How Coutts crossed the gap
SIX YEARS AGO it would have been almost heretical to suggest to private banks that they should offer their competitors' products to clients. Now it seems incredible not to do so.
Although private banks are no longer expected to manufacture the best of all products, they are expected to distribute them. As a result, banks are being pushed into third-party product provision, or open architecture. But with differentiation a key objective, private banks are tackling the move towards open architecture in their own individual ways.
Open architecture is not an entirely new concept. Many private banks have been offering third-party products for some time in areas where they lacked the expertise to offer a full product range to clients. Non-traditional asset classes such as hedge funds and structured products tended to be the primary products to be outsourced.
Gaps in expertise
"In the 1990s, the private banks were offering funds of hedge funds themselves. But while they weren't terrible at it, they didn't do a great job," says Mark Chambers, head of sales management in Europe for Man Investments. "The new generation of clients reacted to this average performance, and the private banks were forced to look at third-party providers." Man Group says it has seen an increase in interest from private banks wishing to distribute its products to clients.
Offering third-party products in asset classes in which you do not claim to have superior expertise is a reasonable concept to put to clients. And when the provider is not a competitor, it is also easier for the private bank to swallow.
But it has taken private banks more time to accept the idea of offering competing third-party products. Credit Suisse was the first bank to do it, with the launch of Fund Lab in 1999. Fund Lab offers more than 2,300 funds to retail and high-net-worth investors, with more than 2,000 of the funds provided by over 50 third parties.
Clients can choose to invest in the funds through the website, paying fees of between 0% and 2% depending on fund type and amount invested. Although Fund Lab is designed to be a fund supermarket for retail clients to use by themselves, in 2000 Credit Suisse Private Banking (CSPB) began using the product when putting together portfolios for its high-net-worth clients.
"Clients wanted to choose from a broader range of products," explains Stefan Reinholz, director of the competence centre at CSPB. "We couldn't say we were the best in all asset classes but we wanted to be the benchmark in best products, so we decided we would have to add external funds to our product range."
David Blumer, head of product management, explains: "The client will sit down with the relationship manager, who will assess a risk profile and strategic asset allocation, and together they can choose the funds from the Fund Lab range. Fees are the same regardless of which manager."
It must have been a brave decision for Credit Suisse to offer third-party funds when it had such a large asset management arm of its own. As Sebastian Dovey of Scorpio Partnership says: "For the years leading up to the bear market, private banks had used the skills of the in-house asset management to woo private clients, so admitting third-party funds were better must have been a sensitive issue." But, says Blumer, the decision to open up to competition meant that Credit Suisse Asset Management was encouraged to improve its product range.
Open architecture means that large private banks can focus on their asset management strengths and still offer a full range of products. John Gatehouse at UBS Wealth Management UK says: "We have a good reputation for managing cash and bonds and tend, therefore, to manage these assets in house. For equities, however, we prefer to identify and select the best outside managers on behalf of our clients." UBS Wealth Management offers manager of managers products, funds of funds and segregated accounts to ultra-high-net-worth clients.
Indeed, multi-manager products, comprising manager of managers products, funds of funds, or fund supermarkets, are growing in popularity with the private banks. A 2003 survey of Swiss wealth managers by Scorpio Partnership revealed that 93% were offering multi-manager products.
Citigroup Private Bank offers multi-manager products on a discretionary and non-discretionary basis. Eliza Pepper, head of global manager selection at the bank, says: "We did consider attempting to be all things to all people with a fund supermarket but didn't think it offered much value in the current environment – for one thing it forces clients to do their own manager selection." Instead, an in-house manager selection team narrows down the universe to a shortlist of 60 to 70 managers for the traditional asset classes.
Pepper says: "We use our in-house managers where we deem Citigroup to be particularly strong and the focus team selects and monitors other managers."
JPMorgan Private Bank says it selects certain in-house products for clients: for example, large cap Japanese equities, European equities and global bond products. "When a client wants a capability we don't offer, however, or an investment style we don't employ, or perhaps performance that we can't provide, we offer third-party products," says Tom Rutherford, head of third-party investments at the firm. "We start with a universe of 12,000 investment managers which have been whittled down to around 25."
Although some private banks have chosen to select and monitor managers using an in-house team of researchers, it is not a route that every firm can take or wants to take. Employing a team of analysts that can provide research into a universe of managers or funds, which stretches to tens of thousands, is expensive.
A further argument to having a partnership with a third-party manager of managers is that the level of expertise should be greater than an in-house team because selecting and monitoring managers is their speciality. But UBS Wealth Management, Citigroup Private Bank, CSPB and JPMorgan Private Bank all feel their in-house manager of managers teams have sufficient expertise when selecting and monitoring managers.