Many wealth managers are only marginally profitable, and a lot of wealth businesses appear to make more money than they actually do. That’s because they are effectively subsidized, using the assets and infrastructures of other parts of their parent companies without paying the full cost.
Financial institutions often underperform in wealth management for five reasons. First, they don’t have a clear picture of their own economic performance and how it varies by customer segment. Because they segment their customers poorly, they fail to target those customers that genuinely fit their business models.
Second, many financial institutions’ wealth offerings are subscale and need more customers and assets to be truly profitable. Third, wealthy investors aren’t always the dream customers they might seem. They often drive a hard bargain, negotiating lower fees and demanding more services. Fourth, financial institutions today find themselves with unsustainable cost structures in their wealth businesses. Having concentrated on revenue growth during the 1990s, they ignored the costs of acquiring and serving their new customers.
Lastly, financial institutions rarely refer good wealth management prospects across their various business lines, references that ensure that promising leads from, for example, the retail bank, the brokerage or insurance business, are passed to the wealth management division.
In light of these five factors, wealth managers should examine the economics of their business to establish a true picture of performance. Of paramount importance is a clear-eyed analysis of the costs of acquiring and serving customers. Wealth managers must identify their best target customers, and focus steadily on them.
Myth One: It’s all about asset management.
The term “wealth management” is often treated as being synonymous with “asset management.”
Reality: While asset management plays an important part in wealth management, its role is often overstated. Our research shows that noncash investment holdings, including managed funds and directly held securities, account for only 41% of revenues in wealth management. The remainder consists mostly of cash deposits, debt, and insurance products. Because many managers focus too much on asset management, there is untapped demand in providing well-integrated offerings that incorporate loans and credit, insurance and retirement products.
Myth 2: Offshore banking is dying.
More regulation, the relaxation of exchange controls, the development of investment markets, and reduced political risk in some countries foster the perception that offshore banking is dying. Much wealth creation in the last decade has been public and onshore (initial public offerings and stock options), thereby negating the benefits of secrecy, a primary historical advantage of offshore banking.
Reality: While the size of the offshore banking market is likely to decrease relative to the overall wealth business, it will nonetheless remain critically important for the world’s wealthy.
For wealth managers, an offshore model provides an attractive option to extend their geographical reach. Offshore operations can be global with smaller scale and at much lower cost than a multinational onshore presence. Managers should therefore carefully examine the offshore model and how it suits their businesses and customers’ needs. It may well be the best way to build global capabilities.
Myth 3: Wealth management is only for the very rich.
Conventional wisdom sometimes holds that wealth management is all about serving the very rich.
Reality: The emerging wealthy segment is a growing part of the wealth market. Our research shows that the “emerging wealthy” — households with $250,000 to $5 million of investment assets — hold $27 trillion worldwide, or two-thirds of the assets owned by richer investors. Their revenue figures are even more attractive — an estimated $403 billion in 2000, or 79% of revenues from wealthy households. These investors have also traditionally been poorly served.
More institutions recognize the importance of the emerging wealth segment. Unfortunately, most providers do not fully understand the underlying dynamics of this segment and how to serve its complex needs economically.
Myth 4: Wealth management is all about protecting money.
Traditionally, wealth management was all about protecting clients’ wealth. In the past, wealthy investors faced a tradeoff between banking secrecy and performance, with many favoring the former.
Reality: Performance is increasingly important for investors.
As the nature of wealth creation has changed, with successful entrepreneurs stealing the limelight from inherited wealth, investment performance has become more important in selecting investment products or providers. This has significant repercussions for financial institutions. To attract new investments or merely retain existing ones, institutions require “best of breed” products, leading many to adopt an “open architecture” approach to acquiring such products.
The appeal of the wealth market is readily apparent, but misperceptions befog many competitors’ understanding of the industry. To compete more effectively in an industry that will probably experience continued rapid change and increased competition, wealth managers should understand the true economics of their businesses. In short, they should critically examine their offerings to determine the gaps in their products and service performance.