A senior figure who has been at the top of the wealth management industry in Russia talks about the country and the business issues there at what is clearly a troubled time for the country.

Gregg Robins is a longtime specialist on Russian and East European markets, where he has built and led wealth management businesses. He is now based in Geneva after several years in Moscow, where was the head of wealth management in Russia for UBS. Prior to that, he led the regional Russian and East European business for UBP, and earlier was with Citigroup, where he focused on emerging markets. He was a recognised professor at New York University’s Leonard N. Stern School of Business, and teaches on wealth management at the New Economic School in Moscow, where he is a Faculty member.

This publication is very pleased to be able to share the insights of such a seasoned professional in the wealth management industry, particularly at a time when the insights of such persons about Russia are extremely relevant, given present tensions. As ever, the editors of this news service do not necessarily share all the views expressed by the author and invite readers to respond.

As the ink dries on a fragile cease-fire in Ukraine, and further Russian sanctions are on the table, events and downside risks continue to dominate thinking about the Russian wealth market, seen for years as possessing tremendous opportunity and potential. Many wealth managers are currently in a holding pattern on Russia for existing client business, and highly cautious about developing new business. But with crisis comes opportunity, and the current situation, albeit precarious, can be understood through changing market paradigms and paradoxes today. Such an understanding can help open possibilities and shape successful business models going forward for a large wealth market that is in flux but certainly not going away.

A decade of changing paradigms
From 2005 to 2008, the Russian wealth market experienced a boom, with Russian growth rates approaching 10 per cent and a surge of IPOs that led to frequent, large liquidity events and corresponding growth of offshore assets.  A rising tide lifted all boats, from larger wealth managers with investment banking arms to pure plays, as Russian clients generally diversify across several banks, including a main global bank and niche players too.

For all wealth managers, this boom led to aggressive hiring in a limited banker pool with the main focus continuing to be on asset gathering.  For clients, the main considerations were safety and ease of opening and maintaining accounts, returns being secondary. Client businesses in Russia were already generating high returns for owners and executives alike.  Clients held high levels of cash to capitalise quickly on opportunities in Russia.  

In 2008, as Dmitry Medvedev ascended to the Russian presidency, two important trends shaped the evolving wealth management paradigm. First, Russian authorities pushed for economic opening, including WTO membership and the intention to build Moscow as a global financial centre, including the corresponding effort to build a domestic investor base and to deepen local financial markets.  Russia had for years experienced capital flight and wanted to reverse that trend.  To achieve this, the Russian regulator, the FSFM, began to lay the groundwork for an investment infrastructure that included investor protection provisions to regulate wealth management business from Moscow and to pave the way for additional, more sophisticated instruments and products to be sold in Russia.  

However, this “carrot“ approach to encouraging onshore investments and some capital repatriation was not successful. Onshore wealth platforms set up by foreign players for the most part were also not successful, not least for a lack of product to offer: the most attractive product was a bank deposit, and Russian banks offered much more attractive yields.

Second, the global financial crisis fundamentally changed the Russian wealth management business. Russian growth disappeared as asset gathering was reduced and replaced by business and portfolio restructuring and significant credit demand, which had the effect of bolstering AuM levels and also altering the types of bankers being recruited.

With the crisis abating somewhat, in September 2011, the wealth paradigm shifted further with the announcement that Vladimir Putin would return to the Russian presidency.  Growth had returned, but political uncertainty surrounding Putin’s return and deteriorating relations with the West slowed economic opening and local financial market development, and led to capital flight - increasingly going into real assets, such as real estate. Clients continued to hold high cash levels out of concerns about confidentiality and the safety of offshore locations and some of the banks operating there, concerns only compounded by the crisis in the longstanding Russian offshore destination of Cyprus.

In 2014 to date, a new paradigm is developing at a fragile time for the Russian economy, with growth levels falling, forecasts of still higher declines, rising levels of capital flight (estimates range from $100-200 billion for 2014), and ongoing additional risks on the horizon. Russia’s macroeconomic situation is precarious, with the rouble and budget under continuing pressure, and debt levels are high, particularly those of shorter maturities.  

In response, Russia is introducing measures to spur the “de-offshorisation“ of her economy, driven both by both political and economic considerations as Russia’s need for capital grows and its access narrows. Current measures include a possible tax amnesty and the introduction of the so-called CFC regulations.  Previous efforts to repatriate funds did not succeed with carrots, so current efforts are moving toward the stick. The CFC regulations aim to identify Beneficial Owners of funds and offshore strutures, and increase taxes on offshore operating and shell structures, though there remain open questions and uncertainties on the timing and process of implementation.

