Prime Brokerage & Hedge Fund Investor Survey 2013

December 2013

Technology helps Redefining the The conundrum boutiques support ‘mini-prime’ model of investing in smaller managers for fund managers emerging managers Contents In this issue…

04 Technology helps boutiques support smaller managers By James Williams

07 Focusing on diversification Interview with Duncan Crawford, Newedge

09 Extending reach to the wider community Interview with Jack Seibald, Concept Capital Markets LLC

11 Redefining the ‘mini‑prime’ model Interview with Robert O’Boyle & Julia Bronson, Liquid Holdings Group

12 Hedge Fund Investor Survey: The conundrum of investing in emerging managers By Marianne Scordel

14 The right relationships are vital to success Interview with Kevin LoPrimo, Global Prime Partners

Publisher

Editor: James Williams, [email protected] Online News Editor: Mark Kitchen, [email protected] Deputy Online News Editor: Emily Perryman, [email protected] Asia News Correspondent: Hans Schlaikier, [email protected] Graphic Design: Siobhan Brownlow, [email protected] Sales Managers: Simon Broch, [email protected]; Malcolm Dunn, [email protected] Marketing Consultant (CI): Leanda Jane Guy, [email protected] Marketing Administrator: Marion Fullerton, [email protected] Head of Events: Katie Gopal, [email protected] Chief Operating Officer: Oliver Bradley, [email protected] Chairman & Publisher: Sunil Gopalan, [email protected] Photographs: NYC & Company, various Published by: GFM Ltd, Floor One, Liberation Station, St Helier, Jersey JE2 3AS, Channel Islands Tel: +44 (0)1534 719780 Website: www.globalfundmedia.com ©Copyright 2013 GFM Ltd. All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior permission of the publisher. Investment Warning: The information provided in this publication should not form the sole basis of any investment decision. No investment decision should be made in relation to any of the information provided other than on the advice of a professional financial advisor. Past performance is no guarantee of future results. The value and income derived from investments can go down as well as up.

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 2 Jefferies. The global investment banking firm.

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11/27/2013 11:36:34 AM Overview

Technology helps boutiques support smaller managers By James Williams

Given that around 90% of the hedge opening up a huge opportunity for younger fund industry is dominated by smaller non-bank owned primes like London- managers running between USD100milllion based Global Prime Partners whose modus and USD1.5billion in AuM it is perhaps operandi is serve the start-up and emerging little surprise that smaller, boutique prime manager market. brokerage firms are holding their own against “In terms of total industry assets, 80 per bulge bracket prime brokerages owned by cent are probably with the top 10 per cent European and US banks. of managers. That leaves 90 per cent of Banks are now under enormous pressure managers in the marketplace for us. From to strengthen their balance sheets under what I’m seeing, some of the bigger primes Basel III. As a result, their prime brokerage are moving even higher upstream and divisions are becoming ever more ruthless in requiring higher minimum revenues and terms of the size and quality of hedge fund higher minimum sizes (in terms of AuM). managers they are willing to support. This is “I’ve heard of two large primes who have

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 4 Overview

recently raised their minimums and that’s intention is to become the top service good news because it means potentially provider in the start-up and emerging more business for firms like us,” explains manager space.” Kevin LoPrimo, Global Head of Hedge Fund O’Boyle adds: “The advantage is we were Services at Global Prime Partners. born in the cloud so we are able to offer Prime brokerage is a massively expensive our solution from a technology standpoint undertaking. Firms need to have significant at an extremely competitive price. Liquid skin in the game to ensure that they Prime Services was born out of our belief have the full suite of trade execution, that there needs to be a full-service offering margining, securities lending, clearing and from front to back across managed services, custodial services in place, as well as non- technology and excellent trade execution: commoditised services ranging from capital offering all of those services on a cloud- introduction to market research, regulatory based platform is effectively what the next consultancy etc. In effect, this requires a generation of hedge funds need.” significant IT spend. For any new manager, the costs of setting One trend that seems to be emerging in up a hedge fund keep rising. Having the the US, in parallel with the rise of boutique ability to keep the IT spend to a minimum primes in Europe, is that of technology yet still receive high-touch support and, at solutions groups moving into the prime the same time, know that the fund’s assets brokerage space. One such firm is recently are being cleared and kept in custody by established Liquid Holdings Group. The tier-one institutions is a significant advantage. Liquid technology platform has been For smaller primes like Liquid and Global developed to support start-up and emerging Prime Partners, developing relationships is managers not only from an execution the name of the game. Indeed, the two firms standpoint via its EMS/OMS solution, themselves have joined forces, with GPP but also to provide pre-trade compliance now using the Liquid platform to extend controls, real-time risk monitoring and even the suite of services – both during and after shadow accounting; all of which is delivered trade execution – to its clients in Europe. on a cloud-based platform. LoPrimo confirms that GPP has broadened What technology firms like Liquid are out its business by establishing clearing and doing is effectively pushing forward the custody relationships with BNY Mellon as evolution of the ‘mini-prime’ model, which well as Deutsche Bank, on top of existing has proved hugely popular in the US but relationships with Nomura and Kas Bank. has, in the view of Robert O’Boyle, EVP of “Working with other service providers Sales & Solutions, been a limited model. opens more doors for us and gives us This is because until now mini-primes more ammunition when we are targeting have focused almost exclusively on providing new managers or looking to open up other execution support to clients by acting as lines of business. A big way for us to get the introducing broker to more established introductions to clients is via other service primes like Credit Suisse, Goldman Sachs providers, including some of the primes etc. What Liquid is doing with its technology themselves. We’re talking to a number of platform is expanding the level of support; bigger primes right now who are doing their trade execution is just one element. annual or bi-annual cull of the smaller end of Providing best-of-breed technology solutions their market and they’re saying to us ‘Here’s a is the real value-add. handful of clients you should talk to because “We offer clients the standard prime we’re offloading them’,” comments LoPrimo. brokerage services such as custody, That aside, the firm has experienced margining, securities lending,” says Julia extraordinary growth since it launched its Bronson, who heads up Liquid Prime prime services division three years ago. In Services, “but in addition we will be able year one GPP took on 10 clients only; this was to offer clients LiquidMetrics. This is our intentional as the firm got up and running. real-time risk management system and In the last two years, LoPrimo confirms that will enable us to provide enhanced risk, they’ve added a further 70 clients. performance and P&L monitoring. Our “Currently, we have between 35 and 45 8

