As institutional investor confidence surges in favor of hedge funds, investors have attached some caveats to their inflows—demands for more transparency, liquidity and control—inspired by the Great Recession. Increasingly, investors want the separately managed accounts (SMA) model, which is a mixed blessing for hedge funds. SMAs can result in more opportunities for fund managers, but also more operational and administrative costs and resource demands.
Evidence for a renewed interest in SMAs among investors came late last month via HFMWeek magazine. It reported that hedge fund assets placed with managed account providers grew by near $14 billion over the past year. HFMWeek’s annual managed accounts survey also revealed that assets under management (AUM) at the top 10 largest platforms had risen by $11.45 billion since March 2010. The increase represents a growth rate of 27.7% with the AUM of the 10 top providers growing from $41.35 billion to $52.8 billion, according to HFMWeek, which attributes the boost to an inflow of institutional money into bespoke accounts.
SMAs are not new and 80 percent of those hedge funds surveyed for a report by Greenwich Associates say they have SMA offerings—even if they are ambivalent about them. Hedge fund managers object to the costs, trade allocation, reporting and compliance requirements of SMAs. They also fear that SMAs will distract investors from taking part in pooled funds. These concerns have slowed the acceptance of managed accounts in the US while these platforms have a greater presence in Europe.
Yet the report, commissioned last year by Pershing, a provider of clearing and execution services, solutions for RIAs, and prime brokerage support, found a new normal: “For better or for worse, fund managers can expect the number of institutional investors requesting more transparency and liquidity to increase in coming months and years.” As institutional investors send more money to managed account platforms, they will want “higher levels of disclosure from all external asset managers with regard to both portfolio holdings and investment and operational processes.”
Investors also see SMAs as providing them with more input into the fund manager’s strategy, timely reporting, an advantage in negotiating fees and better custody of assets, according to the report.
Interestingly, Pershing also did more than commission a report. Perhaps as a harbinger of things to come, it announced in February that it has acquired a non-controlling ownership interest in HedgeMark International, maker of an end-to-end hedge fund managed accounts platform. Pershing also obtained the rights to fully acquire HedgeMark, whose platform features technology modules for fund due diligence, portfolio construction and back-testing, holdings-based risk monitoring, stress test analytics and compliance surveillance. HedgeMark offers hosting and web service options for its software and support.
HedgeMark is “effectively a redistribution platform” for hedge funds, says Thomas V. Brown, HedgeMark’s chief technology officer. “To an investor, a state plan let’s say, we’re part of the risk management and compliance offering,” Brown says.
“Historically, hedge funds have employed third-party marketers to do a lot of their distribution. With the managed account platform, investors gain unique access to fund managers that are not necessarily on their due diligence screen,” Brown says. He adds that hedge funds are eager to get onto the platform. “We’ve been building the infrastructure software for two years,” Brown adds. “We also have a partnership with [enterprise risk software vendor] Algorithmics.”
Hedge fund managers can also use HedgeMark, with Pershing’s backing, as part of their sales strategy. Brown says that with Pershing’s help—it’s a subsidiary of The Bank of New York Mellon Corp. (BNY)—HedgeMark is getting a boost for its sales and distribution efforts.
“I think we’re in a historic period,” says Brown. “So, post crisis, beta has been relatively flat, excluding the last 12 months. The alpha from the [hedge fund] managers has really shown so we’ve seen an increase in allocations from a plan level [over the past 18 months]. … That’s why the BNY Pershing investment occurred in the first place.”
An underlying truth about the new insistence upon the more quantifiable SMA model is that investors are under intense pressure to perform post-crisis, Brown adds.
And, while investors still have the upper hand with hedge funds, they are likely to get what they want.
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