Volume 1, issue 1 · Connectivity The EY global distribution review Volume 1, issue 1 Rise of the machines: electronic platform distribution. Connectivity ConnectivityIntroduction

ConnectivityThe EY global distribution review

Volume 1, issue 1

Rise of the machines: electronic platform distribution

Connectivity

Introduction to ConnectivityThis issue of Connectivity

a new EY thought leadership series focused on global funds distribution. Future issues will each concentrate on

a different aspect of the complex distribution equation. Connectivity won’t necessarily offer exhaustive answers or comprehensive solutions. But we will seek to raise important points of discussion, highlight key trends in the global distribution of funds, and examine where the industry is headed and how we think leading practices can be implemented.

A large portion of the wealth and asset management business model — particularly relating to operations, risk management, technology infrastructure, client reporting and portfolio management — has been addressed from a cost management perspective over the past decade. True growth will likely be achieved only through a

Further, a rich landscape of vendors providing an exhaustive range of services, from marketing and compliance to quantitative analytics and data management, has developed extensively in recent years. The crucial function that generally

Whether from a technology standpoint, looking at the rise of electronic platforms, or from a regulatory standpoint, looking at the restructuring of remuneration models and client interaction, fund distribution is undergoing sweeping changes. For the industry, several major challenges, such as the restructuring of the compensation model, must be addressed.

Connectivity looks at these many challenges, highlights the key issues

take to succeed at distribution globally.

| Connectivity October 20152

• Electronic platforms are slowly but inevitably becoming a vital channel in global funds distribution. Few asset managers can afford to continue using distribution models from

entrenchment, as well as those that offer only limited investor options.

• Interaction between counterparties to exchange information and securities via electronic platforms is nothing new in

wealth and asset management industry

services sector to fully leverage the power of rapidly expanding technology and

transactions. Instead, distribution in most asset management markets has focused on personal intermediation with little attempt at true innovation.

• Part of the slowness in adapting to new distribution technologies and business practices has been due to the entrenchment

models that left little incentive to radically change the system. But widespread regulatory reform of pricing models is now sweeping the globe, notably the Retail Distribution Review (RDR) in the UK and Markets in Financial Instruments Directive II (MiFID II) in the European Union.

in the industry. Thus the stage is set for more distribution to move toward electronic

intermediation.

• Fund distribution platforms and their respective rates of growth vary widely from market to market — as does even the mere

industry may be thinking globally in terms of

must act locally to customize and leverage the platforms used in individual markets.

Executive summary


• Perhaps the most advanced markets for platform distribution are the UK and the US.

the late 1990s, a massive disintermediation process began that moved investors away

At the other end of the development scale sits Continental Europe, where universal banks still control the bulk of the distribution life cycle, and platforms primarily serve a

facing advisors.

• A successful platform distribution strategy will require an aggressive and thoughtful leveraging of social media, commitment to building brand identity, a comprehensive investor education program and a high degree of personalization and enhancement of the client experience. These drivers will help to address the key challenge of product differentiation — as well as build customer relationships.

• Given the continued investment in technology and automation of processes, the growth of platform distribution will inevitably squeeze pricing and margins.

largest global managers that can build economies of scale — can attempt to enhance or at least protect some degree of pricing power, particularly through investment in customer experience and building brand

of lower margins and increasing market

competitive pricing.

Rise of the machines: electronic platform distribution | 5

0

1,000

2,000

3,000

4,000

5,000

6,000

TreasurySecuritiesPayments

November 2014 YTD2013201220112010

3,975 4,378 4,529 5,005 5,064

Issue 1 — October 2015

I IntroductionAs far back as 1973, during an era when paper forms were physically passed from bank to bank and across vast geographical distances, representatives from a consortium of banks met in a

beginning of what is now one of the oldest and largest electronic platforms

for Worldwide Interbank Financial

a shared worldwide data processing platform and messaging link, along with

standardized terminology for international

payment processing and, more recently,

established an automated quotation

also entailed standardized terminology

of the capital markets industry was only marginally interested in the then-

narrowed the bid-ask spread of securities

paradigm of securities trading that had

that the most effective model was one of face-to-face intermediation between a buyer and a

data and transact payments for natural gas

6 | Connectivity October 2015

trading, announced its acquisition of the

rapidly losing market share to the global

monument to capitalism — a manifestation of what was believed to be the utterly essential process of physically connecting