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 5 Some see just another meeting. We see connections, providing clients with the right introductions to further their strategies.

Newedge Prime Brokerage teams have more than 20 years’ experience of working with hedge fund managers, CTAs and investors. Through our proprietary database of funds and decades of market and strategy analysis, we off er opportunities to institutional investors to select and access hedge fund strategies. By sharing richer information and greater transparency, we help managers and investors achieve their strategic goals. newedge.com

NEWEDGE. NEW PERSPECTIVES. EXECUTION CLEARING PRIME BROKERAGE

Not all products or services are available from all Newedge organizations or personnel and restrictions may apply. Consult your local offi ce for further details and visit www.newedge.com for full disclaimer. Newedge Focusing on diversification Interview with Duncan Crawford French bank Societe Generale announced in “Managers that are housing their FX early November that it was buying the 50 per prime brokerage with us are saying to their cent stake held by Credit Agricole in leading managed account investors that they should derivatives broker Newedge and in doing move their prime brokerage requirements so assume full control. Subject to regulatory to us because we are able to tie everything approval the deal is expected to be completed together. Our expertise in managed accounts before the end of 2013 and will, according really sets us apart from the competition,” to Duncan Crawford, Global Co-Head of says Crawford. Alternative Investment Solutions, Prime As an agency broker, Newedge streams Clearing Services, be highly advantageous as prices for its clients to avail themselves

Newedge looks to diversify its offering. Duncan Crawford, Global of the best price. “There tends to be a lot “Newedge is well known for supporting Co-Head of Alternative of money moving around and if you don’t managers in the managed futures space Investment Solutions, Prime manage that in an industrial fashion the Clearing Services, Newedge but it’s by no means the only space we costs build up very quickly. Our platform cover. Prior to 2008, investors knew very makes the most of available efficiencies, little about CTAs. Post-2008 that changed; for which directly benefits our clients,” explains the last five years we’ve been talking to big Crawford, adding that cross-margining across institutional investors and educating them on asset classes is another core capability. what managed futures are and how they can “If you are holding your FX trades with help their portfolios. Now we are focused us in addition to futures, equities, fixed on diversification and growth, particularly in income then everything sits within one risk equities,” explains Crawford. environment. That makes margining as The Soc Gen deal should help facilitate efficient as possible. Most investment banks this. Indeed, as an investment bank it will can cross-margin within one asset class no doubt want Newedge to ramp up its – FX, for example – but not across asset mandates in equity long/short managers classes as they tend to be organised in given that it has the CTA, fixed income silos, whereas we can.” and global macro markets well covered. That is particularly advantageous to global According to Eurohedge figures for January macro or equity long/short managers who 2013, Newedge was the leading broker – by might be employing different FX hedge number of mandates – across these three overlays to their strategies. strategies, totaling 81 compared to 46 for As for fixed income, Crawford is excited Credit Suisse and 39 for JP Morgan. by the potential growth opportunities of 2014 Over the last couple of years Newedge and beyond. This is because European has embarked on a serious mission to regulation under EMIR will oblige managers upgrade its service offering, precisely to to exchange-clear their derivatives. support growth into other asset classes. In “Being the biggest futures clearer in the October 2012 it launched an enhanced FX world we are in a strong position to benefit prime brokerage platform to give clients even from OTC clearing. The last couple of months greater efficiencies in the market. have been encouraging; in November, for This has led to an increase in FX prime example, Aquila Capital appointed us as their brokerage mandates, helped in particular OTC clearing firm. So we feel quite bullish by the fact that 50 per cent of Newedge’s about growing the fixed income part of the business is in managed accounts. prime brokerage business too.” n

