This Is How M&G Is Transforming to Become a More Agile and Efficient Organization

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M&G continues to make progress on the three strategic priorities it has set: financial strength, simplification, and growth. This was highlighted during the presentation of its first-half results, where it acknowledged “significant advances in M&G’s transformation, focusing on our strategic priorities” over the past 18 months.

“Despite a challenging market environment in the first half of the year, we have delivered another strong financial performance, with adjusted operating profit and capital generation almost matching last year’s excellent results. Our simplification agenda is advancing well, achieving cost savings of £121 million so far. We have made substantial progress across all our financial goals, and reflecting our strong track record and commitment to solid results for shareholders, we are now announcing upgrades to our capital generation and cost-saving targets,” said Andrea Rossi, Group CEO.

According to Rossi, the firm continues to drive its strategic priorities, “combining the Life and Wealth operations to accelerate our growth plan in the UK retail market. We also see growth opportunities in our international presence and in expanding our product offering,” he noted.

The Transformation of M&G

In its review of the first half of the year, the firm highlighted the good momentum in its Transformation program and noted that they are at the “midpoint” of this three-year initiative to “create a more agile and efficient organization.” To achieve this, “we continue to enhance our ability to respond to customers, reduce costs, and lead growth,” they affirmed.

According to their results, in the first half of 2024, they reduced costs by 4% compared to the same period in 2023, “more than offsetting inflationary pressures and freeing up resources to support investment in growth initiatives, thanks to the £121 million in cost savings since the program’s launch in early 2023,” they clarified.

Following a strategic review and in line with its commitment to operational discipline, they explained that they have decided to focus and streamline their Wealth strategy by combining Life and Wealth operations under the leadership of Clive Bolton. “With this change, we will be better focused on serving the UK retail market, complementing PruFund with life insurance solutions, reducing duplication, and improving efficiency,” they commented.

Regarding their cost reduction plan, they explained that they have raised their target from £200 million to £220 million by 2025, thanks to the progress made so far. “This target increase excludes any additional benefits arising from the streamlining of our operating model announced as part of the half-year results presentation.”

Growth and Outlook

The firm believes it is “successfully navigating a challenging macroeconomic environment.” “We have delivered strong performance while positioning the Group for sustainable long-term growth, focusing on capital-light business models in Asset Management and Life Insurance,” they emphasized.

They argue that the firm is well-positioned to face the current uncertain economic climate due to its diversified business model, international presence, attractive products and services, investment capabilities, and expertise. “The progress made in the first six months of the year supports our continued confidence in meeting our strategic priorities and financial goals, as we remain focused on transforming M&G to deliver excellent outcomes for our clients and shareholders,” they noted.

In this context, the firm reiterated that its priorities are clear: “Maintaining our financial strength, building on the progress already made in simplifying the business, and achieving profitable growth in the UK and internationally.”

Luis Bermúdez Appointed as the New CEO of Banco Santander International

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Banco Santander announced to its employees the appointment of Luis Bermúdez as the new CEO of Banco Santander International, the division of International Private Banking in the U.S.

According to an internal statement from the company, the change will be made official in the coming weeks.

Bermúdez has over 20 years of experience in private banking, asset management, brokerage, and investment banking.

He joined Santander in 2005 in Madrid as a Fund Manager, where he stayed until 2010, reaching the position of CIO, Chief of Staff in Madrid. In 2010, he moved to Brazil, where he spent a year before arriving in Miami, according to his LinkedIn profile.

Bermúdez currently holds the position of Global Head of Business Development for Santander Private Banking, based in Miami.

Vanguard Reduces the Minimum Amount Required to Access Its Investment Platform, Digital Advisor

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Vanguard has announced a reduction in the minimum investment amount for its automated investment platform, Digital Advisor, lowering it from $3,000 to $1,001. In doing so, the asset manager aims to expand access to its digital advisory service for investors interested in managing their financial goals online.

Vanguard Digital Advisor, launched in 2020, offers a fully digital financial planning and investment advisory service, providing “personalized, convenient, and low-cost” advice. According to the company, the platform helps clients identify their retirement and non-retirement goals, then designs and manages customized, diversified, and tax-efficient investment portfolios to achieve them. As of June 30, 2024, Digital Advisor manages more than $19 billion in assets.

