The past year has been marked by economic and market volatility, with global inflation, war, energy and supply chain crises, and the sudden tightening of monetary policy all contributing to a challenging and uncertain future. While the outlook may seem bleak, we remain optimistic as the development of long-term trends provides tailwinds for the coming year.
2023 will present its own set of challenges as the world navigates recession and adjusts to shifts in investor expectations and technological advances. But those asset managers who are able to embrace these challenges and leverage technology to find opportunities in the midst of volatility will be well positioned for success in the coming year.
Recession and slowed growth will define the first half of the year, particularly in the UK and Europe, but also the US, as central banks around the world reverse their Covid-related monetary stimulus and hike interest rates in an attempt to rein in inflation.
However, while inflation may not be heading back to target levels of ~2% any time soon, it will start to moderate and interest rates will likely peak in Q1 or Q2 of next year, meaning a more benign environment for markets in the second half of 2023.
As the monetary headwinds subside and China starts to reopen, growth should steadily reaccelerate in Asia, hopefully easing the supply chain disruptions that have contributed to inflation. Australia, too, having remained relatively resilient throughout 2022, is well placed for growth in 2023. While it is not immune to global challenges, its relative geographic and geopolitical insulation, position as a net energy exporter and resource-rich economy sets it up for a softer landing than most.
What’s more, there are signs that investor mood is more positive as we head into 2023 than the immediate economic picture would suggest. While UK and European investors were big net sellers of equity funds in 2022, these outflows started to reverse towards the end of the year, according to our fund flow data. Across 2022, Asian investors were less bearish than their European counterparts, and Australian equity funds saw inflows.
Each market has its own challenges to navigate and course to plot through 2023, but the global economic landscape looks set to gradually improve as the year progresses.
Against this backdrop, the asset management industry is facing its own unprecedented challenges: dwindling margins, fee compression, new asset classes, emerging competitors and evolving customer expectations. Investor demographics and attitudes have changed, technology has evolved, and yet investment products, infrastructure and user experience have failed to keep up. As Peter Harrison, CEO of Shroders, speaking at the FT’s Future of Asset Management (FOAM) Europe, put it: ‘We have an industry where data is available to the microsecond, yet managers will still send reports to clients 20 days after the quarter end.’ Asset managers need to consider how they can enhance their offerings to deliver alpha and remain relevant in 2023 and beyond.
Over the coming years, particularly in low- and middle-income countries, digitally native millennials and Generation Z will become a more dominant force in the investor base. By 2025, retail investors will be responsible for an estimated 62% of AUM, having been level with institutional investors a decade earlier. These younger investors will be the beneficiaries of the largest inter-generational transfer of wealth in history, and their expectations have been shaped as consumers of digital services in all aspects of their lives. These investors have strong views on what assets they want to hold and those they may wish – for moral, social or ethical reasons – to avoid. They have higher return expectations and, as a result, are more likely to be interested in alternative asset classes, which often generate better returns. These demands point to a bright future for the industry – if supported by a compelling value proposition and the right technology.
Asset management, however, rests upon an increasingly outdated infrastructure. Mutual funds have been the vehicle of choice for 100 years, and were a financial revolution in their time, helping to widen consumer access to markets. But when consumers expect all the advantages of a modern, digital experience, mutual funds still rely on fragmented supply chains that add time and expense to what should be a simple process of delivering investment solutions. ETFs have been a step in the right direction, offering investors more choice and accessibility, and they have already taken a lot of ground from mutual funds. But the industry needs to look to the next stage of evolution: new approaches that take the same spirit of democratisation and innovation and apply modern technology to the task.
Most asset managers are not in a position to build innovative technology in house. For that reason, two-thirds of managers plan to increase their reliance on service providers as a way to meet their digital challenges, according to a recent report from BNY Mellon, with data management infrastructure (97%), back office (90%) and data operation (78%) being the key priorities.
We also expect to see M&A activity and consolidation continue in 2023, as firms look to acquire technology and capabilities, tap a broader spectrum of asset classes, expand their client bases and catchment demographic, and secure the expertise of specialist fund managers. European M&A activity, in particular, is greater than it has ever been in the past 15 years, reaching a peak in 2021. While it slowed down through 2022, and there will likely be a pause in the first half of 2023 as businesses focus on previously closed acquisitions, it will pick back up in the second half of 2023 as firms try to reap the benefits from technology without building it themselves.
Given the more challenging fight for alpha in the current environment, firms need to ask themselves if they are making the best use of their existing capabilities. By focusing on what can be done immediately, firms can lower their cost base and improve efficiency to deliver the purest form of alpha – cost reduction – to their customers.
More than half of the global asset firms (52%) in our recent survey are either mostly (37%) or fully (15%) automated, with Singapore having the highest percentage (41%) of fully automated organisations. However, 67% of all firms still use fax, indicating that there is still room for improvement and understanding the perception versus reality of automation.
