Evolving institutional requirements drive changes in multi-manager model
By Simon Gray – Multi-manager offerings have long been central to Switzerland’s alternative investment industry, and that seems unlikely to change any time soon, but the five years since the onset of the global financial crisis in mid-2007 have seen significant evolution. This is driven in part by still-emerging regulatory development, but to a larger extent by changes in attitudes and outlook on the part of investors, both institutions and, for different reasons, private clients.
The traditional fund of hedge funds model, which was to a considerable extent driven by demand from the Swiss wealth management industry, is now giving way to more diverse approaches, industry members say, embracing customised solutions and managed accounts, but also alternative Ucits funds and funds of funds.
Meanwhile, the planned amendment of Switzerland’s Collective Investment Schemes Act, which is expected to be in place by the first half of 2013 but has not yet been finalised by the country’s parliament, has created some uncertainty about the future regulatory landscape for managers but also for Swiss-domiciled funds, strengthening the tendency for funds aimed at sophisticated investors to be established offshore, and those with a retail clientele in European Union jurisdictions.
Hans-Jörg Baumann, chief executive of Swiss Capital Alternative Investments and head of the Swiss Fund Association’s Alternative Investments Council, argues that the country’s alternative investment industry remains in impressively good health given the difficult financial environment in recent years and the (understandable) skittishness of investors amid volatile markets and low economic confidence.
“Switzerland’s expertise is absolutely first-rate and professional,” he says. “Across the industry as a whole, market participants understand alternative investment in depth as well as in the broad sense. That applies not just to hedge funds but other types of alternative investment including private debt, private equity, commodities and infrastructure. The expertise here is a given.
“The country has a competitive edge in its international perspective, its familiarity with multi-currency operations and its experience at the cutting edge of financial innovation. It may not be out in front of the competition, but it is in the vanguard of the world’s leading financial jurisdictions. There are many international companies in Switzerland on the insurance side and in banking as well as international pension funds. There are also global leaders in private markets and multi-manager hedge fund investment.”
Markus Fuchs, senior counsel at the Swiss Funds Association, points out that for all the talk of an industry in crisis, Switzerland’s wealth management industry accounts for USD2.7trn in assets under management for private clients and USD1.4trn for institutions. “These numbers indicate that the wealth management industry is in good shape, and that conditions for a strong asset management sector are sound,” he says.
“If you look at the value chain of the industry as a whole, most of the added value is on the distribution side, about 60 per cent, while the asset management area accounts for around 30 per cent and administration in the wider sense generates 10 per cent. Switzerland has lost some of the administration business to Ireland, Luxembourg and others, but it is very strong on the distribution side, and we are taking measures to strengthen the asset management side. We are keen to emphasise that asset managers are welcome in Switzerland and that asset management should become an even stronger pillar of the Swiss financial services industry than it is today.”
The Alternative Investments Council is a specialist committee of the SFA, which in turn is a member of the European Fund and Asset Management Association and the International Investment Funds Association. In the alternative investments sector, the AIC works together closely with the Alternative Investment Management Association, the European Private Equity and Venture Capital Association and the Swiss Private Equity & Corporate Finance Association.
The council, which was established in 2006 by its founding members and came under the SFA umbrella the following year, brings together leading members of the country’s multi-manager hedge fund and private markets sectors. Its goals including expanding the interests of current and future alternative investment activities in Switzerland, and identifying issues that should be tackled by the industry members and/or regulators.
“Performance is the science of being better prepared,” Baumann says. “We believe the industry has adapted its business models and rules of engagements, and is ready to live up to clients’ expectations in a world of constant challenges and change, induced by markets that are undergoing radical changes in many areas.”
He notes that while prudence still prevails among investors, risk-free investments – basically government bonds from Switzerland, Germany and the US – are returning virtually nothing in nominal terms and zero or less after inflation. After four years of rock-bottom interest rates, some cautious investors need to allocate to riskier assets – but that means making sacrifices on liquidity – for example, rates of Libor plus 7 per cent for private debt with a maturity of three or four years.
