Editor's note: A version of this article was originally published on Morningstar.ca in October 2014.
A person may not be able to serve two masters, but that doesn't stop investment managers from trying. The masters they serve -- the owners of the business and those who invest in their funds -- won't necessarily share the same interests. Of course, every fund provider tells Morningstar they put the interests of fundholders first. Fortunately, we don't have to take their word for it.
For example, we can measure the firms' ability to retain talent by studying manager and analyst turnover. We can assess their ability to serve fundholders well by looking at how well their investment line-ups have fared over the long haul. If the firms wade outside their circle of competence or establish a pattern of launching flavour-of-the-month offerings, we can surmise they prioritize asset growth over fundholder interests. If they let funds grow too quickly or become bloated before closing them to new investments, we can reach the same conclusion.
How well investment managers balance their financial interests with the interests of fundholders is driven primarily by corporate culture. After all, any organization's shared values, standards and beliefs influence how its employees, whether fund managers or otherwise, think, feel and act. Morningstar's Stewardship Methodology presumes fundholder-focused corporate cultures are more likely to deliver good outcomes than those focused primarily on gathering assets (50% of the overall Stewardship Grade stems from our corporate culture evaluation). Our culture assessment rests on whether a firm's culture is built primarily to deliver investment success or business success. These aren't mutually exclusive goals -- strong performance usually attracts investor assets -- but stewardship should prevail over salesmanship.
Building a strong culture requires chasing a moving target. What was once a best practice can become old hat over time. Seasoned investment professionals can leave, lose their edge or, in a stagnant organization, persevere despite lacklustre performance. And in adapting to a competitive business environment, investment firms can become their own worst enemy. Mismanaged corporate mergers and venturing outside of one's core competency has undone many once-solid stewards.
Because corporate cultures are woven into the fabric of a firm, it's rare for investment managers to transform themselves overnight. Radical change, especially at a struggling organization, may hold more surface appeal. As popular as Aesop's fable may be, the rallying cry of slow, steady progress isn't one that's likely to inspire demoralized troops to action. However, most lasting turnaround stories in the Canadian market rest on incremental progress built on existing strengths.
As it turns out, the story is much the same for cultural success: They wake up every day wondering how they can make their firms stronger. As for deteriorating cultures, it's not as if the firms spend every day thinking of ways to make themselves weaker. Good cultures usually don't decay overnight; their virtues may still shine through as their competitors improve their acts. But just as cultural improvement stems from steady improvement, weakness is often the result of slow deterioration.
Here's a look at the cultures of some prominent Canadian fund companies:
Investors Group: From slow deterioration to slow improvement
Investors Group has never had an industry-leading investment culture, but that's never really been its goal. The firm became one of Canada's biggest investment managers by building a giant network of financial planners, which in turn invest client dollars into its own proprietary network of high-cost funds. As attractive as this structure has been as a business model, it hasn't been a recipe for investment excellence: More than half its funds earn 1- and 2-star Morningstar ratings. In 2013, we downgraded IG's corporate culture grade to D from C, in an admittedly belated acknowledgment that the fund complex had fallen well behind the competition.
With inflows stagnant, and the big Canadian banks nipping at its heels, IG has upped its game over the past year. It hired Jeff Singer, an alumnus of the respected research firm Bernstein, as the new chief investment officer (CIO), injecting much-needed fresh thinking into a firm that had clearly become insular and stagnant. New leadership often brings a coterie of new faces, but Singer sought to make the best of existing strong suits. Winnipeg-based IG had already established a Toronto office to broaden its talent pool, but he tapped the outpost's strongest investor, Martin Downie, as the firm's co-head of Canadian equity research. Singer also invested in IG's risk-management capabilities and created a career path for analysts, which should help encourage development of long-term sector expertise. These changes pushed our corporate culture grade back to C from D.
Invesco and AGF: Recovering from manager turnover
Heavy manager turnover drove Morningstar to downgrade Invesco Canada's corporate culture grade in 2012 to C from B. Turnover at Trimark, the Toronto-based operation managing the bulk of the assets, continued into 2013, with two of five Canada-domiciled co-CIOs jumping ship, while its entire fixed-income team also turned over. While the extent of these departures was cause for concern, how well fund companies cope with turnover can be a litmus test of cultural strength. By this standard, Invesco Canada's culture looks strong. Even after a spate of departures, it didn't abandon its value-leaning, quality-oriented investment approach, and it had a solid enough analyst team to fill empty portfolio management slots with in-house talent.
Trimark's turnaround isn't complete. The jury is still out on new fixed-income head Jennifer Hartviksen, who has completely rebuilt her group with fellow outsiders. Combining its three-person CIO structure into a single position under Rob Mikalachki doesn't appear to be a negative, but it's worth keeping an eye on. Even so, an improving story pushed Invesco Canada's culture grade to B from C.
