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The race is on for Europe’s nouveaux riches

Europe’s newly emerging mass affluent are the latest target – and the latest obsession – for financial services operators. However many players have yet to unveil either a clear strategy or the right products. Indeed some big names have already decided to cut their considerable losses and leave the market behind, convinced they won’t be able to make it pay. But whoever comes up with the winning formula is likely to enjoy a bonanza.

Until recently the world of private banking and wealth management in Europe was fairly cosy, both for bankers and their clients. The super-rich handed over some of their spare cash to the banks.

These invested it on their behalf and with the utmost discretion. In fact secrecy, rather than performance, was the order of the day.

But things are changing, not least because upstarts, large numbers of them, are garnering wealth and starting to demand attention, and performance, from their financial advisers.

Western Europe's online brokerage leaders 
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Above all, the rise of a generation of newly affluent investors, spurred on by the growing equity culture in Europe, has forced banks to take a long hard look at the market and try to come up with the right products and delivery channels to meet demand.

There are different definitions of a mass affluent individual, but the most widely-quoted figure is anyone with $100,000 of investable assets. In the past a lot of these people, without the level of financial clout to reach the private banks, would probably have been happy to settle for standard retail savings products.

Now they are demanding more and private-client firms looking to tap this potential new stream of business have to work out how best to attract it. Essentially the argument comes down to how much should they rely on the internet and how much on networks of personal advisers.

The US has a long track record of full-service brokers offering personal advice. Such firms as PaineWebber, Merrill Lynch and Morgan Stanley have vast networks of advisers spread across the country.

Meanwhile, mass-market online players such as Charles Schwab, TD Waterhouse and E*Trade have been turning up the heat, adding their own advisory services to their trading platforms.

Europe is now looking to catch up, partly spurred by the dawning realization that individuals need to take more responsibility for retirement provision thanks to the move from defined-benefit to defined-contribution pensions. The new money coming from corporate executives exercising share options and dot-com millionaires - though there are fewer of them around now than a couple of years ago - is also driving the banks to change their stance. The new affluent are taking an active interest in their investments and want to see them produce good returns.

Consequently they are looking to invest not just in equities but also in hedge funds, derivatives and private equity.

"The wealthy middle classes now understand the difference between good and bad performance," says Huw van Steenis, vice president, European equity research at JP Morgan.

Although the old world order of private banks might not have served such people, serious moves are now being made by providers. This year, for example, German insurance group Allianz and Dresdner Bank forged a deal whose primary purpose is the development of a combined asset management operation principally targeting the mass affluent.

This follows a move by Merrill Lynch and HSBC to create a new alliance aimed specifically at the mass affluent. Margaret Barrett, chief executive of the new Merrill Lynch HSBC operation, says: "The very affluent are served by private banks and brokers but the 'mass affluent' have not previously had access to the same level of products and services."

Some observers wonder whether the two banks, which could each have launched their own operations, are using this as the initial step on the way to a full-blown merger, but this is strongly denied by both sides. Rather, they say it brings together an investment bank with powerful research and a high-profile retail bank, the idea being to make two and two add up to five.

MLHSBC is going after a particular section of the mass affluent, and it may be as few as one in five according to some estimates, who want to be self-directed: that is, making their own investment decisions with a minimum of hand holding. The other strategy being pursued is to build a network of advisers. Morgan Stanley, for example, has made recent acquisitions of Quilter in the UK and AB Asesores in Spain with this in mind. UBS, for its part, is looking to replicate its newly acquired PaineWebber network throughout Europe.

But Europe has problems not encountered in the US. It is not a single market. There are individual cultures, laws and tax rules.

As Justine Shih, a banking analyst at Commerzbank, says: "Traditional banks and insurers are generally poor in their understanding of the needs of the newly emerged mass affluent segment and weak in their thinking about how best to serve those needs."

Those players who have a grasp of the problems involved, she says, are still struggling to implement their strategies. And while the big banks are still mobilizing their forces, smaller more nimble players throughout Europe, such as Italian operations Mediolanum and Bipop, can thrive.

A deal at last

Last year Allianz became very frustrated by the collapse of the dream deal merger between Deutsche Bank and Dresdner Bank after it had taken the role of bringing them together.

This year, under former Goldman Sachs M&A whiz Paul Achleitner, it is driving a deal with Dresdner that would create the world's third-biggest fund management operation, with e1 trillion ($858 billion) of assets.

What has made the difference this time is that Achleitner and his staff are driving the deal rather than relying on shareholders or board members at other banks. They are also looking to leave the investment bankers of Dresdner Kleinwort Wasserstein free to do their thing, while concentrating on what they see as the most important part of the deal: creating a fund management powerhouse.

