Why Western Asset is key to Franklin’s Asia ambitions

But while Morningstar sees the bond house as the "strength" of Franklin Templeton's takeover of Legg Mason, the merged firm may be vulnerable to competition from index fund managers.
Why Western Asset is key to Franklin’s Asia ambitions

Franklin Templeton Investments (FTI) is hoping its newly unveiled acquisition of rival US fund house Legg Mason helps it to rebound after heavy client redemptions in recent years – and some see bond house Western Asset Management as key to its future in Asia as well as globally. 

FTI’s assets under management have slumped to $698 billion from $880 billion in March 2015, a plunge partly down to the firm’s strong focus on emerging markets. Meanwhile, Legg Mason had $806 billion ($121 billion of which is in Asia Pacific) as of January 2020, up from $702 billion in March 2015. 

However, Franklin's Asia-Pacific asset base, which is split roughly 50/50 between institutional and retail business, has been more resilient. The region accounts for $89.3 billion (13%) of its total AUM today, compared to $92 billion (11%) three years ago.

Moreover, the addition of Legg Mason affiliate Western Asset will bolster FTI's ambitions by strengthening its Asian fixed income capabilities, as a recruitment executive told AsianInvestor this week.

Fund research house Morningstar made a similar point.

“While Franklin looks to be willing to retain Legg Mason’s affiliate structure, which has proved problematic in the past, we think the strength of the deal resides in Western Asset Management, which accounted for 57% of Legg Mason's $792 billion in AUM at the end of December 2019,” the firm said in a note on February 19.


“This will not only expand Franklin’s bond operations, making it far less reliant on the Michael Hasenstab-driven global/international fixed-income platform,” Morningstar added, “but [it will] also benefit from Franklin's registered investment advisor distribution network.”

Western Asset had seen its AUM in Asia alone – excluding Australia and Japan – grow 60% to $22.7 billion between 2012 and end-2018, the then Asia head Henry Hamrock told AsianInvestor in March last year. More than half of that total was managed on behalf of insurance companies, a hugely fast-growing sector in Asia.

As of March last year, Western had 23 staff in Singapore, 18 in Australia and, under a separate remit from the rest of Asia, four investment professionals located in Japan.

Fixed income will be comfortably the combined group’s biggest asset class, accounting for nearly half (46%) of its $1.497 trillion in global AUM, with Western's $460 billion a large chunk of that. (The graph below shows how the merger will alter FTI's asset composition.)

Click for full view; Source: Franklin Templeton

Focusing more on fixed income would seem to make sense, given the rapid swelling of Asian fixed income assets and opening up of China's bond market. The amount of outstanding local-currency bonds in East Asia had nearly doubled to $15.2 trillion at the end of September from $8.2 trillion as of the end of 2014, by Asian Development Bank figures. Size tends to breed liquidity and attract more investors.

On the alternative investment side, the merger will also provide FTI with a $55 billion real estate asset manager, Clarion Partners, to add to its private equity and liquid alternatives capabilities.


The combined group, however, will have a minimal passive product offering. Between the two they have a total of just $7.5 billion in exchange-traded funds across active, passive and so-called smart-beta products, though the merged entity will have a majority stake in recently set up ETF provider Precidian Investments. 

That will leave the combined group vulnerable to asset poaching by providers of cheap index funds. The same can admittedly also be said of other recently merged fund groups Aberdeen Standard Investments and Janus Henderson Investors.

Nonetheless, since the latter two mergers completed in 2017, passive strategies have continued to gain traction, notably in very efficient equity markets such as the US, where many active managers now struggle to generate alpha.

Investors from pension plans to sovereign wealth funds to insurance firms have been building passive or semi-passive exposure. Examples include insurer Prudential Corporation Asia, HSBC's UK pension fund, the Teacher Retirement System of Texas and Alaska's state pension fund.

Whether the shift into passive continues is another matter; arguably the turn in the global economic cycle that many now expect will better suit active managers.

In the meantime, FTI and Legg Mason have a lot of integrating to do; formulating product strategy will be just one of many issues they must deal with in the coming year.


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