“Lowering the investment minimum for Vanguard Digital Advisor is an important step in our effort to expand investor access to advice and empower them earlier in their financial journey. We believe that advice strengthens investors’ ability to manage their personal finance and investment needs and can lead to better investment outcomes,” explained Brian Concannon, Head of Vanguard Digital Advisor.

This decision follows a period of accelerated growth and innovation for Digital Advisor, as Vanguard has significantly invested in the customer experience on the platform. Specific improvements include personalized coaching to reach financial goals, a wider selection of portfolios, greater tax efficiency, and the ability to create financial plans as a couple.

“Advice is fundamental to our mission of giving investors the best chance of investment success. We understand that our investors’ needs are constantly changing, and we are committed to continuously evolving and innovating our advice offerings to ensure that clients have the tools, guidance, and most importantly, the access they need to achieve their financial goals,” added Doug Mento, Head of Vanguard Advice.

The SEC Accuses Six Credit Rating Agencies of Significant Failures in Record-Keeping

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The Securities and Exchange Commission (SEC) has announced charges against six nationally recognized statistical rating organizations for significant failures by the firms and their staff in maintaining and preserving electronic communications. The firms involved in this action include Moody’s Investors Service, S&P Global Ratings, Fitch Ratings, HR Ratings de México, A.M. Best Rating Services, and Demotech, Inc.

According to the U.S. authority, the firms admitted to the facts outlined in the SEC’s respective orders, acknowledged that their conduct violated the record-keeping provisions of federal securities laws, and agreed to pay civil penalties totaling 49 million dollars. Additionally, all the firms have begun implementing improvements in their compliance policies and procedures to address these violations.

The SEC further clarified in its statement that, with the exception of A.M. Best and Demotech, each credit rating agency is also required to hire a compliance consultant. The SEC recognized that A.M. Best and Demotech made significant efforts to comply with record-keeping requirements early on as registered credit rating agencies and cooperated with the SEC’s investigations, thus they are not required to hire a compliance consultant under the terms of their settlements.

“We have repeatedly seen that failures to maintain and preserve required records can hinder staff’s ability to ensure firms meet their obligations and the Commission’s ability to hold those who fail to meet such obligations accountable, often to the detriment of investors. With these actions, the Commission once again makes it clear that there are tangible benefits for firms that make significant efforts to comply and cooperate with staff investigations,” explained Sanjay Wadhwa, Deputy Director of the SEC’s Division of Enforcement.

Political Discord in the U.S. Is the Primary Concern for Investors Over the Next Decade

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Janus Henderson Investors has published the results of its Investor Survey 2024: Insights for a Brighter Future, which reveals that uncertainty surrounding the upcoming presidential elections, the economic situation, and the interest rate environment has led some investors to reduce the risk in their portfolios.

In particular, only 42% of surveyed investors feel very satisfied with their current financial situation, down from 48% a year ago, and two out of three (67%) believe that the cost of living is rising faster than their income. “In times like these, all investors should bear in mind that changes to a portfolio designed to avoid short-term volatility can often jeopardize long-term goals. The news cycle moves at an incredible pace, and headlines can be disconcerting, but U.S. equities have remained remarkably resilient despite high levels of uncertainty,” says Matt Sommer, head of Specialist Consulting Group at Janus Henderson Investors.

According to the report, the presidential elections are a bigger concern than inflation and interest rates. In an election year marked by turmoil, it clearly weighs heavily on the minds of current investors, with 78% of respondents concerned about how the upcoming presidential elections might affect their financial situation in the next 12 months. In fact, more respondents are worried about the elections than about persistent inflation (70%), high interest rates (57%), poor stock market performance (57%), or a potential recession (55%).

Over a longer period, namely the next 10 years, investors’ concerns are related to broader national and global systemic issues. Specifically, in order of relevance, they are worried about the long-term impact of increasing political discord in the U.S. (77%); the rising cost of healthcare (67%); national debt (66%); and U.S.-China relations (64%).

Less equity and more active management

When evaluating the investment implications of this sentiment, the report notes that investors have reduced their exposure to equities. Over the last 12 months, 33% of respondents have moved assets from equities to cash or fixed-income investments, and almost the same number (32%) plan to move equity assets to cash or fixed income over the next 12 months.

