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State Street/Invesco: fee war fuels urge to merge

State Street Corp updates

State Street was a pioneer in index investing. Its asset management arm, known as State Street Global Advisors, is one of the world’s biggest, with $3.9tn in assets under management. Why then, does it need to do a deal with a smaller rival? Reports that the Boston-based financial services giant held talks about merging its asset management business with Invesco’s is a sign of financial pressure in the industry.

Size and first-mover advantage offer little protection from brutal price wars. Over the past decade, State Street’s share of the US ETF market has shrunk from 25 per cent to 15 per cent, according to ETFGI. Its decline hit a milestone in 2015 when it lost its number two spot to Vanguard.

To compete, State Street needs to scale up. It therefore makes sense to join forces with Invesco. The latter oversees $1.5tn in assets and is the country’s fourth largest ETF issuer. Pooling resources would allow the pair to invest more in technology and cut prices to stay competitive. Together, they hold over a fifth of the US ETF market. That still puts them behind market leader BlackRock. But it is enough to help close the gap with Vanguard.

State Street has another reason to focus on winning back ETF market shares. Its core business — custodian banking — is coming under increasing pressure. The unit, which helps clients clear and settle trades along with record keeping and other back office work, generates over half of State Street’s annual revenue. However that growth is being squeezed by asset managers demanding lower fees.

Hammering out a deal could still be tricky. State Street is reported to have held talks about a similar arrangement with UBS last year. Ownership split and valuation differences are all potential sticking points. Even so, the fact that State Street may be looking to bulk up should be a warning to smaller ETF issuers. An already difficult market is about to get even tougher.

Lex recommends the FT’s Due Diligence newsletter, a curated briefing on the world of mergers and acquisitions. Click here to sign up.

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