management market in early November 2011 (see appendix for purchasing details). This Founders Report is the culmination of a robust qualitative and quantitative knowledge effort.

• The transformation of U.S. private wealth management delivery

• The state of U.S. institutional asset gathering

• The worldwide influence of professional buyers

• Delivering private wealth management in emerging markets

• Worldwide asset management sales and service dynamics

2. The Postmodern Global Asset and Wealth Management Era Founders Quarterly

The lines that once divided and defined the various segments of the industry are quickly being erased. For example, asset manager addressable markets continue to converge as buying behaviors worldwide increase in sophistication. Wealth management firms more and more are serving both individuals and institutions. At the same time, legacy pension/investment consultants are attempting to offer new products and services and penetrate new markets, including retail. The industry is becoming truly global in nature (if it isn’t already), adding to the difficulty in navigating the postmodern era. This is happening on two dimensions. First, there are firms aspiring to address clients and asset pools worldwide by building a proverbial global footprint. And second, while many firms will remain local, their clients are demanding investments and solutions from around the globe, including both the developed and developing regions. What is the way forward? This is not an easy undertaking as there remains a mountain of ambiguity to traverse and new global trends to understand. The industry also still needs to (re)convince investors (both individual and institutional) that it has the right set of advisory tools and investment solutions to meet their long- to short-term aspirations and liabilities. Collectively, this is all working to shape the postmodern era, which is largely why this period will be particularly exciting.

Winning firms will make significant strides sooner rather than later to adapt their strategy to the postmodern era


Overview The Postmodern Global Asset and Wealth Management Era The postmodern era (post-crisis) is shaping up to be the most exciting yet for the global asset and wealth management marketplace. The last four-plus years have certainly been interesting—to say the least—as the global financial crisis has accelerated the transformation of the industry that arguably had already begun. This shock to the system is helping a largely reluctant industry embrace modernity on many fronts, however slowly. There is a lot at stake. After all, this is a client-centric industry where the primary function is to advise institutions and individuals on how best to save, invest, and allocate their capital to meet long- to short-term liabilities, which remain woefully underfunded. And regardless of the lens a person looks through, the global asset and wealth management industry continues to be challenged in many areas. The winning firms will have the courage to take steps today to adapt to the postmodern era. For example, private wealth management firms that make long overdue investments in platform development and other technology solutions will be well positioned to achieve positive net new client gains. Asset managers that grasp new client service and sales approaches on a global scale will be rewarded over those firms that persist in holding tightly to the old norms of distribution.

The level of ambiguity in the industry is at an all-time high, while at the same time the need to move forward with investments into the business is imperative


The postmodern era is sparking new debates and accelerating longstanding industry trends

Re-regulation

Transparency

Fiduciary duty and objective advice

Separation of Alpha from Beta

Increasing sophistication of client needs

The age of thrift

Risk management

Behavioral client segmentation

Retirement

Money in motion

Total balance sheet advice

Solutions and advisory delivery

Going global Addressing emerging markets

Underfunded liabilities

Increasing Complexity of the Industry Value Chain

Welcome to the Founders Quarterly. We look forward to having you along for the ride as we decipher the next era of the global asset and wealth management marketplace. As the accompanying thought bubbles highlight, there are plenty of items to debate over the coming quarters and years.

Sampling of trends and issues that industry executives are confronted with as they transition to the postmodern era

Without question, the global asset and wealth management value chain is growing in complexity. While several firms have a long history of competing within multiple sectors of the industry, there has been a recent heightened interest of firms tapping into potentially new revenue streams. Nowhere is this more evident than within the assembly (see page 9 for definition) section of the value chain. Indeed, you’d be hard-pressed to hear an industry CEO utter more than a few words without mentioning how they are positioning their firm to offer “solutions,” which Founders Advisory considers to be part of assembly (see diagram on page 9). In the remainder of this section we describe the five components of the industry value chain and provide examples of core functions within each. We then review some relevant trends within each component.