Open outcry futures trading has fallen to just 1% of the company’s total futures

stunning architectural monument of

management industry is essentially a

information backed up by a payment

been rebuilt several times over the last

rebuilt from scratch to keep up with

growth of computer processing power and telecommunication bandwidth, along with the corresponding collapse of the marginal cost of that power and

bandwidth, has completely reshaped the

business model in many areas of banking and capital markets is effectively creating a cross-border electronic platform and then leveraging it to win new business and

and securities trading have rapidly moved

the asset management industry has been

crisis, investors have often been left less than

time, they are increasingly well-informed about products and prices, have far greater

before and are now largely comfortable

industry, like it or not, will shortly see the inevitable rise and dominance of electronic distribution platforms — alongside an


Megatrends driving the rise of the machines

Screen-based automated

trading

Customer experience customized information delivered via the web over a personal meeting with

Regulatory reform

Investor dissatisfaction

Investor sophistication

and transparency

Investors, both retail and institutional, have far greater access to and

transparency is shining a bright light on what was once a highly opaque

Technology infrastructure

II The stage is set

distribution model in asset management was no doubt the entrenchment of an

distribution chain and were not transparent

their asset management services and what precisely they were getting for that

laid the groundwork for the growth of

infrastructure, greater transparency of information leading to far greater elasticity of pricing, regulatory reform and, ultimately, market preferences have all combined to form the perfect

increasingly directed in one form or

jurisdictions, the traditional role of the intermediary distributor will shift from one of a commission-incentivized seller

of product, with marginal regard for the cost of that product, to a new role of sophisticated buyer acting on behalf of

market well, client-facing distributors will implement their purchasing decisions in much the same way a savvy supermarket

decisions will be based on quality of products, brand name recognition,

generate vastly greater revenues than boutique shops, the most rapid growth in platform distribution will likely be seen in

platforms in operation today offer choices from multiple asset management product

of these platforms, the advisor community and the platforms themselves will likely

appearance that their platforms are a

Investment platforms will also become increasingly important compliance tools in the face of increasing regulation to



Rise of the machines: electronic platform distribution |

protect consumer interests, such as the

Already, institutions are being required to check that any advice given is suitable, in the best interests of the client and not

offer built-in rules to prevent advice

automation of the compliance function will allow more resources to be devoted to

only the disintermediation of traditional

facing advisor will soon shift from a seller

Advisors, such as private bankers, may also want to move up the value chain and start offering customized portfolios by putting together a strategy based around

often owned by independent technology companies and offering services similar

show signs of cutting out brokers and fund managers completely, as well as changing

whether retail investors or client-facing advisors, to use more digital channels to

to deliver more options, more services and more information to clients and keep pace

mindset is fully embraced on an enterprise-

challenge, given that key stakeholders in

often built their careers working within

of funds via the platform channel to Asian investors will likely outpace the growth of the platform channel in the UK or

the rapid and growing rates of broadband market penetration, smartphone-based e-commerce and highly sophisticated investors who are becoming increasingly skeptical about the value provided by

Change is under way in AsiaIn Asia, most wealth management services are delivered by the universal banks, with more than 80% of funds sold face-to-face, in formal meetings through large institutions. At the same time, buying behavior is mostly performance-focused, with investors chasing high returns and advised through personal intermediation.

However, the high rate of D2C platform adoption and use of mobile technology in Asia suggests this traditional distribution model is likely to be disrupted. According to data from US-based Forrester Research, 83% of Chinese customers use mobile applications to bank online, and 73% use mobile applications to invest online.

