Monitoring management companies’ activity, 2007, the third quarter

From the general to the particular

Pavel Samiev

The crisis has provoked structural shifts at the asset management market: the share of individual trust management made a drastic upswing, and mutual funds started witnessing flight of capital, mostly from stock funds.

According to the investment theory , you have to buy at the bottom and sell at the peak . It seems pretty simple. But Warren Buffet is quite unique. How come – do other people lack intuition or analysis? The issue comes to the agenda during all sorts of crises, market recessions and other unpleasant things. “Crowd effect” seems to be one of the chief problems for private investors, according to a popular notion. To support the notion they usually bring an example of lemmings. For your information: lemmings are small tundra animals eating what not. Looking for food they constantly migrate and periodically reach natural obstacles – rivers and seas. When a drove of lemmings bumps into a water reservoir it can not be stopped. Although the first part of the drove sees there is no way forward, it is too late to stop: their “colleagues” press from behind to drown them all as a result. One by one they are quite reasonable creatures, capable of finding their bearings and, strangely, even swimming. But a crowd of lemmings is incapable of swimming or being reasonable. You would probably say that the comparison is too demeaning for private investors. But such a scenario is pretty often the case. At first, a dramatic market growth: euphoric feelings, growing revenues, bright prospects. But in the long run – overheating, inflating a bubble and having a bitter hangover: a drove of investors falls and drowns.

American mortgage crisis is nothing more but another bubble deflation. It happened often enough and will happen again. Probably, for the first time in recent years the external shock caused no catastrophic consequences for the Russian economy, although made an impact on it and its stock market. True, compression of liquidity and increased cost of funding, together with high-strung nerves at the bond market is far from being pleasant. But strong fundamental factors saved us from full-scale crisis and stock market collapse. RTS index at the period even broke new psychological records – first 2100, and then 2200 points.

There were several news waves during the last autumn – and, correspondingly, new leaps of indices and investors’ attitudes (see diagram 1). The first wave has been a moderately positive intermediate reporting of the largest investment banks and reduction of the US Federal Reserve System discount rate down to 4.75%. It has helped to restore the market and hit a new RTS index historic maximum: 2100 points.

The second wave of news has been related to reduced profits of certain large American and European banks, which affected security quotes (RTS went back to 2100). The third quarter reporting data of the second largest US bank, Bank of America, were upsetting for investors: net profit dropped by 32% - down to 3.7 bln dollars. But the list of banks, hit by the crisis, is much longer. Serious damage was born by Citigroup (net profit plummeted by 57% - down to 2.38 bln dollars.), Merrill Lynch & Co (net losses 2.31 bln dollars) and Swiss UBS (net losses 712 mln dollars). Many well-known top managers (Tom Maheras, Randy Barker – “Citigroup”; Warren Spector – “Bear Stearns”; Hugh Jenkins, Clive Standish – “UBS”; Stan O'Neal, Dow Kim, Dale Lattanzio – “Merrill Lynch & Co”; Gene Taylor – “Bank of America”), having been at the helm for a long time, had to leave their posts.

Dynamics of RTS index, 2007, the third quarter

Further reduction of discount rate was followed by a short-term growth, but brought no stability. The market has been through the side trend and high volatility stages. Everybody awaits annual reporting and new actions of monetary authorities in the US and other countries. Even the Russian presidential election campaign has no longer been the main source of worry for investors and the determining factor for the stock indices dynamics. It is noteworthy that the market professional participants pay attention to the following: the Russian market is pressed down by pessimistic foreign investors, pulling out their assets from developing markets. But, provided the annual reporting of the largest funds and investment banks does not bring to surface new unpleasant revelations, the markets may start restoring quickly. Yet the moment is still to come – and meanwhile retail types of asset management have “sagged” a bit.

According to our assessment, by the end of the third quarter total assets in management have amounted to 1.5 trln rubles, which is only 5% above the end of the second quarter. The list of leaders remained unchanged and is still headed by: MC “Leader” (264.7 bln rubles), Renaissance Asset Management group of companies (117.2 bln rubles), MC Troyka-Dialogue (107.4 bln rubles). MC Alemar has undergone an extremely sharp drop of assets – down by 5.3 times. Stability of the list of leaders and market volumes is in line with new trends. The crisis provoked structural shifts at the asset management market: the third quarter registered net inflow to mutual and mixed funds , but in October the total flight from mutual funds reached 6.5 bln rubles, stock funds lost more than 5.68 bln rubles, and mixed investment funds lost 494 mln rubles. LUKOIL Fund First incurred the most severe losses – 2.99 bln rubles out of stock funds (minus 15%), and Troyka-Dialogue-Druzhina was “prominent” among mixed funds (minus 223 mln rubles). Part of the money flew into conservative bond funds (October increase 275 mln rubles). Bond fund Troyka-Dialogue-Ilya Muromets showed the best growth results (+240.67 mln rubles).

Asset management market structure, 01.10.2007

Mutual funds Pension reserves NPF Pension accruals from NPF Pension accruals from PFR Insurers' reserves Individual trust funds

Largest rates of growth were achieved by NPF pension accumulations – the assets increased by more than 5.6 times

The October anti-record of flight from mutual funds has been quite demonstrative: share owners showed a delayed response to crisis phenomena, probably, the funds were left by the market local bottom elements. As a result the share of mutual funds in aggregated volumes of asset management market dropped in the third quarter from 41% to 37%.

In the period of instability you need “quiet haven”, possibly, closed mutual funds or individual approach, more flexible risk management, portfolio structure and profitability. The both options imply high cost of an “entry ticket” and are meant for well-off clients. The last autumn has demonstrated a new trend – significant increase of individual trust management, in relative and absolute parameters. The individual trust management share in the third quarter has grown from 22% to 27.2% of the market. Volumes of assets in individual trust management have grown by almost one third comparing with the beginning of the quarter and amounted to 350 bln rubles. Without significant inflow to mutual funds in three months (which is hard to expect) individual trust management may almost level in volumes to assets in retail funds.

Note: all ratios and indices at diagrams 2-4 are calculated on the basis of asset management monitoring, conducted by Expert RA following the results of the third quarter of 2007. 82 management companies participated in monitoring (their share, by our assessment, covers over 85% of the market). Total costs of net assets of management companies – monitoring participants in the third quarter of 2007 - approximated to 1.3 trln rubles. Extrapolation allows forecasting total assets in management as 1.5 trln rubles by 01.10.2007. Extrapolation by types of business was not made.

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