Source: Founders Advisory

The global asset and wealth management value chain is growing in complexity as firms continue to extend into areas that many times are not their core capabilities


Description •Professional manufacturing of products such as asset management and insurance products

Core Functions*

•Vetting and monitoring of professional product manufacturers • Often referred to as professional buyers and/or due diligence

•The standardized books and records system •Support a suite of products, solutions, and services

•The delivery mechanism including financial advisors, pension field consultants, and online delivery

Source: Founders Advisory, * List not exhaustive

•Perform security research and selection

•Provide portfolio and risk management •Develop products

•Provide client services and sales

•Perform due diligence

• Make product recommendations •Maintain product select lists and/or buy lists

•Perform custody, clearing, and recordkeeping

•Design and support technology and advisory tools

•Perform sales and service support

•Provide product management and development

•Provide access to products and services

•Deliver advice and guidance

•Perform client service and sales for either retail and institutional clients or both

Manufacturing Assembly Platform Distribution Research

•Designs and implements total portfolio solutions including CIO outsourcing and/or implemented consulting

5

•Perform total portfolio management (including asset allocation) mostly as the primary fiduciary

•Develop packaged solutions and hybrid advisory programs

1 2 3 4

No component of the value chain has experienced more unbundling over the last several years than manufacturing. The advent of open architecture is chiefly to blame as it has driven a spike into asset managers bundling the entire chain together for clients. While asset management will remain a key ingredient, much of the influence has transitioned to professional buyers (including research and assembly) and platform providers. Asset managers will continue to feel pricing pressure. The overall industry revenue pie is feeling pressure to shrink and the economic rents are more and more favoring other components such as distribution and assembly. That said, asset management will remain the most profitable link within the global asset and wealth management chain for the foreseeable future. There will continue to be a diverse set of asset managers. The boutique model will remain viable even in the age of multi-trillion-dollar firms as low barriers to entry endure. Also, both public and private firms will continue to coexist. This is all to say that multiple models can thrive—stand-alone boutiques, multi-boutique arrangements, and bundled goliaths.

Industry influence continues to flow from asset managers to assembly-centric services and distributors


Manufacturing

Asset manager-centric

Research-centric

Assembly-centric

Distinctiveness will not be found in an asset manager’s corporate structure, but rather in its sales and service approach and delivery model. (Of course good investment performance helps as well.) Founders Advisory believes that asset managers need to re-think and adapt their addressable markets approach to thrive in the postmodern era.

Research The professional vetting of asset managers and other manufactured products will continue to be a crucial component in the overall delivery of asset and wealth management to both individuals and institutions. Though there are challenges to overcome for this segment to enter the postmodern era. Firms within the research component of the industry are being forced to enter new markets and offer a broader suite of products and services. Recent consolidation has highlighted a desire to ramp up scale and obtain new capabilities such as hedge fund and private equity research and coverage of emerging market located managers. Research-only firms are being urged by their clients to provide more assembly services and fiduciary-based solutions including CIO outsourcing and/or implemented consulting.

Assembly Yes, clients want solutions. You see this in the U.S. market with the growth of target-date funds within 401(k) plans and the rapid growth

Distinctive advice delivery and next-generation platform development are critical elements for the future of retail and institutional wealth management


Overview

Books & Records Products & Services Research & Assembly

• Recordkeeping • Multi-currency • Multi-registration • Sub-accounting • Cost-basis

• Investments • Planning • Banking • Lending • Risk mgmt.

• Due diligence • Recommendations • Portfolio solutions • CIO outsourcing

Institutional Retail

Worldwide Platform

Founders Advisory believes that now more than in any other era the platform can be truly distinguishing for firms. Platforms can no longer mask that their systems are essentially held together with bubble gum and chicken wire. While failure to complete

Next-generation platforms will be global and serve across markets with robust capabilities, products, and services


Platform

Distribution

of fee-based managed account programs at private wealth management firms. Worldwide there is increased demand from institutions and family offices for CIO outsourcing and/or implemented consulting. Much of the postmodern era will be defined over the coming years by the shakeout of the intense competition and convergence currently happening within this segment of the value chain.

or integrate acquisitions is partially to blame, underinvestment is the primary culprit. Winning firms in the postmodern era will work off of robust and globally linked platforms.

The delivery mechanism is essential for the global asset and wealth management marketplace to function. The distributor is principally the linchpin holding the entire chain together for both institutional and individual investors that continue to demand more advice. The industry is making a renewed push at cross-selling, despite historic success being elusive. Who can blame them? Founders Advisory believes that firms essentially have no choice but to try as an attempt to validate their corporate structure.

