By James Williams – What is evident among the top-tier prime brokers is the emphasis they place on helping clients and their end investors do their best work.
That starts with the quality of the prime brokerage offering, the safety of their assets, the safety of the counterparty handling those assets and the alignment between the fund, its investors and its financier according to Philip Vasan (pictured), head of prime services at Credit Suisse, New York. Pricing is a secondary function of this.
“We’re aiming to get those right, after which pricing becomes an outcome. Are clients actually getting what they need to solve their problems?
“That’s an important distinction we’ve tried to draw with our clients over the last few years,” says Vasan.
Firms like Credit Suisse take a highly tailored, focused approach to prime brokerage. Quality of operation is, in essence, the ultimate value-add. Whereas some in the industry have been keen to over-expand their client base, top-tier primes have taken a more considered approach, allowing them to spend more time with each client. Vasan says that the firm has already digested the capital impact of Basel III and operating in that new framework for its clients.
Stu Hendel heads up the prime brokerage business at Bank of America Merrill Lynch. One of the big strategic focuses for the business has been in building out a dedicated team to focus solely on the start-up space.
“In today’s resource-constrained environment it comes down to picking your sweet spot, and dedicating the proper resourcing. We’re trying to do that in a measured way. When we make a decision to partner with a start-up manager we over-resource them,” says Hendel.
Hendel’s start-up team sits within the prime brokerage business but is effectively ring-fenced. It covers consulting, start-up services, start-up sales and capital introduction on a global basis. Adds Hendel: “To be a viable, long-term prime broker you have to be in the start-up space because it allows you to build relationships from the ground up.”
Newedge’s prime brokerage business is widely regarded as the market leader for CTA/managed futures strategies, having won a combined 61 European futures and fixed income mandates last year.
But as Duncan Crawford, co-Global Head, Alternative Investment Solutions (AIS) group emphasises, the firm is not resting on its laurels. Constant evolution is the name of the game.
“Firstly, we’re opening new distribution channels for our listed derivatives business. Our new solutions will provide a broader range of buyers access to managed futures which – in general – is a different process for UCITS and mutual funds compared to offshore funds. We’ve also been a major provider of managed account solutions since day one: half of our business is in the managed account space, which continues to grow.”
A further sign of evolution is the fact that this year Newedge rolled out its FX prime brokerage offering to enhance its multi-asset platform offering. Newedge has been doing FX clearing and settlement for the last 15 years for a select number of clients but now a more enhanced “industrialised” FX solution is available to a wider audience.
The benefits of this platform to traders are greater operational efficiency and optimisation of post-trade allocation and reconciliation.
Says Crawford: “A manager can trade with multiple liquidity providers on our credit lines. Some of those trades will go to other FX clearers and some we will clear ourselves as their FX prime broker. Managers will have all their FX trades give-up to us to then split the allocations according to the account and “reverse give-up” the trades to their various managed account FX clearers. It’s very efficient for processing, netting and margining.”
The ability to provide a fully consolidated suite of financing, settlement and clearing, and value-add services across all major asset classes is something that all serious prime brokers now have to offer.
Credit Suisse integrated everything a fund could trade or finance into a single asset class neutral offering some 10 years ago, providing its clients with a complete toolbox to address their trading needs. In what proved to be a prescient move, this led them to develop the multi-prime solution well ahead of the financial crisis.
“We were willing to cannibalise our business to prepare our hedge fund clients and their investor clients for the reality that a multi-prime solution was both safer for the hedge fund, and would enable them to wield their buying power more effectively,” says Vasan.
Ajay Nagpal is head of prime services at Barclays Capital. Operationally, the firm has developed a comprehensive solution where all equity-related financing – cash or synthetics – clearing and settlement falls within prime. Likewise for fixed income, be it the repo business or the prime brokerage business.
“I don’t believe there’s any other organisation where equity financing, cash and synthetics, fixed income financing – repo or prime brokerage – futures clearing and execution, FX prime brokerage and OTC derivatives clearing all rest under one umbrella.
“Our strategy is to deliver the sum of those parts to our clients in whatever combination they require,” says Nagpal. Also key to the firm’s prime brokerage offering is its expertise and insight of the financing markets which derives from the fact that, as Nagpal states, “we are responsible for funding our clients’ positions and also the bank’s balance sheet across all asset classes”.
This has allowed BarCap to evolve its prime services business to the point where, today, a hedge fund client can have a single conversation encompassing all of their financing needs, all of their clearing and settlement needs, and leverage non-commoditised services including capital introduction, research and portfolio reporting across each major asset class.
