Data has fast become a key focus for investors in recent years – notably how it is sourced, accessed and analysed – so index providers, with their technology and analytics expertise, should be sitting pretty.

Yet they are also under ever greater pressure to justify their fees, as these account for a greater proportion of asset managers’ and asset owners’ costs in today’s lower-margin environment. Hence the rising importance of expertise in areas such as risk analytics, stress testing and environment, social and governance (ESG) factors.

“Index costs have become very expensive as a proportion of overall costs [for asset managers], given that management fees have gone down,” said Dean Chisholm, Asia Pacific chief operating officer at US fund house Invesco.

Dean Chisholm, Invesco

That’s particularly true for passive fund providers, and many indexes are licensed based on the size of assets managed. “Now, if you're an index fund provider, you haven’t got many places to run to cover that cost,” he told AsianInvestor.

“That's why asset managers tend to go for self-indexing if they've got some scale because then they don't have to pay most of the fee to the index provider,” Chisholm added. "There's more self-indexing starting to be done.”

Index providers admit clients' sharper focus on cost-effectiveness is affecting their business.

“Fee pressure is happening across the industry,” said Jack Lin, Asia Pacific head at MSCI. “We are one of the providers of data and IP [intellectual property] that people use to create products which are offered to the end client. So it becomes all the more important that what you offer provides value – [and] that has to be able to be quantified.”

Thanks to Covid-19, active fund managers have seen their assets under management (AUM) shrink as a result of both outflows and tough markets this year. That has come on top of steady downward pressure on fees from their institutional clients amid the continued rise of cheaper passive investment strategies.

INSOURCING RISE

A further challenge for fund managers is that many larger institutional clients are looking to do more investing in-house. This trend can offer opportunities to index providers, Lin told AsianInvestor.

Asset owners are insourcing more portfolio management than they did 10 years ago, he said, and they are likely to use technology and data from index providers increasingly to create factor-based solutions that they run in-house.

For example, MSCI worked with Australia’s Future Fund to develop a customised factor solution for the sovereign institution’s equity multiple-billion-dollar investment programmes, Lin added.

Jack Lin, MSCI

And the index firm is in “half a dozen active discussions across Asia Pacific with asset owners” about potentially working on projects, he said. “The common theme here is that they are leveraging MSCI as an independent research organisation; as a tools provider.”

The firm is also working with an Asian sovereign wealth fund to move the client’s entire risk system online using MSCI’s enterprise risk system. This is likely to be the start of a larger trend, for SWFs, pension funds and other asset owners, Lin added.

ESG AND LIQUIDITY

Another area of growth for index providers when it comes to asset owners is in the ESG space, particularly in light of the current pandemic. 

“Covid has awakened a lot of asset owners,” said Lin. “Many have approached us since the start of this year wanting to learn more about ESG. I see a shift from pure cap-weighted benchmarks towards an ESG variant of such benchmarks.”

In future, he added, “asset owners in Asia will have incorporated a lot more ESG into their investment and reporting processes, and this trend is accelerating as we speak. They will have incorporated all aspects of E, S and G in a customised way because they will all have different views and approaches.”

Lin cited as an example New Zealand Superannuation Fund, which has built an equity portfolio that takes into account climate risk. “We developed a customised low-carbon index with them for their NZ$14 billion ($9.3 billion) passive equity portfolio,” he added.

Meanwhile, given the increased focus on market liquidity and volatility given the Covid-driven crash in the first half of the year, MSCI has also been helping clients run various analyses and stress tests

“We’re working with asset owners to look at volatility and its impact on liquidity,” said Lin. It’s been really rare to have this level of impact across the board.”