Schematic of centralized platforms with sample services serving both institutional and retail markets worldwide

3. The U.S. Retail Intermediary Asset Management Marketplace Founders Quarterly

The U.S. retail intermediary asset management marketplace is large and growing, and is transforming more than most addressable markets



7

22

71

Likely more than any asset manager addressable marketplace, U.S. retail intermediary players continue to grip firmly to the old norms of distribution, despite clear evidence of change such as the increasing sophistication of buying behaviors, prominence of fee-based advisory programs, and the convergence of financial advisor-based channels, to name a few. At the same time, the competitive landscape is intensifying. It is one of the few addressable markets positioned for net new money flows largely sourced from defined contribution plans. U.S. high- and ultra-high-net-worth individual investors continue to control an extremely large asset pool. Additionally, individuals are lessening weightings to heavily U.S.-biased portfolios by seeking to allocate capital to developing markets and other non-U.S. investments. Consequently, there is an abundance of new entrants from around the world and several existing participants that are doubling down on the U.S. retail intermediary asset management marketplace Founders Reports will delve into the above issues and trends and many more in a forthcoming report on the U.S. retail intermediary asset management marketplace (see page 5 for methodology). The report examines the profitability and growth challenges the industry is facing over the coming years including the future of revenue sharing and tier-one distributor partners. This report analyzes current manager distribution resource allocations by functional roles and advises on

The U.S. Retail Intermediary Asset Management Marketplace

The industry is perhaps overly optimistic (and historically spoiled) on the outlook for open architecture

Over the next 5 years, what do you believe will happen to open architecture? U.S. retail intermediary asset mgmt., %

Increase (more opportunity for third-party asset managers)

Stay the same as today

Decrease (less opportunity for third-party asset managers)

The Future of Open Architecture

how these allocations should shift in the future. It also advises on how firms should restructure their approach and where to focus resources in this addressable marketplace to be better prepared to serve the key influencers and thrive in the postmodern era. The remainder of the section provides a snapshot of this upcoming report.

Obviously, without open architecture there would not be much of a retail intermediary marketplace for third-party asset managers. While we believe open architecture will remain vibrant (outside the U.S. is a different story), headwinds such as low comparable profits at intermediaries, potentially heightened focus on proprietary products, dominance of a select few managers, and financial advisors purchasing securities directly could all spoil the party.

Delivering world-class client service and relationship management will be a key driver to asset gathering and firm profitability


The industry concentrates far too much on hunting and sales pitches versus focusing on delivering world-class client service and relationship management. Asset managers do this at their own peril as more than two-thirds of new assets come from existing financial advisor (FA) relationships and increased penetration of current intermediary firm-level clients. Firms that make targeted investments into client service and relationship management will improve asset retention rates—a key driver of profitability. This is a big deal as leaders in the industry believe that lower retention rates over the coming years will be one of the top challenges to profitability for their firms.

Relationship management at both the financial advisor and intermediary firm levels is key to raising new assets

Source of new assets. U.S. retail intermediary asset mgmt., %

33

38 30 Additional assets from

existing FA relationships

Increased FA penetration from existing firm relationships

New firm relationships and therefore new FAs


71%

These investments should also increase overall asset gathering. For example, Founders Advisory has long been a proponent of restructuring key accounts to be more of a senior relationship management role. By doing so, asset managers are better positioned to identify the complex and multi-faceted opportunities that await them from robust global platforms (see page 11) serving both institutions and individuals.

Growing Importance of Relationship Management and Client Service

Lower asset retention will continue be challenging to profits, while at the same time costs to service these assets are rising

Rate the impact of the following challenges to profitability to your firm over the next 5 years. U.S. retail intermediary asset mgmt., Average score (1-not very impactful, 5-very impactful), top 4 displayed

3.35

3.45

3.45

3.60Lower retention rates

Increased costs associated with distribution

Lower net revenue yields/fees

Minimal net flows


Firms need to restructure the traditional key accounts role to focus on senior-level relationship management and dedicate resources to serve due diligence groups


Overview Buying behaviors are increasing in sophistication…

…leading to new models that forge multiple links and relationships with distribution firms

