Australia | Jul 03 2019
Yesterday’s RBA rate cut has prompted more brokers to reassess their recommendations on listed independent funds management platforms.
-RBA rate cut threatens negative cash returns
-Brokers disagree on extent
-Industry funds the big post-RC winners
By Greg Peel
Yesterday FNArena published Investment Platforms Suffering Exodus, which highlighted the largest outflow of funds in decades from investment platforms and a large number of financial advisors leaving the market.
The Big Four banks, Macquarie Group ((MQG)), AMP ((AMP)) and IOOF Holdings ((IFL)) all suffered an extensive exodus of both funds and advisors in the wake of Royal Commission findings and subsequent regulatory tightening. Some of this money flowed into listed independent platform managers such as Hub24 ((HUB)) and Netwealth ((NWL)).
But while the independents have gained market share against the majors, they too have their own post-RC issues to deal with. On one side of the ledger, the majors have attempted to ease fund outflows by reducing fees, forcing the independents to respond to maintain market share growth. And greater regulatory requirements imply additional costs, hence margins are being squeezed from both sides.
Yesterday the RBA threw another spanner in the works for the independents. It was hardly a shock rate cut, but yesterday’s article highlighted the risk of lower rates potentially swinging returns on cash balances held on platforms into the negative. And as such brokers have today published reports assessing the situation, particularly in light of the expectation of at least one more rate cut to come by year-end.
To make it more difficult for investors in independent platforms, analysts are in disagreement.
An example is required to explain this risk. Bell Potter has conveniently provided one.
Netwealth recently won a contract to administer funds for fund manager ANZ Private ((ANZ)). ANZ pays Netwealth a “healthy” margin above the RBA cash rate and Netwealth passes on a discount to underlying clients. When the cash rate is cut, the amount paid to the client is also cut, so there is no impact on Netwealth’s margin.
But wait, says Macquarie. Our analysis highlights cash returns on cash allocations if fully passed through will be a gross 50 basis points, but subtract the platform’s administration fee and Netwealth’s cash return becomes -9 basis points and Hub24’s -6. Given the platforms are unlikely to expect clients to effectively “pay” to have a cash allocation in their portfolios, amidst a competitive environment the independents will be forced to lower their own margins.
Citi has joined the argument by suggesting Netwealth’s cash margin is not directly impacted by a change to the RBA cash rate as the platform earns a spread from its banking facilities and the interest rate offered to clients, but believes the independents would need to sacrifice cash margins to offer a better rate to clients on their cash balances if interest rates go lower.
Bell Potter concedes there will be a modest impact if rates go lower, but only if the cash rate falls below 0.5% (from 1.0%) now.
Cash return arguments aside, the consensus view of analysts more generally is that the independent platforms will indeed continue to grow market share over time and as such are an attractive longer term investment. But in the short term, fee competition, ongoing advisor disruption and increased regulatory costs will all weigh on margins and thus on earnings.
Citi’s report today echoes that sentiment, and supports the broker’s Neutral rating on Netwealth.
Macquarie has cited both the abovementioned cash return issue in Australia, and an even greater squeeze going on in the UK where margins are already lower, in maintaining an Underperform rating on Hub24 and downgrading Netwealth to Underperform.
Bell Potter has gone the other way on Netwealth. Based on its dismissal of cash return issues, and marking to market to adjust for stronger equity and bond prices, and taking into account the share price fall which the broker sees as RBA rate cuts-driven, Bell Potter upgrades Netwealth to Buy.
Credit Suisse remains “hesitant” to be positive on “any” of the platform or wealth manager names at this stage, but from a different angle.
One palm up and one palm down
Brokers covering wealth managers and platforms have together acknowledged their surprise at the sheer extent of funds under management outflows in the March quarter – the most since 1991 – despite expecting the majors specifically to lose customers in the wake of the RC. The exodus of advisors was also foreseen, but it appears this outflow is also even more pronounced than expected.
But while brokers have highlighted the market share the independent platforms are gaining as a result, Credit Suisse has specifically noted that it’s not a case of flows all heading the independents’ way. Otherwise net flows would be flat, not the worst in decades.
So where has the money gone?
Well, aside from investors deciding, with disgust, that they might as well manage their own money rather than trust to the sharks exposed in the RC (note that as funds flow out of wealth managers, money invested in exchange traded funds is growing in total by the day), many have similarly decided that industry funds are the better option.
Yes, those relentless ads are working.
“While HUB and NWL are benefitting from the disruption in the market, the data demonstrates that the industry funds are getting the bulk of the money while the retail platforms fight over fees and the small flow remaining.”
With regard the majors, Credit Suisse also points out the obvious that AMP and IOOF are still facing as yet unknown remediation costs while watching funds flood out the door and spending more to satisfy stricter regulations.
That’s why Credit Suisse is hesitant to be positive on any of the platform or wealth manager names at the moment.
Credit Suisse has Neutral ratings on both Netwealth and Hub24.
So to update from yesterday, FNArena database brokers now have one Buy (or equivalent), three Holds and two Sells on Netwealth and one Buy, two Holds and two Sells on Hub24. Note that the lonely Buy in each case is Ord Minnett, who has not updated its view since May, and indeed on Netwealth, Ords downgraded in May to “Accumulate” from “Buy” in its five-tier system.
Because Ords is unique among FNArena brokers in having a five-tier rating system rather than the typical three, FNArena counts both “Buy” and “Accumulate” as “Buy”.
Bell Potter is not an FNArena database broker.
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