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Last updated: October 27, 2013 4:29 am
Goldman Sachs’ eye-catching acquisition last week of Royal Bank of Scotland’s money fund business is expected to be followed by more deals as regulatory change and pressure on profits drives consolidation in Europe’s €1tn money market industry.
GSAM, which already managed $195bn in money funds globally, snapped up assets worth $12.4bn from RBS for an undisclosed sum, a deal that underlines the importance of acquiring scale to mitigate the growing burden of regulation.
European regulators are proposing large reforms to make the market less risky. A key proposal is that “constant net asset value” (CNAV) funds should hold a 3 per cent cash buffer against losses to avert any repeat of the large withdrawals suffered during the financial crisis.
This will impose significant additional costs on the sector, making many money funds uneconomic. The Institutional Money Market Funds Association says it will lead to the de facto abolition of CNAV funds.
Alastair Sewell, director of the fund and asset manager rating group at Fitch, says it is “striking” that GSAM should buy the RBS operations amid so much uncertainty about the future regulatory framework.
“But it clearly shows that Goldman believes in money market funds and wants to grow that business,” Mr Sewell says, emphasising that building scale is essential.
“A large money fund is as easy to run as a smaller fund,” says Mr Sewell, adding that there is clear potential for further consolidation as managers look for new clients and to grow their market share in particular currency segments.
Kathleen Hughes, GSAM’s global head of liquidity sales and European head of institutional sales, believes the RBS deal makes “good sense” as it enhances GSAM’s offering in the sterling market, brings in new client relationships and broadens its UK footprint.
Ray Soudah, founder of Millenium Associates, a Swiss consultancy, points out that the goodwill premium for the deal is likely to have been “inconsequential” ($5m or less) as money funds have become a low-margin business.
But he adds that the RBS assets are a “natural fit” for GSAM’s businesses. Goldman should be able to squeeze a small increase in profits and sell other higher-margin products to its new clients.
Goldman has seen a “big” increase in European clients looking for more bespoke solutions, according to Ms Hughes. It has also just launched Transparency Insight, a risk-management tool designed to help treasury departments understand exposure within their money market fund portfolios better.
The prize on offer for providers that can adapt to the changing environment is substantial. Fitch recently estimated that European corporate treasurers have $750bn in cash and cash equivalents on their balance sheets looking for a home.
At the same time competition is declining.
The number of money funds on offer in Europe has fallen by a quarter since 2011, from 1,535 to 1,171 by the end of June, according to Moody’s, the rating agency.
Vanessa Robert, senior credit officer at Moody’s, says the European market faces “multiple challenges” that are likely to accelerate consolidation.
Generating profits has become increasingly challenging due to the low-yield environment, a contracting supply of eligible securities, and investor outflows.
A growing number of providers have been driven to offer fee waivers to generate positive returns for investors and to retain assets.
Moody’s estimates that outflows from CNAV funds reached €43bn in the first nine months of 2013 (approximately 4 per cent of all European money fund assets).
Only 27 fund complexes now offer CNAV funds, compared with 45 in 2007, while the market share of the top 10 players has grown from 61 per cent to 81 per cent over the same period.
GSAM has not reached any firm decision on whether it will continue to offer CNAV funds but Ms Hughes says that Goldman is conducting “in-depth” consultations with clients.
Ms Hughes adds that dealing with regulatory uncertainty in a low-yield environment remains “a challenge”.
It is expected that the proposed regulatory changes in Europe, if approved, will have a bigger impact on smaller managers.
The new requirements include enhanced risk management, stress tests for portfolios and improvements in credit analysis, as well as the 3 per cent capital buffer requirement for CNAV funds.
“These imply higher operational costs and will shift the business model in favour of large scale asset managers and providers of cash management services,” says Ms Robert.
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