1. Dublin's hedge fund industry enjoys the view from the crossroads
Is Dublin's financial services industry in danger of losing its momentum? At first sight, it's hard to credit. In the decade or so since the country emerged as a major international financial services centre, Ireland has gone from strength to strength, carving out major roles in European and international markets ranging from unit-linked life assurance to securitisation.
Nowhere is the vigour of the "Celtic tiger" more evident than in the hedge fund administration industry, once viewed as a sideline from the main business of administering mainstream long-only investment funds but today outstripping it in growth and starting to challenge it in terms of assets under administration.
Ireland itself barely registers on the radar as a hedge fund domicile but its success has been built on the stock exchange listing and servicing of funds set up in the classic offshore hedge fund domiciles of the Cayman Islands, Bermuda and British Virgin Islands.
Says Mark Mannion, head of fund services for UBS: "The value of non-Irish registered funds administered here grew by 41 per cent to $259bn in the 12 months to June 2004, up from just $45bn in 1998, and most of that is hedge fund business." He notes that the figure for non-domiciled fund assets is now closing in on the total for Irish-registered funds, which stood at $503bn last June according to fund data specialist Fitzrovia International.
Adds Mannion: "The last few years have been a big booming period. The administration of alternative vehicles in Dublin has grown faster than the overall fund administration industry. The performance of traditional vehicles has been relatively flat over the past five years, which has encouraged the spread of alternative vehicles. There has been a very large increase in the scale of the administration business, in terms of both the volume of assets and the number of employees."
Once the preserve of small, niche firms, Dublin's hedge fund administration industry is increasingly being targeted by big international institutions, such as State Street, JP Morgan, Bank of New York and HSBC, that have bought their way into the market by acquiring specialist providers. Today Ireland has a total of nearly 50 fund administrators, around 20 of which handle hedge funds as their sole focus or in addition to traditional fund business.
According to Ken Somerville, senior director in charge of fund accounting at PFPC International, this level of competition is a major strength for a hedge fund administration centre. He says: "Managers come to Dublin as a centre of excellence for administration where they have the opportunity to meet a range of service providers and can make a robust and strong choice.
"The competitiveness of the market provides a strong incentive for all providers to offer good service, recruit experienced staff and obtain the best technology. And the compactness of the financial services centre means managers interested in bringing business to Ireland can meet administrators, legal firms, stock exchange sponsoring brokers and the regulator IFSRA all within a couple of days."
Somerville believes that the quality of service offerings and adherence to the highest regulatory standards is maintained by peer pressure as providers seek to ensure the reputation of the centre is upheld. He says: "Everyone subscribes to a regulated environment in a very positive way. I wouldn't be very impressed with a vendor that didn't subscribe to that mindset, and I don't think that would be very attractive to a manager."
Arguably, the fund administration sector is one of Dublin's most striking successes. In the 1990s, the centre's goal was simply to carve out a share of a market for the servicing of pan-European traditional funds previously dominated completely by Luxembourg. Says Deloitte & Touche audit partner Ronan Nolan: "It's got to the stage now where Luxembourg would regard Luxembourg as a very significant competitor indeed, and significantly ahead in the area of hedge fund administration."
But the Irish authorities are wary of the industry becoming complacent and losing its competitive sharpness. That's why the country's government-backed economic promotion organisation, the Industrial Development Agency, last year called on Deloitte to examine the options for the further development of the financial; sector and its expansion into new areas.
While Dublin has been highly successful over the past 15 years, the IDA believed the industry needed new impetus to cope with challenges such as an increase in costs - negating a key selling point for Dublin in the early to mid-1990s - and growing international competition. "The concern for the future is not to become in any way complacent or inflexible on the back of our success," Nolan says.
Deloitte's report recommends five areas for attention, including building on the existing critical mass in the fund servicing sector. Still, Nolan acknowledges that the current position is a long way from a crisis: "Dublin probably administers more than 25 per cent of global hedge funds. As long as we can maintain service levels at a high level, there's a huge strength of incumbency. Hedge funds by definition are more complex to service than straightforward long-only funds, so it's more difficult for new players to take that business away."
That factor may be reflected in the fact that most of the leading international players that have entered the sector over the past four or five years have done so by acquiring existing firms rather than building operations from the ground up. However, administrators are divided as to whether the end result will be the complete domination of bigger firms, or whether the diverse structure of the hedge fund market will mean there will always be demand for the services of smaller niche firms.
UBS's Mannion is convinced that the future belongs to the global players, especially as firms employ technology to bring efficiency to processes that not so long ago were carried out manually. He says: "There are very few independents left in the market, and barriers to entry have risen, because the leading players are all using very expensive systems.
