Moody's Investors Service published an "Industry Outlook" report entitled, "Asset Management 2010 Review and 2011 Outlook: Industry Back on Firm Ground, but Challenges Remain" yesterday, which revises the ratings company's "outlook for the asset management industry to stable from negative." The report explains, "The revised outlook expresses our view that fundamental credit conditions for asset managers will not deteriorate over the next 12 to 18 months. We have had a negative outlook on the sector since April 2008.... The fundamental drivers of the outlook change are asset managers' significantly improved earnings capacity and their enhanced balance sheet strength, which have strengthened credit fundamentals overall. In addition, greater clarity around new regulations and the stability of the capital markets have improved the environment in which asset managers operate."
Moody's cites these factors: Earnings picture much improved. In 4Q10, aggregate quarterly EBITDA for Moody's-rated asset managers surpassed the peak levels of 4Q07. We expect Moody's-rated asset managers' earnings to continue to grow in 2011, albeit at a slower pace than in 4Q10.... Financial leverage declined and financial flexibility continues to improve. Debt/EBITDA leverage ratios should continue to improve in 2011 driven by higher levels of operating earnings. For Moody's-rated asset managers as a whole, balance sheet strength appears to be at or near an all-time high.... Less uncertainty over the impact of regulatory reform. As we enter 2011, asset managers are faced with a host of new regulations, but the impact of regulatory reform appears to be manageable in the near-term. That said, we continue to monitor a number of key areas, including the potential for regulatory changes related to: 1) money market funds; 2) 12b-1 fees; 3) fiduciary standard requirements; and 4) alternative asset managers." Finally, they mention that "Equity markets have trended upward as consumer confidence improves."
The report states, "2010 will remembered most as the year the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act or the Act) became law, but there were many other regulatory changes and proposals in 2010 that affected the asset management industry. The U.S. Securities and Exchange Commission (SEC) amendments to Rule 2a-7 related to money market funds, proposed new rules on mutual fund distribution or 12b-1 fees, the potential implementation of a fiduciary standard for brokers and advisors, and the Department of Labor's 401(k) fee disclosure requirement were all significant regulatory issues for asset managers."
It continues, "For money market fund sponsors, the amendments to Rule 2a-7 further strengthen portfolio credit quality, reduce interest rate sensitivity, and strengthen liquidity, disclosure and operations of money market funds. These changes improve stability, but increase operating costs at a time when yields are low. Still unresolved, however, are fundamental concerns about the susceptibility of money market funds to runs and systemic liquidity risk. A number of potential mitigants to these risks have been posed by market participants and experts. If any of these are implemented, the profitability of this product likely will come under further pressure."
Among the report's "Key variables and trends under base case and stress case scenarios," Moody's lists, "Money market fund yields are as low as they can go, crimping profitability in this important asset class. Rising operating costs and continued regulatory uncertainties will drive further industry consolidation."
Finally, they comment, "Whatever the outcome of the debate on regulation, the economics of managing money market funds is likely to become more challenging, particularly in the existing low yield environment. The introduction of sponsor capital adequacy or liquidity provisioning requirements would be particularly problematic for asset managers because, to date, the money market fund business historically has not been too capital intensive. The requirement to hold capital against AUM would materially change the economics of the money market business."
