Institutional investors are increasingly allocating money to hedge funds as they search for a way out of the interest rate trap, while seeking protection from market fluctuations, according to investment management and consulting firm the FERI Group. Enhanced diversification, lower correlation to equities and bonds, and lower risk are all driving investor allocations to alternative investments. Eurekahedge notes hedge fund industry AUM has reached an all-time high of US$3.4 trillion.
Credit Suisse’s mid-year investor sentiment survey also reported strong investor appetite, with hedge funds on par as allocators’ top investment strategy going into the second half of the year.
Attracting institutional money is no easy task though. These investors bring stringent due diligence requirements and a growing emphasis on fees and expenses. Only the most efficient, robust and operationally sound funds will be well-placed to reap the rewards.
North American hedge funds launched this year are charging an average 1.46% management fee, compared to a global industry average of 1.40%, according to EurekaHedge. Average management fees have been edging higher over the last two years, after five consecutive years of decline.
The uptick in fees is good news for hedge funds. But in an intensely competitive arena, the onus will be on delivering exceptional performance to continue to justify fee levels and hold on to clients.
Meanwhile, those hedge funds struggling to raise fees will need to focus both on performance and reducing costs if they are to maintain profit margins.
Over half of hedge funds are using artificial intelligence (AI) and machine learning to inform investment decisions, while two-thirds are leveraging the technology to generate trading ideas, says a new BarclayHedge survey. However, only a quarter are using it for trade execution.
Meanwhile, a CFA Institute blog argues many predictions likely overestimate the rate at which advisers will be replaced by machines. It contends that unconscious activities and innate human ‘common sense’ remain crucial for intelligence.
Similar trends are playing out in the middle and back office. AI, machine learning and robotic process automation have enormous potential to streamline managers’ processes, increase efficiencies and drive down costs. Nevertheless, some degree of human intelligence, expertise and input remain crucial to smooth operational functioning.
The US wealth management industry is booming, with both the number of registered investment advisers (RIAs) and the assets they manage hitting record highs. But the growth is skewed, as the largest advisory firms (controlling assets of more than $100bn) continue to win market share from smaller rivals
The result has been significant consolidation activity among smaller RIAs. A record 152 M&A deals involving RIAs were announced in 2017, and a recent poll found around 60% of RIAs expect to conduct a deal within the next two years.
The competitiveness of the merged firm will depend to a large degree though on how successfully it can integrate its separate operations into a unified whole.
Institutional investors pulled a net $177.4 billion from long-only asset managers during the second quarter. Active equities accounted for more than half the total.
As this TABB Forum article points out, any investment manager that charges more than a robo-advisor needs to justify the fee premium – giving active managers an extra incentive to bring their own costs and fees down.
As the tariffs battle between Washington and Beijing rolls on, Wharton professor Jeremy Siegel has warned worsening hostilities could trigger a bear-market plunge.
Falling asset prices would hit investment manager revenues hard. In this environment, streamlining costs, enhancing investment and operational efficiencies, and improving firms’ responsive to investors will become paramount to protect profitability.
The UK government’s recently-released technical notices warn of the risk of financial services firms losing the right to market their products into the European Economic Area (EEA) post-Brexit.
The government has said it is taking “unilateral action” to prevent disruption in the event of a no-deal Brexit, while the Financial Conduct Authority is drawing up bilateral Regulatory Cooperation Agreements. EU lawmakers and regulators are being urged to reciprocate.
But with time running out, and the threat of the UK crashing out of the European Union in March 2019 growing, asset managers have started to activate their no-deal contingency plans. The resulting duplication, as investment firms establish the necessary operational infrastructures to support both their UK and EU operations, will inevitably raise costs, and increase the pressure to find more effective and efficient solutions.
