© Copyright 2000 Rogers Media. The following article first appeared in the November 2000 edition of BENEFITS CANADA magazine.

The Top Forty Money Managers of 2000

Canada's 40 largest pension asset management firms grew their business an average 18% during the year ended June 30, 2000. Some deep-pocketed Americans are taking notice.

By Kevin Press

BENEFITS CANADA's 24th annual survey of the country's pension asset managers charts an industry riding an extraordinary domestic equity market to strong double-digit increases in assets. But more than that, the year ended June 30, 2000 saw a bevy of mergers, acquisitions and partnerships in Canadian money management circles. Five of last year's Top 40 Money Managers inked a deal of some kind. Several smaller players followed suit.

A deal between Perigee Investment Counsel Inc., one of the most successful Top 40 money management firms, and Legg Mason in the U.S. appears to be a sign of things to come. Perigee's management, which had just steered the organization through its first full year as a public company, went shopping for a new international partner on the direction of its board of directors.

"In looking at the dynamic in the Canadian market, what with the relaxation of the Foreign Property Rule and the obviously increasing appetite among Canadian plan sponsors for international assets, we felt it best to turn ourselves into a global manager," says Alex Wilson, Perigee's chairman and chief executive officer in Toronto.

Perigee shareholders approved Legg Mason's acquisition May 18. As much as any other, this deal illustrates what could lie ahead for more than a few Canadian money management firms. The need to satisfy a growing demand for international investment expertise meant an end to Canadian ownership at Perigee.

By June 30, four of the five deals struck by Top 40 managers involved U.S. firms (see "M&A: Nov. 1999 to Nov. 2000,"). That has at least one prominent money manager worrying about the future of Canada's investment management industry.

"It will be extremely sad if these Canadian firms, mostly based in Toronto and Montreal, see their sphere of investments reduced to the domestic market," says Michel Nadeau, president, CDP Global Asset Management and deputy general manager at the Caisse de dépôt et placement du Québec in Montreal. "If the managers in Canada, bought by the U.S. companies, just manage domestic equities, all the global investments will be moved to the U.S. head office."

Barbara Palk, vice-chair of TD Asset Management Inc. in Toronto says the increase to the Foreign Property Rule--to 25% this year and 30% in 2001--has radically changed the landscape of our domestic industry.

"It's been pretty cushy for Canadian money managers for a long time," she says. "Now some Americans are coming onto the Canadian playing field. It was only a matter of time, but for a lot of Canadian managers it is a surprising wake-up call."

A POINT OF ENTRY

But while more Canadian management firms were in play this year, that is not to say the Americans see the pension business here as a strategic priority. In fact, this business may prove to be nothing more than a point of entry for firms out to grow their Canadian retail presence.

That's the view of Larry Lunn, chief executive officer and chairman of Connor, Clark & Lunn Investment Management Ltd. in Vancouver. "The Americans are interested in the retail side up here," he says. "There isn't a big appetite for institutional managers . . . [But] if an American can get some presence at a reasonable price, then he's going to do that."

No shock there, particularly given the performance of Canadian equity markets over the last year. The Toronto Stock Exchange 300 Total Return Index was up 47.4% year over year as of June 30, 2000. The index broke through no less than three milestones during the 12-month period--closing above 8,000 for the first time Dec. 16, 9,000 for the first time Feb. 4 and 10,000 for the first time Mar. 24.

So while the Americans' interest in the Canadian pension business is part of a larger, more long-term strategy. The fact is that, looking north, they see an industry in the midst of a remarkable run.

Canada's Top 40 Money Managers enjoyed outstanding growth in pension assets under management this year (up 18% for the year ended June 30, 2000).

This year's growth rate certainly compares well with last year's 6.2% increase. That figure was a disappointment compared to the 13% growth enjoyed for the year ended June 30, 1998, the 29.5% jump as of 1997 and the 15.6% growth recorded in 1996.

Over the last five years, Canada's Top 40 Money Managers have increased their pension assets under management an average 16.5% per year. That's going to get the attention of international players no matter what their long-term business plans are.

EVEN GROWTH

Growth among the entire money management industry was comparable to that of the Top 40. We surveyed 167 firms this year, compared to 153 in 1999. Total pension assets is $477.6 billion (all figures in Canadian funds) as of June 30, 2000. That's a 17.3%, or $70.4 billion, increase over last year's industry total.

There are 74 firms managing $1 billion or more in Canadian pension assets. That's a record--up from 69 in 1999 and 70 in 1998. The industry also set a record for the number of firms managing $10 billion or more in pension assets. There are 14 this year, compared to 12 last year.