“The main reasons for leaving equities or planning to do so include rising interest rates, following advice from their advisor, and feeling safer in cash or fixed income. Although nearly half of the respondents (54%) say they are preparing for a recession, this figure is lower than the 65% seen in 2023,” the asset manager explains.

On the other hand, a notable trend is that active management remains in demand. According to the report’s conclusions, amid high uncertainty, 43% of investors who hold mutual funds or ETFs prefer an even mix of active and passive funds in their portfolios, 26% favor active managers, 18% prefer passive ones, 10% have no preference, and 3% were unsure.

Additionally, the areas that investors consider to represent the best investment opportunities in the coming years are technology (73%), healthcare/biotechnology (62%), and real estate (38%).

The risk of AI

A striking finding is that investors view AI-related fraud as an established threat. Nearly three out of four investors (73%) believe that AI significantly increases the risk of financial exploitation, and 56% are very or somewhat concerned that they or a loved one might fall victim to financial exploitation. Millennials (66%) and Generation X members (63%) are more likely to be concerned about financial fraud than Baby Boomers (48%) or members of the Silent Generation (43%).

Across all generations, 45% of investors who use a financial advisor say their advisor has already provided them with resources to help avoid financial fraud, 29% would like their advisor to provide such resources, and the remaining 26% are not interested in these resources.

However, the sentiment around AI is not entirely negative. Among those who use a financial advisor or are considering hiring one in the next two years, most feel good or neutral about their advisor using AI technology for educational content (85%) or administrative tasks (83%). However, the report points out that 36% would oppose their advisor using AI to make investment recommendations, and 44% would be upset if they knew their advisor used AI to respond to their text or email messages.

Greater satisfaction with financial advisors

Finally, the survey highlights that among investors who work with a financial advisor, 67% are very satisfied and 31% somewhat satisfied with their relationship. Notably, when advisors address emotional needs, client satisfaction improves, as factors associated with higher levels of satisfaction include:

– The advisor gives me peace of mind that I am on the right track to achieve my goals (cited by 79% of “very satisfied” clients)
– They care about me as a person, beyond my financial situation (72%)
– They provide financial education (65%)

It is worth noting that 42% of advised investors say their advisor is 50 years or older, and within this group, 42% said their advisor had addressed succession planning, 25% were unaware of their advisor’s plans but were interested in learning more, and the remaining 32% did not see the need to address this issue.

“Growth-oriented financial advisors should view the challenges investors face in this era of high uncertainty as an opportunity to strengthen their value proposition. It is clear that client satisfaction rates are very high among advised investors. However, with many advisors nearing retirement, those able to build trust and differentiate themselves by offering better experiences to their clients will be rewarded,” says Sommer.

The Assets Invested in Actively Managed ETFs Listed Worldwide Reached a New Record of 974.29 Billion Dollars

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ETFGI, an independent research and consulting firm focused on global ETF industry trends, revealed that assets invested in actively managed ETFs worldwide reached a new record of $974.29 billion at the end of July. That month, these vehicles registered net inflows of $35.92 billion, bringing year-to-date flows to $189.96 billion, according to the firm.

ETFGI’s July report highlights the following key points:

1. The assets invested in actively managed ETFs worldwide reached a new record of $974.29 billion at the end of July, surpassing the previous all-time high of $923.22 billion set at the end of June 2024.

2. The value of assets has increased by 31.7% year-to-date, rising from $739.87 billion at the end of 2023 to $974.29 billion in July.

3. July saw net investment inflows of $35.92 billion.

4. Year-to-date net inflows have reached $189.96 billion, the highest ever recorded, followed by year-to-date inflows of $86.12 billion in 2023 and contributions of $85.25 billion in 2021.

5. With July’s inflows, the industry has now seen 52 consecutive months of net investment inflows.

“The S&P 500 rose by 1.22% in July and 16.70% throughout 2024. Developed markets, excluding the U.S., gained 3.37% in July and 8.12% in 2024. Ireland (+6.48%) and Belgium (+6.42%) saw the biggest declines among developed markets in July, while Greece (+6.93%) and the UAE (+6.18%) posted the highest gains among emerging markets,” said Deborah Fuhr, managing partner, founder, and owner of ETFGI.

Growth of Assets in Actively Managed ETFs (As of July)

At the end of July, 2,761 actively managed ETFs were listed worldwide, with 3,421 share classes and $974.29 billion in assets, from 461 providers across 37 exchanges in 29 countries.

