The costs and benefits of working for a large asset manager

Fund managers always wonder if they should go it alone and set up their own boutique firm or be part of a larger asset management firm with its considerable marketing and distribution power. Turns out, there is no clear answer. It very much depends on what you measure.

A group from the Swiss Finance Institute and the University of Luxembourg examined the influence of the fund family (i.e. the asset management firm which issues a range of individual funds) and the skill of the individual fund manager. Crucially, unlike other studies I have seen before, they look into the interaction of skill and firm size and its impact on the performance of the fund.

The chart below needs some explanation. It shows the influence of having a more skilled fund manager, ranging from the bottom 25% to the average fund and the top 25%. The blue bars tell us that hiring a more skilled manager significantly increases the outperformance vs the market.

The orange bars, meanwhile, show us what happens when you hire a more skilled manager who works in a large asset management firm. These bars tell us that if you move from a less skilled to a more skilled fund manager, the outperformance gains are smaller if these funds belong to a large firm than if they are boutique investment firms. This can be explained by the fact that larger firms impose more bureaucracy and more processes on fund managers, which reduces their ability to express their views in a portfolio.

But this has not just downsides. Yes, skilled fund managers have a smaller alpha if they work in a large company, but less skilled fund managers have better performance. Again, portfolio managers working in a large firm have less room to express their views. But that also means they have less room to pick losers. Hence, they have less room to underperform as well. The constraints of the environment reduce risk for investors, but at the expense of having a smaller chance of massive outperformance.

Plus, there is a specific advantage for fund managers working in large firms. Because large firms have bigger sales teams and better distribution, funds issued by larger firms generate more fees for the firm and thus higher income for the fund manager.

Influence of being in a large firm on manager alpha