Invesco thrust into Europe’s ferocious ETF war

Invesco’s move to snap up Source, the London-based exchange traded fund provider, has thrust the US asset manager into the centre of an increasingly ferocious battle across Europe’s passive investment industry.

European fund managers now face another formidable US competitor in addition to the existing heavyweights BlackRock and Vanguard, which are pursuing a cut-throat ETF price war as they expand their presence in Europe.

Atlanta-based Invesco already ranks as the fourth-largest ETF manager globally, but historically lacked any meaningful presence in the European market.

It solved that problem last month with the completion of “Project Monument”, the code name for its secret plan to acquire London-headquartered Source.

“Given that Invesco’s passive exposure is primarily US focused, this [deal] should help it gain an immediate foothold in the rapidly growing European ETF market,” says Brennan Hawken, an analyst at UBS, the investment bank, in New York.

He adds that the deal was important for Invesco ahead of the introduction of Mifid II, the European rules that will transform how both asset managers and financial advisers operate. “These rule changes could have [a significant impact] on [Invesco’s] large active business in the region,” Mr Hawken says.

Under the rules, which are due to come into force in January, asset managers in Europe will be banned from paying commissions to independent financial advisers in return for product recommendations. Passive fund providers, which traditionally do not pay commissions to advisers, expect the new regime will enable them to win more business.

The terms of the Source acquisition were not announced, but Martin Flanagan, the chief executive of Invesco, says the price tag was “substantially less” that the $400m- $500m suggested in initial media reports.

Source ranks as the seventh-largest ETF manager in Europe, with assets of $25bn, but it has struggled to achieve profitability since it was founded in 2009.

Warburg Pincus, the US private equity group, bought Source in 2014 and installed one of the pioneers of the ETF industry, Lee Kranefuss, as executive chairman, with the ambition of building the company into a global provider.

However, an effort to establish a US presence failed and a number of important staff left, most notably Source’s three co-founders: Ted Hood, the chief executive; Michael John Lytle, the chief development officer, and Peter Thompson, the president.

Julian Ide, a former chief executive at Old Mutual Global Investors, was brought in to lead Source in March 2016, but had little time to revive the business before Warburg Pincus decided to sell, a move that surprised many industry watchers.

In a press call last week, Mr Flanagan refused to clarify if jobs would be cut to save costs, or if Mr Ide would remain in post as chief executive of Source, saying only that there had been “no decisions around personnel”.

“We do not view this acquisition as a cost-cutting exercise. There is no doubt in my mind that we will look back in years to come and see this as a truly exciting combination,” said Mr Flanagan.

Dan Draper, the current head of Invesco’s ETF business, spent years working in Europe as the head of the ETF businesses of both Credit Suisse and Lyxor, the French asset manager.

Mr Flanagan added that Invesco’s PowerShares ETF unit had grown since its acquisition in 2006, when it had just $3.5bn of assets, into one that now manages $125bn.

Around $7bn of Source’s assets are managed on behalf of large investment companies, including California-based Pimco, Man Group, the London-listed hedge fund company, and Legal & General, the British insurer. It remains unclear whether these partnerships will continue, as break clauses in their contracts might be triggered by the change of ownership.

Mr Flanagan said Invesco’s intention was to “try to continue” with the partnerships developed by Source and to expand that part of its business.

Peter Sleep, senior portfolio manager at Seven Investment Management, the London-based asset manager, says the two businesses make a “good fit”.

“From a sales and distribution standpoint, Invesco is strong in the UK market through its Invesco Perpetual subsidiary, while Source is well represented in European markets,” he says.

Deborah Fuhr, co-founder of ETFGI, the consultancy, adds that the deal might encourage other European investment companies that are struggling to grow their ETF operations to consider selling these businesses.

“The investment landscape across Europe is changing dramatically with the rise of passive funds. All asset managers are having to adapt,” says Ms Fuhr.

Source has attracted net new inflows of $2.4bn in the first quarter, recovering from a lacklustre performance in 2016, when it registered inflows of just $1.1bn over the course of the year, according to ETFGI. The European arm of Invesco’s ETF business has gathered just $6m so far this year and only $359m in 2016.

Hortense Bioy, director of passive fund research at Morningstar, the data provider, says: “It has been surprising that Invesco was not able to grow its existing ETF business in Europe more quickly. That should now change with the inclusion of Source’s product range. This deal will make the European ETF market even more competitive.”