Actively managed equity-focused ETFs received net investment inflows of $19.37 billion during July, bringing the year-to-date net inflows to $108.52 billion, significantly exceeding the $58.01 billion in flows during the same period in 2023.

Actively managed fixed-income ETFs worldwide attracted $14.57 billion in investment in July, bringing the year-to-date net inflows to $69.12 billion, far surpassing the $27.44 billion in subscriptions during the January-July 2023 period.

These substantial inflows can be attributed to the top 20 actively managed ETFs by new net assets, which collectively gathered $13.42 billion in July. The Magellan Global Fund/Open Class brought in $1.64 billion, marking the largest individual net inflow.

Alejandra Muguiro, New Director of Alternative Investments at Klarphos

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The alternative asset manager Klarphos has announced the appointment of Alejandra Muguiro Lirón de Robles as Director of Alternative Investments.

From the Madrid office, Alejandra will play a key role in defining strategies and selecting managers for Klarphos’ alternative investment solutions, according to the statement. Muguiro joins the firm from AltamarCAM Partners, bringing over six years of experience in private equity investments. She holds a Master’s in Finance from IE Business School in Madrid.

Donald Banks, member of the Board of Directors, commented: “We are thrilled to have Alejandra at Klarphos. Her extensive experience in managing private market investments for institutional investors makes her a valuable addition to our portfolio management team.”

“I am excited to join the Klarphos team and eager to contribute to the company’s growth. I look forward to providing new opportunities for our clients’ investment portfolios, enhancing their diversification and growth through alternative investments,” Muguiro added.

Klarphos is an asset manager specializing in customized portfolio solutions and advisory services for institutional clients, based in Luxembourg. It focuses its asset management on alternative investments and also offers advisory services for strategic asset allocation and ALM optimization.

The firm employs an international team of specialists and is regulated by Luxembourg’s CSSF as an alternative investment fund manager (AIFM).

Fee Income From Private Markets Are Expected to Double by 2032, Reaching $2 Trillion

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Many asset and wealth management firms have recently embraced private markets. Managers emphasizing the launch and distribution of alternative assets and products have been rewarded by investors with higher market capitalizations than most firms focusing on publicly traded assets (Chart 1). Although private markets are not the sole reason for the higher market capitalization, they play a significant role, according to a report by Bain & Company.

As highlighted by Preqin, one key aspect of Bain & Company’s report is that, following the surge in demand for these types of assets, the challenge now is not to “die from success.” “The stakes are high. The demand for alternatives is booming, and investors, particularly new entrants, are forming new brand and product preferences. But it’s not just about profit and growth. As Bain titled its report, it’s also about ‘avoiding collapse,’” states Grant Murgatroyd, Head of News at Preqin.

Chart 1: Asset managers focused on private markets have experienced strong growth in their market capitalization

Private markets have gained popularity as the business models that have dominated asset management for years are nearly exhausted: margins have compressed, and average profit per assets under management (AUM) has dropped from 15 basis points in 2007 to eight basis points in 2022 (Chart 2). “Many firms have reduced management fees, leading to a 4% decline in average income from 2021 to 2022,” according to consulting firm Casey Quirk.

Chart 2: Asset management profitability has halved

Differentiation has also diminished: Bain & Company points out that data provider eVestment estimates low dispersion in returns (1% to 2%) and fees (4 to 6 basis points) in public equity investments among top- and bottom-quartile management firms. This decline has driven managers to opt for low-cost beta followers, and the share of passive investments is expected to rise.

According to Preqin, Bain’s analysis shows how traditional firms focusing on public markets have either maintained their value (Amundi) or lost ground (T. Rowe Price, Franklin Templeton, DWS, Invesco). “Asset managers focused on private markets have seen significant growth. Blackstone, KKR, Ares, EQT, and Carlyle have more than doubled their value,” they note.

The appeal of private markets

In this context, a promising business model emphasizing alternative private markets is beginning to emerge, but asset management firms will need to develop a range of new capabilities to secure their position in this new landscape.

Private assets represent a much larger market than public assets, offering potentially higher returns, diversification, and, in cases like real estate, an inflation hedge. In recent years, fewer companies have gone public, and global initial public offerings (IPOs) will decrease by 45% between 2021 and 2023 due to increased regulation and costs.

