By James Williams – The advances being made in technology to support hedge fund managers are significant, not only because the way hedge funds operate is becoming more complex thanks to multi-prime relationships and the trading of new instruments, but also because of the intense pressure of regulation.
Technology vendors, managers, fund administrators and prime brokers are all facing huge workflow challenges that require greater integration and, ultimately, automation as the industry moves towards ubiquitously towards a real-time operational environment.
Advent Software has long been a pioneer in meeting the growing demands of the global financial industry. Its Advent Geneva accounting engine aggregates data in one place to give managers a real-time view of P&L, whilst Syncova handles liability accruals and Tamale is used as a research management tool. There are believed to be plans in the pipeline to build an interface that will improve the aggregation of data however Advent is not commenting on product specifics.
Whereas risk reporting, as recently as five years ago, commanded far less of a manager’s attention, this is simply no longer true. Bigger funds are having to ramp up their compliance teams and can afford to spend sizeable amounts strengthening their operational infrastructure. Sebastian Ceria (pictured), CEO of US-based Axioma, who specialise in providing portfolio construction tools to the market, has noted increased manager interest in the area of risk both for “regulatory and performance reasons”.
“For medium to large hedge funds that already have PMS (Portfolio Management Systems) they’re thinking of upgrading their risk systems; that’s where we’re seeing demand. Our robust risk models are updated daily. In the context of high market volatility this makes a difference and that’s why they’ve been looking to us as a partner as they expand their risk models,” notes Ceria. This has become the industry norm with other firms also offering daily updated risk models.
Ceria says that Axioma’s recent major technology development involved packaging its risk model generation code into a piece of software that it now licenses. The product is called the ‘Risk Model Machine’ and enables managers to generate their own risk models. After first being launched last May, version two was released last December. “It’s not just a risk model but the ability to customise it to your own specific business needs,” adds Ceria.
Rob Agne, Director of Global Product Management for ConvergEx’s Eze Castle software says that investors today want risk overlay and greater transparency: “Consequently, we’re developing our own risk tool to run what-if scenario analysis wherein an analyst or portfolio manager can take a particular event and work out what impact it would have on their portfolio. This will integrate seamlessly with the Eze OMS (Order Management System) and is scheduled for release in 2012.”
One clear challenge that technology vendors face is supporting fund administrators, who themselves are faced with having to provide valuation and reconciliation on multiple assets from multiple prime brokers. Trade flows have risen in volume and become more diverse. “We’ve seen a pretty fierce push from the managers to the administrators to give them an aggregated multi-prime platform that has the ability to do everything from front, middle to back. At the same time the administrators are pushing firms like ours to fill that technology void,” comments Sameer Shalaby, President of Paladyne Systems, who provide OMS and PMS solutions to hedge funds.
Agne agrees, adding: “We’re being pushed to provide additional data integrations so that administrators can produce timelier reporting. They’re being pushed, we’re being pushed: we’re all in the same boat.”
Axioma is responding to the rise in multi-asset trading by developing a range of multi-asset class risk models covering the likes of credit, commodities and real estate. Says Ceria: “We plan to release these new models towards the end of the year. There’s also going to be a risk application designed for the middle office that can be used by hedge funds or asset managers alike.”
Although European and Asian hedge funds have long used independent administrators, this hasn’t been the case in the US. The self-administration tide is changing, however, because institutions are demanding it. Rather than spending heavily building a full accounting function in-house, a lot of the bigger hedge funds are now outsourcing middle- and back-office functions to their administrator, scaling back their operations teams and saving costs, happy enough to do a shadow NAV rather than a full-blown one.
“It’s beneficial to simplify their infrastructure but it’s putting more pressure on administrators. Managers want a multi-prime broker platform offered by the administrator, complemented with technology services that provide them with desktop tools to help with everything from front- to middle-office: e.g. trade capture, real time P&L, risk analytics. That model is where we think the industry is moving,” says Shalaby.
Real-time integration and managers communicating trades to their service providers as they’re being entered illustrates the industry’s move towards workflow automation. Paladyne, Advent and SunGard’s systems all connect directly to sell side brokers to manage data seamlessly, which is essential when creating these platform solutions.
Dae Kim, Director of Hedge360 at SunGard, stresses that managers need to have a consolidated portfolio system like Hedge360 to support their multi-prime relationships. “Internal technology requirements are getting higher because of these relationships, increased due diligence, reporting and the trading of more complex instruments. Our goal with Hedge360 was to design a completely integrated solution that would encompass multiple SunGard products that are tailored to specific business requirements and integrate them on a private cloud for our hedge fund clients. Hedge360 is essentially a delivery platform,” confirms Kim.
The key to this is making sure separate products integrate with each other. SunGard uses FrontArena for front-office real-time P&L and risk, whilst APT is an advanced risk analytic platform and VPM provides back-office accounting functionality. “We’ve integrated with Bloomberg to provide static security master data, real-time pricing and all the primary EMS and OMS platforms so we can consolidate data from prime brokers and fund administrators.”
As new funds aren’t encumbered with technology they’re typically launching with a couple of primes, a fund administrator, a simplified skeleton staff and outsourcing most of the technology functions to the administrator. If they then get some of the technology themselves it’s a bonus says Shalaby: “That’s the world we’re living in and we’re going to see more of this type of set-up in the future.”