Most importantly for the industry, the Swiss industry’s client base is no longer as it was before. “Private clients are not back in the market for alternative investments,” Baumann says. “That is not the case for institutional investors, which are allocating to alternatives. That explains why the hedge fund industry is back at USD2bn in assets, and the same is true for private equity, private debt, and for commodities.
“However, the offerings sought by institutional investors have changed. They want improved governance, which means greater influence and transparency, and they don't want to be commingled with other investors that may have conflicting interests. So there’s a question of how managers’ offerings should be structured.
“Large investors know what they want and are unwilling to compromise. They may want fat-tail optimisation, involving market-neutral and liquid macro managers, or more beta in their portfolio, which points to long-short equity, or private equity, a classic equity beta with different volatility characteristics, but they want focused, high conviction allocations.”
Another factor that providers must deal with, Baumann says, is that it takes much longer for clients to decide on allocations. “Previously decisions might be taken within a quarter, but today the investment cycle lasts much longer,” he says. “Then different types of institutional client have different approaches. In Switzerland the official guidelines allow pension funds to invest up to 15 per cent in alternative assets, but only a few actually reach that level. Insurance company investments are subject to different rules, while those with the greatest liberty are family offices.”
Gottex Asset Management is among the established multi-management specialists that are actively tackling the switch by many institutions away from traditional commingled fund of funds structures. “At the moment the number of new mandates across the fund of funds industry is relatively low,” says senior managing director Andre Keijsers.
“There is still a lot of safe haven behaviour, putting money in cash and bonds, but at some point people will want more than the low returns available there. When is a difficult question – it could take six months, it could take six years. But there is growing pressure for increased yields among pension funds, which we think will drive capital to our industry, even though the timing of that remains uncertain.”
Against this backdrop Gottex – whose clientele is 90 per cent institutional – is responding to the changing client requirements Baumann identifies. Says Keijsers: “Our core fund of funds business is moving away from the idea of product providers being solution providers in the direction of customised solutions. It helps that we have enjoyed very good performance compared with our peers, so we are in a good position to benefit if and when the markets pick up. We have the capability and skill set to offer these customised solutions, which could encompass more exotic strategies, managed accounts or other services.
“Our multi-asset business, a product that invests in all asset classes, traditional equity, traditional bonds, hedge funds, private equity, real estate and commodities, is enjoying a lot more interest. The area of dynamic asset allocation, global asset allocation and multi-asset products is experiencing secular growth both in the high-end retail market and among smaller institutions that have adopted an outsourced CIO model.
“Such investors have found it particularly difficult in recent years to manage their portfolio across all asset classes, and especially in North America there is growing interest in outsourcing either the alternatives element or the entire CIO function to an external investment manager.”
An additional focus of growth for Gottex is its managed account platform, GSS, which is attracting increased business from large institutional investors. Dominique Küttel, the group’s head of European marketing and sales, says: “On the fund of funds side, investors want more bespoke solutions. The biggest area for demand is bespoke products using managed accounts.”
Other providers are developing their own adaptation strategies. “A lot of players in the industry realise that the markets are changing – anyone who thinks straightforward commingled fund of funds products are the only thing clients want is living in the past,” Keijsers says. “Other players are looking at areas such as emerging managers or highly liquid products. Different players are evolving in different directions while keeping their core business performing well for their clients.”
Unigestion also has extensive experience in constructing customised solutions for its clients. “Our ability to make tailor-made portfolios has quite an impact on the kind of dialogue we’re having with our institutional clients,” says managing director Jean-Francois Hirschel. “The time when clients invested in hedge funds thinking they were decorrelated with everything is well over. It’s now widely accepted in the industry that hedge funds actually offer a diverse range of strategies and that solutions should be adapted to the needs of each investor.”
The firm’s clients are becoming more interested in hedge funds, Hirschel says, because they’re faced with two different challenges. “First, traditional equities have been volatile and investors haven’t gotten the returns they need to meet their liabilities,” he says. “Secondly, interest rates on traditional bonds have reached historic lows. Hedge funds are viewed both as a diversifier and a way to reduce volatility. The one-size-fits-all strategy doesn’t work anymore. Each strategy should be adapted to a specific situation.”
