Highly volatile markets have contributed to poor fund performance at many hedge funds, which presents them with a conundrum: They have to use faster trading technologies and speed up their middle and back offices while preparing for redemptions. Of course, when investors pull out their money, there won’t be much left for IT infrastructure investment. It’s fun times all around.A Barclays Capital survey of 150 hedge fund investors, recently highlighted in a The Wall Street Journal report, revealed that 35% of them had just pulled their money out of underperforming funds or were going to do so. An additional 20% were undecided. Market turbulence and bad strategies have hit home for many hedge fund firms.
While much of the blame for underperforming funds has to rest with the managers overseeing the investments, I suspect that trading technology, or the lack thereof, must also take some of the blame. I reckon that some hedge funds have been beaten to the punch because their middle and back office systems—probably mostly manual—have also let them down.
As we have reported, it’s no secret that the “beat the market” mania of low-latency executions and market data delivery are straining middle and back office processes—even those that are automated. Some firms have had to halt trading when volumes have overwhelmed middle and back office staffs, as Phillip K. Lynch, president and CEO of data management provider Asset Control, details in a recent FTF profile.
Yet there are ways around this problem.
First, many technology providers either offer or are readying ways to help firms like hedge funds exploit low latency access to executions and market data through, essentially, a shared utility model. For instance, IPC Systems has just launched a low-latency “express trading route” of network connections to liquidity venues in New York, Stamford, Conn., and Boston—the Acela for speedy trading.
The IPC service targets “a large concentration of hedge funds and small trading firms located in the New York and New England area,” says IPC, citing increased demand for low latency connectivity among hedge funds. If hedge funds want to use this express lane from IPC (or similar offerings from a variety of vendors), most of them can do so if they work closely with their sell-side counterparties and piggyback on their low-latency investments to access liquidity, retrieve market data and execute trades.
“Typically, the hedge funds would access the liquidity venues by working with sell-side firms,” says Ganesh Iyer, a senior manager of product marketing at IPC. “Even in those instances where the hedge funds have direct market access (DMA), they would use the infrastructure and systems of the sell-side and undergo pre-trade checks.”
So, the heavy lifting for many hedge funds will be in upgrading their middle and back offices, which represents a major consulting opportunity for IPC and similar providers. They have the resources to help hedge funds (and other buy-side firms) catch up literally and figuratively. “We would work with trading firms to make sure that their middle and back offices are up to speed with low-latency front office systems,” Iyer says.
The variable to watch, though, is the level of redemptions. It does not look good for many firms as angry investors are likely to hit back hard; this could be devastating for many hedge funds. Those firms that survive may have to not only fire some of their fund managers, but also rip out and replace their underperforming middle and back office systems.
Personnel matters aside, it’s clear that in these times hedge funds—and all firms for that matter—cannot survive for long if they continue to rely on outdated middle and back office systems.
Need a Reprint?
Leave a Reply