During 2010, it appeared to many that high net worth individuals were going to escape the effects of the financial crisis relatively unscathed.
However, since then the financial crisis has finally caught with up with them as they suffered declines in wealth for the first time since 2008.
The latest Capgemini World Wealth Report, in association with wealth management firm Royal Bank of Canada, surveyed the figures surrounding the high net worth (HNW) and Ultra HNW (UHNW) community around the world. HNWs are defined as those with £640,000 in investable assets while UHNWs have £19m in investable assets.
The number of HNW individuals grew marginally in 2011 by 0.8 per cent to 11m, compared with significant growth of 8.3 per cent in 2010. However, total wealth fell by 1.7 per cent to £26tn compared to 9.7 per cent growth in 2010. This was the first fall in HNW wealth since the start of the economic crisis in 2008 when it fell by 19.5 per cent and was the second most volatile period for 15 years. The only region which did not record a fall in wealth was the Middle East which saw its wealth increase by 0.7 per cent to £1.1tn.
The report cited the decline in wealth came mainly from UHNWs whose assets were invested in less liquid and more risky assets such as hedge funds, private equity and commercial property. The population of UHNWs declined by 2.5 per cent to 100,000 and their wealth declined by 4.9 per cent.
Regarding country-based wealth the UK retained its spot as the country with the fifth highest population of HNWs, though it slightly declined from 454,000 to 441,000, a drop of 2.9 per cent. In contrast, Ireland saw a 16.8 per cent rise in its HNW population after seeing growth after the country's austerity measures.
USA, Japan, Germany and China were in the top four places ahead of the UK with the top three countries accounting for over half of the total HNW population. Japan, Germany and China all reported rises of more than three per cent in their HNW population although USA saw a decline of 1.2 per cent from 3.10m to 3.06m.
In fact, the entire top 11 countries remain unchanged from 2010 with the only change being South Korea replacing India in twelfth place. India, which only joined the top 12 in 2010 after seeing growth of 20 per cent, saw its HNW population decline by 18 per cent after an equity-market collapse. Hong Kong was also badly hit with its HNW population falling by 17 per cent.
The Asia-Pacific region was the largest region for HNWs population for the first time, reaching 3.4m in 2011, but the aforementioned losses in India and Hong Kong meant total wealth was lower than USA at £6.8tn compared to £7.3tn.
George Lewis, group head of RBC Wealth Management, said: "While more people surpassed the £640,000 disposable income level in 2011, the aggregate wealth of high net worth individuals declined overall, as market volatility took its toll.
"It is significant that for the first time this year there are now more high net worth individuals in Asia-Pacific than in any other region. However, losses in key markets such as Hong Kong and India meant wealth contracted in Asia Pacific overall."
Impact for wealth management firms
As wealthy individuals watch their wealth decline before their eyes, this has presented a problem for firms in making it harder for wealth management firms to drive client loyalty. This has been especially the case for those firms where performance is tied to the markets.
While wealth management clients are traditionally seen as being resilient and better armed to ride out market fluctuations, persistent falls inevitably weaken client trust and adviser loyalty. Not only do clients leave, successful advisers also become harder to retain as they seek higher remuneration.
Problems such as the Eurozone crisis and the Arab Spring have meant investors have been increasingly wary of investing in turbulent markets and traditional sectors such as equity and commodities have under-performed. The best-performing sector during 2011 was fixed income but unfortunately many investors withdrew their holdings in this sector during 2010/11 in favour of equities.
As well as problems with high market volatility, wealth management firms are operating within a widespread public backlash against the financial services industry and greater regulatory oversight. The report even namechecked the RDR as a regulatory measure affecting funding costs.
"The aim of regulators has been to reduce systemic risk and protect individual investors. The result for firms, however, has been higher cost- in the form of both increased compliance and indirect economic effects. For example, some regulatory measures have affected funding costs and some are even targeting business models.