Prominent manager departures also soured us on AGF's culture in 2012. Star emerging-markets manager Patricia Perez-Coutts left with nearly all of the firm's global research team, leaving a gaping hole. Meanwhile, the firm had made questionable product-related decisions, handing a Canadian equity mandate to a Dublin-based team with no Canadian market expertise.
We raised AGF's corporate culture grade to C from D in 2013 after the firm demonstrated significant progress in cleaning up its mess. By 2013, it had replaced Perez-Coutts and her team using a thoughtful process. It also had bulked up its domestic analyst group under head Terri Ellis, who also brought a more disciplined approach to its research. It also fired CIO Martin Hubbes, who hadn't done enough to improve AGF's risk-management capabilities, replacing him with J.P. Morgan veteran Kevin McCreadie, who was also named president. The firm also had cut fees, albeit from nosebleed levels.
RBC and Dynamic Funds: Mergers leave their mark
Marriage critics point to high divorce rates as an argument against tying the knot. Marriages between people, though, have been more successful than those between fund firms, as mergers have been notorious value destroyers.
RBC Global Asset Management, now Canada's largest asset manager, avoided this fate. In 2008, it acquired Vancouver-based Phillips, Hager & North (PH&N), one of the country's best institutional investors. The move led to some personnel turnover initially, but RBC co-opted PH&N's best attributes rather than undermining them. It installed PH&N personnel, such as former PH&N CEO John Montalbano, in top leadership positions at RBC. Montalbano pushed PH&N's quantitative risk-monitoring tool, BondLab, to RBC's fixed-income lineup and expanded PH&N's quantitative research team to build tools for RBC and PH&N funds. Uncertainty surrounding the acquisition led Morningstar to rate RBC's culture a C in 2010 but upgraded it to a B in 2012.
Scotia Asset Management's 2010 acquisition of Dynamic Funds is of more recent vintage, but the marriage has appeared free of discord thus far. The union wasn't a perfect match. As is typical of most big Canadian banks, Scotia offered a plain-vanilla lineup of benchmark-conscious funds, while Dynamic built its business around star managers with distinctive portfolios. Scotia has tapped more conservative Dynamic managers to run the bank's more strait-laced offerings, while leaving more freewheeling managers to employ their funds as they see fit. While signs overall are positive, the combined firm -- known as 1832 Asset Management -- remains a work in progress, contributing to a C culture grade.
Mawer, Steadyhand, Capital International: The best get better
The best corporate cultures evolve to stay ahead. The cultural strengths we identified in 2010 at Mawer Investment Management remain in place, but it hasn't rested on its laurels. While adhering to the same disciplined focus on reasonably valued, high-quality companies, it has brought its risk-management tools to the portfolio level. The fast-growing firm risked disrupting its culture with a larger team, but it has carefully vetted new talent for cultural fit and groomed the next generation of leadership in deputy CIO Paul Moroz and research director Vijay Viswanathan. Lastly, Mawer has continued to put fundholder interests first by capping (in whole or part) Mawer New Canada and Mawer Canadian Equity to preserve their flexibility. The firm will be challenged to maintain this culture, but it remains one of the industry's best.
While Mawer was well established when Morningstar launched its Stewardship Grade, Steadyhand was just three years old when Morningstar awarded it an A for culture. Founder Tom Bradley, a former head of PH&N, adopted industry-leading stewardship practices right from the get-go. He kept the firm's fund line-up simple and gimmick-free. He also hired capable sub-advisors who managed concentrated, index-agnostic portfolios and charged reasonable fees. Steadyhand's funds have been strong performers overall, and the firm has distinguished itself with its focus on transparency. Its website discloses the dollar value of Steadyhand employees' investment in the firm's funds -- a rarity in the industry.
Capital International puts heavy emphasis on cultural fit in hiring investment personnel. Once hired, analysts and portfolio managers typically build their entire careers at the firm, making them among the most experienced in the business. Its multi-manager approach, whereby portfolios are divvied up across several managers, means the firm plays host to different investment styles. While adopting different approaches, the managers nonetheless tend to share long-term-oriented, low-turnover strategies. Moreover, packaging an array of distinctive styles within a fund has helped moderate volatility and keep the company's line-up uncluttered.
Capital hasn't been as successful in the fixed-income realm, but it has paid greater attention to macroeconomic risks and brought in some outside talent to improve its effort. The company has also been a laggard in the transparency department. While Capital has finally begun providing more detail on how it divides its funds across managers, it still may not disclose managers overseeing a small percentage of a fund's portfolio, demonstrating that even the best cultures still need improvement.
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