Institutional

High-end PWM

Retail Retail

Account size

Buyer sophistication

Asset management firm Distribution firm

Relationship management

Home office

Consultant relations

Due diligence/ research

Field salesforce

Financial advisors


The shift to fee-based advisory programs continues to have a profound impact on asset managers addressing the U.S. retail intermediary marketplace


Despite the negative prognostications in the media, wirehouses top the list for asset gathering potential

Rate the asset gathering potential for each channel and/or firm type over the next 5 years. U.S. retail intermediary asset mgmt., Average score (1-least potential, 5-greatest potential), top 3 displayed

3.83

4.00

4.28Wirehouses

Independent financial advisors (IFAs/RIAs)

Independent broker/ dealers


Fee-based managed account arrangements have rapidly become the predominant source of gross flows

Percentage of your gross flows sourced from fee-based managed account programs (all managed account program types). U.S. retail intermediary asset mgmt., %

65

56

27

5 years ago Today 5 years from today


Finding Future Flows Advisory services have emerged as the primary product delivery solution for U.S. private wealth management firms. Many of the recent platform development investments have focused on managed account advisory tools and technology such as transitioning to a unified managed accounts (UMA) platform. On this score, for the foreseeable future the bulk of asset manager gross flows will continue to be sourced from fee-based managed account programs.

Additionally, while the vast majority of firm types are adopting advice delivery via fee-based managed accounts, the channels that offer the greatest asset gathering potential for asset managers are the leaders in managed accounts. Founders Advisory believes that asset managers need to formally dedicate more resources to serving due diligence groups (see page 15), which are the key influencers within these programs.

4. Appendix Founders Quarterly

How to Subscribe to Ideas and Insights


Founders Quarterly

Founders Reports

• An annual subscription includes a total of four issues delivered each calendar quarter

• Annual cost U.S. $5,000 • To subscribe please email

[email protected]

• Title: The U.S. Retail Intermediary Asset Management Marketplace (early November release date)

• Cost U.S. $5,000 • To order please email

[email protected]

mailto:[email protected]

mailto:[email protected]

Founders Advisory specializes in the global asset and wealth management marketplaces


Founders Advisory is a management consulting advisory firm and provides custom ideas and insights to institutions in the worldwide financial services industry, serving firms focused on asset and wealth management such as asset managers, wealth managers, brokerage firms, pension consultants, platform providers, insurance firms, technology firms, and capital investors (including venture capital and private equity firms).

About Methodology

•Advice and insights that are focused, actionable, creative, pragmatic, and catalyzing

•Applicable industry experience and know-how

•Client-driven approach

•Ongoing senior executive dialogue

•Senior management focus

Our services are based on ongoing client partnerships


Description Services

Advisory Partners

Ideas and Insights

Management Consulting

Subscription-based

•Ongoing problem-solving for key management agenda items/issues •Flexible and fluid partnership •Dynamic senior management advising and counseling (i.e., strategic planning, sounding board)

•Actionable ideas & insights delivered via: •Founders Quarterly •Founders Reports

•Project engagements •Custom analysis and knowledge development •Workshops for senior management •Presentations and roundtable facilitation

Founders Advisory expertise spans the entire value chain


Asset management •Addressable markets analysis •Retail & institutional sales, client service, and relationship management •Organizational structure •Product development

Wealth managers/distributors •Fee-based advice delivery •Integrated wealth management •Platform support & developments •Financial advisors

Financial technology (FINTECH) •Platform providers •Outsourcing •Portfolio accounting & management •Startups

Professional buyers •State of the industry •Organizational structure •Buying behaviors •Servicing models

•Management Consulting •Advisory Partners •Ideas and Insights


This Founders Advisory material is intended exclusively for distribution within the purchasing firm. Distribution to or use by any other firm, subsidiary, affiliate, external field force, or client is prohibited (as is reproduction in whole or part in any media, including electronic or company communications), except by permission. Analysis relies on data sources deemed to be reliable. Although believed to be accurate, this information is not guaranteed and may be incomplete. Founders Advisory. All rights reserved.

management advisory and insights for financial services institutions Founders Advisory

Paul A. Fullerton Managing Principal 617.794.6788 [email protected] P.O. Box 130020 Boston MA 02113

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4 Q 2011 Preview Issue Founders Quarterly