Affiliated Managers Group: An Interesting Way To Gain Exposure To China

Summary

• AMG’s stakes in Value Partners and Winton Capital gives it exposure to China’s hedge fund and private equity industries.
• Both firms have entered the market, one whose industry AUM has doubled in two years and tripled in three years.
• I see no signs of this growth slowing because of an increasingly wealthy population and capital outflow restrictions.

Over the past few years, western managers have been gaining access to China’s hedge fund and private equity industry. While some of the moves gain attention, Affiliated Managers Group (NYSE:AMG) is actually one of the best ways to gain exposure to this trend, despite not entering the market itself.

Chinese market primer

A recent report by Casey Quirk discussed how China is set to become the second-largest asset management industry in the world, after the US, with $17tr in AUM by 2030. That’s a huge potential market to tap, but non-Chinese managers are – to a large extent – restricted in how they can address this. The Chinese hedge fund and private equity industries are fully open to overseas managers, and some have entered the market at full speed, having already launched fund products and raised capital.

It makes a lot of sense to get into the market early; there has been huge growth in industry AUM over the past few years as China’s wealthy look for new sources of alpha. The private investment industry AUM (hedge fund, private equity, venture capital and others) is just short of $2tr as of June 2018. That’s large, but is put into perspective by seeing that it was $1tr in June 2016; the industry has doubled in just 26 months, and tripled in three years. That’s staggering growth and should be the target of all overseas asset managers.

China’s private investment industry AUM growth. Units: USD billions. Source: Asset management association of China.

How AMG has a stake in this move

AMG isn’t entering the Chinese market. However, its affiliates are. The most important stake is the holding in Hong Kong-based Value Partners (OTCPK:VPGLF). Of the dozen or so foreign managers that have launched a hedge fund product in China, Value Partners was among the first to do so, along with the likes of BlackRock (BLK) and Invesco (IVZ). In addition, it is planning to launch its first private equity product in China. This makes Value Partners one of the most advanced overseas asset managers operating in China.

The other stake that AMG has in the industry is Winton. You see, when Bridgewater set up a hedge fund business in China, it received global attention – as the world’s biggest hedge fund often does – but it set up at the same time as Winton Capital’s own Chinese hedge fund business. Somewhat overshadowed by its American peer, but nevertheless just as important because Winton Capital is also one of the largest hedge funds in the world.

This trade thesis for AMG is therefore based on the idea of first-mover advantage. If both Value Partners and Winton are able to build up AUM quickly before other rivals make the move, then AMG benefits through its ownership stakes in these two firms.

Reigniting AUM growth

It also fits nicely into AMG's current strategy. Although AUM distribution between institutional, retail and high-net-wealth investors (HNWIs) is relatively stable, there has been a decline in retail AUM contribution over the past three years, seemingly, as the firm's affiliates are increasingly focused on institutions and HNWIs. Potential investors in the Chinese private investment industry would certainly fit into this trend, and would allow for another source of higher-fee clients.

The proportion of AMG's total AUM from retail investors. Source: AMG investor relations.

In addition, there has been a slowdown of AUM growth in 2018. This isn't surprising: In a recent report, I showed how passive managers have seen AUM grow while active managers have seen AUM decline this year. AMG is perhaps the most active of listed asset managers. The Chinese market should offer further AUM diversification, allowing the firm to grow AUM.

AMG's total AUM by client type. Units: USD billions. Source: AMG investor relations.

Most importantly, despite the AUM growth over the past few years, it hasn't had much of an impact on revenues and income; something that makes sense given the squeeze on fees across all client types. The ratio of revenue generated from AUM has slipped from 10 basis points to around 7 in the space of three years. This makes China interesting: its hedge fund industry hasn't seen the fee squeeze that developed markets have, and the traditional 2/20 fee model continues to be the norm.

As such, I believe the stagnating revenue over the past two years can begin to grow quicker as the firm's affiliates enter the Chinese market. Just as a back-of-the-hand calculation, should overseas managers be able to claim even just 5% of Chinese private investment industry AUM, that is currently USD100bn up for grabs. AMG's multi-pronged stake in this market puts it in a very strong position.

AMG's revenues and revenues over end-of-period AUM. Units: USD millions, and basis points. Source: AMG investor relations.

How big could this opportunity be?

Having seen the tremendous growth so far in China’s private investment industry, it would be logical to suggest that the opportunity to capitalize may have already passed. However, there’s two elements that contradict this:

• Increasingly-wealthy population: Chinese investors are getting wealthier, and that will increase the demand for private investment products, such as hedge funds and private equity.
• Capital outflow restrictions: That capital has very limited ways to leave China. It’s very difficult for domestic Chinese investors to invest their domestically-based capital into, say, Winton funds overseas. The money can only really stay in China.

As such, I see this as a huge driver for the continued growth of the private investment industry in China. And for the likes of Winton and Value Partners, if they want to raise Chinese capital, they have to launch hedge fund products in China.

Of course, there’s no guarantee that overseas hedge fund managers will be successful. I suppose a simple argument could be that Chinese managers would understand Chinese assets better than overseas managers. In addition, for a relatively closed market to overseas managers, there’s no guarantee that well-known financial brand names – Bridgewater, Winton etc. – would be recognized in China. Therefore, a lot of capital would have to be spent in order to promote products.

For AMG, they sit in a sweet spot. It doesn’t need to start from nothing and build a promotion strategy for a China business. It doesn’t need to launch products for Chinese investors, and it doesn’t need to take the risk of entering a market relatively new to overseas asset managers. But in Value Partners and Winton Capital, it has two of the top overseas managers in the Chinese industry. Should it be a successful venture for these two, and others, AMG will benefit greatly.

Editor's Note: This article covers one or more microcap stocks. Please be aware of the risks associated with these stocks.

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Comments

[Great Swami]

Ignore the fact that China remains a Communist Country at your peril
Fools rush in

[Financial Alphas]

China is one of the biggest untapped opportunities for asset managers. I'm glad to AMG with a foot in the race.