Following the COVID-19 outbreak, equity markets are likely to remain volatile over the near term unless there are clear signs that the virus is successfully contained on a global scale and economic stimuluses are effective in limiting the severity of a global downturn.
Morningstar's assessment of two leading Aussie global managers
Revenue will be under pressure for asset managers Magellan Financial Group (ASX:MFG) and Platinum Asset Management (ASX:PTM), which derive fee revenue from managing global equity portfolios. This includes base management fees that should reduce on the lower value of assets under management and performance fees that are likely to fall sharply.
Our 'narrow moat', 'medium fair value' uncertainty, and 'Standard stewardship' ratings are unchanged as we transition coverage of both Magellan and Platinum to a new analyst.
Factoring in volatile markets and an economic downturn, we have lowered our near-term funds under management, or FUM, and earnings forecasts for both firms. However, we've increased our outer-year projections on returns and inflows, corresponding with an expected recovery in equity markets and renewed confidence in established active managers like Magellan and Platinum, which should remain resilient in the aftermath of the pandemic.
Following our earnings revisions, our fair value estimate for Magellan remains at $52.00 per share, while our valuation for Platinum is reduced to $3.60 per share from $4.35 previously.
Magellan's unmatched inflows in recent years
In our view, Magellan's solid track record should allow it to attract and retain FUM through the bear market, while it's well placed to recover with equity markets. Conversely, Platinum is likely to see further net outflows from a combination of its historical underperformance and potential risk-aversion toward emerging market stocks (to which it has a sizable exposure).
Both firms possess the necessary brand strength, investment strategy, and distribution reach to navigate through the current downturn and to continue to attract inflows longer term.
However, we think Magellan has a competitive edge over Platinum and should recover faster, in particular given Magellan's strong track record of outperformance. Together with its strong distribution reach and active client engagements, we expect it to be successful in generating inflows over time. Platinum is likely to suffer near-term outflows due to its prolonged underperformance, but inflows should resume over the longer term as investors see the merits of its absolute-return focused strategy and downside protection capabilities, which should outperform amid current volatile markets.
We forecast Magellan to grow earnings per share, or EPS, at about 11.5% per year through to fiscal 2024, and a slower 2.5% per year over the same period for Platinum. Volatile equity markets should weigh on near-term market returns, and we forecast low-single-digit returns for Magellan and a slight loss for Platinum's for fiscal 2020. However, markets should recover over time and support higher investment returns in future. Accordingly, we see market returns growing at about 11% per year for Magellan and 8% per year for Platinum, from fiscal 2021 to fiscal 2024. We expect Magellan to continue attracting net inflows despite near-term volatility, while Platinum should experience further net outflows through to fiscal 2021, before seeing net inflows thereafter. We also forecast management fee margins for both to further compress by about 2 basis points by fiscal 2024.
Accordingly, we project Magellan to grow average FUM at a rate of 14% per year (from fiscal 2019) to about $147 billion by fiscal 2024, while Platinum should grow FUM at a more modest rate of around 2.5% per year to about $28 billion over the same period. In deriving our view, we have compared both firms based on their respective performances, investment styles, and distribution reach.
Magellan's superior history of outperformance stands out. Its core Global Equities and Infrastructure strategies have materially outperformed their benchmarks since inception as well as over a 1-, 3-, 5-, 7-, and 10-year time frame. As a result, Magellan's record of inflows is unmatched in the Australian market. In the five-and-a-half years to 30 December 2019, FUM grew at nearly 30% compound a year to more than quadruple. There have only been three months with a net client outflows.
On the flip side, Platinum's earnings have been hamstrung by the prolonged underperformance of its core International and Asian strategies. As a result, both FUM ($24.8 billion) and management fees ($295.2 million) in fiscal 2019 remain below their fiscal 2015 levels ($26.9 billion and $338.6 million, respectively).
Two leading names with different investment techniques
The disparity in both firms' track records can be explained by their varying investment approaches. Magellan has a sizable exposure to developed markets with a tilt toward large caps, while also exposed to growth-orientated technology stocks such as Facebook, Alphabet, and Alibaba. Magellan's performance has been strengthened by exposure to high-quality growth thematics. We also think large, developed-market stocks are better placed to recover from the current downturn, relative to small-cap or emerging market securities. Accordingly, while we have lowered our market return forecasts to around 3.5% (from 12.5% previously) for fiscal 2020, our return forecasts for the subsequent four years to fiscal 2024 are increased to around 11% per year (previously 8%). We do not expect Magellan to experience any net outflows throughout our forecast period, but inflows should grow slower than historically at about 5% per year over the next five years given its larger starting size.
On the flip side, Platinum's benchmark-agnostic approach has led to a much higher exposure to developing markets, relative to the MSCI World Index. Both low interest rates and trade tensions were unsupportive of its investment style. However, we believe its focus on absolute returns and strong downside protection capabilities should allow it to perform well amid current volatile markets. We've revised our market return forecasts to average 6.5% per year over the next five years, from 9.5% previously. We project net outflows of about 11% per year through to fiscal 2021 but expect net inflows of about 8% annually from fiscal 2022 onward, as investors gradually gain confidence in Platinum's distinct approach.
Compared with Platinum, we think that Magellan possesses a stronger distribution reach and greater client engagement, which helps with driving growth and building a stickier FUM base. While domiciled in Australia, it derives the majority of its FUM from a diverse range of internationally based institutional clients. Magellan's client-centric image has also assisted with generating new FUM, as evidenced by the successful raising of an additional $862 million (around 3% of its total retail FUM) for the newly listed Magellan High Conviction Trust.
Conversely, Platinum continues to source FUM mainly from domestic retail investors. It has, however, recently made moves to promote its products to U.S. and Canadian institutional investors. Given the small proportion of institutional money at present, we do not forecast foreign or institutional investors to account for a large percentage of total FUM throughout our forecast period.
There is much uncertainty over the immediate future, but the longer-term dynamics are favourable for both firms. Volatility is likely to remain elevated in the near term as it's difficult to deduce the exact repercussions from the pandemic; with poor business conditions and increasing unemployment being counteracted by tranches of fiscal stimulus and monetary easing designed to prevent a financial crisis. But recent market declines should mean future investment returns improve.
We look to news of (1) a globally scalable vaccine and (2) a successful containment of the virus to improve investor confidence and underpin an improvement in equity markets. Interest rates are likely to remain lower for longer, helping to buoy stock valuations and cushion the impact from the economic and consumer downturn. Australia's ageing demographics, the traditional underweight of Australian investors to international stocks, and the growing superannuation system should also expand demand for global equities products offered by both Magellan and Platinum.
Adam Fleck is Regional Director of Equity Research, Australia and NZ, at Morningstar Australasia. This article is general information and does not consider the circumstances of any investor. Please consult a financial adviser before taking investment decisions.
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