Tue, 08/11/2011 - 17:59
By James Williams - Insistence on position-level transparency has been de rigueur since day one says Lisa Fridman (pictured), Head of European Research at PAAMCO, a major institutional FoHF firm established in 2000. She says that whilst they weren’t using managed accounts in the early years emphasis on transparency was paramount in the team. By logical extension, the firm then decided to create its own MAP in 2005, way before the global meltdown in ’08 prompted investors to seriously consider managed accounts.
“We have a preference for structuring our investments in a managed account or a fund-of-one format. On a separate funds platform PAAMCO is the investment adviser and the hedge fund managers are the sub-advisers. With a fund-of-one structure, the manager is the adviser but the fund is only open to PAAMCO investors,” explains Fridman, adding that she’s hearing of more FoFs structuring their investments in a managed account format.
One of those is EIM, a behemoth FoHFs founded in 1992 by Arpad Busson. The firm runs approximately USD7billion in assets and like PAAMCO caters to a large institutional audience – 98 per cent are institutions. In June 2010 it launched its own MAP – LumX Dedicated Fund Platform. Deutsche Bank were closely involved in the set-up and SS & C were chosen as the administrator with BNY Mellon acting as cash custodian. Deutsche performs the risk management function once SS & C has reconciled all portfolios so the whole operation is very robust and an example of what big investors can achieve when they create their own customised solution.
“We looked at how we could create our own system for controlling what was in portfolios and quickly saw that the managed account route was the most sensible for doing that. For us it was important to get transparency and control on the offshore funds but the managed account platform was the best way for us to be entirely comfortable,” explains the firm’s CIO, Eric Bissonnier.
EIM also uses a risk platform for its offshore funds called RiskMetrics. This gives additional control that perhaps investors in other commingled funds don’t enjoy, but the big difference, and one of the main reasons investors choose managed accounts, is that managers have their money tied up in commingled funds. No matter how rigid the operation, investors are exposed to the manager’s whims. If he decides to do something that’s unacceptable there’s little an investor can do – on a managed account, though, you can simply fire the manager.
Bissonnier says the platform currently supports 15 managed accounts totalling around USD1billion. Investors that decide a managed account is the right solution to meet their fiduciary needs can then have their investment objectives met by EIM constructing a bespoke FoHFs portfolio. A wide range of strategies are available apart from global macro. “We will have one by early next year,” says Bissonnier. “We have CTA managers, equity l/s, credit l/s and a multi-event manager so we’ve got a pretty broad range of managers. It seems there’s more interest in global macro given they’ve made money this year.”
Some managers might be tempted to go down the managed account route because of the obvious benefits of attracting new assets and a diversified class of investor. But less liquid strategies such as private equity-type products don’t necessarily work – often a lot of the book is carved out to improve liquidity and bears little resemblance to the reference fund. That could then lead to tracking error issues.
Man GLG operates one of the largest MAPs in the industry. Home to 71 managed accounts and some 10 infrastructure managed accounts, current assets total around USD7.45billion and as Stephen McGoohan, a MAC Senior Analyst at Man Group, explains: “We select managers we have conviction in. We don’t want to buy a product that we then carve into pieces unless it’s to ensure the manager is focusing on what we believe is their core competency. We put some restrictions on managers in a way that ensures the risk is reduced to our investors and us but which allows them to do what they’re good at.”
Bissonnier agrees: “We want to access talent and allow managers to develop their strategies without constraining them in any adverse way. We’re not looking to make more liquid versions of flagship funds. What we’re looking for is more control and transparency.”
The issue of whether liquidity in managed accounts should be the same as the reference fund is interesting and one that divides opinion between managers.
London-based Dalton Strategic Partnership has taken on its first two managed accounts this year confirms CEO Magnus Spence, but there were a few conditions attached. Namely that there would be no distinction in investment objectives between the reference fund and managed account and ideally that the investors used the same prime brokers as Dalton to streamline the account’s objectives with that of the commingled fund. On liquidity, Spence says: “We wanted the liquidity preferential position in the SMA to be minimised as much as possible. It’s important that our fund investors don’t feel marginalised.”
Derek Doupe, Director of Marketing at The Cambridge Strategy, says there’s no requirement for investors to share the same liquidity terms as its Cayman fund: “Sometimes tailored portfolios want to be slightly different from the benchmark portfolio. We’re happy to accommodate clients as they have fiduciary duties. Also we have no lock-ups or gates on our pooled funds.”
Given that TCS is a leading currency manager, Doupe says that the benefit of investors using managed accounts is that they can fund positions on margin rather than being fully invested in a commingled vehicle. Consequently, unlike other hedge funds over 80 per cent of the firm’s assets are in managed accounts. Quite how investors go about this inevitably varies given the choices available. Doupe says that some clients choose public MAPs, others move managers across into their own bespoke platforms. “We also have some pension fund clients who come to us and decide they want to do a mandate with their custodial bank sitting in the middle,” adds Doupe.
Pricing is a key issue when considering the options.
