Asset Management Company (AMC)

These companies pool money from investors and invest it into various asset classes. 

An asset management company pools money from investors and invests it into various asset classes. The investment objective of the company is predefined.

Asset Management Company

The company can be privately operated like hedge funds, mutual funds, investment houses, or a government entity like pension funds & sovereign wealth funds.

The objective of AMC is to invest in securities that generate an optimal return for the investor in exchange for a fee.

AMCs are referred to as money managers or money management firms. Those offering public mutual funds or ETFs are also known as investment or mutual fund companies. Vanguard and Fidelity are two of the biggest fund houses in the world.

Each fund has its specific investment object be it growth, income generation, or capital protection, and it is defined as what asset class the fund will invest in, its risk appetite, benchmark, etc.

For example, an equity-oriented fund will invest in stocks with high risk and high returns. On the other side, a debt fund invests in bonds and risk-free Government bonds to maintain the minimum bet. 

How do Asset Management Companies (AMCs) function?

Usually, individual investors lack the expertise and resources to produce strong investment returns over time consistently. Therefore, many investors rely on AMCs to invest capital on their behalf.

Money

AMCs provide investors with diversification and various investment options due to the larger pool of resources than the retail investor could access.

For example, the ability to invest in multi-billion-dollar infrastructure projects, such as a high-speed railway project or a nuclear power plant.

Buying securities for many clients allows an AMC to practice economies of scale, and they often get a price discount on their purchases.

Pooling assets, paying out proportional returns and investing in an enormous variety of securities with a smaller investment also allows investors to avoid the minimum investment requirements often required when purchasing securities independently.

Types

AMCs come in different forms and structures, such as

In addition, AMCs invest on behalf of various types of clients, such as

  • Retail investors (Individuals)
  • Institutional investors (FIIs & DIIs)
  • Public sector (government) 
  • Private sector
  • High-net-worth clients

Buy-Side vs. Sell-side

When discussing an Asset Management Company, it is essential to know the difference between the buy and sell sides. These two sides together make the complete picture of the ins and outs of the financial market, and both are indispensable to each other:

1. Sell-side

On the Sell Side, we have professionals representing corporations that need to raise money by SELLING securities (hence the name "Sell Side"). The Sell-Side comprises banks, advisory firms, or other firms that facilitate selling securities on their client's behalf.

For example, a firm that needs to raise money to build a new production line for its product will call its investment banker and ask them to help issue either debt or equity to finance the factory.  

With the help of extensive financial modeling, the bankers will prepare an analysis to determine what they believe their investors will think the company is worth. 

Next, these professionals prepare various marketing materials to be distributed among potential investors. This is where the Buy-Side comes in.

Cards

2. Buy-Side 

On the Buy Side, we have professionals and investors that have money, or capital, to BUY securities. These securities can include shares, bonds, derivatives, or other products that the Sell Side issues.

For example, an AMC runs a fund that invests high-net-worth clients' money in alternative energy companies. 

The firm's portfolio manager (PM) looks for various opportunities to put that money to work by investing in securities of what they believe are the most attractive companies in the industry. 

One day, the Vice President (VP) of equity sales at an investment bank calls the portfolio manager and notifies them about an upcoming initial public offering (IPO) of the company in the alternative energy space.

The portfolio manager decides to invest and buys the securities, which flows the money from the buy-side to the sell-side.

What is Asset Under Management (AUM)?

The acronym AUM stands for "Assets Under Management," which refers to the total market value of assets managed by an investment advisor or financial institution, either from one client or many.

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The AUM is the total assets under management or the help that an investment advisor, wealth manager, or mutual fund manager is employing on behalf of their clients.

AUM keeps fluctuating as the value of the assets managed changes with market performance. They may increase when investment performance is favorable, or new customers and new assets are brought into the firm.

Conversely, AUM is reduced by negative investment performance and redemptions or withdrawals, including fund closures, client defections, and other generally adverse events, and lower AUM generates lower fees.

A fund's management fees (including expenses) are often calculated as a percentage of AUM.

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How does an AMC manage the funds?

The AMC is principally responsible for the performance of the mutual fund and making decisions that will benefit the investors.

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A fund manager invests the money in line with the scheme's investment objectives. The process is broadly listed below.

a) Asset Allocation

An MF has specific investment objectives, which help the fund manager decide the assets in which the investments will be made. For example, most balanced funds invest in a mix of stocks and fixed-income securities.

Another example is that most debt-oriented funds have a sizable proportion of their assets under management in bonds and other fixed-income securities.

b) Research and Analysis

Building a portfolio comprises a lot of research and analysis of the asset class performance. In addition, experts conduct studies on the market, micro, and macroeconomic aspects.

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These reports are then passed on to the fund manager, who makes investment decisions based on the fund's objectives.

c) Portfolio Construction

An AMC comprises a team of researchers and analysts who report their market findings and trends to the fund manager. Based on these findings and the investment objectives of the fund, the fund manager then decides which securities to buy or sell.

This is how an AMC builds its portfolio, which depends solely on the experience and expertise of the fund manager.

d) Performance Review

AMCs must provide investors(unitholders) with information directly impacting their mutual fund holding. AMCs must also send regular updates on sales and repurchases, NAV, portfolio details, and so on to investors.

Glasses

In simple terms, an AMC must answer to the investors(unitholders) of the mutual funds and look after their interests. Moreover, they must attend to customer grievances regarding their mutual fund schemes.

On what basis should an investor choose an AMC?

Before choosing an AMC, you must check the AMC's track record and assets under management (AUM).

It helps if you select an AMC with significant assets under management that can handle the sudden pressure of large investors and perform well even during the bear run.

Market savvy investors must check the offerings of the AMC and the history of various mutual fund schemes' performance managed by the AMC during both bull and bear runs to get an idea of performance across market cycles.

