Vanguard Group is adopting a binary approach for its Asia-Pacific business, walking away from tens of billions of dollars of segregated mandates from retirement plans and official institutions to focus on serving retail investors, first and foremost in China.
The move will effectively narrow Vanguard's footprint in the region to China — with its headquarters shifting to Shanghai from Hong Kong — and Australia, where the firm's A$160 billion ($114.5 billion) business accounts for roughly two-thirds of its Asia-Pacific assets under management.
Vanguard will shut down its business in Hong Kong and close its sales and client service office in Tokyo as well over the coming year or two.
When the firm announced new leadership for the region in a March 19 news release — appointing 36-year veteran Scott Conking as head of Vanguard Asia — it gave no hints of the changes that would be unveiled months later. The release cited the opening of the Tokyo office in 2000 as the start of the firm's operations in Asia-Pacific, and went on to highlight two decades of expansion "serving institutional clients in mainland China, Hong Kong and across Asia."
Mr. Conking, in an Oct. 16 interview, depicted the recent changes to Vanguard's Asia-Pacific strategy as a return to the company's heritage of helping individual investors make smart, rewarding investment decisions.
Roughly eight years ago, Vanguard decided the pursuit of segregated mandates — something the firm hasn't done elsewhere around the globe — offered opportunities "for us to get a toehold in Asia," and on that score, the strategy was successful, Mr. Conking said.
Regulatory reform
Vanguard oversaw an almost $190 billion mix of institutional and retail client assets in the Asia-Pacific region as of Aug. 31 — $122 billion from Australian clients and $67 billion from the rest of the region, according to a company spokeswoman.
More recently, however, the momentum of regulatory reform in China has convinced Vanguard's team that focusing on that country's retail market segment is the firm's biggest opportunity now to have a "positive impact on the way the world invests," Mr. Conking said.
Foreign managers, starting this year, won the ability to set up retail-focused fund management companies on the mainland, while regulators are working to get individual investors to focus more on the long term when they invest — a direction of travel that should open up opportunities for Vanguard, he said.
The decision to step away from the pursuit of segregated mandate business in the region — bringing Vanguard's Asia-Pacific business in line with its operations elsewhere — is "all a matter of focus," he added.
Even so, the firm isn't leaving institutional investors in the region high and dry across the board. In Australia, for example, Vanguard will continue to accept institutional mandates for pooled investment vehicles, even as it eschews customized, segregated accounts.
But in China and Australia it will increasingly focus on investment vehicles that allow for direct relationships with individual investors or their financial advisers, including a planned launch of its own superannuation fund for workers in Australia and its own fund management company on the mainland.
In the U.S., where the firm sources more than 90% of its total assets, Vanguard's financial adviser services segment and its retail investor group account for 39.1% and 33.7%, respectively, of total assets. Its U.S. institutional business — predominantly serving 401(k) and 403(b) plan members, noted Mr. Conking — accounts for the remaining quarter or so of its AUM there.
Still, the decision to shut down an Asia-Pacific institutional business that accounts for more than half of Vanguard's AUM in the region left some industry analysts scratching their heads.
‘Surprising move'
"It's a surprising move," said Ken Yap, Singapore-based managing director, Asia, with Cerulli Associates Asia Pte. Ltd.
Everyone is "gobsmacked," said a Hong Kong-based market veteran who declined to be named.
Downward pressure on fees, against the backdrop of relatively small passive allocations by big Asian institutional investors together with growing moves to manage allocations in-house, could be a factor driving that move away from passive institutional mandates in the region, Mr. Yap said.
Too many managers have come to accept minuscule fees from heavyweight institutional investors in China in the belief that those connections will benefit them elsewhere, said Peter Alexander, managing director of Z-Ben Advisors Ltd., a Shanghai-based research house focused on financial market opportunities on the mainland.
