For an industry where margins have historically been high and appetite for change correspondingly low, the COVID-19 crisis may prove to be the coup de grace to asset management’s inertia over digital transformation. The overwhelming majority of established, more conservative asset managers has collectively frowned upon innovation, classifying themselves more as fast followers than as digital leaders—in short, they’re more interested in investing in technology once it has proven itself.
Nonetheless, the power of digital in keeping the global economy hanging on by a thread through the present shutdown cannot be ignored. Most of the new investment technologies may not have had the chance to build a solid reputation, but without others (Zoom, PayPal, Microsoft, Google, Apple, even Uber) business activity would be at a standstill for even more millions of workers. Here I’d like to discuss the isometric tension around digital adoption that existed in the asset management industry before the current crisis; and how this tension might be harnessed to move the industry forward as we climb out of it.
Before the COVID-19 shutdown, the asset management industry found itself balanced precariously between, on the one hand, the search for new assets—which had the organic effect of accelerating the pace of digital adoption—and the slowdown of legacy systems and legacy thinking, on the other. In an earlier article on the state of the industry, we looked at the recent history of asset management innovation, with proliferation of products and low-cost, passive strategies leading out of the 2008 recession.
Today, and certainly leading out of the much larger shakeup that will characterize the post-pandemic years, innovation takes, and will take, the form of digital transformation. But in a business that made easy margins of 30 percent or more for more than half a century, this change hasn’t been easy. Up to now there’s been no burning incentive to digitize, modernize, or do things differently; COVID-19 may well be the progressive force demanding that things change—the proverbial catalyst that brings about a transformation landslide, and as we’ve seen in other facets of life (who would ever have thought they’d witness the temporary shut-down of almost all non-essential stores in the U.S.?), happen faster than you can say “digital transformation.”
Big Inertia Equals Stalled Momentum
The two counteractive industry forces are those putting the brakes on adopting new digital models—I’ll call them ‘moderators’ here—and those in favor of moving ahead with digitization and innovation—whom we’ll call ‘accelerators.’ This is the classic standoff between the old guard, who have business expertise and power but insufficient technical understanding to be daring, and the bold IT-savvy innovators.
As in insurance, advertising, and many other industries, the compromised result of this clash is a patchwork digital framework that’s part new and part old. In a world of exponential change in speed and capability in automation—a need which is only thrown into sharper relief by the current crisis—this layered approach isn’t working. In fact, it often leads to an innovation impasse.
What we’ve seen is that, as early innovators break the mold, the accelerators — tech disruptors, whether internal to the company or external challengers—have gained ascendancy, making the status quo untenable.
The stalemate produced by legacy IT systems and the innovator’s dilemma — namely, that companies critically need to know how and when to implement new technologies—is a clear signal to the asset management industry that it’s time to come unstuck from its history. Unfortunately, due to various structural trends, senior executives have concurrently had to shift
their attention from long-term growth to short-term survival. As a result, those experienced managers who should thinking creatively about business solutions are now preoccupied with the day-to-day running of the business. Further slowdowns have resulted from regulatory issued as well as inadequate investment in digital skills. Finally, the high investment cost of technological innovation and change management has the industry in a state of deep inertia, with the necessary forward momentum—execution of those transformative ideas—unable to happen.
A Digital Counterbalance to Inertia
Even while the asset management industry finds itself staring into digital disruption by new business models, digital transformations, and new market entrants, evidence on the benefits of digitization is somewhat patchy and at times contradictory. As a pre-crisis McKinsey report on digital reinventors outlined, if no action were taken to address digital pressures, almost one-third of their companies’ revenues could be lost. Meanwhile other research has shown that, in the most tech-reliant industries, aggressive digitization diminishes both profit and revenues.
What comes clearly out of these conflicting studies is that digital leaders realize significant monetary benefits over the laggards in the asset management industry.
Other research delineates the types and ranges of benefits from digital transformation. A different McKinsey report projected 51 percent profit margins for digitally transformed firms, versus 30 percent for the industry as a whole. Digital leaders studied in this report grew their assets under management (AUM) at a rate of 6 percent, double the industry’s average of 3 percent. Other benefits included excess revenue growth of 8.6 percent; an 11 percent jump in company productivity; and a 6.3 percent improvement in market share. The McKinsey research found that, in addition to stronger overall financial performance, asset managers that were identified as digital leaders reported lower than average technology costs.
Though a firm’s efficiency—measured in cost-to-income ratio terms—and the complexity of its operating model will determine the exact impact, the benefits of digital transformation are clearly significant.
Firms want to change, but can they?
Even under the weight of industrywide inertia, plenty of accelerators are currently working to counteract the moderators. One major differentiator can be seen, with the inexorable rise of passive investment vehicles, in fees and charges. Customer needs are clearly changing as digitally innovative offerings are more readily adopted. The increasingly self-directed end investor has become more demanding about investment returns and client experience. Other disruptions include the threat of market entry by fintechs and/or internet giants and the impending consolidation of the industry through “winner takes all” mechanics. These trends call into question the very definition of what an asset manager is and how it should operate.
How the COVID-19 crisis will change this remains to be seen, but my bet is on an even bigger role for digital. Not long ago, 80 percent of firms surveyed in one report stated that digital was a key priority. However, only 6 percent are creating meaningful value through greater investments in digitizing their operations and technology functions. In fact, most are barely scratching the surface, as 62 percent of firms felt that they were still at the “getting organized” stage, while only 50 percent feel that their digital agenda is innovation-led, and 33 percent stated that the focus was on wholesale change in their operating model.
This is proof positive that the moderators—the old guard who still wield the power of financial decision making—still dominate the implementation of digital, especially in these early phases. While likely these leaders were responsible for implementing early tech projects in a traditional waterfall fashion, they may have been burned—and are thus reluctant to acknowledge the vast improvements in modern technology architecture and new, more agile approaches to implementation.
In the scramble for strategic ways to address the mass fallout from COVID-19, asset managers are paying little attention to technology investment. A recent PWC report, for example, urges managers to prepare preemptive risk reports for clients, reassessing valuation processes, and “confer[ring] with counsel, compliance, investor relations and others about the impact of potential divergence from standard policies as a result of market disruption.”
Yet now is the perfect time to finally replace those legacy systems, as the hyper-volatile environment has exposed their limitations, either around the ability to make quick changes to them as a crisis ensues, the ability for people to work with them remotely, or to churn out bespoke reports for clients to allay fears. We expect our legacy systems to be stable and resilient, but in a volatile environment they also need to be flexible—and most times, they are not.
If there’s any bright side for the industry in this pandemic, it may be that asset management will finally get over its digital inertia and use the lessons of this time to get up to speed on the new technologies.
About the Author: Martijn Moerbeek is group director of Digital Strategy & Innovation at Legal and General, a forward-looking, UK-based financial services and insurance firm managing over $1.4 trillion in assets. He can be reached at [email protected]