Fund management in Europe. Progress, of a sort

Date: 11/03/06

Cross-border investment is rising, but the market remains fragmented

TINY Luxembourg has long been a hub for international banking. In recent years, the bankers have been joined by another tribe seeking a friendly haven in Europe: international fund-managers. Luxembourg's importance was underscored on March 7th when Clearstream (a subsidiary of Deutsche Borse, a German financial-exchange group) unveiled plans for a new post-trade system to serve funds based in the grand duchy.

Luxembourg is now the European Union's largest retail-fund administration centre by assets (see chart). It is not the only fast grower. In the past decade Dublin has shot from almost nowhere to attract an increasing share of international funds. Together the two centres account for 35.8% of assets in UCITS (the EU's term for, in effect, mutual funds) up from 21.5% in 1994.

The rise of the two centres reflects the search by big fund-management firms for the best tax and regulatory environments from which to operate. While other countries (notably France) have big domestic fund industries, the rise of international hubs is a sign that fund management is closer to a single market than most of the rest of Europe's financial sector. Industry experts reckon that more than half of fund assets in Europe are invested in cross-border products today. Yet for all the progress, fragmentation and inefficiencies remain.

The remaining blemishes matter because Europeans are showing a growing appetite for such investments. Fund assets under management rose by 22.8% in 2005, to euro6.6 trillion ($7.8 trillion), according to figures published this week by the European Fund and Asset Management Association (EFAMA), an industry group. The strong performance of equity funds, with returns up an estimated 27% last year, undoubtedly helped boost investors' interest.

EFAMA counted 30,831 funds at the end of last year, many more than in America. PricewaterhouseCoopers (PwC), a consultancy, reckons that less than one-fifth of those in Europe are truly cross-border funds. Many domestic funds are owned by big investment managers that are eager to attract investors across the region, but must still bear the costs of separate operations in each market.

"This cannot go on, we cannot continue having so many domiciles," says Jean-Baptiste de Franssu, head of the European business of Invesco, a big fund manager. His firm is boosting its presence in Luxembourg and Dublin. But even from there, if it wants to sell a fund across Europe, "it is a nightmare," he says. "It's costly, lengthy, and every country has its own ideas on what should be done."

Discriminatory withholding taxes (in which domestic funds are favoured over foreign funds), obstacles to fund mergers, and red tape inhibiting cross-border fund distribution all hinder a more efficient cross-border market. David Newton, head of PwC's financial-services tax practice, says that discriminatory taxes ultimately mean higher fees for investors. He sees a growing number of fund managers complaining to the European Commission about this discrimination.

The commission seems to be listening. Charlie McCreevy, the internal-market commissioner, is keen on knocking down the remaining barriers to the creation of a cross-border European market. A recent "green paper" on the subject by Mr McCreevy's staff was well received by the industry. Invesco's Mr de Franssu is optimistic that pressure from Brussels will eventually be felt in national markets, where entrenched interests are holding out against further integration. "The momentum is unstoppable," he says. "The question is not if, but when."

Cross-border investment is rising, but the market remains fragmented.

European Commission: Internal Market and services: Financial Services: Securities and Investment Funds: Asset Management http://ec.europa.eu/finance/investment/index_en.htm

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