Another benefit of improved workflow integration is that managers can pick and choose what applications to use. Platforms like Hedge360 can be used to optimum effect, each program is like a piece of lego. “Hedge360 is a framework in which you can plug and play any modules you want. A recent start-up chose the platform and implemented FrontArena, which they used for about seven months. A prospective institutional investor wanted the manager to run his own shadow accounting so we bolted on VPM to provide that additional functionality with all the trade and price information being fed into the manager’s system ” explains Kim. “They can then tell investors that they’re running a shadow book independently of their administrator.”
The theme here is one of close partnership and collaboration between vendors and administrators. Indeed, Paladyne was recently selected by Butterfield Fulcrum and in Shalaby’s view if managers are going to push their service providers for an all-in-one solution then it makes sense to foster these partnerships rather than administrators going out and building their own technology system at great expense.
“Getting someone like Paladyne to team up with an administrator like Butterfield Fulcrum to build a platform from front- to back-office is the combination that managers are ideally looking for. We provide a front-end component that sits on top of Butterfield’s platform. As soon as you enter a trade it shows up on their system. It makes end-of-day reconciliation that much simpler, giving the administrator the ability to provide value-added services in the middle-office area,” says Shalaby.
That’s not to say that managers are suddenly going to stop spending on new technology. Quant shops will continue to invest in their black boxes and the secret sauce that managers are reliant upon but there’s likely going to be more of a balance in technology: spending on in-house proprietary technology versus outsourcing ‘commoditised’ functions to service providers.
Seemingly overnight, people have embraced mobile technology: the use of applications on iPads and other tablet devices has given rise to a growing adoption among fund managers of cloud-based systems. It’s fundamentally changing the way people work.
Advent Geneva was recently chosen by high-profile start-up Carrhae Capital to maximise its efficiency and transparency and whilst iPad applications already exist for Tamale, Tom Zdon, Vice President of Business Development & Solutions at Advent confirms that Geneva’s mobile capability is still being tested: “When we build the mobile device application for Geneva it will be able to take data not only from us, but also the manager’s prime broker(s) and administrator and consolidate it. We’ll be launching a whole set of web-based and mobility-based tools that are workbench related at the end of the year and we’ll be showing prototypes at our conference in May.”
Etonbridge is a London-based hedge fund technology consultancy. Its founder Campbell Thompson previously worked as a CTO for a number of years at Citadel Investment Group and other hedge funds. Marketing Director Tristan Last also worked as a technical consultant for Polygon Investment Partners, meaning both have clear insights into the unique technology pressures facing today’s managers.
“We talk their (CTO/COO) language and understand what risks they’re prepared to take,” says Thompson. “A lot of integrators and service providers want to make margin on the services they provide – we provide a kind of sanity check to make sure that what these companies say they’re going to provide is the right technology at the right cost.” Thompson notes that the firm is seeing growing interest in security management. Three years ago, a firewall was deemed acceptable. But with the recent proliferation of social media services like LinkedIn and the use of tablet devices and iPhones, CTOs are looking at integrating these things into their work environment, yet they’re conscious of the security risks.
“There’s more interest in penetration testing, whereas managers two years ago wouldn’t have entertained doing that. Also, people want to go to a more granular level with things like web security gateways, which look to a greater depth at data going in and out. Managers want to ensure they’re not losing things like proprietary code,” asserts Thompson.
Going forward, Thompson thinks the firm’s advisory role on the use of cloud-based solutions will accelerate, given that it’s still relatively new technology. The attraction of cloud environments is the lower total cost of ownership. The danger for managers is they may potentially be pushed into an environment that doesn’t necessarily fit given that service providers have a vested interest in getting a return on their investment.
Says Thompson: “Cloud is the right way to go but it’s still embryonic technology that needs to mature so my view is that fund managers should look at what they have, work out what fits in the cloud and what doesn’t and go for a hybrid solution. I think we’re still 18 to 24 months away from an environment where managers will feel comfortable using cloud-based systems.”
Last agrees, adding: “There’s not a one-size-fits-all for cloud. We’re helping clients decide what services work on the cloud, and what don’t, and what will in the future. And with some clients we’ve simply said ‘the cloud isn’t suitable for your infrastructure yet’.”
One of the issues with cloud, presently, is connectivity. For high-frequency traders and quant funds executing trades in the cloud is pointless because of the inherent latency. “There’s room in the market for someone to put infrastructure into the likes of Equinix data centres where they provide a co-location service, or to work with companies like Fixnetix to deliver ultra-low latency connections: I don’t know of anybody out there currently doing that properly for cloud-based services,” says Last.
Advent Syncova is offered to smaller hedge funds as a cloud-based solution, as is Hedge360. Says Kim: “Because technology has come so far and because of our hosting capabilities, Saas implementation really works well, especially for small- to mid-sized managers.”
Managers today are looking for alpha opportunities in ever-more exotic markets, putting pressure on their brokers to provide access. Agne concludes with the following observation: “The more markets that managers operate in, the more it creates a data management challenge – and with that comes a connectivity challenge. There’s an increasing need for real-time interfacing and the whole collapsing of front- middle- and back-office solutions offered by vendors.”