In contrast, “we estimate that private market AUM will grow at a compound annual growth rate (CAGR) of between 9% and 10%, bringing the value of these assets to between $60 trillion and $65 trillion by 2032, more than double the AUM of public markets (Chart 3). “By 2032, we expect private market assets to represent 30% of total AUM,” the firm states.

Chart 3: Alternative assets should continue to show strong growth

At the same time, fee income from private market investments, which reached $900 billion in 2022, is expected to double to $2 trillion by 2032. “Private equity and venture capital will remain the most important categories, while private credit and infrastructure investments will expand to the point of becoming significant asset classes.

Alternative credit has already grown at a 7% CAGR between 2012 and 2022, “and we expect it to grow at a 10%-12% CAGR by 2032,” Bain’s report states, noting that this accelerated pace “largely reflects the reduction in bank lending.”

The strong growth of infrastructure, with an average annual rate of 16% over the last decade, is expected to continue at a pace of 13%-15% over the next decade due to the shortage of public funds as the fiscal deficit grows.

Investor demand has also picked up, with institutional allocations to alternative assets expected to grow by 10% annually from 2022 to 2032, “pushing AUM to at least $60 trillion (Chart 4).”

Sovereign wealth funds, endowments, and insurance company funds are seeking higher returns due to the volatility of public markets and declining yields. Similarly, the increase in contributions from retail investors will push the proportion of AUM from these investors from 16% in 2022 to 22% by 2032, according to Bain’s report. “Individuals are drawn to the alternative asset market due to the prospects of diversification and higher returns, and they are willing to tolerate lower liquidity,” the study notes.

Chart 4: Retail investor participation in private assets is increasing

In response to this retail demand, some firms have launched innovative offerings, such as intermittent liquidity products characterized by periodic redemptions. Blackstone and KKR, for example, have launched private market funds with monthly or quarterly buyback frequencies, as noted in the study.

Recent moves in the chessboard

The share of traditional managers in alternative assets increased from 16% in 2018 to 22% in 2022, as firms sought diversification and better risk-adjusted returns. Some have made acquisitions to expand their product range, while others have expanded organically, like Fidelity, which launched 18 alternative products in 12 months. These firms are also extending their position in the wealth management value chain, such as BlackRock’s joint venture with Jio Financial Services in India to offer direct digital investment solutions through Jio’s local distribution network, according to Bain’s report.

Private banks and wealth managers have expanded to capitalize on client demand and generate higher fee income. Some firms are entering the retail market with their own products, while others have hired experienced advisors and wealth managers to target high-net-worth individuals.

Meanwhile, alternative asset managers and private equity firms have also expanded their portfolios of alternative assets. Others have attracted retail investors by offering evergreen products (with no fixed expiration date) following difficulties in raising funds from institutional clients and ensuring reliable fee income streams.

“In retrospect, we observe a convergence of strategies between traditional and alternative asset managers, with many preparing to become full-service providers across all asset classes, investor types, and positions in the value chain,” the report states, adding that this situation “will intensify competition in the market,” and it is likely that dominant firms will resort to two strategies:

1. Offering niche products that generate alpha, such as environmentally sustainable infrastructure products for ultra-high-net-worth individuals.

2. Developing large-scale alternative products, including vehicle creation and testing, distribution—including reach and conversion—or operational efficiency—including risk management and regulatory compliance.

The study reveals that many companies of all types have already started to follow one of these approaches, and some are using both to maximize their results.

What it takes to adapt

The transition of managers to private markets “poses significant challenges,” Bain notes, given the differences between retail and institutional investors. Companies will need to add or develop new capabilities around their technology systems, sales and marketing approaches, and investor education.

To fill gaps, some firms may turn to acquisitions, but many of them do not deliver the expected benefits due to cultural differences or ineffective integrations. And with a shortage of talent in certain areas, such as data science, recruiting and hiring enough people with the necessary skills can be difficult.

As companies consider how to expand into alternative assets, Bain believes firms should anticipate changes in the following areas:

1. Define where to play and how to win. It may seem obvious, but before making any moves, firms must know their starting point and ultimate ambition in private markets.