Europe

is characterized by a closed architecture, with banks and insurance companies being the dominant players selling

includes countries such

UK is at the other

completely open architecture and investors having a whole range of distribution channels to choose

are several countries

that lie somewhere in Open architecture is prevalent, and growing, despite banks being the biggest

Latin America

In Latin American countries, banks own a major portion of

that the entrenched distribution patterns

North America

done through open architecture, and the entire range of distribution channels is available in the region,

advisors, brokerage

companies, fund supermarkets and direct

are done through the

9

III Regulatory change drives restructuring of pricing model

model in many jurisdictions inevitably will also force asset managers and distributors alike to aggressively improve

As client-facing advisors can no longer be directly incentivized through revenue sharing or commissions, the industry

channels to deliver more information

an entire class of investors — those with limited savings — may effectively be left on

advice, and thus will likely be drawn

overhaul the entire remuneration system within asset management distribution

debate about transparency of total fees paid by clients began over a decade ago,

marked the end of a painful process for

process had begun as far back as the late

all, investment advisors should disclose

remuneration system for advisors was a

disclose and separately charge clients

clearly describe their services as either independent — thus entirely free from any

any product line — or restricted, where a connection or preference toward a

client-facing distributors is that they can no longer accept commission payments or revenue-share payments — in fact, any payments — from asset managers for

distributors must be paid directly by the clients for the advice given — and only by

also implemented a ban on inducements, which are the fees paid by asset managers to induce salespeople, investment

selling investment products to promote a

by regulators about how the established suitability standard that governs the

advisor and investor should be heightened

already applies to registered investment advisors, who are regulated under different




complicate the regulatory outlook, it is unclear whether the proposed changes will apply only to pension and retirement

Wide-sweeping regulatory changes

what may prove to be one of the most groundbreaking legislative changes of the decade for the industry, the

implementation inevitable throughout the

now introduce the necessary national rules

for standards of investor protection,

client-facing distributors will be the shift away from a sales commission-based model

the business development and distribution

• advisors or discretionary portfolio

managers accepting or retaining payments/inducements — effectively banning payment or retention of retrocessions or commissions to or by independent advisors or managers for distribution

• Regulatory powers to ban products — likely to lead regulators to increasingly focus on product development, oversight and targeting of products

• and appropriateness, particularly in

•

and loss analysis, but also potential regulatory issues

Although the jury is still out on the

managers and distributors, some critics have argued that small and midsized asset managers could see new business

result of shifting consumer demand, more transparency in pricing and the shrinking

landscape will be that a large number of smaller independent advisors will disappear — with the likelihood that more business will be directed toward larger advisors and those innovative and nimble enough to adapt to the new environment through aggressive

industry in general, the squeeze will be on

digital platform distribution channel and leverage immense economies of scale to

toward strategic mergers and acquisitions as a means of rapidly adding or combining

acquire a small technology startup in order to rapidly gain cutting-edge sophistication in electronic distribution

Further, as asset managers try more aggressively to build brand identity, enhance market share and capture client wallet share, they are vertically integrating into the retail market by hiring more client-facing advisors, but not to act

targeted not so much to directly distribute funds, but rather to help educate investors about the product line and in

Increasing share of UK platforms in retail sales

Year Total gross retail sales (million)

Direct sales*

% of gross retail sales UK fund platforms

Other intermediaries

37%

11%

11

Article header

IV Today’s landscape of electronic distribution platforms Globally, the asset management industry is seeing several broad business models emerging in platform distribution: Insurance channel —consists of insurance-based platforms and is centered primarily in the UK, Australia,

geographies, the vast majority of investors get their investment advice from insurance

Fund platforms in these markets have

of the brokers who are actually placing

Advisor channel — the second cluster

advisors employed by the large wire houses, as well as by independent

management discussions with private clients usually gravitate around equities, so the starting position for these platforms is

strong emphasis on trading and portfolio

wire houses or independent registered investment advisors, largely turn to some

largest global asset managers distribute a majority of their registered fund products

Private bank channel — the third

distribution of investment products has

E-platform acronyms

Platform model

B2B

B2B retail

Closed architecture

Open architecture

Guided architecture

A platform that may appear to be open architecture in that it offers a large number of products from a very wide range of

D2C (or B2C)

Advised platforms



Article header


connect asset managers with client-facing advisors have evolved to support multi-

invest in domestic and international listed securities, managed funds, derivatives,

For some time, these general clusters

technology is maturing and enabling more functionality, and technology providers are integrating their services on a global scale, the platforms dominant in one market

previously seen only in platforms in

software development, market forces are pushing private banks toward ready-made solutions offered by a handful of global

new software, asset management service

off-the-shelf vendor packages can deliver fully comprehensive wealth management

software vendor landscape, off-the-shelf packages should also become increasingly

of disintermediation and margin pressure

Investors across the spectrum, including

of private banks, will eventually start

what most automobile buyers do when

will be no set boundaries establishing who

an online insurance sales functionality and

multimillion-dollar investment accounts

Rapid and tumultuous paradigm shifts for any industry are by nature highly unpredictable, even by the most prescient strategy consultants. Engrained corporate culture, to use the Peter Drucker cliché, eats strategy for breakfast.