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 7 Overview

5 clients in the pipeline; we have literally priced that has historically been attracted to us,” 18 clients in the last few weeks and there emphasises Jack Seibald, managing member are still another 12 yet to be priced. It is at Concept Capital. busier than I’ve ever seen it with respect to These capabilities exist through its start-ups.” relationship with sister firm ConceptONE. What these boutique primes are doing is Whereas Concept Capital Markets provides helping start-up managers achieve a degree the standard prime brokerage services by of “investor and operational alpha” they would connecting managers to tier-one institutions have no chance of achieving by going to a including JP Morgan, BNY Mellon and Merrill more established prime broker. And as O’Boyle Lynch for clearing and custody, the focus says, it is not just about enabling execution for of ConceptONE is on middle and back smaller hedge funds, it’s about offering a cost- office work: portfolio and risk analytics, risk effective one-stop-shop solution. reporting on a T+1 basis and, increasingly, “If you look back at the mini-prime market regulatory reporting solutions under Dodd- it was all about enabling execution for Frank and AIFMD. smaller hedge funds and hopefully providing As part of Concept’s evolution, therefore, capital introduction. Today, with the evolution the aim is to raise awareness among of the hedge fund marketplace, execution is emerging and established managers that no longer the endgame. It is about providing actually they can provide effective support institutional-quality tools a hedge fund needs for manager using multiple primes. Seibald to grow their business in a scalable and explains: “If a manager is looking for a reliable way. second or third prime, we’re probably an “You can’t do that without changing the ideal solution for them. When they use mini-prime model. We believe that being born different prime brokers they necessarily in the cloud, providing best practices from have to work with different systems unique a back-office standpoint in conjunction with to each prime. The issue becomes how prime services, is necessarily the new model to aggregate the portfolios and all of the because that allows us to fully support the trading activity into a single view from an rising demands of hedge funds in a cost- intraday management standpoint, from a efficient way.” risk assessment standpoint, and from an Another US prime broker that is looking aggregated reporting standpoint at end of to leverage its existing capabilities and day or on a T+1 basis. showcase them to a wider hedge fund “We can do two things for managers; manager audience, as opposed to only being firstly we can introduce them to one of our associated with the start-up market as an clearing partners as an introducing broker; introducing broker, is Concept Capital. secondly, and perhaps more importantly, we “We aren’t changing our capabilities but can do aggregation using our portfolio and what we are doing is communicating that risk monitoring systems. Let’s say you’ve the capabilities we have are applicable to already got a trading account with Goldman a much broader audience than the one Sachs and you choose us as your second 10

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 8 Concept Capital markets Extending reach to the wider community Interview with Jack Seibald

“As we’ve matured and the industry’s needs repurposed by Concept Capital, which can have grown, we’ve continued to make make certain value-added services available investments aimed at providing solutions to to its prime brokerage clients. emerging and more established managers “We want larger managers to see the as opposed to solely supporting the start-up value in using us for other things like market,” explains Jack Seibald, managing outsourced trading, live portfolio and risk member at Concept Capital Markets LLC. reporting, end of day portfolio reporting. “Start-up managers remain a core pillar of It’s about taking the technology services our business. However, given the increasing we’ve already developed within the firm and regulatory requirements and the demands extending the reach of those services to a for greater transparency by investors a lot of Jack Seibald, managing different set of emerging managers and more the solutions we’ve built answer the needs member at Concept Capital established managers who are looking for a of managers who might otherwise not have Markets LLC more efficient solution,” adds Seibald. thought of us.” One example of this is the outsourced The clearing and custodial relationships trading solution that Concept Capital offers. Concept Capital has with JP Morgan, This year, it has won significant mandates Pershing/BNY Mellon, and Merrill Lynch from two large allocators to be the outsourced are hugely important to start-up managers. trading solution for a series of managers they But thanks in part to its relationship with are investing in via managed accounts. sister firm, ConceptONE, Concept Capital “Our traders are functioning not just as the is strategically extending its reach to do broker when they are trading with Concept business with the wider hedge fund manager Capital, but representing those managers community. when trading with other brokers on the Street. “More managers are coming out of larger “We can do all of the consolidated firms with teams of five or six people and reporting to those managers and the launching funds with a higher initial AuM. investors allocating to them. It opens up We’ve started to engage with such managers a whole new potential customer base that in a variety of ways, even when they’ve we’ve not previously reached out to.” chosen to go to one of the larger primes Offering this suite of additional services is directly. That made us realise we don’t one of Concept Capital’s key differentiators necessarily have to be the introducer of the to the start-up market. After all, any account to one of our clearing partners. We ambitious manager will need to demonstrate can still provide a variety of services to them, that they have solid risk management and be it outsourced trading or live aggregated reporting capabilities to attract potential portfolio and risk reporting,” says Seibald. institutional investors. The additional services stem in part from “Start-up hedge fund managers tend to the symbiotic relationship with ConceptONE, focus on capital introduction and execution which provides portfolio and risk analytics and financing rates. We’re happy to engage and reporting, and increasingly regulatory with them on these terms, but in our minds reporting under the schemes implemented it’s about offering the additional services in the US and Europe. Some of the data discussed and partnering with managers aggregation and reporting technologies as their operational needs become more developed for these services have been complex,” concludes Seibald. n

