Christof Kessler and Anton Buchhart of Barmenia Gothaer AM, Part 2: “Anyone can invest in government bonds, it’s not a big deal.”

Mr. Kessler, you mentioned third-party managers. Do you also approach them and communicate specific ESG goals?

Kessler: If we have certain sustainability criteria that we want to see met, we agree on this in a side letter, a subsidiary agreement, with the third-party manager. The third-party manager must then adhere to them. For example, we don't want to invest in tobacco, so the third-party manager can't do that for us either.

There is currently increasing consolidation in asset management. What impact does this have on your manager selection?

Buchhart: We have many external managers, and the merger has increased the number even further. Of course, we will terminate some contracts. There are only a few overlaps, but we will nevertheless reduce the number to reduce complexity and costs. This also applies to other service providers. We strive for lean processes and a clear structure in our value chain, as complexity inevitably leads to higher costs.

Kessler: We're obviously noticing the consolidation in the industry. The big players, like Blackrock, Amundi, and a few others, are buying up. The result: Where we previously had three managers in a division, suddenly there's only one left. However, we're still able to find enough managers, and have been since the merger anyway. The consolidations make economic sense. In low-income products, such as euro government bonds, the business only works through scale. A mandate brings providers an average return of 1.5 basis points.

If a manager wants to do this profitably, they'd have to manage a trillion euros in low-income strategies. They're bought up, and one asset manager after another disappears. On the other hand, let's take natural or venture capital managers. There are very few of those. They can set their fees well, similar to how hedge fund managers used to. That's why many boutiques are considering moving into these areas, simply because it's worthwhile to be part of the startup scene. In the large, liquid sector, there's no longer a startup scene, only a consolidation scene.

Buchhart: For specialized boutiques, these are highly interesting niche topics. Anyone can handle government bonds; it's not a big deal. Therefore, margins are shrinking, but fixed costs continue to rise. Due to ESG and similar administrative and regulatory requirements, the base cost block that doesn't generate revenue is growing enormously. This has to be spread across more and more assets to preserve a small margin.

Kessler: Take infrastructure, for example. Specialized boutiques still set the tone here. But the big players are starting to buy up. And that shows that it's no longer a niche, but a sought-after commodity. In Hamburg alone, there used to be ten boutiques; today there are maybe three. For us, that's a disadvantage. Selection suffers, and in some cases, specialization.

Buchhart: That depends on the business model, though. There are corporations like Bank of New York Mellon, for example, that have established a multi-boutique model. In practice, the acquired boutiques simply continue to operate, and the specialization continues. However, the basic costs are managed centrally and efficiently allocated to the individual units.

That sounds like a good way…

Kessler: However, it's important to remember that individual boutiques typically also lose talent after the takeover. Experience shows that top talent stays on board for one to two years and then starts a new boutique. Nevertheless, these are all signs that many niches have entered the mainstream.

Thesis: The larger an asset manager, the less recognizable is the active approach?

Buchhart: I wouldn't generally see it that way. It always depends on the asset class, the size of the market, and the underlying management philosophy. However, very large portfolios tend to make investors slower, as very high volumes sometimes become difficult to trade, making portfolio repositioning more difficult.

Let's return to the topic of young talent. On the product-providing side, specialized boutiques certainly have highly qualified staff...

Buchhart: We're seeing different dynamics in recruiting. One could say that Barmenia was somewhat smaller, and Wuppertal isn't really a financial center. In recent years, we've been able to recruit staff almost exclusively because the banking landscape in Düsseldorf has suffered greatly. Many jobs have been relocated to Frankfurt, or the locations there have been consolidated.

In the long run, we would have had serious recruitment problems. A portfolio manager who works in Frankfurt or Luxembourg wouldn't go to Wuppertal. Cologne has a completely different standing. Moreover, the new size offers more opportunities. The employees from Barmenia's Asset Management department, who also moved to Cologne, have noticed this.

Do you have an example?

Buchhart: One employee currently works in the middle office, in ALM analysis. She's now moving to the front office because we wanted someone there who also has the expertise for key account management for the risk carriers. This move wouldn't have been possible in Wuppertal.