At the heart of the deal lies Allianz's plan to sell its insurance and investment products to customers, and specifically the mass affluent, through Dresdner Bank's 1,400 retail branches.

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Joachim Faber,
Allianz Dresdner
Asset Management 

Joachim Faber, chief executive of Allianz Dresdner Asset Management, sees the expanded distribution network of the two parties as the fast way to boost sales of his retail funds in Europe.

Between branches of Dresdner, Allianz's insurance agents and third-party distributors and independent financial advisers, doing the deal will speed up the whole process of growing the business, he says.

Through its various fund management arms, which include the US operations of Pimco and Oppenheimer, along with Dresdner RCM and Allianz Asset Management, the newly-merged operation will be able to draw on a comprehensive range of investment styles.

"The Allianz/Dresdner deal is all about asset gathering, about accessing long-term savings products," says van Steenis. "German consumers have changed forever. They know now that simply putting money in the bank is no longer the right thing to do." He adds that Germany, France and Italy will produce 55% of Europe's growth in this market over the next few years. The UK is the fourth market behind these. "If you are not in those markets then you will be missing out on the party," he says.

Bruno von Rotz, chief strategy officer at Cambridge Technology Partners, predicts good times ahead for the new German operation, although he warns that the minutiae of the deal have still to be worked out before the way forward is clear.

"What I like about the model is that it is two powerful players coming together," he says. "Given the fact that it is a quasi-merger, I think they have to handle a lot of other problems so they still have to sort out the questions of focus and decision making."

However, overall he says the Allfinanz combination will take advantage of the strong ties between German individuals and their banks to sell more financial products. "They have connections to many customers, they have good products, they can try to commercialize through new channels," he says. "I certainly see them as very well positioned players to tap new markets."

Fly in the ointment

Not everyone in European banking is convinced of the potential of the mass-affluent market. Marcel Ospel, chairman of UBS, says he is not interested in it because it is overcrowded with competitors with deep pockets. While operations like MLHSBC will concentrate on providing standardized products to clients, UBS is going after individuals with $500,000-plus to invest. To this end, it will be establishing advice-centred services in order to put clear water between itself and the competition.

Ospel expects the $500,000-plus group to grow at around 10% a year in Europe over the next few years. UBS estimates that Europe's wealthy elite has 35% of the e17 billion of investable wealth. In the next five years that number will grow to e33.2 billion and 43% of that will be held by the wealthiest group, with the mass affluent holding just 39%.

By pursuing this market UBS will be looking to build on its traditional strengths in private banking. That was a key factor in last year's acquisition of PaineWebber in the US. Ospel now says he wants to build a European platform aimed at the core affluent market and is targeting Germany, France, the UK, Italy and Spain, which together hold 80% of Europe's investable assets.

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Marcel Ospel, UBS 

Luqman Arnold, chief executive of UBS, echoes Ospel's view. He has no interest in the mass affluent market and says UBS has no particular competitive advantage in the area so he is happy to leave it to insurance companies and retail banks.

Another Swiss private bank has decided to pull out of the mass affluent running after substantial initial investment in it. Vontobel was planning to launch an independent on-line bank called Project Y-O-U but decided, like UBS, that the market was becoming overcrowded with competitors. In the process Vontobel has written off Sfr151 million ($90 million) but it decided the ultimate cost of establishing the business would be a lot higher than originally estimated.

Unlike MLHSBC, Vontobel decided not to use its brand name but rather to create a stand-alone entity for the mass affluent market. But, von Rotz says, this was not the problem. Their idea was good but because of an inability to predict market changes and an under-forecast of development costs, the project became a white elephant.

Despite these players deciding the market has nothing to offer them, MLHSBC's Barrett remains upbeat. "There are diametrically opposed points of view," she says. "A lot of institutions targeted the mass affluent market but then asked themselves how interesting it really was. The fact that other players have come to the mass affluent market demonstrates that it was previously under-served."

Von Rotz says there will be opportunities for those players who have the right infrastructure and the right strategy. "It is an economies-of-scale game and not everyone can achieve economies of scale. People have to be able to ride out the current downturn and they have to get more clever in their strategies."

This involves not simply having an online product, but also offering customers face-to-face advice.

This opinion is backed up by JP Morgan's van Steenis. "Our strong view," he says, "is that while there will be a significant proportion of products sold by telephone and online, the physical presence will continue to play an important role for asset gathering. The first meeting will be in a branch."

But he says the mass affluent model will only work if people are prepared to do a bit of self-service. "People do feel a little more confident about using the internet and they are time pressured so they will use the telephone and internet in some instances."

Europe's unique challenge

The other factor that banks need to take into account is the peculiarities of each European country. These local differences in taxation, regulation and culture encourage the development of domestic players and mean that players looking to achieve pan-European success must have several strategies worked out, not one.