Somerville notes that the types of firms and institutions that are starting hedge funds range from large institutions to small boutique managers, who may have different needs and priorities in mind when choosing service providers. "Your best partner for administration may have a different profile depending on your background as a manager," he says. "Some vendors will provide daily NAV, some will offer it monthly. A range of vendors can be a healthy thing in a free market."
He adds: "Generally the experience in all forms of business is that consolidation ultimately takes place over time, but whether independent providers will eventually become wholly owned by banks is difficult to say. However, firms that are particularly well thought of will become an attractive business proposition for banks and other financial institutions."
Says Nolan: "Although there has been some consolidation in the fund administration marketplace, there are still a significant number of providers in the market. There seems to be a viable business case for both the very big, streamlined and sophisticated market leaders, as well as the boutique houses that may cater to the smaller budgets of start-up managers. The type of player that goes to a very big providers like Citco may be different from those that go to Custom House."
Custom House Administration and Corporate Services is one of Dublin's longest-established hedge fund administrators and one of just a handful that are still independent. Says chairman Dermot Butler: "There's always going to be a niche market for administrators, and as they get bigger they'll get gobbled up." But he warns that the integration of specialist fund administrators by global financial services groups, in Dublin and elsewhere, is often complicated by strong differences in corporate culture.
All players in the market, large or small, have been obliged to come to terms with what Ronan Daly, managing director of BISYS Hedge Fund Services in Ireland, argues are the problems of success, such as the difficulty of recruiting and retaining qualified staff. "If anything, Dublin is more under threat from itself than from its international competitors," he says.
"When we set up here in 1998, we were almost the only game in town, and even when things got a bit more successful, three or four years ago, it was still a relatively manageable bunch of people in the hedge fund administration business, so there was still a deep enough labour pool. But now that it's much bigger and more new entrants are coming into the marketplace, Dublin is in danger of becoming less attractive, because there are so many people fishing in the same pool."
In this situation the firms with leading international brand names may well enjoy an advantage, according to Mannion at UBS. "Everyone recognises that Dublin is experiencing a labour shortage in this sector," he says, "but we feel we have certain advantages in terms of attracting the right personnel, including the fact that having a brand name makes it easier to select us over a lesser-known name.
"Secondly, because we've split our fund services operation into mutual funds and hedge funds, it allows us to apply a radically different remuneration scale to hedge funds, rather than trying to operate the two within a single business unit. We don't think that works - you have to recognise that the skill levels required to provide top-level client service need qualified and well-trained personnel."
According to Custom House's Butler, the availability of skills has improved following a period five or six years ago when there was high staff turnover, driving salaries up. "But when the stock market collapsed and the administrators who were doing long-only as well as hedge funds started cutting back, suddenly the word career came back into the market," he says.
A particular problem for Custom House stemming from the nature of its business has been the decline in value of the dollar against the euro over the past couple of years. Says managing director David Blair: "Because most hedge funds are denominated in US dollars, our fees are also denominated in dollars, whereas our costs are in euros, so over the past two years we've seen a 40 per cent decline in real terms."
Butler says that while the firm has sought to mitigate this problem through currency hedging, there are limits to how far this can go. "We were hedged all the way up to the end of the year," he says, "but now when we're trying to get new funds we're quoting in euros. The ideal would probably be to have 50 per cent of the book in euros and 50 per cent in dollars."
Mannion acknowledges that Dublin's costs have risen strongly over the past decade but does not believe this has done serious damage to its competitive position. "We've come a long way since the early 1990s, when marketing efforts emphasised our low costs," he says. "However, I don't feel our costs are now higher than those in competing jurisdictions such as Luxembourg and the Channel Islands. Salary scales in Dublin are now on a par with Luxembourg for the first time."
Deloitte's Nolan notes that firms in Ireland can keep costs under control by relocating outside Dublin. He says: "There is a challenge in that Dublin is now quite a high-cost location in which to do business. Certainly property is costly, and we have to be careful that the infrastructural advantages outweigh that.
"However, the IDA aims to encourage business location not just in Dublin but throughout Ireland. There's evidence that mutual fund servicing at least is now being done increasingly in provincial locations as major administrators set up quite substantial operations outside Dublin, such as Citco in Cork and PFPC in Wexford."
Daly says that while BISYS has examined other European locations, it has found none that are more attractive than Ireland. "We have looked at other jurisdictions around Europe, but we still keep coming back to Ireland as still the best place to run a business, and our competitors seem to have done the same thing.
"Instead of opening an office in Jersey or Luxembourg, people like us are saying, 'Let's open another office outside Dublin', as we plan to do this year. We started off with the intention of opening another office in Europe. But when we did our analysis and compared other jurisdictions on the ease of doing business, the depth of labour pool, cost, assistance from regulators and tax - which is very significant - Ireland is still the best place to be."
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