Kessler: The way the industry approaches us has also changed. For example, in private equity, there are providers who previously wouldn't have approached us because we were too small. The very good private equity managers are interested in bigger deals. The quality of the managers we now negotiate with—including fees—has improved.

On the product provider side, for example, a venture capital firm can say it's small but mighty. They stick with a few, usually highly specialized employees, and things can work out very well for everyone involved. On the client side, on the asset owner side, small isn't sexy.

We talked about the size. You're responsible for around 50 billion euros. How do you plan to invest the money in the future? Are there target ratios?

Buchhart: First and foremost, we are a service provider for the group. The approximately 50 billion euros are divided among the individual divisions. We provide asset management for our risk carriers. This is largely a liability-driven business. Naturally, we see which asset classes are more or less attractive. We implement different portfolio strategies for the various risk carriers in the life, health, and property insurance sectors. The portfolios all look different. The risk-bearing capacity of each risk carrier differs for the investment.

So it's less about where we want to go, but rather where we can go based on the ALM analysis. While we certainly currently identify opportunities in various areas, if a risk carrier tells us that they have no leeway in equities, for example, our hands are tied. Our role is not that of an independent initiator of asset class strategies, but rather that of a service provider who points out opportunities while implementing existing guidelines.

You need to keep an eye on the risk bearers and their time horizons. How does this happen in your company?

Buchhart: We have an ALM committee, which includes representatives from Risk Management and our mathematicians for the liabilities side of the balance sheet, as well as from Asset Management for the assets side. The framework is defined: Solvency capital and German Commercial Code (HGB) restrictions, which stipulate the minimum required result and the coverage ratios. With appropriate software support, we try to project how portfolios will perform over time. If a portfolio turns out to be too negative in the worst case, it must be discarded.

Kessler: From this, we derive a strategic asset allocation. This plan covers five years in terms of the German Commercial Code (HGB) balance sheet and Solvency II. Our planning takes into account different growth dynamics—for example, the growing health insurance segment versus the slower-growing life insurance segment. The risk-bearing capacity of health insurance is higher. The investment horizon of property insurance, on the other hand, is significantly shorter. We must ensure that we manage liquidity in accordance with the investment horizons and underwriting needs.

In 2021, you told Mr. Kessler that you wanted to be 5 percent invested in private debt and that over the past few years you have built a broadly diversified portfolio across various fund managers, regions, strategies, and vintage years. This applies to both direct lending and mezzanine lending. What is the overall status of the private markets today, which have also lost some of their luster since the interest rate turnaround?

Kessler: Especially in private markets, you mustn't lose sight of the investment horizon. If we have 5 percent private debt, we have 5 percent illiquidity. But we also have 5 percent that lies outside our planned duration expectations. Too much illiquidity creates a problem. We therefore need to keep an eye on the total amount of all illiquid assets and ensure that they don't exceed defined limits.

To what extent did you feel the denominator effect during the negative interest rate phase?

Buchhart: The negative interest rate phase led to high valuations and thus a high portfolio share of low-risk bonds. Higher portfolio shares for illiquid and riskier asset classes came with the interest rate turnaround in 2022, which significantly reduced market values ​​and thus the share of long-term bond portfolios. However, in the SAA process, we also work with market stress tests and scenarios that prevent excessive risk positioning, even during more severe market fluctuations.

Kessler: The asset management of a property insurance company is primarily characterized by liquidity management with short cycles. Claims are covered, and a portion of the premium income is available for investment purposes, preferably in liquid form, which argues for a lower equity allocation. In health insurance, you have premiums, the largest portion of which goes into provisions for retirement.

We have the money available for up to 40 years, in some cases. These are perfect conditions for investing in equities and alternatives. The optimal investment horizons and asset class allocations differ fundamentally among different risk carriers. With a life insurance policy with a term of 30 years, we can invest the capital in illiquid investments for up to 25 years.

Buchhart: For example, we have Solvency I clients within the group, including a pension fund. However, like a life insurer, this has a long investment horizon and is therefore handled similarly, even if it is regulated differently – which, of course, cannot be ignored. A highly complex interplay.

What is your opinion on the progress of the Solvency II review?

