How technology is reshaping the funds world

Today, according to Fortune, 42% of Generation Z investors own crypto, yet just 11% have a retirement account. It is this generational cohort which asset managers are desperately trying to tap into.

Rehan Ahmed, CEO, Marketnode, said asset managers are scoping out new and innovative ways to win over these digital natives. Many of them eschew the more traditional fund distribution channels, namely brokers, IFAs or trading platforms, in favour of mobile apps, social media ‘finfluencers’ and crypto exchanges. “Tokenising funds is one way asset managers could broaden their distribution networks,” added Ahmed.

Through tokenisation and the fractionalisation of fund units, minimum investment thresholds can be lowered. Not only does this democratise the investment process, but allocators can also trade 24/7 via a Blockchain, a far cry from today’s world of subscriptions and redemptions. 

Angie Walker, Global Head of Banking and Capital Markets, Chainlink Labs, said Swift, UBS Asset Management and Chainlink, have successfully settled tokenised investment fund subscriptions and redemptions over the Swift network using Blockchain and smart contract technology.

By facilitating Straight-Through Processing (STP) of the payment leg without needing global adoption of on-chain payments, the subscription and redemption process can be fully automated.

Using Blockchain and smart contracts can also make it easier when conducting Know Your Customer (KYC) and Anti Money Laundering (AML) checks, further speeding up the investor onboarding experience.

Just as tokenisation can make money market funds more accessible for ordinary investors, the same is true for illiquid assets, such as infrastructure, real estate or private equity, products which have historically only been targeted at large institutions.

Tokenisation, along with digitalisation of subscription, redemption and KYC processes, could prove decisive in helping the funds industry raise money from younger, digital savvy investors. 

Through tokenisation, money market fund tokens can be posted as collateral to say, a CCP or a bilateral trading counterparty, in real-time and without having to redeem the cash first. With less High Quality Liquid Assets (HQLA) trapped at CCPs or on bank balance sheets, liquidity will be freed up, allowing for more investment opportunities to be realised. 

According to one panellist, had money market fund tokenisation been available at the time, it would have eased a lot of the counterparty risk and liquidity pressures seen during the Covid crisis and the 2022 UK Gilt market episode.

However, tokenisation will take time to permeate through the industry. Tokenisation is an evolutionary step, rather than a revolution for the funds industry.

For tokenisation to be successful, firms need to choose the right use cases first. 

“Tokenisation has many useful applications for funds, private markets and structured products, but it does not make sense for FX or equities, while bonds are also well covered. You must get the asset class right first before building the technology stacks around it,” said Ahmed.

Innovation is facilitating other operational benefits.

For instance, innovation is helping investors and intermediaries keep better tabs on their portfolios and transaction lifecycles. “Through tokenisation on a blockchain, investors can gain much greater transparency into the progression of their assets over time,” said Walker. 

Together with portfolio optimisation, this can also enhance firms’ risk management practices too. 

Corporate action processing is also being improved through digitalisation. According to Chainlink, corporate actions typically cost the average investor $3.2 million each year, while errors during corporate action processing have caused 19% of investors to suffer losses in excess of $1 million.

“By partnering with Euroclear, Swift and a number of asset managers and custodians, we conducted an experiment whereby we harnessed Large Language Models (LLMs) and Blockchain to drive efficiencies in corporate action processing by converting non-structured, non-machine readable data into structured data,” said Walker.

By feeding unstructured corporate action data into multiple LLMs, consensus can be reached and AI hallucination risks mitigated. This golden source of information is then transmitted onto a Blockchain in real-time, before being distributed onwards to other Blockchain or off-chain systems. 

By having access to more accurate information, corporate action error counts can be reduced, enabling financial institutions to better manage their costs and risks.

Many are doing so either by launching Exchange Traded Funds (ETFs) or converting existing mutual fund products into ETFs. According to ETFGI, ETFs have seen tremendous growth lately, and are currently looking after a record $15.50 trillion, while actively managed ETFs are also gaining momentum, having accumulated a $1.17 trillion haul.

Investors are buying ETFs for several reasons. The first is cost, insofar as ETFs are significantly cheaper than actively managed funds. Allocators are also using ETFs as they offer access to asset classes previously only available to them via active managers, a point made by Jo McCaffrey, Chief Strategy and Product Officer, Asset Management, Legal & General. 

For cash-hungry asset managers, launching an ETF could help them raise additional capital at a time when fundraising conditions have been difficult. 

In particular, asset managers have spotted a potential commercial opportunity right here in Europe, where ETF adoption rates lag well behind those in the US. “As a result, we are seeing more managers porting ETF strategies which worked well in the US into Europe,” noted Breda Sullivan, Head of Depositary, Custody & Banking International, U.S. Bank, Europe.

Other asset managers are doubling down on private markets.

According to Bonart, managers are building customised products for clients incorporating both liquid and illiquid assets, but also traditional and alternative investment strategies.

Together with offering better returns, at least when benchmarked against public markets, private markets are benefiting from growing retailisation, as wealth managers and affluent investors add semi-liquid funds, such as ELTIFs, to their portfolios.

In fact, as says Prequin, retailisation is one of the main drivers behind why private equity’s AuM is expected to more than double from $5.8 trillion to $12 trillion by 2029.

While retailisation is a positive development for the industry, it will require some managers, especially those with a background steeped in alternatives, to refine their distribution models and sales techniques, so that they appeal to retail audiences.

“New distribution channels, such as digital platforms, are becoming more ubiquitous. As retail investor participation increases, firms will need to think about how they distribute their products as the existing models do not serve all retail investors well,” said Prendergast. 

By adopting a sensible approach to both digitalisation and strategy diversification, asset managers will be able to position themselves for growth moving forward, at a time when competition is becoming increasingly intense.