The European Union’s incoming Markets in Financial Instruments Directive (Mifid II) could well add to the costs of wealth managers operating discretionary portfolios in Asia, and force smaller players to close, say market experts.
But the new rules are unlikely to affect all regional players equally, with regionally-focused operators being less affected.
“I believe only the bigger [wealth management] players will be able grow their discretionary assets more significantly [after the Mifid II rules are introduced],” Tan Wei Mei, Credit Suisse’s head of portfolio solutions for private banking in the Asia Pacific, told AsianInvestor.
The Mifid II rules are set to take effect on January 3 of next year. Under the requirements, European financial intermediaries such as brokers will have to establish a price for the investment research that they produce, separate from execution services, for all securities based in the EU.
Historically, wealth and asset management industry players received research for free, as brokers distributed it as part of their marketing efforts. A key goal of Mifid II is to clarify the costs of each service provided by a broker, so that investors only pay for the services they want.
The new rules apply to all asset classes, whereas before the ‘unbundling’ of research and trading commissions were mainly discussed in relation to equity brokers. And while Mifid II is Europe-focused, most international brokers are expected to introduce the new rules across their operations, to avoid having two client compliance standards.
Discretionary portfolio managers at international private banks will be affected. Most are currently consumers of free research, as part of their investment duties to follow markets and manage money on behalf of their clients. However, under Mifid II they would have to pay for research from brokers, adding to their costs.
That could make DPM services uneconomical for wealth managers with smaller portfolios in that space, argued Tan.
“The cost of research is unlikely to be dramatically different, whether the assets under management (AUM) is $1 million or $10 million,” she said. “But when you lack scalability, it becomes harder to remain in business.”
In a November 20 report titled Mifid II: A New Paradigm for Investment Research, the CFA Institute highlighted that the median expectation of the annual cost of equity research was 10 basis points.
That equates to €1 million ($1.19 million) per annum on a notional €1 billion in AUM, according to survey respondents, who were mainly investment management firms, private banks and wealth managers.
In the case of fixed income, currencies and commodities, the median expected cost was 3.5 basis points, equating to €350,000 on the same notional amount. The report’s survey also showed that 75% of respondents expected to source relatively less research from the sell-side after the introduction of Mifid II.
Since it is likely that discretionary managers will need access to research under the new Mifid II regime, they may either opt for research that doesn’t need to be paid for, or choose “lower quality" research, Tan noted.
“Both options run the risk of generating lower performance. Either way, a smaller player is likely to get pushed out,” she predicted.
However, the new rules are unlikely to impact the businesses of wealth managers operating in Asia equally, noted Nikhil Dama, manager at wealth industry consultancy Scorpio Partnership.
“Large European private banks have no choice but to implement Mifid-compliant processes and systems. which will increase their operating costs even in Asia,” he agreed.
But regional Asian wealth managers that don’t have many dealings with European securities or European funds might not feel the same pressure to convert all their processes and systems to become Mifid II compliant, he noted.
Rhodri Preece, head of capital markets policy for Europe, Middle East and Asia at CFA Institute, shares that sentiment.
"The impact on costs will likely depend on what proportion of the portfolio is invested in Europe, as well as the asset classes being invested in," he told AsianInvestor.
Seeking a DPM push
The DPM business of private banks in Asia remains relatively small—accounting for less than 6% of the AUM of Asia’s private banking industry, according to experts.
Boosting DPM levels remains high on the agenda of most private banks in the region, as they attempt to shift from offering traditional broking operations to becoming more fee-driven. But Credit Suisse’s Tan believes that it could take up to five years before the level of DPM as a percentage of total client AUM climbs into double digits.
She did not provide details on how much discretionary assets accounted for Credit Suisse's wealth management AUM in Asia, but said the bank’s regional DPM assets had grown 100% over the past three years.
Industry experts told AsianInvestor that Asian clients are charged, on average, around 1% on the assets they invest into discretionary mandates. Higher net worth clients might enjoy lower rates.
The new European rules are likely to add more pressure onto a private banking industry already under pressure due to intense competition for assets in Asia. As Dama noted, “Mifid will be a slow-churning challenge for Asia’s investment community.”
However, it is possible the new regime could be a net positive for private banking clients, said Philipp Bärtschi, Bank J Safra Sarasin’s chief investment officer. He pointed out to AsianInvestor that private banks will no longer be able to use client commissions to pay for research.
“At the margin, that is neutral to positive for clients," he told AsianInvestor.