Several Top 40 managers are reporting extraordinary year-over-year gains (see "The Movers," page 34). GE Asset Management Incorporated is up 112.7%, which puts them at No. 34 this year. Two firms known for their indexing expertise, TD Asset Management Inc. and Barclays Global Investors Canada Limited, saw increases of 62.3% and 50.8% respectively. That's due, only partly, to Canada Pension Plan business won during the year.

There are losses to report too. Seven of this year's Top 40 posted negative numbers as of June 30, 2000 (down from 11 in 1999). J.R. Senecal & Associates Investment Counsel Corp. is reporting the largest percentage drop, down 29.9%. That moved the firm to No. 36 from the No. 30 spot last year. Gryphon Investment Counsel Inc. continued its slide too, down 14.6% this year to No. 40. The firm is managing $2.8 billion in pension assets. Just four years ago, Gryphon was ranked sixth in the country with $9.7 billion in pension assets under management.

Four firms not on 1999's Top 40 made the list this year: GE Asset Management (No. 34), Addenda Capital Inc. (No. 35), Seamark Asset Management Ltd. (No. 38) and Brandes Investment Partners, L.P. (No. 39). They replaced Integra Capital Management, Sanford C. Bernstein & Co. Inc., Co-operators Investment Counselling Ltd. and Brinson Partners Inc.

Remember these numbers are as of June 30, 2000. The business lost at RT Capital Management Inc. following this summer's high closing scandal (estimated at approximately $1 billion) occurred after that date.

$1 TRILLION STRONG

As predicted in last year's report, total assets managed among this universe of firms topped $1 trillion for the first time. As of June 30, 2000, these 167 companies are managing $1.1327 billion in aggregate. That's a 20.2% ($190.7 billion) increase over the previous year.

The 20 largest managers did better than the industry average however. They posted an average 30.4% increase during the year (see "The Top 20-Total Scene," page 38).

Last year's report highlighted a slowdown in the mutual fund business. After strong year-over-year growth numbers throughout much of the 1990s, the business posted only a 3.5% increase in mutual fund assets during the year ended June 30, 1999. We went so far as to predict that: "One trend that is not likely to continue is the extraordinary growth in mutual fund assets."

This year's numbers see us revisiting that call. The business is up a healthy 28.6% ($80 billion) as of June 30, 2000 (see "Other Business,").

Endowment fund management is another area to keep an eye on. After a respectable 13.6% increase last year, the business grew a full 29.6% ($6.2 billion) this year.

You're going to be hearing a lot about Canadian endowment funds in the coming years. As institutions count less on government funding, and more on financial support from philanthropists, this business will continue to mature. It will grow to become a major force in the Canadian asset management industry--not unlike the case in the U.S.

Rounding out the industry, corporate assets are up 31.7% ($6.9 billion). Insurance company assets rose 30% ($19.8 billion). Pension pooled fund assets increased 26% ($30.6 billion). Non-tax assisted trust fund assets are up 16.8% ($686.2 million). And pension segregated fund assets rose 12% ($29.8 billion).

There are two numbers that will raise eyebrows. High net worth assets increased only 8.2% ($4.5 billion) during the year, compared to the previous year's 29.7% increase. This line of business grew faster than any other in last year's report. This year it is second to last.

And insurance company segregated fund asset management rose just 2.6% ($641.6 million) this year. That's the lowest growth rate reported for any business line. Last year it ranked second highest, with a jump of 23.3%. Chalk that up to a strong domestic equity market.

For all the strong numbers, this has been a perplexing year, particularly for value managers. Where pension plan sponsors have traditionally leaned toward a value bias in their portfolios, growth management has strongly outperformed.

But Tom Bradley, president and chief executive officer of Phillips, Hager & North in Vancouver, says value managers won't always be out of sync with the market. "Over the last 18 months to two years, the value managers have had a tough go," he says. "[But] the ones that articulate their style well, and whose clients really understand why they're doing what they're doing, are hanging in there."

The year in Canadian equities also made passive management look attractive. "The indexers were the big winners," says Bradley.

"The only thing that may slow the indexers down is the whole Nortel issue--people not wanting to buy an index that's 35% in one stock," he says. "Our client base has backed off moving anymore money towards indexing, and indeed in some cases is pulling money out."

As was widely reported, Nortel Networks so strongly outperformed the market over the year that it grew to dominate the Toronto Stock Exchange (TSE) 300. It was such an issue that pension plans sponsors began to question the value of the index as a benchmark.

Palk at TD Asset Management says that the solution--a capped index--has proven successful. The client's Nortel holding is set at 10%. It may drift as high as 15%, but if it hits that mark it is immediately reset back to 10%. The excess money is invested among the other stocks on the index, according to their weighting.