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 9 Overview

8 prime and we connect you to JP Morgan as the custodian. “Every day we upload from those different accounts all the position activity and reconcile it in one system. All of the trade activity that the manager engages in during the day automatically feeds into the system and updates the portfolio in real time. This means the manager can view their portfolio from a risk and exposure standpoint in an aggregated fashion and, moreover, drill down to see exactly which assets are held with which custodian.” Having a consolidated view, particularly when it comes to cross-margining, is something that other more established primes like Newedge are increasingly approach to those managers hopefully focusing on. This is particularly important helped put them in the right direction to given that Newedge is looking to diversify its build a successful hedge fund. We speak expertise within the prime brokerage space to appropriately sized investors to help – it has a long-standing reputation as the managers build their assets and reach critical leading broker to CTAs – and support more mass to then take on institutional money. equity, fixed income and FX managers. “We’re not looking to make a quick buck “We have the ability to give them from any of clients. We look to build a an aggregated view of their margining symbiotic relationship over the long-term.” requirements both within the fixed income That’s not to say that Newedge is immune or futures part of the portfolio and beyond from regulatory pressures. Under Basel III, if they are trading other asset classes. some strategies will need to be more closely Consolidated reporting is something assessed says Crawford, in particular certain managers are paying closer attention fixed income, global macro and asset-backed to,” comments Duncan Crawford, Global security strategies “that are using a significant Co-Head of Alternative Investment Solutions, amount of OTC non-cleared trades”. Prime Clearing Services at Newedge. Trading. Reporting. Risk management: One of the keys to Newedge’s success, technology is helping smaller primes, thus far, in Crawford’s opinion, has been who perhaps don’t have the same legacy the singular focus on each client. This issues as older and more established prime might sound trivial but at the heart of every brokerages, connect more meaningfully and successful prime brokerage model is the comprehensively to hedge fund managers. commitment to relationship building. It is, perhaps, a sign of where the prime “Managers have strong relationships with brokerage model is headed. But that’s not the team here at Newedge, we’re not a to say that people-driven solutions such as revolving door. From my perspective that’s a capital introduction will be overlooked. key strength of Newedge; when a client calls As LoPrimo concludes: “We have us they know we will bend over backwards family offices and FoHFs as well as some to support them. endowments coming to us saying, ‘We’re “Without that approach we wouldn’t have seeing some talent out there but we’re got to where we are today.” looking for more, what can you show Crawford says he is surprised that larger us?’ and we’re providing the necessary primes are culling their hedge fund clients, introductions. We have, for example, noting that “we can make money on smaller established an agreement with a MAP managers, even if they’ve only got USD20- provider where they are going to allocate to 30million in AuM. some of our managers and that will serve as “We built our prime brokerage platform an even greater incentive for new managers on start-up managers and our consultative to come and join us.” n

