At the end of 2009, the value of assets professionally managed in the world totalled €36.5 trillion, of which €12.4 trillion was managed in Europe (€3.8 trillion in the UK, €2.8 trillion in France, and €1.5 trillion in Germany). In relation to aggregate European GDP, total assets under management reached 97% at the end of 2009.1 These figures highlight the essential role taken by asset management in the investment of society’s long-term savings. This column presents an overview of this role, and underlines in particular some key differences between asset managers and investment banks.2,3
Figure 1 is our starting point. It is adapted from Mishkin (2008) and shows the flows of funds through the financial system. Financial markets perform the essential economic function of channelling funds from those that have saved to those that have a shortage of funds. Those who have saved and are lending funds, the lender-savers, are to the left in Figure 1, and those who must borrow funds to finance their spending, the borrower-spenders, are to the right.
Figure 1. Flow of funds in the financial system
Borrowers can borrow funds directly from lenders in financial markets by selling financial instruments, such as certificates of deposit, commercial paper, corporate bonds, government securities, and stocks. This route (the route at the bottom of Figure 1) is often called direct finance. In general, investment banks and brokerage firms play an important role in helping borrowers to raise capital or borrow money following this route.
There is another route for moving funds from lenders to borrowers. This route (the route at the top of Figure 1) involves a financial intermediary that stands between the lender-savers and the borrower-spenders. The principal financial intermediaries fall into three broad categories: banks and other deposit-taking institutions, life insurance companies and pension funds, and asset management companies. These three categories provide specialist services in the economy. Typically, banks are financial intermediaries that accept deposits from individuals and institutions and make loans. Insurance companies and pension funds take in savings from households and firms, and invest them in money market and capital market instruments and other assets. And asset management companies provide professional investment services. These are delivered in a number of ways, both tailored to the needs of individual clients and through funds that are able to pool the assets of different investors.
Asset management companies offer their intermediary function not only to households, business firms and governments, but also to the other categories of financial intermediaries, in particular pension funds and insurance companies. For this reason, they have a separate position in Figure 1. As institutions directing the investment decisions for investors who have chosen to have their assets professionally managed, asset management companies are the most important type of buy-side institution. The buy-side is the opposite of the sell-side entities, such as the investment banks which are specialised in helping a business firm issue securities and acquiring other companies through mergers and acquisitions, and brokerage firms which conduct transactions in the financial markets for clients or for themselves.
By pooling savings from a large group of investors, asset managers can reduce risk by helping individuals diversify their financial wealth amongst many more assets than they could afford to do in general, given transaction costs. They also provide a high level of liquidity to their fund clients by investing in assets that are relatively illiquid. And their ability to trade in large blocks of securities allows them to reduce the value of the dealing commission to be paid as a proportion of the value of the transaction. In playing their role, asset managers act as the “stewards” of their clients’ interest. The property of the assets remains with the client, i.e. they are not on the balance sheet of the asset managers.
Shadow banking system
The global financial crisis has revealed that the financial system has become much more complex and interconnected than originally thought. This situation has led the G20 to launch a series of initiatives in the area of global financial regulation.4 Obviously, the agenda of reforms is not yet completed. The G20 has requested, in particular, the Financial Stability Board (FSB) to develop recommendations to strengthen the oversight and regulation of the “shadow” banking system. The term “shadow banking” began to be used at the outset of the financial crisis to describe entities and activities that perform bank-like functions outside the regular banking system. Last year, the FSB noted that it would focus its attention on the credit intermediation system outside the banking system that raises systemic risk concerns, in particular by maturity/liquidity transformation, leverage and flawed credit risk transfer, and/or regulatory arbitrage concerns (see Financial Stability Board 2011a and 2011b).
Relating the shadow banking system to Figure 1, the FSB’s work will culminate in strengthening regulation of credit intermediation operated through financial markets. To the extent that banks are interconnected with the shadow banking system, in particular through their support to shadow banking entities and their exposure to financial products issued by shadow banking activities, the regulatory response will target banks. Other entities and activities, such as conduits, structured investment vehicles, finance companies, mortgage insurance companies, credit hedge funds, issuance of short-term commercial paper and asset-backed commercial paper will also be affected.
Asset managers are already subject to strong regulatory requirements, including significant systemic risk-limiting provisions. In general, they operate with little, if any, leverage. By way of illustration, under the Undertakings for Collective Investments in Transferable Securities (UCITS) rules, an asset manager may borrow no more than 10% of the UCITS assets, as long as these are temporary borrowings.5 In addition, UCITS are permitted, as part of their general investment policy or for hedging purposes, to invest in financial derivative instruments. However, in order to ensure investor protection, the maximum potential exposure relating to derivative instruments may not exceed the total net value of the UCITS’ portfolio. These risk limitation rules clearly differentiate asset managers from investment banks, which have seen their leverage ratios increase significantly in the run-up to the global financial crisis6.
These considerations explain why asset managers are not associated with shadow banking. Still, it is possible that they will be affected by the FSB’s proposals in two areas of activities: money market funds with a stable/constant net asset value, as the US authorities consider this type of funds as being susceptible to runs, and securities lending and repurchase agreements.
Financing of the economy
By channelling capital from savers to governments, corporations and banks, asset managers are helping these entities meet their short-term funding needs and long-term capital requirements. Estimating the importance of this function is difficult given the lack of data. It is possible, however, to use statistics published by the ECB to have an idea of the role played by European asset managers in the financing of the Eurozone economy.