based cameras dominated the global photographic industry, much of the original technology behind digital photography was invented and patented by the world’s largest photograph companies that controlled an oligopolistic consumer wallet share of the global market. Digital imaging was a fascinating science, but key stakeholders of

had been invented nearly a century before. Now, some two decades

widely displayed in museums but

retail market, apart from antique shops. Those corporations that once controlled the photographic industry are nowhere to be seen on the list of the winners in digital photography.

Similarly, in the global telecom industry prior to deregulation, large network carriers held tight control of consumer wallet share, in no small part due to their frequent status as former publicly owned monopolies. No doubt, the network carriers certainly dabbled in wireless technology back in the early 1990s. Nonetheless, the new fad was widely seen as little more

than expensive toys for well-heeled executives in chauffeur-driven limos with a penchant for James Bond gadgetry. Today, many of the once-giant network carriers have emerged from some sort of forced restructuring over the last decade and are nowhere to be seen in the top tier of the wireless industry. Many of the biggest winners in wireless technology did not even exist in the early 1990s or emerged from unrelated industries such as shipping or software.

In the decidedly unglamorous low-growth industry of fast food, a decade ago the conventional wisdom, engraved in stone, was that the basis of successful growth was to spend heavily on TV advertising and offer rock-bottom pricing and steeply discounted loss-making offers intended primarily to drive

Today, the fastest growing fast food chains and the darlings of Wall

exist a decade ago, have spent nearly nothing on TV advertising, offer no discounts and have set a pricing point at the very top of the market. The lines to enter these new national chain restaurants are often

consider them “fast food.”

The new global leaders in all of these industries have one trait in common; they long since took the granite tablets upon which conventional wisdom was once engraved, tossed them all aside and never looked back.

Embrace radical change and reinvention to survive and grow

Direct salesApart from the platforms that serve client-facing advisors, the highly entrepreneurial

business model was born during the great

as a number of new websites began offering

the world of consumer-focused investment platforms offers a far more robust client

13

investors turn to platforms to purchase funds

highly robust platform, call center support and even some degree of an automated electronic functionality, through what are

and offer purely third-party products, or they


Platforms now dominate the UK fund distribution market, which has led to a state of ongoing evolution,

UK distributor Web address Minimum monthly investment

£

£

£

Bestinvest £

£

£

directed-service £

php £

£

£

£

Fundsnet

£

Interactive Investor

isa £

iWeb £

£

£

£

rplan £

£

£

youinvest

£

invest/home £

Willis Owen £

their own asset management products and

internet websites — that hold no assets and operate more in the telecommunications-

In theory, the direct sales platform is the nirvana for asset managers, with the direct placement of fund products being the most

the largest national or global asset managers

14

can command the budgetary resources, operate professionally staffed call centers

platform distribution, technology is conquering the world, and the result is

created purely as independent technology vendors are now starting to compete directly for a certain segment of the

nontraditional entrants include new stand-alone, independent websites that

Additionally, established global internet search engine providers could soon enter

identity, massive economies of scale, technology infrastructure and deep pockets

fund distribution process as primarily an

be that few investors yet associate internet

In terms of where this convergence of platform models from one market to the

handling multiple asset classes, not just

tangible property, cash, alternatives and

platform convergence means the future of wealth management across the global

household, with a holistic wealth package designed to meet the desires, preferences

is driving toward a convergence of the distribution of investment, retirement, insurance, lending and deposit products


The present marketplace: crowded, complex chaos

globe today offer a plethora of funds on the shelf, but most of the funds listed are

most aggressive in terms of national

platform channel — as has often been the case when working with a network of

Instead, asset managers must aggressively support their product lines through almost any means short of commission-based compensation models in cases where

electronic platforms to the buyer, whether that buyer is a client-facing advisor, a private banker or a retail investor, will intensify