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 10 Liquid Holdings Redefining the ‘mini‑prime’ model Interview with Robert O’Boyle & Julia Bronson For Liquid Holdings Group, a comprehensive for introductions to bulge bracket brokers. technology and services firm that focuses Our approach is different. We have signed an on supporting small- to mid-sized hedge agreement with Goldman Sachs Execution and funds, the time has never been better to Clearing, and they will be our clearing partner redefine the ‘mini-prime’ model with a stable and custodian. We are also in advanced talks environment for managers to generate with a second major organisation that will also investor and operational alpha. offer clearing services for us. I’m confident that Whereas mini-primes focus mainly on these two premier providers will adequately execution services, Liquid Holdings leads the meet our needs.” discussion with its highly flexible platform, Liquid Holdings’ objective is to be the which supports managers beyond mere trade Robert O’Boyle, EVP of Sales & top technology and services provider to execution. The Liquid platform is cloud-based Solutions, Liquid Holdings start-up and emerging managers, using key and combines managed back-office services partnerships to offer custody, margining, and with mission critical capabilities across order, securities lending services. In addition, says execution, and risk management as well as Bronson, “we can provide enhanced risk portfolio management, compliance, investor management using our platform’s real-time reporting, and shadow NAV. risk, performance, P&L, and NAV monitoring “This is a paradigm shift, as institutional and reporting capabilities.” quality capabilities, managed services, and In early October, Liquid Holdings announced prime solutions have not been available from a strategic partnership with London-based a single source until now,” explains Robert Global Prime Partners. GPP will use the Liquid O’Boyle, EVP of Sales & Solutions. “Hedge platform to provide existing and new managers funds require a long operating runway to in Europe with the same additional front- to compete for and win new capital. Aside from Julia Bronson, Head of back-office tools that Liquid Prime Services showcasing performance, longer operating Liquid Prime Services, Liquid now offers in the US, allowing Liquid Holdings Holdings runways build investor confidence in the to provide new managers with clearing and team and the processes in place to manage custody in both the US and the UK. operations.” “If our team bumps into a manager six Julia Bronson heads up Liquid Prime months down the line looking to launch a Services, the execution, clearing, and Europe-focused strategy, we have a natural settlement facility that allows managers introduction for them to GPP, and vice-versa,” to avail themselves not just of first- says Bronson. Having strong execution, class brokerage facilities but a complete clearing, and custodial partnerships in technology framework. place is essential for any prime broker as Bronson explains: “The old prime counterparty risk is one of the first things brokerage model was built to service the investors look at when doing due diligence. largest hedge funds that required customised “If a fund is currently using a prime broker systems. However, for the new wave of at a particular bank, they want their second emerging managers entering the market, prime to be with a completely different these same systems were too expensive to bank to hedge out counterparty risk. We maintain and could not evolve fast enough to can provide that,” asserts Bronson. “Our meet their needs. custodians are going to be two different “Mini-primes emerged to service this new banks with different sorts of balance sheets wave, offering inferior technology in exchange and a different business mix.” n

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 11 Hedge Fund Investor Survey

The conundrum of investing in emerging managers By Marianne Scordel

A year ago, we explored what hedge fund Global Prime Partners (GPP) is a boutique investors might be looking to buy during the Prime Broker, focusing on servicing clients following twelve months, what their attitude with AUM generally under $100m. It is towards managers at the smaller end of important for GPP to understand the potential the spectrum was, and what investment for success of the firm’s clients and potential strategies appealed the most. clients, not just in terms of investment This year, Bougeville Consulting and performance, but also as far as business Global Prime Partners decided to team up in development is concerned: AUM growth and this survey produced for Hedgeweek to try stability of assets – mandates they are likely and understand what has changed, whether to win as well as those they are likely to plans have come to fruition, and what, in the lose, as a result of opportunity costs or early light of recent events and as a result of more redemption. structural factors, would determine investors’ Bougeville Consulting assists hedge fund appetite towards emerging managers in the managers with their business strategies. near future. This consists in providing the ground

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 12 HEdge Fund Investor Survey

work – including research into the costs and benefits – to enable them to make decisions relating to the opening of new businesses, the making of a new product, or the development of a new strategy – albeit seen from the support and the commercial opportunity angles rather than directly from the perspective of the investment strategy of the fund. The ultimate objective is always to meet current and future investors’ legitimate expectations or alleviate potential concerns – hence our need to be, and to stay, aware of what our clients’ clients really want. Last year our study was seeking to understand investors’ overall appetite, and, in doing so, we found that the evolving landscape for emerging managers was, in fact, difficult to predict. Among those surveyed, 70% of respondents pronounced of paramount importance when it comes themselves in favour of smaller funds – to choosing investment targets, be it in which, at the time, we had not defined relation to the size of the fund or to the precisely. However, many qualitative features investment strategy followed. – including survivorship bias, the “no one – As far as the size of the fund is gets fired for buying IBM” rationale, and the concerned, overall we have found that diversity among smaller managers – were the longer the investment horizon, the mentioned as potential obstacles to investing more likely investors are to invest in in those funds. emerging managers. This relationship The resulting picture was uncertain; becomes stronger when investors are so, this year, we decided to drill down a managing proprietary assets rather little further into this aspect of hedge fund than third parties. On the contrary, investing. We have articulated the findings AUM is not a good proxy for target size around three main points: preference. • Over 60% of those surveyed rely on third – As to the investment strategy, 50% parties for their operational due diligence. of the respondents clearly said they While the extent to which they do so wanted to increase their exposure to varies, this nevertheless sheds light on equity as an asset class, and 25% were last year’s finding according to which planning to decrease their exposure internal resources had not been increased to CTAs over the next twelve months for the purpose of performing ODD. It also – both of which could give rise to a provides a clue as to why the resulting few questions given this year’s market investment decisions are less likely to be movements. Again here, data shows a in favour of emerging funds. positive correlation between investment • The environment – commercial, regulatory horizon / investor type, on the one – has become more expensive and those hand, and choice in asset classes, on costs are likely to have a relatively greater the other hand. impact on emerging managers, thus adding to the risk of investing in a new The multi-faceted impact of the venture. Having to bow to the pressure of outsourcing of ODD lower fees, recently-established managers The investors surveyed manage or advise must now face the increased costs, and on asset allocation. Sizes at firm level range risks, relating to the new compliance from $200 million to over $170 billion, with environment. hedge fund investments of between $200 • Finally, investment timeframe and million and USD2.5 billion. The average size commitment to partnership seems to be is $42 billion with hedge fund investments 15