According to the ECB, investment funds domiciled in the Eurozone held 13.1% of the outstanding stock of debt issued by Eurozone residents and 16.5% of the total market value of quoted shares issued by Eurozone residents at the end of 2009.7 Using an estimation of the free-float market capitalisation, Eurozone investment funds held 27.7% of the shares issued by Eurozone companies and available to public investors at the end of 2009.
Assuming that the remaining part of the assets managed in Europe had the same exposure as Eurozone investment funds, it can be estimated that European asset managers held 25% of the debt issued by Eurozone residents and 31% of the share and other equity issued by Eurozone residents at the end of 2009. According to these calculations, the value of the shares held by European asset managers represented 52% of the shares issued by Eurozone companies that were readily available for trading in the market at the end of 2009 (see Table 1).8
Even if these percentages represent a first estimation of the contribution of European asset managers to the financing of the Eurozone, their order of magnitude confirms that asset managers provide an essential link between investors seeking appropriate savings vehicles and borrowers who need funds to finance their activities and developments.
Table 1. Debt/equity issued by Eurozone residents and held by European asset managers
||Securities other than shares (€ billion)
||Shares and other equity (€ billion)
|Debt/equity issued by Eurozone residents(2)
|Share of European asset managers in full market
|Free-float Eurozone market capitalisation(3)
|Share of European managers in free-float
Sources: (1) EFAMA (2011); (2) ECB; (3) STOXX Limited.
Impact on economic growth
The impact of the financial sector on economic growth has been analysed in a vast body of academic papers (see Popov and Smets 2011 for a recent review). It is widely recognised that countries with better-developed financial systems tend to grow faster. Typically, empirical studies show that the size of the banking system (bank credit to the private sector) and the liquidity of stock markets are each positively correlated with future economic growth (see Levine 2005). This body of research has not tried to measure the relationship between asset managers and economic growth.
Addressing this question is well beyond the scope of this column. However, I would like to focus attention on the relationship that exists between the value of equity assets managed in the main centres of asset management in Europe and the total value of shares traded in the corresponding local stock exchanges (see Figure 2). Even if this relationship does not establish any causality, it highlights one of the channels through which asset managers influence the functioning of the financial system and long-run economic growth: by providing equity capital on stock exchanges, they are helping corporations meet their long-term capital requirements and by contributing to high levels of activity and turnover, they contribute to stock market liquidity.
Figure 2. Equity asset management (end 2009) and stock market liquidity(1)
Note: (1) Stock market liquidity is measured by the average total value of shares traded in % of GDP in 2005-2009
Sources: EFAMA (2011) and World Development Indicators (World Bank) for the total value of shares traded in % of GDP
Bengtson, Elias and Bernard Delbecque (2011), “Revisiting European Asset Management”, Financial Markets, Institutions and Instruments, 20(4), November.
EFAMA (2011), “Asset Management in Europe – Facts and Figures”, 4th Annual Review, May.
Financial Stability Board (2011a), “Shadow Banking: Scoping the Issues”, 12 April 2011.
Financial Stability Board (2011b), “Shadow Banking: Strengthening Oversight and Regulation: Recommendations for the Financial Stability Board”, 27 October 2011.
Goodhart, Charles AE (2011), “Investment banking”, VoxEU.org, 31 October.
Levine, Ross (2005), “Finance and growth: Theory, evidence, and mechanisms”, in Philippe Aghion and Steven N Durlauf (eds.), The Handbook of Economic Growth, Amsterdam: North-Holland.
Mishkin, Frederic S (2007), “The Economics of Money, Banking and Financial Markets”, Person International Edition, Eight edition.
Pardo, Carlos and Thomas Valli (2011), “Contribution des OPCVM aux fonds propres des entreprises”, Cahiers de la Gestion, April 2011.
Popov Alexander and Frank Smets (2011), “On the trade-off between growth and stability: The role of financial markets”, VoxEU.org, 3 November 2011.
Sebnem,Kalemli-Ozcan, Bent Sorensen and Sevcan Yesiltas (2011), “Leverage Across Firms, Banks and Countries”, NBER Working Paper No. 17354, August 2011.
Véron, Nicolas (2012), “Financial reform after the crisis: an early assessment”, Bruegel Working Paper 2012/01, January 2012.
1 See EFAMA (2011). For an overview of the European asset management industry, see Bengtson and Delbecque (2011).
2 See Goodhart (2011) on this site for a discussion of investment banking.
3 The focus is on the contributions of regulated asset management activities, without discussing the specific role played by (unregulated) hedge funds and (regulated) private capital funds.
4 See Véron (2012) for an early assessment.
5 The term UCITS (Undertakings for Collective Investments in Transferable Securities) refers to the EU Directive that established a ‘single license’ regime for collective investment schemes exclusively dedicated to the investment of assets raised from investors. At end September 2011, total net UCITS assets stood at €5.5 trillion
6 See Sebnem and al (2011) for extensive internationally comparable micro level data on bank and firm leverage for 2000-2009.
7 By way of comparison, investment funds domiciled in France held 12% of the total value of all outstanding shares of French publicly-traded companies at end June 2010: see Pardo and Valli 2011.
8 It also follows from this calculation that European asset managers had an estimated €7.2 trillion invested outside the Eurozone at end 2009, in other European countries and elsewhere in the world.