Bloomberg News reported earlier this month that Vanguard returned a combined $21 billion in passive mandates to China Investment Corp., the $1.05 trillion Beijing-based sovereign wealth fund; the State Administration of Foreign Exchange; and the National Council for the Social Security Fund.
Market veterans peg the fee money managers earn for running passive strategies for those asset owners at low single digits — around 2 basis points.
With fee pressures leaving revenues for passive institutional mandates on a one-way path lower, Vanguard's latest move on the institutional side may be "smart but that doesn't mean that what they have in place to target the Chinese retail space will work," Mr. Alexander said, noting that demand in China remains weak for the passive offerings for which Vanguard is best known.
Mr. Conking said while there's reason to anticipate growing interest in passive strategies among investors on the mainland, "we're not just an indexer." Vanguard will bring the same active subadviser selection skills it has relied on to build a substantial U.S. active fund business "to make a difference in China" as well, he said.
Work in progress
In both China and Australia, meanwhile, the investment vehicles Vanguard is counting on to power its business serving individual investors remain a work in progress.
The firm — which is giving up tens of billions of dollars of mandates garnered over the years from Australian superannuation funds — is looking to establish its own fund, Vanguard Super, to compete directly to manage the retirement accounts of Australians. But "at this stage no launch date has been set," an Australia-based spokeswoman said.
Likewise, on the mainland a joint venture Vanguard established this year with giant online technology platform Ant Group to offer investment advisory services to individual investors has attracted more than 200,000 users in its first 100 days of operations through mid-July. Z-ben's Mr. Alexander, while conceding the two firms make a powerful combination, noted that the deal is structured to leave ownership of the client with Ant Group rather than the joint venture.
Mr. Conking said "we're very happy with our joint venture" and anticipates that the fund management company Vanguard is moving to set up on the mainland will complement what the joint venture is doing.
Meanwhile, Vanguard still hasn't applied for the fund management license the firm will need to offer its own strategies directly to individual investors in China, even as U.S.-based competitors BlackRock Inc., Fidelity International and Neuberger Berman Group LLC have already done so.
The Hong Kong-based market veteran, who declined to be named, said the tough, competitive market in China that Vanguard is targeting should prove even more so for a firm that has made it a point of pride not to pay intermediaries to distribute their products — the dominant practice on the mainland.
Unless Vanguard has some inside knowledge that China is planning to transition to a "no-commission future," the firm's decision to forgo, at minimum, $4 million in fees for that $21 billion in institutional AUM in anticipation of rising retail revenues could prove to be one that carries considerable career risk, he said.
Mr. Conking said while his team is well aware that "it's going to take a while for us to get going and get established" in China, a firm like Vanguard — which is ultimately owned by investors in its mutual funds — is well placed to take the long-term approach needed to crack that market.
"We're not in a race," he said. Vanguard will submit its application for a license to operate a fund management company on the mainland early next year and should be fully operational by 2022 or early 2023, he said. On Sept. 23, Vanguard appointed Dengpan Luo, the CEO of a Shenzhen-based fund management company, as general manager of the firm's prospective fund management company, and Mr. Conking said a head of distribution will be announced shortly.
Other opportunities
While Vanguard's immediate focus is China, other countries — including Japan and India — will remain on the firm's radar screen for possible opportunities down the road, he said.
Industry veterans predict BlackRock, the world's largest money manager, could pick up a big chunk of the business Vanguard is relinquishing in China and Australia but with Vanguard giving clients six to 24 months to make new arrangements, there's no rush of activity.
Ian Patrick, the chief investment officer with A$68 billion Sunsuper, said the "sensible" lead time Vanguard has given clients leaves them ample time to make a transition. Vanguard manages roughly a quarter of the Brisbane-based fund's portfolio.
Others say they're moving expeditiously. Cbus, a A$52.6 billion, Melbourne-based super fund for which Vanguard manages more than A$6 billion in fixed-income assets, "is well advanced in reviewing its options, which will most likely include bringing a component of this in-house," said Brett Chatfield, deputy CIO.