What are the top challenges facing compliance practitioners and boards in the coming year? Thomson Reuters’s 2018 Cost of Compliance survey identified them as:
Extensive regulatory expectations around issues such as cybersecurity and data privacy compliance mean almost a quarter of firms now outsource all or part of their compliance functions, found the survey, driven by:
The SEC and CFTC have approved a new Memorandum of Understanding (MOU) to facilitate the discussion and coordination of regulatory action between the two agencies in areas of common interest, along with enhanced information exchange and data sharing.
Increased harmonization aims to reduce complexity and lower costs for regulators and market participants.
Complying with the European Union’s updated Markets in Financial Instruments Directive (MiFID II) is tangling small and medium-sized financial firms in red tape so dense it is driving them out of business, according to this FT opinion piece.
The full cost of compliance is expected to rise to 10% of a firm’s revenue by 2021 – more than double current levels. As a result, smaller and younger firms are increasingly ‘too small to comply.’
And it is not just EU investment managers being affected. Even non-EU firms that don’t have a direct obligation to comply are coming under pressure to become ‘MiFID II-friendly,’ or risk being at a competitive disadvantage when competing for investment mandates.
Which means ensuring they meet all the additional transparency and operational best practice requirements.
The European Union’s General Data Protection Regulation and California’s new data privacy law are creating major challenges for compliance officers, with fund groups scrambling to understand and develop best practices.
In this video, TABB Group also explains how GDPR’s principles around data ownership, control and protection are in fundamental conflict with the ideals of blockchain’s distributed network, making regulating data on a blockchain extremely complex.
Transaction reporting for securities financing trades may create five times as many reports as trades when the EU’s Securities Financing Transactions Regulation (SFTR) takes effect in 2020.
The joint DTCC/Field Effect paper suggests SFTR will significantly impact trade booking models and affect 60% of current processes, creating the need to develop new processes. In addition, the industry will need to make provisions to ensure the new regime doesn’t result in collateral supply and liquidity issues.
To ensure readiness for SFTR implementation, the paper recommends market participants develop a reconciliation break strategy and ensure efficient data management processes have been adequately reviewed. Participants should also assess the impact of the required higher levels of disclosure on financing and prime broker businesses.
Enhanced automation of the trading and operations functions that support securities financing will be vital to manage the increase in volumes, says the paper.
Finance ministers from European Union member states met in September to discuss whether rules on digital assets should be tightened. Concerns include a general lack of transparency, as well as crypto’s potential to be misused for money laundering, tax evasion and terrorist financing.
With growing interest from retail investors in crypto currency markets, the DTCC also says regulators are increasing their scrutiny of the digital currency.
Cryptocurrency markets around the world are clearly set to become more heavily regulated – the only question is when. And with regulation will come demand for more .
With new regulations governing margin and collateral requirements for uncleared derivatives set to be rolled out over the coming years, buy-side firms must stay well-informed about the rules’ scope and application if they are to retool their collateral management practices effectively and on time.
This primer aims to familiarize firms with the key thresholds and parameters that drive compliance with the regulations, to help them plan for the operational and economic impacts.
The Association of National Numbering Agencies (ANNA) and Global Legal Entity Identifier Foundation (GLEIF) are launching a new initiative to improve exposure transparency by linking the issuer and issuance of securities.
The initiative will map new and legacy International Securities Identification Numbers (ISINs) to their corresponding Legal Entity Identifiers (LEIs). This will help firms aggregate the data they need to get a clearer view of their securities exposures to any given issuer and its related entities.
Separately, the Derivatives Service Bureau (DSB) has created a Strategy Subcommittee to formulate a strategic technology roadmap to support the industry’s evolving needs around OTC derivative identifiers. Membership of the Subcommittee will be announced on October 11, with the first meeting held on November 8.
Compliance with the Global Investment Performance Standards (GIPS) is on the rise, with 84% of asset managers claiming to be compliant, up from 72% in 2014.
Investor and consultant activity is driving the increase, as three-quarters now exclude hedge fund and private equity managers from searches some or all of the time if the managers don’t comply with GIPS.