Pictet Alternative Investments chief executive Nicolas Campiche says: “Some clients ask us to construct a fairly concentrated portfolio of single managers – five to 10 managers in a single strategy with very specific objectives. If the client is smaller or less sophisticated, they will typically invest in our trading funds of hedge funds to get the decorrelation benefit, or in our commodity funds of funds.”
PAI is also seeing a shift toward customised solutions. “We’re seeing more demand for single strategy portfolios, which is clearly an important trend,” Campiche says. “The main question for investors looking to add hedge fund strategies to their portfolios is how to get superior risk-adjusted performance. Transparency and segregation of assets are important considerations too, but the most important remains risk-adjusted performance.”
More fund of hedge funds managers are trying to position themselves as advisers, according to Jean-Pascal Porcherot, global head of hedge fund sales at Lombard Odier Investment Managers. “With our fund of hedge funds model we want to invest in managers who agree to be on our managed account platform,” he says. “We launched the 1798 product range four years because we wanted full transparency and risk management.
“There would be a clear disconnect if at the same time we continued to invest in external managers providing us with no transparency and limited details on their risk management. With regard to funds of funds, it makes no difference when we invest in managed accounts whether the manager is external or internal. All managers have to work under the same constraints.”
Pius Fritschi, head of hedge fund business development at LGT Capital Partners, says: “We started investing in the managed account platform in 2000. It’s not about picking funds like the traditional fund of hedge funds model; it’s really a multi-manager fund of managed accounts with an active portfolio management overlay.
“The big trend in the Anglo-Saxon world is towards equity substitution, with investors reducing equity risk and moving more into equity long/short strategies. Because a lot of clients here, including Swiss institutions are focused on the fixed income world, reducing equity risk and replacing it with long/short equity makes partial sense. Adding diversifying strategies is key to these clients. They worry about liquidity, transparency, and control, which is why they favour the managed account model.”
Fritschi says LGT looks at managed accounts from an investor perspective. “If you invest with CTAs but you don’t have the transparency of managed account positions, it’s very hard to understand what they do,” he says. “Instead of investing into the black box, we make it very transparent – that’s why we started investing 10 years ago. Managers’ willingness to adopt managed account mandates has increased over the years. You only get the best managers to accept these mandates if you have a long, trustworthy relationship.”
Switzerland is not particularly known as a centre of single-manager hedge fund expertise. Says Andre Valente, chief executive of UBS Fund Management (Switzerland): “It is a strong location for distribution and asset management, but it’s less a place to create, manufacture and domicile these investment vehicles. It’s to do with the infrastructure of prime brokers more than a mentality. We provide our services – the real production and wrapping of assets, registration of assets, accounting – for some Swiss registered funds as well, but it’s not a huge domicile for investment vehicles.”
But there are exceptions. Last year Swiss Hedge Capital launched what has been billed the first Swiss-domiciled single-manager hedge fund when it created the Swiss Hedge Trading Fund, following a strategy that the firm has been offering through a Cayman vehicle for six years and is also available through a Ucits structure.
Says founding partner Gerhard Schreiber: “We decided to set up an onshore fund in Switzerland because after 2008, global leaders put out the message that there would be no longer any unregulated financial centres, products or markets in the future, and we thought the future of the hedge fund industry would be more onshore that offshore.
“Logically, as we were based in Switzerland, we wanted to launch an alternative fund there. The response so far has been pretty good. The fund is constantly growing, and we are currently running CHF55m in assets, compared with CHF200m for the offshore fund and CHF70m in the Ucits fund.”
However, Schreiber is unsurprised that other firms have not yet followed the initiative. “Before the new legislation comes in there will not be a lot of movement in this industry. We are in the middle of the process, the details are still outstanding, and to establish such an investment vehicle you definitely want to have a very clear picture about the regulatory environment you are launching into. For now everything is on hold, and what happens in the future will depend very much on how the law turns out.”
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