The Royal Commission and the Importance of Stewardship


Chris Douglas  |   18th Jul 2019  |   5 min read

Australia’s Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry serves as a stark reminder of the importance of stewardship in evaluating a managed investment product. A strong investment culture that is aligned to the end investor matters, and when it doesn’t companies can falter, and investors have poor outcomes.

At Morningstar, we have long emphasised stewardship. Our Manager Research team spend considerable time assessing the parent of all fund managers we cover. We believe that it can have a meaningful impact on the future performance of a fund and its ability to out-perform peers. Our Manager Research team write detailed and unbiased research reports, which include a forward-looking Analyst Rating, which provide a clear summary of our view on a managed investment product. We assess a fund based on five pillars – People, Process, Parent, Performance and Price. And the focus on parent is one of the most important considerations we make alongside people and process.

The Morningstar Parent Assessment

So how do we assess the parent company of a fund manager? We spend a lot of time meeting with fund management leadership and combing through data across four key areas; culture and stewardship, fund manager alignment, organisation ownership, and regulatory history. We seek out fund managers who are open and transparent and have a focus on engaging with their clients through thick and thin. We prefer managers who have an alignment with their clients, and either have material investments in the funds alongside unit holders, or their compensation is tied to long-term performance. We also look at the organisational structure of the business and the investment teams to identify whether they are a business that can attract and retain talent. Finally, we monitor the regulatory history and whether the firm has had any transgressions. While we consider the wider parent company, our focus is mostly on the funds management business we are assessing.

We publish our view of the Parent Pillar in our Morningstar reports for all to see. Readers of our reports can quickly see our view of a parent via a three-point scale: Positive, Neutral or Negative. The four banks and AMP, “the big 5” are large diversified financial businesses with a range of divisions and products – such as advice, retail banking and lending, so we primarily concentrate on the investment management operation. This is where we can truly assess the culture and stewardship of the investment team and fund management alignment, while being mindful of outside influences. In all situations the “big 5” have separated the investment management division from the wider business. To highlight this, you only need to look to AMP Capital, which has an outside investor (Japanese insurance firm Mitsubishi UFJ) owning a 15% stake in the business and one seat on the board. So, while AMP has been the poster child for the Royal Commission to-date, it’s important to understand that the investment management business (AMP Capital) is separate from the advisory business and has not been implicated. Table 1 below highlights the funds management group we focus on. All of these are standalone operations.

Parent
Company

Funds Management
Business

Morningstar Parent
Rating

AMP Group AMP Capital Neutral
ANZ ANZ Wealth* Not Applicable**
CBA Colonial First State^ Neutral
NAB MLC^^ Neutral
Westpac BT Financial Group Neutral
*ANZ Wealth sold their Australian wealth business to IOOF, and the sale is expected to be finalised by April 2019.
** Morningstar does not currently have a Parent Rating on ANZ’s Australian Wealth Business.
^ On 31 Oct 2018, CBA entered into an agreement to sell Colonial First State Global Asset Management (CFSGAM) to Mitsubishi UFG Trust and Banking Corporation (MUTB). CBA also plans to divest from it’s broader Wealth Management businesses.
^^ NAB have also announced their intentions to divest from MLC.

How Do They Stack Up?

As you can see from the Parent Ratings above, the “big 5” are rated Neutral. And there is good reason for this. They all have pockets of strength. For example, AMP Capital has a strong unlisted property and infrastructure business, while we also think highly of some of their multi-asset and fixed income funds. Some of these firms have market leading practices, too, for example Colonial First State restricts their Australian equity portfolio managers from investing outside of their funds – which we believe is best practice. These firms also have significant size and scale, which means they can appropriately resource their investment teams. But there are also areas of weakness and this is the key reason why none of these firms have a positive parent rating. Some of these firms have struggled to establish a distinct culture given the large shadow that looms over them from the broader group. In our view the captured distribution via aligned networks can breed complacency and bureaucracy which makes it difficult to attract and retain staff. To put it more bluntly, they have suffered from legacy fund structures, periods of high staff turnover, above-average fees, and mediocre performance.

But that doesn’t mean that you should sell based primarily on the view of the parent company, otherwise you could be missing out. Our Parent assessment is just one factor that we assess when reviewing a product, and some of these funds have very talented and established investment teams, time-tested processes and track-records that stand above their peer group. These products have positive Morningstar Analyst Ratings, which indicates that our Manager Research Team believe they will out-perform over the long-term. And we think they remain worth investing into. We are obviously closely assessing the fall-out from the Royal Commission and will continue to engage with these firms and monitor the situation, this could impact the Parent rating and, in some cases, (but not necessarily) the overall Analyst Rating. We have already had several senior meetings with key executives at these firms. If our view changes you will see this when we publish an updated Analyst Rating and full research report.

Final Thoughts

This is a very disruptive time for the industry as a whole, but the focus needs to always be on the end investor and ensuring they are getting the best possible solution and outcome. There is a lot of corporate activity coming. ANZ Wealth (Australia) has been sold to IOOF, and in addition to the recent sale of Colonial First State Global Asset Management, CBA will spin off its broader wealth-management and mortgage-broking businesses into a separate company called CFS Group, while NAB plans to sell its wealth management division, MLC. But no matter the ownership structure, there needs to be a clear focus on the end investor. And this comes down to the culture of the firm and how they create, and distribute products. There needs to be less of a focus on selling and more of a focus on creating value. And that’s the importance of stewardship!

 


This article was based on research published in Morningstar Direct™ and Adviser Research Centre. If you’re a current user, simply login to access our full reports of ‘the big 5’. If not, take a free trial today.

 


Originally posted 2018-07-18 15:06:48.

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