Hendel confirms that BoAML rolled out its fixed income prime brokerage platform last year in response to the move towards centralised clearing of OTC derivatives.
This represents a huge growth area for primes and those that have the operational structure in place will lead the way. Those that fail to evolve – perhaps because the costs are too onerous – will disappear.
“We want to ensure that we have not just the capability to clear and settle those products but to cross-margin those products and offer collateral efficiency with respect to those products as well.
“At the end of this you’ll have a client who can have his collateral most efficiently managed by having all his products cross-margined, having all his collateral optimised for purposes of clearing and posting margin. We’re not there yet but our goal is to be a one-stop shop for clients across asset classes,” states Hendel.
“Being a Listed Derivatives house offers us great opportunities in the developing OTC clearing space,” confirms Crawford.
Credit Suisse has also moved purposefully to support OTC clearing and has gone live with its client offering but it’s still early days. “We are still in the foothills of client adoption but moving purposefully upwards,” states Vasan.
Nagpal believes that asset segregation is another important differentiator for prime brokers today; specifically, the ability to offer clients a menu approach. Some want unencumbered assets swept out to a third party custodian. Some might ask for their initial margin to be segregated. Still others might explore voluntary segregation provided by the prime broker, albeit at a cost.
“My point here is that there’s a menu of techniques clients can use, and most clients have determined what combination on that menu best fits with their own risk management objectives,” says Nagpal.
Hendel adds that Bank of America Merrill Lynch has partnered with third parties to develop its own internal custody solution to provide seamless customer support.
Although not always championed, the quality of a prime broker’s research and consulting expertise remains a key value-added service.
Managers now work in a new era of higher standards and much greater complexity. This has prompted leading primes like Credit Suisse to engage in active dialogue with clients on issues that simply weren’t top-of-mind a few years ago: e.g. safety of assets, best practices, managing costs in a more informed way.
“A hedge fund’s clients no longer include just investors and their consultants but the regulatory authorities as well. The insight and content that we are creating respects that we are speaking now as much to the CRO and the CIO of a fund as we are the CEO and CFO,” says Vasan, confirming that the firm’s Prime Consulting team is the busiest ever.
“Top-of-mind for the CRO today is regulatory risk management. The evolving regulatory framework will require the hedge funds of this decade are going to have to operate with a more thoughtful approach and meaningful scale in order to be viable. Our consulting team is devoting considerable focus to the rapid evolution in the job description of our hedge fund COOs, CFOs and CROs.”
Likewise, Hendel emphasises the value of consultation. In his opinion you cannot be a full-service prime brokerage without it: “Any new avenue of value-add we can think of we’re trying to impart to our clients. It could be providing colour around the stock lending market, the capital raising environment, the regulatory environment.
“Chris Throop is our head of Prime Brokerage Business Consulting and he spends all his time thinking about those different areas of content.”
Crawford cannot emphasise enough just how important research is and the benefit it brings to doing capital introduction work. Newedge has been at the vanguard of research on futures markets since the 1990s. Today, with investors looking to diversify away from equities and into more managed futures and global macro strategies, the firm is well placed to leverage its expertise and help educate investors who wish to increase allocations into such strategies.
“We’ve got data on individual futures markets which we’ve stored on a tick basis since 2000. We’ve been doing some groundbreaking research using that data, which distinguishes us in the market and adds value to our client proposition,” says Crawford. “The most recent piece of research we put out was on autocorrelation of managers’ returns, which was well received within the investment community.” Published last month, the paper is called It’s the autocorrelation, stupid <http://trendfollowing.com/whitepaper/newedge.pdf>
Commenting on where he thinks future growth opportunities lie, Nagpal says: “I think in fixed income we’ll maintain our dominant position, in equities we’re growing aggressively, and for OTC derivatives clearing, futures and FX clearing, and we’ve established a multi-asset class clearing model.”
Going forward, prime brokers will need to become increasingly flexible as hedge funds move into new regulatory waters.
“We are working toward a model that helps managers tap other sources of financing away from prime brokerage. In a way we’d like to be the prime broker that helps hedge funds become less dependent on prime brokers.
“We plan to continue targeting our clients on a handpicked basis and will focus our attention on two fronts: to help them do their best work today, but also to think ahead to help adapt their businesses,” says Vasan.
“Ultimately it’s about helping our clients manage change in the interest of their investors.”
