All parties concerned within the pension and investment industry seem to agree that the environment in which they operate has and continues to change rapidly and therefore new products and solutions are required. In particular, the consulting industry is undergoing changes unthinkable only 10 years ago.
Some would argue that the traditional investment consulting model is all but dead. And even if most will not go as far as that, on the record at least, many agree that the vice-like grip that the consulting indus-try has been accused of having on pension funds in the , is slowly changing.
The increasing complexity and pres-sure on trustees has led both investment banks and fund managers to enter the advisory arena, often poaching staff as they do, whereas investment consultants are becoming fund managers or offering multi-manager products.
The trend started in the with consultants such as SEI and Russell Investment Group moving into the multi-manager arena. Russell now only offers consulting services to a small select number of large clients. Others have followed and now Mercer is also making a play for a foothold in this lucrative business.
There have been multiple drivers for the change, with pension funds experiencing a combination of negative factors, such as an over-reliance on the equity markets which saw values drop dramatically between 2000-2003.
At the same time, liabilities rose as inflation and interest rates fell and an added blow was improved longevity assumptions as well as an increased regulatory burden.
An increasingly complex investment universe and regulatory pressure is stretching trustees to breaking point through an ever-increasing fiduciary burden.
Because of this environment, pension funds have to make sure they get their money’s worth in every aspect.
Chris Edge, chief executive of Allen-bridge EPIC Investment Advisers, which provides independent investment advice to trustees, says the real challenge for funds is investments.
“Because investments have changed so much pension funds need to squeeze alpha, not just through alternatives such as hedge funds and private equity, but out of traditional asset classes as well. This has lead to all sorts of weird and wonderful measures, especially within the credit products and liability driven models. To understand and evaluate these products requires skill and the question is whether most trustees are up to the job, because they are not specialists in these areas.”
Edge believes the consulting model is going through the current changes because the ownership structure of many of consultancies changed from partnerships to corporates where the goal is to boost shareholder assets.
“This is not a negative or a positive, just a matter of shift in culture,” he says. Edge also believes the second reason for the change is that in the 1980s and 1990s the large consultants pushed their clients towards a few balanced managers such as Mercury, Philips & Drew, Gartmore and some others.
“Research was not such a large part of the job and there was no need for extensive research. Again this was frustrating at times for smaller fund managers, which could never get onto the radar-screen. But how things have changed.”
The quest for alpha requires big brains and the traditional model would not be able to cope with this because of its limited research capabilities.
“The ‘waterfront’ consultants have to demonstrate their research capability. Now if you want to research the 8,000 plus hedge funds, you will have to make an effort and effort costs money,” adds Edge.
This has lead to the fund manager route which some are taking, but also implemented consulting, where the consultants are taking a broader role than just investment advice in order to alleviate the burden of trustees. However, it is not all finished for consulting as UK defined benefit funds are required by law to seek independent advice.
Fiona Dunsire, business leader for Mercer Investment Consulting, says the threat from investment banks and other new players in the advisory arena is not huge because the of need for education and advice that trustees have.
Dunsire believes the newer entrants in the advisory arena offer some overlapping but largely complementary services and clients will continue to be willing to pay for directional advice and clarity.
“Investment banks have great innovative solutions but are in for the transactions, and sales, whereas consultants are viewed as an independent, trusted adviser. We are not complaisant, but there is room for us all. Banks often work on the corporate side as advisors and many investment banks have set up specialist advice units for this demand.”
Mercer, itself is also responding, and has set up a Financial Services Group (FSG), headed by Mick Maloney in Dublin, which employs 70 people across Europe . The group was set up to look at a broader range of services such as mortality risk and the staff has both investment and actuarial backgrounds. This forms part of Mercer’s explicit strategy of diversification, which ensures that it will continue to have a relevant offering to clients. Dunsire points out that the move from DB to DC, schemes has not led to less advice, just a diversification and the ability to leverage skills to other areas.
She acknowledges the deep pockets of investment banks but says money is not the only reason for staying or choosing a company.
“The roles for an investment bank and a consultancy are different. As a consultant you have very deep long-term relationships and deeper access to the clients. And there are a wide variety of roles, from generalists to specialists such as consultants focusing on responsible investments. And there is flexibility in the work/life balance.”
Dunsire says her experience shows that the talent flow to and from consultants is cyclical and Mercer has a 12% turnover with 272 consultants. “This is still a large source of talent.”
Dunsire also agrees with Edge in that the roles of consultants have changed and are now much more varied and complex. “It is challenging and manager selection requires much more depth and the complexity of the products require skill.”
She argues that the launch of Mercer Global Investments, Mercer’s Dublin-based multi manager operation, is a way of accessing Mercer’s manager research in a different way. “Clients with in-house resources, tend to want to buy our research, the middle tier want to combine this with some advice and the smaller ones tend to go for the implemented consulting model, where consultants also allocate the risk budget.”
Dunsire believes that as long as any potential conflict is managed and discussed openly, problems can be avoided. “To be honest, this is not something that comes up much any more. It was different five years ago.”
Gareth Derbyshire, managing director of the Pension Advisory Group at Lehman Brothers, agrees with Dunsire, in that although investment banks and consultants operate within the same space they are not really in direct competition.
“Clients need to be comfortable with investment banks’ product offerings and consultants have an important role to play in this process. Indeed, if consultants like a particular product they will often recommend it to a broader range of clients - they become an additional distribution channel for us.”
Derbyshire agrees with Edge in that the changes within the investment consulting industry are driven partly by regulatory changes and broadening product demand. He also argues that investment consulting advice is increasingly being scrutinised and assessed; as a result of demand for investment consulting is broadening.
“This is evident in the growth of companies such as PSolve or Redington Partners and more recently Cardano’s expansion into the .
“The changes have led to teams like that at Lehmans and other investment banks poaching talent from investment consultants.
“Among the leading teams of investment banks quite a large proportion tend to have a consulting background. However, it is also true that the flow is not all one way, with some consultants hiring individuals from broader backgrounds.”
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