"We're seeing people move into our capped index fund," she says. "We are seeing many money managers revert to the capped index as their benchmark instead of the TSE 300. Those that haven't got permission from their clients or consultants yet are still showing it alongside the TSE 300."

Larry Lunn foresees a potential problem on this issue however. "The industry is cyclical, to the extent that it tends to respond to trends," he says. "Indexing works particularly well when markets are narrowing, when you have fewer stocks outperforming the index."

By Lunn's estimation, that phenomenon peaked in the first quarter of 2000, when only about 25% of stocks were outperforming in any of the major indexes. These were primarily technology stocks. But as markets continue to broaden, and those technology stocks shrink in value, active management begins to work more effectively again. Lunn believes we're seeing that right now.

"Active management is going to start to outperform," he says. "But the plan sponsors are behind the curve on that. They're not going to move to active management until we see the results . . . They did the same thing in the real estate cycle, they did the same thing in the oil and gas cycle and they're going to do it again here."

OVERWEIGHTING EQUITIES

Each year we ask balanced managers to suggest an asset mix for Canadian pension funds. For the first time since 1997, this year's average features a heavier weighting in Canadian equities than in Canadian bonds (see "The Right Mix," page 47).

The managers are recommending 34.8% in Canadian equities (up from 33.6% in 1999), 34.2% in Canadian bonds (down from 36.9%), 12.7% in U.S. equities (down from 12.9%), 9.5% in non-North American equities (up from 7.9%), 3.9% in cash (down from 5.1%) and 2.9% in real estate (up from 0.6%).

According to Michel Nadeau at the Caisse, get ready for a stronger focus on alternative investments too. He believes it will be difficult for money managers to outperform in the short-term in traditional asset classes.

"The age of hedge funds is probably coming," he says. "I believe that hedge funds will be the only place--along with real estate--where it will be possible to get double-digit returns in the next 12 months."

Nadeau is also focussed, like others, on international markets. "Our strategy is to become a global asset management company," he says. "Our view now is not on country, it is on sector. If you don't like Alcan, you should not buy Noranda. You should buy a U.S. aluminum company, or you should buy the best aluminum company in the world."

Which brings us back to this year's merger and acquisition buzz. Being part of a global firm, or at least gaining access to global expertise through some kind of partnership arrangement, is widely considered a priority.

"There's probably never been a more challenging time than today to be a Canadian money manager," says Bradley. "It's going to be an uphill battle for Canadian firms to offer international equity expertise."

And while U.S./Canadian deals provide immediate solutions, this may not be the end of it. One of the most interesting trends is emerging on the European horizon. That continent's major players are now eyeing potential U.S. acquisitions.

It would appear we are going to get a reminder of just how small Canada is on the world economic stage.

*** ***

THE YEAR OF THE DEAL

Mergers, acquisitions and partnerships are the order of the day. Here's why.

By Doug Burn

The pace of mergers and acquisitions in Canada's money management industry has become frenetic in the last few months as the buyers race to strike deals before all the good acquisition candidates are gone.

Globalization of the financial services industry is the principal reason for the consolidation trend. "Firms such as ourselves must have access to global research and analysis to compete for clients today," says Richard Neault, president, Elantis Investment Management Inc. (formerly Canagex Inc.) in Montreal.

In May, the firm formed an exclusive partnership with Sanford C. Bernstein Inc. in New York. "Today you have a choice of selling out to the major players or forming partnerships," he says.

Bob Tattersall, chief financial officer of Howson Tattersall Investment Counsel Limited in Toronto says that cost saving is another major driver of consolidation. "There are great economies of scale to be gained at the back-end on administration and support services. It's relatively easy to rationalize these operations." Cost reduction is as much a necessity as an opportunity in the industry, he adds, explaining that intense competition for clients is squeezing profit margins.

There are six key factors driving these deals:

1. As the allowed foreign content portion of registered Canadian pension funds rises, pension plan sponsors and members demand greater expertise of their Canadian money managers to offer and manage U.S. and international investments.

2. Only the largest money managers have sufficient resources to track and analyze financial developments on a global basis and in a timely fashion.

3. Pension plan sponsors are seeking to consolidate their financial assets among fewer money managers so as to negotiate the best possible deals on management fees.

4. Money managers, to accommodate their clients' demands for broader product selection and reduced fees, must grow their assets under management to obtain the required expertise and the economies of scale to reduce costs.

5. Although money managers continue to grow their assets under management through the attraction of new clients and investment returns, the pace has slowed. Those that fail to grow through acquisitions and partnerships cannot match the economies of scale of those that do, and as a result may become uncompetitive as larger money managers drive down management fees.

6. Some founders of independent firms want to sell out before a market downturn and/or further pressure on management fees reduce the value of their businesses.