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 13 Global Prime Partners The right relationships are vital to success Interview with Kevin LoPrimo

For award-winning boutique prime brokerage “We had the technology in place to Global Prime Partners this year has seen the support everything after a trade has been firm go from strength to strength, laying further placed. What Liquid has is the technology foundations to their reputation as one of the to facilitate the trade happening via EMS hedge fund industry’s ‘go to’ service providers and OMS on the front end and real-time risk to small and medium sized hedge funds. monitoring. Those are value-adds that we “It’s been an incredible year for us,” didn’t previously have,” explains LoPrimo. enthuses Kevin LoPrimo, Global Head of GPP has provided demos to over a dozen Hedge Fund Services at GPP. “Even before of its clients who are now “hungry” to get the mid-2013 we had equaled all of last year’s Liquid technology installed. This illustrates revenue.” Kevin LoPrimo, Global Head of perfectly how the right relationships – be Part of the reason behind GPP’s success Hedge Fund Services at Global they custodian and clearing or technology- Prime Partners is the quality of partnerships it is building based reporting and risk monitoring – can within the marketplace. With counterparty work to the advantage of both the service risk high on the agendas of both managers provider firms and their clients. and investors, the stronger the relationships “There’s no secret sauce behind the in place the better: be they trading partners, scenes. We just provide a high level of custodians or technology firms. Just last service and have good quality people month, for example, the firm appointed BNY supporting our clients. It’s a combination Mellon as its global clearing and custody of technology and people and basically provider; a huge fillip for the smaller managers being attentive to managers who are not big that Global Prime Partners supports. enough to use bulge bracket brokers. GPP is a product of two business lines. “If they did get in with a bigger prime Originally it was founded purely as a clearing they would be charged a lot more because firm. Four years ago LoPrimo joined and almost all the larger firms have a minimum added the prime brokerage side of the yearly revenue target of somewhere between business. “The BNY Mellon relationship is USD250-500K. We don’t have that constraint. more around the clearing and custody side of Smaller managers will also need to compete our business but it could be used for either. with managers many times their size if “We are doing some clearing and custody serviced by the larger primes. Someone work with Deutsche Bank as well. In total we running a USD10million fund is going now have four financial institutions behind to struggle to compete with multi-billion us: BNY Mellon, Deutsche Bank, Kas Bank dollar funds for a return phone call or a and Nomura.” stock borrow.” Until now the technology platform that Investors are increasingly targeting smaller GPP had built internally to support the prime hedge funds but the universal question they brokerage needs of its clients was centered have is ‘How robust is the infrastructure of a on post-trade workflows. It was, as LoPrimo USD50million fund?’ says, never their intention to build an execution “That’s where we come into play, bringing platform but rather to look for the right partner. in partners like Liquid Holdings, Nomura, This has led to a strategic partnership Deutsche Bank, Kas Bank and BNY Mellon with New York-based technology firm Liquid to provide a stable environment for smaller Holdings Group. managers to operate in,” states LoPrimo. n

Prime Brokerage Hedgeweek Special Report Dec 2013 www.hedgeweek.com | 14 HEdge Fund Investor Survey

