What Is an Asset Management Company?
- NORTHWESTERN MUTUAL
- March 25, 2024
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Key takeaways
- An asset management firm combines funds from multiple clients, strategically investing and overseeing these funds to offer a range of investment opportunities. This approach facilitates the creation and management of diversified portfolios for both institutional entities and individual investors, simplifying the investment process.
- Asset management firms frequently create and manage mutual funds, exchange-traded funds (ETFs), and index funds. They also facilitate access to bond markets, real estate investments, private equity, and other financial instruments.
- Entrusting investments to an asset management company can streamline portfolio diversification and grant investors access to opportunities they might not otherwise reach independently.
In 2020, the global asset management industry experienced an 11 percent growth, now totaling over $100 trillion in assets managed by various firms within the sector, as outlined in a recent analysis conducted by the Boston Consulting Group.
The magnitude of this industry’s size can be difficult to grasp, particularly considering the presence of hundreds of asset management companies solely within the United States.
But what exactly defines an asset management company, and how does it distinguish itself from other financial service providers accessible to consumers? We’ll delve into the functions of asset management companies, their operational mechanisms, and present some advantages and disadvantages they offer, enabling you to determine their relevance in your financial strategy.
What does an asset management company do?
An asset management company (AMC) is a financial institution that aggregates funds from clients and employs those funds to execute a diverse array of investments for both institutional and retail investors. Asset management companies are commonly known as money managers or money management firms. This category encompasses hedge funds, private equity funds, and emerging fintech companies specializing in automated investment solutions.
What does an asset management company do?
The criteria for engaging with an asset management company can vary depending on the type of company. Investments such as index funds, exchange-traded funds (ETFs), and mutual funds, which are constructed and managed by asset management firms, are generally open to all investors. However, many of these investment opportunities may require a minimum initial investment, which investors must meet to purchase shares of the fund.
On the other hand, some asset management companies exclusively offer investments accessible to accredited investors and/or Qualified Purchasers (QPs). These individuals meet specific income and/or net worth criteria or possess professional qualifications indicating their expertise and comprehension of complex assets. Hedge funds and private equity funds, for instance, typically limit access to accredited investors or QPs.
How do asset management companies work?
Asset management firms collect funds from investors and utilize them to make a diverse array of investments. These firms commonly create and manage mutual funds, exchange-traded funds (ETFs), and index funds, while also facilitating access to bond markets, real estate, private equity, and other investment options. Essentially, they develop financial products that simplify the process of building and overseeing diversified investment portfolios for both institutional and individual investors.
Asset management companies specialize in creating products or technologies that streamline the investment process. Instead of clients establishing their own bond trading desk or managing a portfolio comprising numerous stocks, asset management firms utilize their scale and expertise to design funds that handle these investments. Alternatively, they may offer technology granting access to these markets. In return, asset management companies may impose fees on the funds they manage for clients. As some asset management firms are significantly large, they often capitalize on economies of scale to reduce costs for clients, enabling certain firms to provide fee-free funds or commission-free trading.
Moreover, in addition to investable products, most asset management firms offer access to a variety of third-party and proprietary research and forecasting tools to assist investors in making well-informed decisions regarding their portfolios. These tools may include retirement calculators, automated portfolio rebalancing systems, and more.
Whether it’s a Fortune 500 corporation or an individual investor embarking on their investment journey with a modest sum, there exists an asset management company suited to their needs, underscoring the vast scale of this industry.
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How does an asset management company differ from a wealth management company?
Asset management and wealth management are often used interchangeably, but there’s a subtle distinction in their focus.
Think of an asset management company as akin to a hardware store in the financial world. If you’re skilled and can build your own house, you can find every tool and material needed for the project at a hardware store. Similarly, an asset management company offers a wide range of financial tools for building an investment portfolio. It’s a product-oriented business, providing various investment instruments to grow wealth, assuming you have the expertise to utilize them effectively.
However, if you require more assistance, that’s where a wealth management firm comes in.
Consider a wealth management firm as the financial equivalent of a general contractor. While they acquire tools and materials from a hardware store (often having their own equipment), they oversee the construction site, manage the budget, and coordinate subcontractors for their clients. Likewise, a wealth management firm aims to handle various aspects of your financial life, beyond just investment portfolio construction.
In addition to managing investments, a wealth manager protects assets, devises multigenerational plans tailored to you and your family, and may incorporate non-market-related financial tools like whole life insurance for added flexibility and stability. They offer a broader range of services, such as business succession planning, coordination with legal and tax advisors, financial advice, and estate planning.
Wealth management is a personalized, diversified service that extends beyond investing capital into assets. For instance, a wealth manager may liaise with your attorney or accountant to ensure alignment with your plan, implement tax optimization strategies, or guide you through a business succession plan. They consider your entire financial life to provide flexible options for growth, protection, and enjoyment of your assets. Often, the relationship between a client and their wealth manager spans decades.
While both asset management and wealth management companies may offer similar services or financial products, the difference lies in their specialization, which dictates where talent and resources are allocated.
Pros and cons of asset management companies
Prior to deciding to invest in an asset management company, it is crucial to understand its strengths and weaknesses.
What are the benefits of asset management?
Economies of scale
Utilizing a larger asset management company (AMC) offers cost benefits. The AMC’s operational expenses, such as trade execution, are significantly lower compared to those for individual investors. This cost efficiency provides investors with access to investments that they might not have been able to access independently
Specialized expertise
When constructing and overseeing a portfolio, asset management companies frequently employ specialists in various market sectors to inform the fund’s strategy.
Legal liability
The majority of asset management companies operate as fiduciaries, meaning they are obligated by law to prioritize the best interests of their clients. Failing to fulfill this duty can lead to criminal liability, providing investors with a level of protection.
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What are the drawbacks of asset management?
Management fees
Irrespective of the performance of a fund, investors typically incur a fund management fee. Management fees for ETFs and index funds are usually minimal (with some even offering no fees). On the other hand, fees for mutual funds, private equity funds, and hedge funds tend to be considerably higher.
High account minimums
Hedge funds, private equity funds, and mutual funds typically necessitate investors to meet account minimums to initiate investments. For mutual funds, this requirement generally ranges from a few hundred to a few thousand dollars. Conversely, hedge funds and private equity funds may stipulate minimum investments ranging from $100,000 to over $1 million. However, exceptions exist, with some funds having no minimum investment thresholds.
No guarantee of outperforming the market
While the objective of most hedge funds, private equity funds, and many mutual funds is to either mirror an index or surpass a specific benchmark, there’s no assurance of achieving this—regardless of whether you invest through a wealth management firm or an asset manager. This implies that you might be paying a high management fee without experiencing outperformance.
Should you use an asset management company for your plan?
As individuals venture into investing, they are likely to engage with an asset management company in some capacity. For instance, index funds and ETFs can serve as excellent tools for new investors to swiftly diversify their portfolios, as well as for seasoned investors seeking to broaden their investment mix. Moreover, hedge funds and private equity funds may present growth opportunities that are not readily available elsewhere for suitable investors.
However, it’s crucial to consider how each investment decision aligns with your broader financial plan. A financial advisor from Northwestern Mutual can assist you in understanding how various financial options, encompassing both traditional and nontraditional investments, can contribute to the growth of your wealth over time. They can also collaborate with other aspects of your financial plan to help you achieve your life goals.
All investments involve some degree of risk, including the potential loss of the principal amount invested. No investment strategy can ensure a profit or shield against losses
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