Doug Burn is a Toronto-based freelance writer.

TOP 40 SNAPSHOT

• Pooled fund assets rose 26% this year, to $148.4 billion as of June 30, 2000. Firms surveyed managed $117.8 billion in pension pooled funds as of June 30, 1999, and $106.6 billion the year before.
• Passive management of pooled fund assets increased significantly among those firms reporting a breakdown. This year $42.4 billion of the total $109.6 billion (38.7%) is managed passively, compared to $28.5 billion (35.1%) of last year's $81.1 billion total.
• Breakdown of ownership structures:
  • wholly-owned by principals: 40.6% (represents $110.6 billion in pension assets)
  • partnership between principals and a financial institution: 14.8% ($91.3 billion in pension assets)
  • subsidiary of a financial institution: 28.4% ($158.5 billion in pension assets)
  • publicly held company: 4.5% ($25.1 billion in pension assets)
  • other: 11.6%
• The Top 40 Money Managers of 2000 report is based on responses from 167 firms.
• As predicted in last year's report, total assets under management topped the $1 trillion mark this year. Total assets managed by the 167 firms in this year's survey reached $1.1327 trillion by June 30, 2000. The industry managed $942 billion as of June 30, 1999.
• The management of high net worth assets among the managers surveyed grew moderately. This category (split between non-prospectus mutual funds and private portfolio management assets prior to last year's report) rose from $55.1 billion in 1999 to $59.6 billion as of June 30, 2000. That's an 8.2% increase.
• Mutual fund asset growth among pension fund managers grew more strongly this year than last. Money management firms report a total of $359.3 billion in mutual fund assets for the year ended June 30, 2000. That's up 28.6% ($80 billion) from the previous year's $279.3 billion.
• Canadian pension assets under external management reached $477.6 billion as of June 30, 2000. This represents a 17.3% (or $70.5 billion) increase over the previous year. That's a strong growth rate relative to last year's increase of just 6.2%. The industry saw 13% growth during the year ended June 30, 1998, and 29.5% the year before.
• A record number of firms are managing $1 billion or more in Canadian pension assets. As of June 30, 2000, 74 managers had topped that mark. In 1999, 69 firms managed $1 billion or more in pension assets. There were 70 in 1998 and 60 in 1997.
• There are 14 firms managing $10 billion or more in pension assets, up from 12 last year and 11 the year before that.
• Index returns for the one-year period ended June 30, 1999:
• Toronto Stock Exchange 300 Total Return index rose 47.4%.
• Scotia Capital Markets Universe Bond Index rose 4%.
• Standard & Poor's 500 Total Return index rose 7.4%.
• Morgan Stanley Capital International EAFE Total Return index fell 1.9%.
• None of the top 10 firms are reporting a decrease in pension assets under management this year.
• This year's top 10 firms manage 24% more pension assets than last year's top 10 ($218.7 billion this year compared to $176.5 billion in 1999). The top 10 firms in the 1998 study managed $161.6 billion in pension assets.
• Growth among the top 40 money managers rose sharply this year. The firms grew by 18% ($60.2 billion) for the year ended June 30, 2000. That's up from the 7.4% growth rate seen over the previous year.
• The top 40 cut-off point held steady this year. The 40th largest money management firm had $2.8 billion in pension assets under management. The 1999 cut-off was $2.7 billion. It was $2.3 billion in 1998.
• There are four new entries on the top 40 list this year. The highest ranking is GE Asset Management Incorporated, at No. 34. It's followed by newcomers Addenda Capital Inc. at No. 35, Seamark Asset Management Ltd. at No. 38 and Brandes Investment Partners, L.P. at No. 39.

*** ***

THE TSE 299

By Doug Burn

The TSE 300 rose 42.8% between June 1999 (7010.07) and June 2000 (10195.45), exclusive of dividends. But aside from investors that bought Nortel Networks or the index, few earned that much. That's because Nortel accounted for so much of the gains. Those that bought Nortel at $31.70 in June 1999 and sold in June 2000 at $102.70 would have realized a staggering 223% return on their investment.

The TSE 299 (the TSE 300 minus Nortel) rose a respectable but less spectacular 13.5% exclusive of dividends between June 1999 (6701.78) and June 2000 (7604.4). While the TSE 300 and Nortel experienced declines in four of the 12 months, the TSE 299 never had a month-over-month decline.

The TSE 299 was created by UBS Bunting Warburg in December 1998 to distinguish the overall growth in TSE 300 absent the impact of Nortel. The firm began with a TSE 298 that excluded Nortel and BCE Inc., its dominant shareholder. BCE was added back to create the TSE 299 when it spun off its interest in Nortel.

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