Investors should consider the following points before choosing an AMC:

  • The reputation of the AMC: 
    An AMC does not earn its status in a day; it takes years to do so. For example, an AMC makes a good reputation after performing consistently over 5 - 10 years and beating the benchmark.
  • Check the reviews: 
    Check the fund house reviews by talking to investors from the fund houses they have invested in or doing self-research. It includes checking past performance, various offerings, management changes, and any grievances/ legal issues against the AMC.Money
  • Fund manager's credentials: 
    Checking the fund manager's track record and investment style is a must. The fund manager's investment style and skill dictate the mutual fund scheme's performance.
    Investors should never invest in a mutual fund if they are not comfortable with the fund manager's investment style. Moreover, mutual funds display the investment style box to help gauge the fund manager's investment style. 

The Biggest Asset managers in the world

The following is a list of the top 10 asset managers in the world (as of 2022), ranked by total assets under management:

The Biggest Asset managers in the world
RankFirm/companyCountryAUM (billion USD)
1BlackRockUnited States9,570
2Charles SchwabUnited States8,140
3Vanguard GroupUnited States8,100
4UBSSwitzerland4,380
5Fidelity InvestmentsUnited States4,283
6State Street Global AdvisorsUnited States4,020
7Morgan StanleyUnited States3,230
8JPMorgan ChaseUnited States2,960
9AllianzGermany2,760
10Capital GroupUnited States2,700

FUN FACT

The Asset Under Management of these asset management firms is so huge that if compared with the GDP of countries in the world, BlackRock would be the third-largest country, followed by Charles Schwab and Vanguard Group as the fourth and fifth largest, respectively.

AMC Fees

In most cases, AMCs charge a fee as a percentage of the client's total AUM. This fee is a defined annual percentage calculated and paid monthly.

Cash

For example, if an AMC charges a 2% annual fee, it would charge $20,000 in yearly payments to manage a portfolio worth $1 million. However, since portfolio values fluctuate daily and monthly, the management fee calculated and paid monthly will also fluctuate monthly.

Continuing with the above example, if the $1 million portfolio increases to $1.2 million next year, the AMC will make an additional $2,000 in management fees.

Conversely, if the $1 million portfolio declines to $0.8 million due to a market correction, AMC's fee would be reduced by $2,000.

Therefore, charging fees as a percentage of AUM helps to align the AMC's interests with that of the client; if the AMC's investors prosper, so does the AMC, but if the investors' portfolios make losses, the AMC's revenues will decline as well.

In addition, some AMCs, such as hedge funds, charge performance fees for generating returns above a set level or beating a benchmark like the "two and twenty" fee model is standard in the hedge fund industry.

Asset Management Companies (AMCs) vs. Brokerage Houses 

AMCs and brokerage houses overlap in many ways. For example, along with analyzing and trading securities, many brokers manage and advise client portfolios through a particular "private investment" or "wealth management" division.

Building

Their brokers can also act as advisors to clients, recommending products, discussing financial goals, and assisting clients in other ways.

Generally, brokerage houses accept nearly any client regardless of the amount investors invest. These companies are legally obligated to provide "suitable" services to their clients.

Suitable means that as long as these companies give their best effort to manage the funds wisely, which is also in line with their client's stated goals, they are not responsible if their clients lose money.

In contrast, most AMCs are fiduciary and held to a higher legal standard. Essentially, they must act in the best interest of their clients and avoid conflicts of interest at all times. Failing to do so, they may face criminal liability.

Papers

They are held to this higher standard primarily because money managers usually have discretionary trading powers over accounts. As a result, they can make investment decisions, i.e., buy or sell, on their authority without consulting the client.

In contrast, before executing trades, brokers must ask permission. Fund houses manage their careers through a specially designated broker. This brokerage acts as the designated custodian that holds or houses an investor's account.

AMCs tend to have the highest minimum investment thresholds than brokerages, and they charge fees rather than commissions.

Pros

There are various benefits of pooling capital together, including

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  1. Economies of scale
    These are the cost advantages a company can gain from increasing the scale of operations. With more extensive procedures, the per-unit costs of operating are lower.
    As their AUM grows more prominent, they can reduce their expense ratios, and a higher trading volume also allows them to negotiate better brokerage rates.
    Diversification 
    Due to the availability of significant investment capital, they can diversify their portfolio much better than individuals.For example, AMCs can invest in multi-billion-dollar infrastructure projects, such as railway or roadways expansion. However, the investments are so significant that an individual investor will not usually be able to access them.
  2. Specialized expertise
    It refers to asset management companies hiring finance professionals with extensive experience managing investments that most individual investors lack.
    For example, an AMC can hire professionals specializing in certain asset classes, such as real estate, fixed income, sector-specific equities, etc.

Cons

AMCs come with a few downsides, such as

cons

  1. Risk of underperforming
    The performance of AMCs is evaluated by comparing it to a benchmark. Benchmark is a standard used to compare performance against, usually in the form of a broad market index.
    There is the risk that fund managers underperform the markets, and including the management fees mentioned earlier can become very costly for investors.
    The majority of the actively managed funds have failed to beat their benchmark.
  2. Loss of Flexibility
    After the fund grows beyond a certain point, it isn't easy to find highly liquid assets, somewhat limiting its flexibility. This is the reason a lot of funds have caps for maximum AUM.
  3. Management fees
    Most fund managers charge flat fees that are collected no matter their performance. As a result, the prices can become very expensive for investors.MobileThe fees are high to compensate asset managers with a profit because of the expertise required and the costs of the resources to run an AMC. High management fees are one of the reasons actively managed funds cannot beat the index; they eat away at the investor's return.

Researched and authored by Rohan Kumar Singh | LinkedIn

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