"You need a string of pearls rather than one idea for Europe," says van Steenis. "Anyone who thinks he can conquer Europe with one universal strategy is very much mistaken."

A parallel can be drawn with the online broking market in Europe (see page 38). Countries in western Europe each now have several prominent online brokers, some of which are domestic names and some more internationally oriented. However, none has yet managed to spread its network beyond its power base and across the continent. 

The likelihood, then, is that the mass affluent markets will throw up similar problems. Van Steenis highlights some of the issues, which include the fact that in Spain and France it is more advantageous to buy life insurance than mutual funds. Meanwhile in Italy, domestic players such as Mediolanum, Fidearum and Bipop have been scooping up most of the new funds.

"Fidearum, Bipop and Mediolanum are absolutely central to what is happening in Europe," says van Steenis. "In Italy 50% of net new money went there, to those advice networks, up from 30% in 1999."

He says it may take up to 10 years for a US or international player to dominate, though Fidelity has been doing well in Europe and Putnam Investments has been able to break into Italy through its tie-up with Bipop.

Whichever players start to dominate, and obviously rich and powerful groups such as MLHSBC and Morgan Stanley are most likely to do so, they will have to adopt open architecture and offer products from beyond their own in-house range.

"Banks like HVB Group and Lloyds TSB are moving towards open architecture," says van Steenis. "To make a comparison with the supermarkets, like Tesco and Sainsburys, we will see three or four power brands emerge. They will have one own-label product on their shelves and then one or two exotic brands from other providers for when customers have special needs." He points to Marks&Spencer as a bad model to follow - one of the problems of the struggling UK clothing and food retailer is that it stocks only own-label products.

MLHSBC's Barrett is aware of the need for open architecture and says it is very much part of the joint venture's plans. "When we offer mutual funds we will offer a full range because that's what clients want," she says, although she adds a proviso. "I also think that if there is too wide a range people can be confused by too much choice so we want to have a lot of variety, enough diversity, so they can make a choice but not so much as to confuse them."

So having accepted that Europe has its owns special needs and identified the target market, banks now have to make up their minds as to what extent they use the internet and how much clients need their hands held.

In the long run a balance needs to be struck. "From a cost-structure point of view you need a self-service component," says von Rotz. "You cannot treat them in the same way as you treat your private-banking customers who will have $5 million of assets. It's a very different segment."

However he adds that the new technology can help to reduce the cost of acquiring customers. "Everything that helps you to lower that acquisition cost will make you a better player. So that means that companies that already have a customer base to draw on have an advantage."

To date, those organizations geared to looking after high-net-worth and ultra-high-net-worth individuals have not done well in the mass affluent sector, von Rotz says. Their infrastructure does not make it easy to introduce scale. For example, they are not built for straight-through processing.

MLHSBC may be looking to plug a gap in the market, aiming at people too wealthy to be satisfied with basic retail bank services but not rich enough to be attractive to private banks, but this inevitably puts pressure on those catering for the super-rich to improve their services. They will need to do this in order to put daylight between themselves and those catering to the merely affluent.

In the past, private banks could use their image to attract customers, drawing on a reputation earned over many years. Now the new customers want access to services through the internet and will move to more nimble, newer operations if they do not get what they want.

Equally, if private banks go too far into online operations - and some have been creating online systems that enable clients to control their own trades and handle their own investments - those clients may begin to wonder why they are with private banks in the first place.

So banks are having to spend large sums on making information, as well as dealing services, available to clients. Also, where previously private bankers might have met clients once a quarter, that may now increase to as often as 15 or 20 times a year. This will put even more pressure on managers and technology.

Rather than just tacking new fronts on to the old operation, banks will have to provide relationship managers with more information, allowing them to service more clients, or spend more time on the same clients and increase the number of products they sell to each one.

Above all, says von Rotz, the successful players will be those who identify a clear strategy and stick to it without overcomplicating matters. They also need to improve their existing services. "A lot of players have to consolidate what they have out there," he says. "They have to make it more efficient, they have to be a lot more effective. They have to understand their customers better and offer more."

This will come down to more than just pure online services. A certain amount of real estate and face-to-face advice is vital. Just as when people earn more money they go to more expensive professionals for advice, be they doctors, lawyers or accountants, so it is with financial advice. Rich people and serious investors do not want to delegate all their decisions to computers.

The most feared competitor

The new joint venture between Merrill Lynch and HSBC is the most feared competitor in the mass affluent market, according to research by Commerzbank.

Having been given $1 billion on its entry in the world, Merrill Lynch HSBC's new venture was certainly born with a silver spoon in its mouth.