Liongate Capital Management, another large hedge fund investor, currently runs around USD1billion in managed account mandates says the firm’s co-founder, Jeff Holland. Around one third of the firm’s assets are in single client funds. Some investors choose to use Liongate’s service providers in a structure that closely mimics the commingled vehicle whilst at the other extreme other clients appoint their own service providers and have full control of custody.
“Typically our single client funds use our own service providers. There’s a pricing advantage to doing this. Doing it themselves is a big cost burden. However, it is an optimal solution because it gives them complete control and flexibility if they want to move the mandate,” explains Holland.
Quality of data is vital in managed accounts. EIM chose SS & C as its administrator because “they’re extremely efficient in providing data to all parties including our own risk systems and Deutsche Bank’s own internal risk monitoring tool. We get a daily feed on all our positions in a format we can exploit. It sounds simple but there are few administrators that can do that,” says Bissonnier.
Hedge fund managers are becoming more accepting of managed accounts. This is perhaps easier for firms like Dalton Strategic Partners that already run a number of managed accounts for long-only funds. Spence thinks that because the supply of capital has decreased post ’08, managers are much less picky. “Investors can call the shots now. Managers are less sceptical of managed accounts, we understand large investors want them and want to directly negotiate fees with prime brokers and, if necessary, close down a manager at the click of a finger.”
CTAs like Winton Capital have been running managed accounts from day one: in Winton’s case, 1997. Spokesperson Robin Eggar alludes to how the managed account space is growing by confirming: “In 2008 the Winton Diversified Program had a 50/50 split between the Winton Futures Fund and managed accounts. Now approximately two thirds of the WDP is held in managed accounts.”
Not all investors are choosing to use FoHF platforms, however. McGoohan says that Man Group’s biggest mandate this year was an infrastructure mandate – that is, helping set-up a platform for the investor. In this case it was BVK, Germany’s largest public pension fund. A second mandate for USS (Universities Superannuation Scheme) in the UK was also won this year.
Says McGoohan: “We helped BVK launch their first managed account in July. Three managers have launched and four more are due to launch before year-end. They’re effectively running a fund of external funds themselves but switching to managed accounts because they recognise the benefits. As well as the launch and structural effort, they rely on us for a risk monitoring overlay to support the significant data coming through, and for consolidated reporting to them. These types of clients are very important to Man because they challenge us to constantly review and improve our model.”
Fridman says that one of the benefits of managed accounts that PAAMCO tries to exploit is the chance to work more dynamically with managers. “For example, if a manager sees an interesting trade that they cannot overweight in their commingled fund, given the investor guidelines, we are still able to discuss the attractiveness of the idea for the PAAMCO portfolio. We believe that in addition to enhanced control of assets, managed accounts provide more flexibility and nimbleness on the investment side.”
“We’re looking at it from an investment manager’s viewpoint not a product viewpoint. For us it’s an extremely powerful tool to access hedge funds both in terms of governance and flexibility that is far beyond what you can do on an offshore basis,” adds Bissonnier. He highlights the bespoke potential of SMAs by confirming that EIM is putting together an SRI (Socially Responsible Investing) offering, a topic of some significance in the pension fund world. “With a MAP there are many ways you can efficiently support an SRI offering with great managers and which complies with institutions’ needs.”
It should be said, however, that improving regulation and transparency in the hedge fund industry is strengthening the arm of commingled funds. It’s not correct to say that every new pension fund will automatically choose a managed account.
“There are other important initiatives in the industry like the Opera initiative to standardize transparency reports that investors receive, helping them to aggregate data and manage their portfolios. So I think there are other ways that institutional investors can get the transparency they require and still invest directly into commingled funds,” says Citco’s Oliver Scully.
“If your portfolio goes illiquid the fact that it’s in a managed account doesn’t necessarily help you,” adds Tim Pearce of Simmons & Simmons.
New platforms are emerging that offer a level of flexibility and control that could become an attractive alternative to SMAs. Just recently, Morgan Stanley launched FX Gateway to provide portfolio diversification in the FX space. Although not a MAP per se, it does support managed accounts if investors choose not to invest through the platform. “We have 5 managers that are live, another 3 that will be live in a month. They’re all very diversified. We’re probably only going to have 10 to 15 managers in total,” confirms James Rogers, executive director and head of the Gateway platform.
The Cambridge Strategy was one of the first managers to be onboarded.
“If you want to invest in several managers, going via a platform has to be a more efficient way of doing that unless you’re investing billions of dollars. You can get into 10 managers under one agreement and change those managers if you need to. The way FX Gateway is set up you can still achieve segregation and asset control and choose whether to invest in a funded or unfunded way,” adds Rogers.
Holland thinks there are geographic preferences for investing in managed accounts. “The MAP story is very much a European one. There’s limited interest in the US and even within Europe there’s less interest in the UK relative to the continent, in particular France.”
This may be so, but Man Group’s McGoohan thinks the benefits of an SMA are never going to be challenged. “We’re confident that more of the bigger institutions will move into managed accounts over the next couple of years. From Man’s perspective they have and always will be a central part of our FoF offering. Managed accounts are a very powerful product.”
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