What is clear, however, is that de-offshorisation efforts will bifurcate the market, and make it more complex, fragmented and geographically diverse.
A range of current paradoxes
The evolving wealth management paradigm in Russia contains a number of paradoxes for clients and wealth managers alike:

At a moment when clients greatly need advice and support, many banks are paralysed, backlogged, and unable to react to their needs.

Even though client needs are not being met in many cases, switching banks is difficult because of delays and backlogs, know-your-client issues and other restrictions.  As a result, wealth managers – both independents and banks - with the ability to leave assets in existing banks and manage through powers of attorney have an advantage. This point is especially important because with growth having slowed in Russia, growth is more a zero-sum game and the big opportunity to attract offshore assets is from competitor banks in the booking locations.

Although growth is down, there is currently a lot of opportunity to attract clients by meeting the needs of the new paradigm.

Existing client relationships are important, but only if bankers can react and meet current client needs with the right skills sets and tools.

Given the changing environment and sanctions, risks may be higher in underlying, legacy client businesses than in newly acquired ones passing through full due diligence.

Clients continue to seek safety, with growing concerns about traditional centers, such as Switzerland, in light of secular trends toward higher disclosure, and the impact of sanctions, but they also increasingly seek returns on their offshore funds as Russian growth and opportunity slows.

Cash levels held by clients remain high, but less for opportunistic investment in Russia and more due to concerns over changing disclosure requirements and effects of sanctions on banks and jurisdictions. The cash bias will conflict with the desire to increase returns in offshore portfolios.

Future possibilities
The new paradigm and the paradoxes outlined have numerous implications for wealth managers covering the market today.  Here are ten key ones:

Speed and flexibility will be critical success factors to help clients structure and arrange assets and create competitive advantage for wealth managers.

A bifurcated market will have clear separations between domestic and offshore activities.  Local banks in Russia will benefit from this through inflows and also, in some cases, through opportunities to fill lending gaps created by foreign wealth managers. But many clients will not be happy to return funds in the face of low growth, limited investment options, a falling rouble and likely rising inflation, not to mention the confidentiality concerns that the process will create.

Asset gathering and lending driven strategies of recent years will take a back seat to effective wealth structuring and effectively managing global complexity in a bifurcated market.  Wealth structuring and advice will be a big growth business, as a result, to assist clients seeking to emigrate or establish additional residencies, and also to optimise their Russian tax status in line with the coming CFC regulations.

Geographic complexity will grow as clients seek additional booking and residence locations.  What was once a simple business between Moscow, often done in a few, select Moscow hotels, and Switzerland, is expanding dramatically, both in Russia and abroad. The Russian regions continue to offer opportunities to wealth managers as well.  Further, Russian clients are increasingly spread across the globe, making the business diaspora-like in nature.  Much like the way some banks focus on Jews across locations, similar efforts will evolve with Russians, with expertise in KYC, language and culture, and client-specific needs bringing advantages to established players.  Niches will also open up, such as the Andorra banks building Russian teams in recent years, though this niche is relatively small and best suited to lower-end HNW clients rathert than to UHNW individuals.

Multicustodial capabilities will be important, as well as capabilities to book in locations beyond Switzerland, Asia being especially important: centres such as Monaco will take on additional importance.  Indeed, Asia will likely grow in importance beyond booking considerations, as current geopolitics may also drive further business flows to Asia and create client needs for additional capabilities, such as currency hedging.

Performance will be increasingly important, as noted, and Russian clients have historically preferred fixed income.  The search for performance may open the door for new players to work with Russian clients (somewhat paradoxically as well, given the advantages noted for existing players).

Large inflows into real estate assets in prime Western locations seen in recent years will slow in the face of geopolitics and lead to considerations of alternative locations. Lending will certainly be demanded by clients, but will be in shorter supply as banks assess exposure and exercise caution in light of current uncertainties.

Wealth managers will face staffing challenges to address the current paradigm. The most effective teams will bring clients a range of skills and experience, and also diverse geographic locations, with greater or lesser proximity to Russia.

Market management and coordination will only grow in importance to address these many complexities, to source and organise the right talent, to leverage knowledge and expertise across the client base, and to avoid potential problems and risks.

Lastly, but critically, effective risk management will clearly be essential to track geopolitical developments and sanctions, ensure effective KYC, and to align the business properly to manage credit and reputation risks on existing business and potential opportunities.