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Margaret Barrett, MLHSBC 

With two powerful brand names behind it, it was given all the advantages it could possibly ask for. Now the new arrival has a lot to live up to if it is going to fulfil the hopes and ambitions of its parents.

JP Morgan's Huw van Steenis says the new venture has a lot going for it but has some hurdles to overcome. "Great concept, shame about the timing," he says. "They come with terrific know-how from the States. Terrific product, well-thought-through distribution but can they succeed in a market downturn? That makes it a much more difficult proposition than 12 months ago but they are a quality outfit."

Cambridge Technology Partners' Bruno von Rotz also feels the venture is well set to succeed but must keep a clear focus. "They have deep pockets, they're starting from a good position," he says. "The pitfall they face is if they try to be all things to all men. This will create unbelievable complexity in the applications process. If you have too many products, or you connect to too many back-end systems you will have problems."

He, like van Steenis and other observers, remains to be convinced. "The jury is out on them," says von Rotz. "We just don't know yet."

Another market observer voices concerns about Margaret Barrett, MLHSBC's chief executive. He says Barrett has the wherewithal to succeed but has a big challenge ahead. "This is not her traditional business," he says. "She has come from retail banks. She needs to learn about brokerages and about Europe and all this in a market downturn. That is a lot of learning. She seems extremely competent but they have a hell of a challenge."

Barrett says she is ready for what lies ahead. "Yes, it's a challenge but in the area of financial services, wealth management really is the most dynamic. If there ever was a category that was very well aligned to an online electronic transaction, it's financial services. We have no hard tangible goods so the migration to people transacting financially online is certainly already under way and it will continue."

The operation is well placed to capitalize on a growing market, argues Barrett, because it has stolen a march on the competition. "We were one of the first to announce an interest in the mass affluent market," she says. "We've got a comprehensive offer that has online integrated investment and banking. We will be looking to fill out our product line but at the outset we've got sharedealing, the cash account, the TESSA ISA cash deposit. We've got a good diversity of product for people to take advantage of. There's enough different about this and comprehensive about this that we believe over time will give us a leading position in the market."

Barrett says the operation will not be standing still and will bring new products to market over the next few months. "We recognize that in order to stay ahead we need to constantly innovate."

The UK operation, which has just launched, follows the pioneer operations in Canada and Australia and once the UK is up and running MLHSBC will be looking at developing a product for Germany and then France before heading into Asia via Hong Kong.

However Barrett is coy about when these new developments will materialize, or how the business is performing to date, or indeed future forecasts. So far, all MLHSBC has projected is that it will break even in another four years' time.

"We don't disclose client numbers, asset numbers or forecasts," says Barrett. "We're not disclosing targets."

Competitors are watching the new baby closely for any signs as to whether it may be a first step towards bringing the parents together into a full-blown merger, though Barrett dismisses any suggestion of this.

Indeed she is forging ahead with creating a truly stand-alone operation, albeit under the eyes of Merrill Lynch and HSBC. Above all, she is determined to create a separate culture.

"We have two different parents with two different cultures," she says. "But people are attracted to the joint venture because they're comfortable with an element of risk. They enjoy the challenge of building something new and they also want to build a different culture. People are coalescing around establishing our own culture.

They are less wedded to their old culture where they came from and more excited about building a new one here."

She places a high premium on innovation and says that is central to the new business. "We want clients to feel that if there is any innovation in financial services then they will have it here," she says, "and in many cases hopefully we'll be able to initiate it."

Certainly she expects clients to be demanding. "We're targeting the self-directed. So we're targeting people who are very involved," she says. "They do their research, their homework. They want good information. That's one of the reasons research is such a seminal part of our offer. There is a segment of the market that enjoys it. They spend a lot of time online doing research on various companies."

Anyone wishing for more hands-on service will be directed back to the parent organizations. Both Merrill Lynch, and HSBC through its Republic arm, have well-established private-client businesses.

"We can offer a face-to-face service in our investment services and we can refer clients to our parents who already do that well but we are looking to fill a gap in the market - clients with significant amounts of investable assets who prefer to do it on their own were really being under-served."

She is not unduly concerned by the fact that some players are already pulling out of the market. She thinks it will naturally even out to a few providers. "We will get to a core," she says. "There will be five or six major players in Europe and obviously our ambition is to be one of those."

Neither is she worried by the scaremongers who say she has brought her new baby into the world at just the wrong time, when markets are turning down and people are running from the stock markets.

"Obviously today the market is not where it was last year," she says. "Trading is down. People are considering a lot more carefully how and where they invest. But we're also very confident of the long-term trends and that more and more people will transact online and that, with the resources of the two parents that we have, we will be able to continue to innovate. So we are actually still very confident about the market."

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