The Transformation of the Transition Management Industry

Commercial banks, investment banks, and asset management firms around the world are facing diminished asset bases, lower equity valuations, and a grim outlook for economic activity. Many are responding by determining what their core business functions are, and retreating from those areas not seen as essential.

Asset management firms that must provide asset transition services for their own managed funds consider transition management as a core competency. Those firms for whom transition management is not a core function have cut capacity or withdrawn altogether from the business. Two investment banks had the decision made for them. A handful of other major players recently announced a reduced footprint, or outright retreat, from the offering of transition management as a standalone business.

To understand this better it is necessary to differentiate the business models that once populated the transition management landscape.

The pioneers of transition management as its own line of business were often "naturals," meaning they were first required to develop the risk management techniques and portfolio level strategies for transitioning their own internal funds. With significant investments in the construction of trading platforms, and the work done to establish trading relationships with broad sets of liquidity sources, these first movers looked to broaden the base on their infrastructure investments by offering services to outside parties. It was a simple matter to provide the same levels of fiduciary care and investment management perspective to others as they had done for their own funds.

Investment banks and custodian banks eventually placed themselves in the transition management business to increase their trading volumes and order flow, and to enhance offerings to relationships built around other services. They offered asset transition as a brokerage exercise, promising trading expertise and access to liquidity as the reason why clients should trust them with their assets.

Through an investment bank's or custodian's ability to extract value from counterparty trades, or to pair off against their own internal trading needs, investment banks were able to offer commoditized rates for transition services. While the trading process at times could be opaque, and the outcomes not necessarily optimal, many clients were attracted to the low explicit commissions offered. If anything, lower fees are easier to justify to a board.

As more competitors entered the transition management industry, commission compression resulted. Traditional "transition management as interim asset management assignment" fiduciaries either trimmed commission rates or lost business to lower-cost brokerage. This created a downward pricing spiral, led by firms with poorly articulated value propositions outside of lower explicit costs. The result was a perception of commoditization, even among some consultants, though the need for risk and portfolio management capabilities was – unawares to many - on the rise.

The old school of transition management saw this trend and realized that customers were not well aware of the true costs or risks of transitions. To address this plan sponsors adopted the T Standard, which spread quickly as a means of better assessing the impact of the transition on overall portfolio value. Another advancement was the T Ratio, a means of evaluating the quality of risk estimation on the part of the transition manager. Effort was made in the UK to bring about a common standard of practice for transition management with the T Charter.

In 2008 the Pension Benefit Guaranty Corp (PBGC), the US government plan manager of last resort for troubled pensions, produced a standard of practice for transition managers that offered remedy for many of the areas of opacity when assets are traded and how results are reported. This standard effectively cast light on aspects of a transition that potentially diminish the attractiveness of transition management to broker dealers looking to put the client’s trade flow to work.

With the loss of capital caused by plummeting asset values and resulting contraction of overall banking business, a rationalization was unavoidable. Where the industry stands today, there are fewer providers of transition management services than there were but a year ago.

What Clients Need

Because of the duration sometimes encountered and the level of care always needed, Russell sees transition management to be properly defined as interim portfolio management (IPM). More than just an exercise in execution, IPM requires the level of fiduciary care that asset managers provide for their investors.

And the provider of these services should have the credibility of long tenure. Clients routinely express the need for stability, longevity, and consistency of service from their IPM providers.

With several high profile exits from the business, it seems that the available selection of transition management providers has narrowed. Interestingly, the field seems to be contracting back to the same pioneers. We expect that the institutions with weaker offerings will return to the industry at some future date, coming back when the volumes of business and hoped for margins return.

Plan sponsors will be encouraged to know, however that despite the recent cutbacks and retreats by other financial services companies, the longer-term providers remain, continuing to offer the standards of fiduciary care that one would expect from an investment advisor.

About the Authors David Rothenberg is the managing director of investment services for Russell Investments. David is responsible for the growth and development of the investment services business globally. He leads a team of business development managers who specialize in transition management, overlay services, agency foreign exchange trading, and commission management.

Aran Murphy is a research analyst for Russell Investments. Aran is a member of Russell’s implementation solutions, a group dedicated to reducing the costs and risks of trading and thus maximizing the value of investing on behalf of the investor.