13 ranging from 1.5% to 100% of total AUM. Likelihood of investing in emerging funds Like last year, investors surveyed are from as a function of AUM (bn) the UK, the EU ex-UK (including Germany, 5 Spain, Scandinavia and the Netherlands), the Americas, Switzerland and the Middle East. 4 While last year 70% of respondents said they were broadly in favour of emerging 3 funds, this year only 25% adopted a similar view. Where does the drop in numbers come from? 2 We do not believe that the change in individual respondents within our sample 1 explains such a dramatic change in the results. The sample mean has remained 0 0 10 20 30 40 50 60 70 80 90 100 110 120 130 140 150 fairly similar – $42bn this year versus $40bn last year – and the diversity of respondents The result shows a correlation close to zero – a balanced mix between wealth managers, superannuation (pension) schemes, funds of funds, multimanager funds, and family offices be ok only if we believe a fund’s AUM will – is broadly identical. The main difference increase quickly”. this year is that respondents are more Investors with an increasing amount concentrated around the mean in terms of of AUM find investing in emerging asset size, however this is unlikely to have a hedge funds not so much dangerous negative impact on investment in emerging as expensive: “Small funds make it funds for the following reasons: difficult for us to achieve scale”, says one • As the Chart shows, we have found that respondent. there is a weak correlation between AUM • Conversely, some of the smallest investors size and likelihood of investing in smaller tend to rely on the fund’s service funds. providers for the purpose of Operational • If anything, some of the largest investors Due Diligence. Since smaller funds have are less likely to invest in smaller funds less money to spend on outsourced because their investment sizes would functions – e.g. on a Prime Broker – the immediately make them the main result is that smaller investors may tend to investors, which they want to avoid – stay away from the space. unless they do seeding and can take What explains the drop in numbers seems an equity stake into the management to be linked to that fact that this year, we company also. asked the question in a more concrete way. Among the respondents, 15% said they Investors have not fundamentally changed have “concentration limits”, as a result their minds about emerging funds and of which they cannot own more than a overall still say they are open in principle. certain proportion of AUM – a 10% and However, they pointed to a number of a 20% limit were indicated as ceilings. reasons as to why they are not planning to The respondents who put forward that do so in practice. Most of those reasons argument “against” investing in emerging have to do with the way emerging managers managers were wealth managers, deal with the operating / business side of dealing both with wealthy individuals their ventures. or endowments. With ticket sizes in the It can be argued that relying on service range of $10m to $30m,the ceilings could providers to perform ODD is a way of be reached fairly easily as far as the outsourcing that part of the investment smallest managers are concerned. “We process. Smaller investors tend to do this do not want to be caught with our pants almost by default: they do not have enough down”, said one investor, to support his resources to look into the (all important) employer’s decision to avoid emerging details and, instead, tend to trust that a managers, “so such an investment would “big name” (e.g. in the Prime Brokerage

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area) in itself means that a fund is fit for are the functions that seem to matter the purpose. Those respondents who invest via most to investors, and some respondents managed accounts or into UCITS – funds say that these are “weaker at smaller of funds primarily – also tend to rely on funds than at larger funds, which, as far platform providers, a process that is made PB is concerned, can create a financing even easier for those who recently built risk”. While some investors “prefer an in-house platforms for outside managers. outsourced compliance function”, which, It has to be noted though that most of at least gives some guarantees that the those surveyed do take the way managers job is being done professionally, resource outsource key functions into consideration – constraints result in investors passing albeit to a greater or less extent and often in on smaller funds because these two key combination with other factors. functions are not dealt with appropriately. The most important points respondents • Documentation and marketing material – made about emerging funds and their “Still a lot of people are using boilerplate service providers are as follows, starting with documents, which allow managers to views which are the most strongly-held and do anything”, says a respondent. While ending with those where comments did not similar comments come up spontaneously constitute respondents’ primary concerns: after a few minutes of speaking with a • To outsource or not to outsource… is few hedge fund investors, one respondent, this really the question? – The overall whose operations fit into the higher end comment is that “small funds do not of the sample in terms of AUM, volunteers have the means to have solid, scalable to say that “fact sheets and presentations infrastructure”. They have often recently are sometimes incomprehensible even come out of banks and are faced with for larger funds! The difference is that the challenge of managing a business [the larger funds] listen to us because in addition to concentrating on their they have marketing personnel internally”. investment strategy: they find it hard to Smaller managers, who may be more multitask and lack the expertise to deal likely to use third party marketers, find this with all the various areas relevant to their exercise more difficult, and, according to businesses; however, they often cannot another respondent who goes further in afford hiring the talents required – whether criticising funds’ information he regularly to perform the work as a permanent reviews: “Emerging managers have little member of staff or as an outsourced to lose; we do not know to what extent service provider. we should rely on their presentation”. The • Prime Brokers and Compliance – These nuance to this is the fact that documents

