Cerulli: a new model for the Gulf

Cerulli Global Edge, June 2012

Could a new business model be finding its feet in the Gulf? A new business setting itself up as a go-between to link international fund managers and local family offices suggests an alternative to the expense of foreigners setting up in the region themselves.

A great many international fund management groups see the opportunity that is available in the Middle East. One only has to look at the sovereign wealth funds: though exact figures are unavailable, it is beyond doubt that the Abu Dhabi Investment Corporation, Kuwait Investment Authority, Qatar Investment Authority and the investable assets of the Saudi Arabian Monetary Agency account for well over $1 trillion between them. And while the sovereign funds are well known, and well covered by international asset managers, beyond that is a mass of family office, high net worth and developing institutional wealth, bolstered by the oil price and expected to grow considerably in years ahead.

But how to serve it? Very few fund management groups have opted to set up portfolio management capabilities on the ground in the Middle East – because that’s not their core competence, and selling Middle East funds to investors elsewhere in the world is probably not going to catch on until at least one Gulf market makes it onto the MSCI Emerging Markets index (something Qatar and UAE seem likely to do every year, only to fail on a technicality). Rare examples to have tried include Schroders, while Franklin Templeton took an alternative route and bought a local boutique manager, Algebra Capital.

A far more common approach has been to set up a modest sales presence, typically within the Dubai International Financial Centre. A look through the licensed businesses within DIFC includes Blackrock, Allianz, Barclays, Baring Asset Management, BNP Investment Partners, BNY Mellon Asset Management and a host of others within the first two letters of the alphabet alone. But a closer look at records suggests a tougher time: BNY Mellon, for example, now has a status mark against it saying “dissolved” in DIFC records. A typical experience is that, up to 2007-8, many houses set up modest sales presence in the Gulf in order to chase the petrodollars, then began pulling it back again as global problems deepened, especially when the global financial crisis caught up with the Middle East about a year after the rest of the world.

After all, it’s not cheap. Rents in Dubai (or Doha in Qatar, which also aspires to be a regional centre for asset management) may have come down since the crazy levels of 2007, but they’re far from inexpensive. Hire a few decent sales people, and the support infrastructure around them, and “before you know it you’re look at a million dollars of costs,” says one fund manager who has tried setting up from scratch.

Worse, unless the sales personnel are absolutely the right people, then they might not be able to connect managers with the real wealth. Everybody knows the sovereign funds, but they are arguably served perfectly well from London or Zurich by coverage people flying in. The queues to get in to see these funds are renowned. For sure, ADIA outsources 80% of its money, but does a satellite office of three people in Dubai get you any closer to getting it? A sales presence only really makes sense if it can penetrate the family office wealth, particularly that which exists in Saudi Arabia and Kuwait.

So it’s interesting to look at a new business called Takseem, set up by Rehan Pathan. Pathan ought to know what will work, having worked both for Deutsche (another group to have set up investment capability on the ground in the Gulf, only to have stepped back from asset management globally) and NCB Capital of Saudi Arabia, the largest homegrown fund manager in the Middle East.

Takseem’s model will be to handle distribution in the Middle East for fund managers elsewhere in the world. Pethan and his team have the connections locally, and they also offer a much cheaper method of accessing local money than an international manager setting up an office in the Gulf. It’s likely Pethan will operate on a retainer plus fee arrangement, and although questions arise about how Takseem will prioritise which products to sell and therefore the independence of advice, it is a middle ground approach that will be interesting to watch develop.

If internationals want to reach retail, they have to go through local banks. The chosen method is to go through HSBC and Standard Chartered, which combine a long history in the region – the HSBC building alongside the Creek is pretty much as old as Dubai itself – with international familiarity. A number of other international banks offer distribution, in particular through private banking channels (ABN Amro is an example here), but to get to the real meat of the population one must tie up with local banks: Abu Dhabi Commercial Bank, for example, or Saudi’s Al Rajhi, or Kuwait’s NBK.

Reaching the Middle East has been further complicated by political unrest in Bahrain. Until recently, Bahrain was considered the Hong Kong of the region: a market-friendly, stable and predictable entrepot to bigger, closed economies, specifically Saudi Arabia and to a lesser extent Kuwait. Before the DIFC got going, this was the location of choice for foreign fund management groups, who could register their funds easily here and base an office to cover the region in the capital, Manama. Robeco, for example, has always had its Middle East presence here. But, although fund managers are reluctant to talk about this for attribution, several who are still officially there have moved most of their staff out and are actually running their business from Dubai or Qatar (which is making a concerted effort to grab the business leaving Bahrain, with some success. It’s notable that several of the region’s big funds management and Islamic conferences, usually held in Bahrain, are shifting to Doha.)

Developments like this suggest than an intermediary approach could have some mileage, and it will be interesting to see if other businesses evolve taking the same approach. That said, it’s unlikely to take the place of fund managers representing themselves to the sovereign funds; those are the sort of relationships that have to be maintained one-on-one.

In the background to all of this is Saudi Arabia. Many international banks do have partial ownership of Saudi banks – HSBC, BNP Paribas and Credit Agricole being prominent examples – or a stake in the securities arm, such as Goldman Sachs in NCB Capital. Through this, some have entered into fund management ventures. But real interest in Saudi will be limited until restrictions on access to the stock market are lifted.

This is clearly some distance from happening, but moves have been taking place in that direction: first the lifting of a ban on foreigners buying local mutual funds, then the introduction of a sort of participatory note system to gain exposure, if not actual ownership, of local stocks. Saudi is by far the biggest market in the region, and when the shackles finally do come off, the effect will be instantly galvanising to the region, because Saudi will be a sure-fire addition to international emerging market indices, bringing with it a flood of index-tracking money. When it happens – and it could be within five years – expect the game to change in international approaches to Middle East asset management: that will be the turning point when international resources really will need to be deployed, both to gather assets and to manage them.