Buchhart: Solvency II developments are rather unspectacular. Sure, there are always small model adjustments, but not much is happening, and that's a good thing. The basic model has been in place since 2016, and it's been successful and proven effective. The risk allocation of asset classes has been discussed for years, and this also has to do with political intentions. In my opinion, this is rather suboptimal. For example, infrastructure should receive less risk capital because the desire is to invest in the asset class. The regulator should actually do the opposite. The real risk must be the focus.

Kessler: I don't understand why there's so much criticism of Solvency II. Those who demonize the regulations should spend more time thinking about what it was like before Solvency II. Before that, it was really bad, because market risks weren't included in the assessment at all. Nevertheless, Solvency II is, of course, not the end of the world and will need to be continually adapted.

What do you hope for from the new federal government – ​​and the approved financial package?

Kessler: Hopefully, the financial package will lead to the desired effects of a modern infrastructure and a significantly increased defense capability. Furthermore, multiplier effects in both the growth of the real economy and the joint financing of infrastructure with private investors like us could lead to a new "double whammy." For success, however, it is crucial that the financial package does not lead to further government consumption, but rather to real investment. In addition to these two priorities, a significantly simpler funded pension system would be an important factor for the future.

Real estate buyers and sellers find themselves in a similar situation - what are the upcoming trends in the industry and how should their portfolio develop?

Buchhart: We have a relatively well-diversified portfolio within the Group across locations and types of use. Rising transaction volumes provide all investors with opportunities to shape and (re)position their portfolios. Trends remain the transformation of portfolios with regard to ESG, new work concepts for offices, and new opportunities in infrastructure-related properties. The housing shortage will remain challenging due to high construction and renovation costs, particularly in price-sensitive areas.

Let's return to the two of you. Since last fall, you have been jointly responsible for asset management at Barmenia Gothaer. Mr. Buchhart, you have been with Barmenia since 2012, and Mr. Kessler, you have been with Gothaer since 2010. How can I imagine your start and your collaboration?

Kessler: We've known each other quite well since 2017. At that time, we were working together on a project called Rentenwerk. Initiated by Barmenia, Huk, Debaka, Stuttgarter, and Gothaer, the project aimed at implementing the Nahles pension.

Buchhart: The project lasted almost three years, which provided enough time to get to know each other well and develop a feel for each other's working methods and thought structures.

Kessler: Another advantage for our collaboration was that we both had previous experience on the provider side. This has a lasting impact, and as a result, we share a shared set of values.

Mr. Kessler, you're retiring on June 30. Are you someone who can let go?

Kessler: Yes. I will always be interested in markets, and I will miss the people. Will I miss working in this regulated environment with clipped wings? I doubt it. Foundations and family offices, for example, have the advantage of not being so regulated.

It sounds like you're open to new challenges...

Kessler : I'm 62, and my wife wants to work for another eight years. I certainly won't just sit at home and wait for her. That's why I'm toying with the idea of ​​going back to college. But first, I'm going to enjoy my newfound freedom.

Very impressive, which course of study?

Kessler: Computer science and mathematics after high school promised a secure future, and that's exactly what it was. Now that's not so important anymore, so maybe something in the humanities.

Mr. Buchhart, how much will you miss Mr. Kessler?

Buchhart: After such intensive collaboration during the merger, with some truly impressive results we achieved together, I will, of course, miss Christof. He will also be there as an even more experienced colleague in discussions about capital market and industry developments. Perhaps I can interrupt his studies from time to time.

You can read the first part of the interview here.

About the interviewees

Christof Kessler has been CEO of what is now Barmenia Gothaer Asset Management since 2010. Before joining Gothaer, Kessler held, among other positions, 15 years in a leading position at Sal. Oppenheim (now Deutsche Oppenheim Family Office ). On the day of the interview, it was officially announced that he will retire this summer. He will be replaced by Gerrit Heine from Munich Re.

Anton Buchhart is a member of the Board of Management of Barmenia Gothaer Asset Management. He has headed Barmenia 's investment activities since 2012. Prior to joining Barmenia, Buchhart held senior positions at DWS , Sal. Oppenheim, and Meag .