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coming from more established funds are funds of large companies or organisation sometimes old and… outdated. now have in-house alternatives teams that • Corporate governance – Some investors do everything, including in some instances complain that they do not see enough more of the ODD that many funds of board independence, with director funds no longer really do. oversight often qualified as “poor”. • Conflicts of interest – “Larger firms The environment: how much is it costing? have the resources to hire more back- Investors say emerging funds may not office staff with segregation of roles have the appropriate level of resources and responsibilities, which is important to hire or to outsource properly, and this in building appropriate checks and is compounded by the fact that the cost balances”, says one respondent. of doing business has increased over the • … and why sometimes it just does recent period. not matter – Finally, one respondent • AIFMD – Last year, the AIFMD was indicated that while back offices must be already on the cards, however it is not “appropriately funded”, they must first and until late in the day that some of the foremost “have conviction about person”. players started to realise how expensive They explained such an approach was this would be. In addition to the direct in-keeping with their value and long term cost of compliance comes the regulatory model, which result in a partnership with risk, and potential fines imposed by the investment target and hence they regulators, as a result of areas of are prepared to accept that a fund’s uncertainty, such as those relating to operations will develop, grow and improve marketing. Several respondents indicated as the AUMs themselves also grow that they are no longer sure as to what over time. extent funds unknown to them – hence, Additionally, some of the biggest investors, many of the emerging funds – are allowed who also admit “ODD is not [their] strongest to approach them; some have taken point”, have recourse to dedicated ODD the conservative approach that reverse service providers on which they rely for enquiry might be preferable for now. at least part of the process – with the • UCITS – European conservatism really remainder sometimes being done by their started with the beginning of the global internal compliance teams. Based on our financial crisis but was enhanced by the sample, the split among investor type is recent regulatory developments, which is as follows: paradoxical if one considers that one of • Family offices and funds of funds are the the stated intentions of the AIFMD was to most reliant on external providers – either protect investors and restore confidence as providers they specifically mandate in financial markets. While US investors to do this job or via Prime Brokers’ are still adventurous, the tendency for introduction and implicit recommendations. Europeans is to demand more of the • Wealth managers tend to “mix and match”, UCITS type of structures, which is creating trying to reach a balance between what more costs and constraints on hedge fund is done in-house, on the one hand, and managers. input from a specialist third party, on the • The “F… word” – At a time when, even in other hand. the best case scenario, capital is scarce, • The two pension funds interviewed are it appears the “fee question” is creating an the only respondents saying they perform additional hurdle for emerging managers: a very thorough ODD in-house, with several respondents say they would only dedicated teams working on this, which consider investing in smaller managers if somehow confirms a point a fund of they are offered lower fees. A respondent fund manager also made as part of this even said he wanted different fees at survey exercise: “The problem is that we milestone AUM, starting very low and are doing for our [pension fund] clients increasing as the manager becomes more what they now know how to do”, thus successful. highlighting the fact that several pension • How small is small? – Finally, last year

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we had not provided respondents with a reporting on short term performance to definition of emerging managers, instead clients who may be “less educated” preferring to leave to door open to a • This explains why 50% of the respondents qualitative discussion. In our conclusion, say they want to increase their exposure we had said that “several investors to equity, which has performed well so supportive of smaller funds say that they far this year, while CTAs, who suffered are now prepared to lower the minimum this year in terms of performance, are size of the funds into which they would not as much in favour as they were last invest. While this may sound like good year, with over 25% of the respondents news, the numbers provided ($100 and planning to decrease their exposures to $200 million, both by private wealth this strategy in the next twelve months. managers) still seem rather high for a “This is very backward looking,” admits manager starting up”. Again this year, an investor – even though those buying one of the respondents explained that equity include investors committed to “clear winners start with $200m anyway”, specific strategies, such as event-driven, to justify he would not consider any fund rather than to the asset class itself. with less than that amount in AUM. • Finally, as a point of methodology, it should be noted that last year’s sample Timeframe and percentage of “skin in the included two seeders, which, by definition, game” do invest in emerging managers and do While the above does not present an have a vested interest in the business, optimistic picture of the market for emerging due to the equity stake. This year, these managers, we did, throughout our investor investors are no longer in the sample, survey, notice an interesting trend, namely however they have been replaced by the positive correlation between investment another type of investor who does not horizon and willingness to invest in emerging have an equity stake but, instead, has managers. The relationship is further adopted a “partnership approach” with strengthened when investors have a greater the managers in whose fund they invest. sense of ownership of the assets they Participating in the growth of a fund is manage. no doubt rewarding, requires striking the Respondents made the following right balance between proactive support comments in relation to emerging funds and and inhibiting interference, and takes, investment timeframe: well, time… • “Long term viability of smaller funds may The landscape for emerging funds does be a problem,” said an investor, adding not look as rosy as one might like, past the that “two-third of the new hedge funds initial enthusiasm that comes quite naturally fail”. Yes, all agree that the potential with novelty. The one optimistic note though returns are higher over time, provided one is that the investors committed to smaller is prepared to stomach the risks involved: managers look at the long term and, thus, “we do not invest in emerging managers provide a stable and strong base from which because of the huge level of uncertainty, to grow. n however we are aware that we are missing out on alpha,” says a respondent, Marianne Scordel founded Bougeville echoing one of his counterparts who says Consulting to assist alternative fund they are now doing some work internally managers with their business strategy. This to relax the concentration rules mentioned includes providing assistance to hedge above, which, in some cases, prevent fund managers in finding cost effective investors from owning too high a share solutions to compulsory changes (e.g. those of AUM. pertaining to the regulatory environment) • While long term investors managing a and in enhancing commercial opportunities proprietary portfolio may be prepared to – adapting products, structures, or the bear that risk, others, in charge of assets marketing thereof. Prior to this, she worked coming from a greater number of third for Nomura and for Barclays Capital. She is parties are faced with the question of an Alumna of St Antony’s College, Oxford.

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