"The UK's Retail Distribution Review, for one, is designed to improve transparency and reduce fees, but essentially shifts the industry income structure from a primarily commission-based approach to a more fee-based approach."
Wealth management firms were also cited as becoming more expensive to run as costs such as compliance costs and adviser remunerations have risen faster than the growth of assets. The fact most investors are seeking products which minimise risk and preserve capital has similarly failed to help firms generate significant fees.
Another problem for firms is the growing number of young HNWs, many of who will want to be dealt with by an adviser of a similar age. Unfortunately, while HNWs are getting younger, advisers are getting older. If their ideologies do not resonate with these younger clients, clients' needs could go unmet. The way that one adviser is usually assigned to HNW clients puts a premium on experienced advisers and does not give newer advisers the opportunity to gain HNW experience.
The report suggests that older advisers should train up younger advisers and allocate them an appropriate category of clients to ensure well-matched client relationships. Training could involve technical skills and 'soft skills' to engage with HNWs. Firms could even develop a younger adviser workforce specifically for younger HNWs to work with.
What to do
The high volatility surrounding the markets means advisers will need to be able to adapt to a 'new normal' where they find new ways to add value to the client relationship. Focusing on providing good performance is no longer enough when the markets are not performing well.
It suggested wealth management firms adopt a Financial Planning approach to the client relationships, stating that focusing on assets would only yield 'sub-optimal results'.
Identifying clients as 'affluent' or 'wealthy' does not take into account risk, aspirations, product preference, age etc, all factors which will influence a client's needs.
"The current asset-based approach to segmenting clients yields sub-optimal results, because it does not take account of key drivers of investing behaviour such as risk appetite and financial aspirations. Using a more multi-dimensional approach, firms will be better positioned to customize their offerings, pitch strategy and provide touch-points according to the client's segment.
"This is more likely to generate a higher return on effort, more productive use of adviser time and higher relationship-conversion and client acquisition rates- potentially at lower cost."
To demonstrate what it means, the report has created a 'wealth management value chain' which shows how the whole firm can be instrumental in scaling up the firm.
Beginning with segmenting clients based on risk profile, assets etc it moves through to client profiling and identifying wealth management needs. Next step is providing advisory services by developing a plan and solutions based on client needs and the chain ends with maintaining and evolving the client relationship. Most important is the creation of a client segmentation model to identify and customise critical elements for different markets. Failure to do this or to standardise processes too much defeats the purpose of the service as clients are specifically looking for a personalised approach from their adviser.
Due to high costs, firms will not necessarily be able to scale all of these parts but the model is a good example for 'next-generation' business or those setting up new firms as it offers flexibility in the changing landscape.
Technology can help to standardise processes but should be used for a viable purpose which will give the adviser more time with clients and speed up response time to client demands.
Summary for wealth management firms:
• Maintain the optimum level of client-adviser face time. Expanding client lists should not be at the expense of time with existing clients. While using technology can speed up communication and frequency, it cannot replace face-to-face time with clients.
Reinforce client trust and make it less vulnerable to market cycles by offering other 'value-added' services. This will also help to increase client referrals and grow revenues. As above, the trust required for client referrals comes from multiple interactions which show the client the adviser understands their needs and can develop a plan which reflects their priorities.
• Ensure the management team is stable and experienced and understands the changes in the industry. Management problems have occurred when firm hire executive from outside the wealth management industry or management are distracted from long-term strategies by short-term investment opportunities and profits.
• Pool product specialists together into a knowledge base of various investment products. This enhances advisers' effectiveness in their own fields and provides a way to share expert resources and opinions. This means advisers have more time to spend on key advisory activities and clients are happier knowing they have access, via their adviser, to a wealth of specialist knowledge.
• Want to receive a free weekly summary of the best news stories from our website? Just go to home page and submit your name and email address. If you are already logged in you will need to log out to see the e-newsletter sign up. You can then log in again.