2. Develop new front-to-back-office capabilities. This can be achieved by training sales staff, incorporating product specialists, and redesigning operations, technology, risk, and legal processes. These activities will help bridge the gaps between, for example, a system for valuing private assets and one for public assets. A global insurance asset manager, for example, wanted to improve the performance of its private equity portfolio, which had been outsourced. After conducting a detailed portfolio review and competitive strategy study, the company developed new capabilities, carefully limiting changes to team structure and size. The new internal fund selection capability resulted in a 400 basis point improvement in its internal rate of return.

3. Educate investors on the risks and liquidity of alternative assets. Management firms will need to communicate how investors can have sufficient liquidity and the ability to collateralize private assets, that minimum investments and onboarding are more accessible than commonly perceived, and that reporting and tax filing processes have become more streamlined.

4. Adapt sales and marketing. New digital platforms and other distribution channels will be needed to raise brand awareness, attract funds, and offer a broader range of assets. Companies will need to hire and train sales representatives skilled at building relationships with wealth managers and explaining complex products to retail clients. A financial services company was experiencing a decline in revenue, AUM, and client numbers due to stagnant sales team productivity. A new training program and performance metrics for advisors doubled client acquisition and increased new AUM per advisor by 70%.

5. Improve merger and acquisition integration skills to combine talent, culture, and operations. Private market activity has accelerated since 2020, with more than 40 transactions in each of the past three years. More recently, traditional investment firms have announced some notable acquisitions and partnerships, such as BlackRock’s purchase of Global Infrastructure Partners.

According to Bain’s report, during this period of transition in which demand for private market assets is rising, retail investors are still forming their preferences for brands and products. “Regardless of their current market position, companies have the opportunity to shift their focus and expand their offerings if they

can develop the right capabilities, systems, and talent mix to capture that demand,” the study concludes.

Alternative Fund Managers Estimate That Compliance-Related Risks Will Increase

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The level of compliance risk facing alternative fund managers is rising and is expected to grow further over the next two years, according to a survey conducted by Ocorian and Bovill Newgate, a firm specializing in regulatory and compliance services for funds, corporates, capital markets, and private clients. Based on the experience of both companies, more investment is urgently needed to address the issue.

Following an international survey among senior compliance and risk leaders from alternative fund investment firms, it was found that 88% believe compliance risks have increased and will continue to rise over the next two years. Specifically, one in ten respondents expects this increase in risks to be dramatic.

This trend is occurring in a context where compliance teams report insufficient resources and a high level of fines. In fact, 64% of respondents stated that their compliance management team is already under-resourced, with over half of these (34%) feeling their resources are severely lacking.

The number of firms facing fines and sanctions is already high, with 67% of respondents admitting that their organization has been subject to risk and compliance fines or sanctions in the past two years. An additional 9% acknowledged receiving a request for information or a visit from the regulator within the same period.

In response to these findings, Matthew Hazell, Co-Head of Funds for the UK, Guernsey, and Mauritius at Bovill Newgate, remarked: “Our survey reveals a concerning backdrop of fines, sanctions, and under-resourced compliance teams within alternative fund managers, against which nine out of ten respondents believe the level of compliance risk their firms face will only increase over the next two years. It is encouraging that leaders within these firms recognize these future challenges and understand the need to act now to stay ahead.”

The Ocorian study highlights the three key areas where alternative fund managers believe investment is required in the next 24 months to address the issue: technology (58%), systems for managing processes and procedures (57%), and hiring knowledgeable, relevant personnel (53%).

Matthew added: “Firms need to have a deep understanding of their own compliance and risk needs, and any potential changes due to growth or organizational shifts, in order to invest wisely in the right systems, processes, and people to protect against these future risks. We recommend following a three-lines-of-defense approach to safeguard their businesses: first, implementing robust procedures, policies, and training; second, thoroughly monitoring these aspects; and finally, reviewing and challenging them through independent audits.”

Ocorian’s three-lines-of-defense approach to addressing compliance and risk challenges consists of the following:

– Line One: Establish clear and robust processes and procedures on the front line, complemented by online and in-person training programs for staff.

– Line Two: Build and empower a comprehensive compliance oversight function that monitors and evaluates processes and procedures while advising and supporting staff and senior management in meeting the company’s obligations.

– Line Three: Seek the review and challenge of the company’s AML framework through annual independent audits.

Tokenization: The Next Step in the Evolution of ETFs?

