Few industries looked more ripe for consolidation in the decade since the financial crisis than financial services.
Historically low interest rates begat historically high asset prices. Those made the business models of advice and wealth management very attractive, as most charge ad valorem fees, so their revenues rise as markets rise, without costs doing the same.
So this is achieved by buying a bunch of firms, each charging fees in that way, and then removing some of the costs to increase the proportion of the revenue that turns into profit.
Alongside that, consolidation created consolidators, as advice and wealth management firms combining meant new fund providers were finding it harder to gain traction because as advice and wealth management firms become larger, so their minimum investment sizes grow, and they may be forced to exclude smaller funds.
That left a tail of sub-scale funds and fund houses, with pools of assets to be scooped up by others.
But the spreadsheets that glowed with green ink for most of the past decade are turning a darker hue as rates rise and asset prices fall.
In the advice market space, those benign conditions also led to higher valuations being paid for firms.
The traditional model is to pay a percentage of the assets under management of a firm to buy it. This multiple is often in the range of 1 per cent to 2 per cent, but amid the flurry of private equity cash in recent years at least one advice firm consolidator began paying 8 per cent of AUM.
But in rising markets, those numbers can be rendered meaningless pretty quickly; for example, if markets are buoyant then AUM will rise quickly, driving revenue higher.
But if rates rise markets usually fall, and that would be expected to drive down the AUM, and so change the calculations underpinning the purchase by the consolidator in the first place.
The same general principles apply within the asset management space, and a real world example of how this can go wrong is the recent announcement from AssetCo that its chief executive Campbell Fleming is leaving, amid a 40 per cent decrease in the share price this year to date.
Fleming’s role was to boost the distribution capacity of the collection of boutique asset management acquired by the business, which is chaired by Martin Gilbert.
Fleming described the six months to the end of March 2023 as, “one of the toughest on record for active equities businesses with a backdrop of relentless outflows across the industry”.
That period coincides with the beginning of the rate-tightening cycle in the US, and the downturn in equity and bond markets around the world.
And in such periods the sales skills and strategies of even a veteran operator are going to struggle against the headwinds of rates rising at a pace not seen for decades.