Buyers are increasingly willing to invest time

products on the shelf will mean that brand names that are not relatively understood by the market will lose the buyers’ attention in favor of product lines that asset managers have invested heavily in developing and

effectively communicated and branded within the marketplace should align with investors’ personal preferences, be delivered at low cost for the given level of service, offer investment performance tied to outcomes and support the asset managers’ market

further highlight another key challenge

Advisors often cite the endless supply of products from asset managers with a near

asset classes, such as large-cap active

establish product differentiation through

space that electronic platforms present to investors, often leaving them confused for choice, will necessitate product differentiation in a way that is different and that resonates to client outcomes not

rather than merely marketing short term performance will be a key to differentiating

comparison, most users of automated

video streaming services, come away

needs were met and they received a

matchmaking internet dating sites, once a taboo subject but now a mainstream sitcom

that then transmits binary code through

friend or professional advisor, however personable and knowledgeable, is not at all

It has been all too common for asset

If the technology sector happens to be in the headlines over the last month, product distributors are all too quick to discuss the range of technology-focused funds and the latest and greatest tech fund

will increasingly turn to planning toward

shares — and pay management fees — for a target-date fund perhaps for decades into

date funds have learned the need to simplify

purpose of target date funds to ensure the market truly understands the product and

distribution platforms do not merely communicate characteristics of the hottest-

investor with a more holistic perspective focused on individual goals and personalized




V EY predictions for the future of electronic platform distribution • The status quo is not an option.

Restructuring of pricing models due to

a vastly more educated, sophisticated and informed investor base make the rise

managers that relied purely on their past market position and traditional sales compensation models will be aggressively

will require substantial adaptation to the growing segment of investors moving away from personalized intermediation solely and toward electronic platforms to support and transact their investment

• Think global, act local. decades of increasing globalization, standardization and harmonization, the asset management industry still remains highly fragmented in terms of individual market structure with

A successful platform strategy in the UK

fragmented and differentiated from country

ability to interface according to geographic and demographic market segments, as well as their ability to customize the individual investor

market and customer segment strategy is a

not prevail; targeted investment and focus are

• Less is more. Asset managers will be forced to review their products and relationships distributed via the

support for fewer products will lead to better preservation of margins, enhanced competitiveness and greater

but deeper relationships, from both the manufacturer and the distributors’

• Multichannel strategy and the cannibal. will look at platforms and their distribution

product sales through an electronic platform may come as a result of a loss in sales

decisions will need to be made to determine

of, an omnichannel approach will test the resolve of industry participants but is

• Think the unthinkable.potent competitors in the funds platform

industry and have no background or

ventures or even a strategic acquisition of the most promising tech start-up — as well as a complete rethink of the primacy of

online investment advice portal, has grown from start-up to break the $1 billion

in years past, the fastest growing and aggressive start-ups in traditional brick-

taken over twice as long to surpass the

market’s interest in an electronic platform

• Millennials … lacking trust, yet liking technology.

or seeking employment, they vastly prefer an online interface for making spending decisions — far more than any face-to-face

many major banks have downsized out of the investment advisory business as the key millennial market segment simply went online to purchase funds and eschewed bank

proactively address this client segment now,

• Personalization and enhancing the client experience. In the eyes of many investors and advisors, there is limited product differentiation in the asset management industry, the trend of commoditization is well-established, and all platforms provide

seek to allocate their time and assets to the distribution channel where they feel they

themselves with a rich offering of content,

transparent pricing, digestible market news

In the US retail distribution markets, still tightly dominated by client-facing advisors, several new web-based entrants are successfully gaining traction in electronic platform-based automated advice, offering low costs and high transparency:

Automated investment platform

AUMs Products and services

Financial planning

Account aggregation

Asset allocation

ETFs

Individual stock

Single stock

Autom

ated rebalancing

Autom

ated deposits/transfers

Dividend reinvestm

ent

WealthfrontBetterment

Future Advisor

17


ContactsMichael Lee

Leader

Alex Birkin

Advisory Leader

Rafael Aguilera

Advisory

Paul Stratford

Theodore Kim

Jeroen Buwalda

Advisory Leader

Juan Carlos Lopez


About EY

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Volume 1, issue 1 · Connectivity The EY global distribution review Volume 1, issue 1 Rise of the machines: electronic platform distribution. Connectivity ConnectivityIntroduction