Preservation of wealth
Kevin McQueen explores the trend for fee-based discretionary banking
The world has become a more complex place for the private banking industry since the global financial crisis of 2007-08.
For more than 30 years of economic growth, it was relatively easy for even the most casual of investors to benefit from booming global equity markets. But times have changed and the task of both generating and maintaining wealth has become trickier.
'The reality of 2008 is that we are moving towards a more strategic portfolio management mindset that looks at the mid-to-long-term,' says Roger Bacon, managing director and head of managed investments Asia-Pacific at Citi Private Bank in Hong Kong.
There are, of course, still plenty of opportunities in the industry for growth - particularly in Asia - but there are challenges as well.
This certainly applies to Hong Kong, which alongside perennial rival Singapore, is the region's premier private banking centre. The name of the game is not just generating wealth, but also preserving it in an interlinked global financial system that is as much about risk as returns.
'We have to transform from asset gatherers to asset managers', says Alexander Kobler, regional head of investment products and services Asia Pacific at UBS. 'You really have to deliver performance and grow the wealth for the clients'. The commission fee or transaction model traditionally favoured by the city's high-wealth individuals (those with more than US$1 million in investable assets, not including their businesses or property) is unlikely to disappear, but its influence is on the wane.
This is due to a combination of regulatory changes and memories of the Lehman Brothers minibond fiasco and accumulator scandals, leading to a shift in priorities for banks and their clients. The result is a more discernible shift towards a transparent fee-based model.
Minibonds are not corporate bonds, but high-risk, credit-linked derivatives. They are marketed as a proxy investment in well-known companies. Accumulators are a term-limited contract that allows an investor to buy shares or foreign currency regularly at a fixed price below the market price when the contract begins.
The Basel III agreement, which strengthens bank capital requirements and introduces new regulatory requirements on liquidity and leverage, has made it imperative for banks to improve their balance sheets and private banking, particularly wealth management. But private banking is not only a growth area - it also provides a path for banks to boost the deposit side of their business.
According to one study, the average profit margin for private banks in the United States was more than 35 per cent in recent years while average earnings grew at 12 to 15 per cent.
Meanwhile, the Hong Kong Securities and Futures Commission recommended last year that firms selling financial products should provide clearer language about their fee structures.
Other regulatory bodies have gone further. From January 1, Britain's Financial Services Authority will ban private bankers, wealth managers and financial advisers from taking commission fees from clients. The Treasury in Australia will follow suit with measures on July 1 next year.
They hope that this will provide more transparency in the pricing of products, less volatility and an approach that is more attuned to the long-term goals of clients.
Although it can still be tricky to persuade Asian clients, who have worked hard to accumulate their wealth, to turn over the day-to-day management of their portfolios to investment professionals, clients are now more receptive.
'The trend for fee-based discretionary banking is on the uptrend, partly because of the Asian second and third generations of wealth' says David Poh, regional head of asset allocation and discretionary portfolio management at Societe Generale Private Banking (Asia-Pacific).
While Poh concedes that the first generation of wealthy is more likely to be hands-on, the younger generations are more focused on preserving and building on their wealth. And for that they are looking towards a fee-based model.
Poh says portfolio management is one of Societe Generale's core businesses with a focus on wealth preservation and creation through investment for the long term instead of quick returns through short-term trading.
Bacon says that it is vital for his bank to leverage their research capabilities. This is where size becomes an advantage, as Citi is able to draw on its broad resources to present bespoke solutions for each client. This includes having on-ground research capabilities in Hong Kong.
'The power of the discretionary model is the ability to customise our approach because every customer is different,' says Bacon.
He admits that although this is a very labour-intensive approach, the bank has the fund managers in place and the ability to take advantage of a wide research base that includes stocks, bonds, mutual funds, private equity, real estate and hedge funds.
Kobler agrees that a good research base is vital, especially with the Asian market becoming more mature and more clients seeking to diversify after 2008.
He says UBS has one of the biggest research bases of any bank globally, giving it a crucial advantage in being able to ramp up its services to clients.
'You have to time the market, so having a strong research base is really important,' Kobler says. 'We have thousands of ideas, but making them executable is much harder. The true value is the advice we provide, not the transaction model or instrument.'
Size isn't always an advantage. Some of the smaller private banks feel wealth management is what they do best and that their approach is different from the traditional brokerage model of the bigger investment banks.
Silvan Colani, deputy chief executive officer of LGT Bank's Hong Kong office, says that his organisation is more about wealth management than trading. 'We've always had the fee-based advisory model,' Colani says. 'And we've always had a long-term view.
Vicky Wong, managing director and head of client solutions at LGT, agrees, noting that the wealth management market in Asia is changing and will continue to evolve into the second and third generations of wealth.
'Clients are busy', Wong says. It is a time issue for a lot of clients, adding that there seems to be a lot more willingness to embrace discretionary portfolio management than in the past.
A report released last year by Capgemini and Merrill Lynch showed that the number of high-net-worth individuals recovered to pre-crisis levels in 2010. The numbers are growing despite ongoing concerns over the global economy, such as the possible exit of Greece from the euro zone and the possibility of a hard landing for China's economy.
According to the Boston Consulting Group, private asset growth in Asia is also growing faster than anywhere else - up by 20 per cent in 2010 from 2008 to more than US$20 trillion in assets.
The problem for banks is finding a way to gear up, although the banks contacted said that this is what they are doing. It does have its challenges.
A report in The Economist last month said that not only is the cost of hiring private bankers becoming more expensive, but that the market is extremely fragmented. The top 20 private bankers and wealth managers are managing to look after only US$11 trillion in a market - there are wildly varying reports on the total, such is the scarcity of actual hard data - of between US$43 trillion and US$122 trillion.
While it may take a while for the new private banking model to catch on - it was estimated last year by a Swiss private bank head that only 5 per cent of high-net-worth individual clients in Hong Kong and Singapore have signed up for fee-based accounts - it is clear which way the industry is heading.