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The global ETF market has reached a new record in assets under management, driven by strong market performance and a clear investor preference for these vehicles. According to EY’s latest report on this industry, two clear trends have emerged in the past decade: the development of active ETFs and the entry of ETFs into the crypto asset universe. Could tokenization be the next step in this evolution?

“Digital assets are starting to gain traction, particularly with the SEC’s approval of spot bitcoin ETFs, which could begin to pave the way for asset tokenization, though challenges in liquidity and settlement mismatches persist. Efforts to shorten settlement times could accelerate the trajectory of tokenization in ETFs,” the report notes. The approval of spot bitcoin ETFs was followed by the green light for vehicles investing in Ethereum this past May.

According to the EY report, investor interest in digital assets and tokenization is on the rise. In fact, the consulting firm believes that in recent years, significant progress has been made as financial markets move in this direction. “ETFs physically backed by digital assets have been present in European markets for several years, offered by providers like Shares and ETC Group, allowing market participants to trade this asset class on European exchanges, albeit with certain distribution restrictions. In January 2024, the SEC also recently approved applications for 11 spot bitcoin ETFs submitted by companies like Fidelity and Invesco, as well as the conversion of Grayscale Bitcoin Trust into an ETF. This approval fundamentally changed the shape of this industry segment, shifting from being mostly unregulated, operating out of Europe with less than $13 billion by the end of November 2023, to being primarily regulated, operating out of the U.S. with nearly $53 billion by the end of January 2024,” the report explains.

In Europe, the European Commission is conducting a comprehensive review of the directive on eligible assets for UCITS. According to EY, this review could potentially open the door to digital assets in the future, though UCITS diversification requirements would mean that single-exposure products (like the SEC-approved spot bitcoin ETFs) would remain as ETPs in Europe, similar to commodity products and single-stock exposure products.

“However, the SEC’s approval of these products is fundamental and will see wider adoption and greater familiarity with digital assets among conventional financial market participants,” the report adds.

In its assessment, hailed as the next revolution in financial markets, this movement will undoubtedly drive what comes next for the industry. “It remains to be seen whether this is the approval of another trendy product or a further step toward tokenization across the asset management industry. And with this, questions arise about the longevity of the ETF wrapper, given that real-time settlements will come into play,” they suggest.

According to EY’s analysis, while the transition of ETFs into a tokenized product will occur in the medium to long term, the industry is already working on efforts to accelerate settlement across the value chain. “In May 2024, the U.S. and Canada will move from T+2 to T+1 in securities settlement times. To shorten settlement cycles, providers have been working to enhance their trading systems and automate manual processes wherever possible, ultimately bringing operational efficiencies, cost savings, and reduced settlement risk,” the report indicates.

In their view, this will have a profound impact on the global ETF industry: “It will create liquidity mismatches between ETFs traded in Europe (with T+2 settlement) and their U.S. securities portfolios (with T+1 settlement), or ETFs traded in the U.S. (with T+1 settlement) and their European securities portfolios (with T+2 settlement). This adds additional financing costs to their commercialization, as authorized market participants for these ETFs will need to bridge the gap between the primary and secondary market settlement cycles. Once T+1 settlement becomes routine in the U.S., and market participants operate on a shorter cycle, we expect calls for Europe to follow suit, and the European Securities and Markets Authority (ESMA) is already consulting on this.”

In this sense, they recognize that Europe is a much more complex trading market than the U.S., with multiple stock exchanges, currencies, languages, and legal systems. Shortening settlement time will be much more difficult than in the U.S.,” they believe. However, once this is done, will investors demand the industry to shorten the cycle again? “Tokenization could be the next step if the industry seeks to further accelerate the cycle and offer a solution for real-time settlement. The broader asset management industry is looking at tokenization to increase efficiency and liquidity in trading alternative assets (such as private equity or fixed income) and unlock new sources of capital,” they argue.

In fact, EY points out that some providers have been exploring pilot projects to tokenize fund issuance and work on commercial, legal, and technological challenges before expanding this effort. “The FCA in the UK has announced that it is working with the industry, and the Investment Association in the UK recently published a roadmap for implementing tokenization in this area. Tokenization has the potential to fundamentally change the asset management ecosystem. It could enhance settlement speed and open new avenues for both investors and ETF managers,” they conclude in their report.