The economic headwinds coming into 2023 will further focus minds on the long-term savings of automation and other digital technologies. In the next 12-18 months, 47% of firms surveyed plan to use digital forms to improve automation rates, along with 35% using robotic process automation and 33% using machine learning/AI. Firms are applying these technologies to both streamline front- to back-office integration, and support better, faster investment decisions. AI and data analytics appear to be the priority in North America, with American firms planning to increase their spending on these technologies more than their European and Asia-Pacific counterparts. Distributed ledger technology (DLT) is also expected to be increasingly used for automation for 23% of firms, though regulatory uncertainty around digital assets is currently holding back growth in this space. But we expect regulatory leaders to see increased activity in 2023.
Malaysia, Singapore and Australia have a strong focus on DLT, with Singapore in particular leading the way. The local regulator, the Monetary Authority of Singapore (MAS), is exploring the potential of tokenised financial assets, and Singapore’s digital asset exchange ADDX has seen several digital asset funds launched on its platform in the last year. There are also advances in Europe. The EU recently finalised laws for a DLT pilot regime for tokenised securities, to come into effect in March 2023, and the Investment Association is lobbying the Financial Conduct Authority to enable DLT-traded funds in the UK, which could be rolled out as early as the end of Q2 2023. Further regulatory clarity will start to emerge in 2023, and the growth in these first-mover products is likely to be significant given the pent-up interest in this asset class. Policymakers will need to strike a balance between regulation that protects consumers but also that keeps overheads low and encourages investment.
But the potential of technology is greater and more wide-ranging than simply optimising the status quo and reducing costs. There is a need and an opportunity in 2023 – and beyond – to use technology to reimagine what is being offered, to whom and how.
The next generation of investors will expect to invest in a widening array of asset opportunities, and expect to access public and private markets with the same ease. Private markets are already becoming democratised, as smaller retail investors seek diversification and access to the same assets as high-net worth and institutional investors. ‘87% of the companies in the US that have more than $100m of revenue are private,’ said Daniel Cruise, Deputy CEO of Tikehau Capital, speaking at FT FOAM North America. ‘That’s where the growth is, that’s where the real yield is going to be and thus where retail investors are going to want to flock, and are flocking.’ Indeed, ‘We’re already seeing every major European distributor worrying how they can get private assets to an investor in €15,000 ticket sizes,’ said Peter Harrison at FT FOAM Europe. Younger investors will drive this change, and over the course of the next 10 years, we’ll start to see the merging of the public and private spheres in a more fundamental way.
Younger investors also expect a digital-first, customer-centric user experience and are more likely to use platforms that offer a wide range of investment products. This trend is already playing out in Asia, and China in particular, where fund managers have successfully used app-based technologies to reach a large number of potential customers interested in smaller investments. In contrast, Australian fund managers have largely focused on wealthier, older clients, leaving a significant portion of the market untapped. In 2023, apps will likely be the main target for investment in technology for distribution in Australia.
The trend of ESG investing is also set to surge in 2023 as younger investors bring with them a greater emphasis on aligning their investments with their values. While across our global network we saw inflows to ESG funds sharply decline last year, we expect to see a reversal in this trend, especially in the long term.
However, policymakers will need to strike a careful balance between implementing rules that both protect investors and foster investment. The growing regulatory framework – both around ESG and the digital asset space – will increase overheads for asset management firms. But as they digitally transform and automate, firms will be better equipped to fulfil the various data reporting standards required by these regulations.
Tokenisation will play a crucial role in these trends. Enabling the creation of virtual representations of assets on a DLT infrastructure, tokenisation not only facilitates more efficient digital distribution, but also allows for greater accessibility to a wider range of asset classes that have not historically been part of retail portfolios – and making them cheaper to own. Assets can be fractionally owned and stored on a single, universally accessible record of ownership, reducing transaction friction and reconciliation costs. It promises to meet the demands of younger investors – for more personalised, digitally-served products that reflect their values – and enable asset managers to tap into the largely untapped and growing market of smaller investors.
Digital transformation will hold the key to differentiated results in 2023. It will be a year of unprecedented challenges in an uncertain environment, but those managers that use the expectations of the next generation of investors as their north star, and embrace technological innovation – while getting the most out of what they already have – will be well positioned to succeed.
It is in this spirit that we created our Distributed Market Infrastructure (DMI). Through our network we provide access to 3,500+ members of the global asset management ecosystem, enabling asset managers to both trade existing mutual funds as well as create new token-based collective investment products, meeting new investor demands. This approach allows firms to iterate, rather than revolutionise, infrastructure, managing risk and pursuing new opportunities with confidence.
Whatever 2023 brings, we are poised to support and enable more efficient, innovative asset management, helping firms to build a more modern way of operating and continue to deliver value next year and long into the future.