Progress report
An assessment of hedge fund YTD performance in the face of renewed fears for a potential eurozone crash Read More
23/11/2011
Comment: Brian Ruane
Brian Ruane is CEO of BNY Mellon Alternative and Broker-Dealer Services
As we enter 2012, concerns mount over the scale and depth of the European sovereign debt crisis. While initially focused on the peripheral countries, it has now spread, impacting even the largest economies. Mixed data surrounding a potential US recovery and the risk of a slowdown in Asia have exacerbated investor fears.
However, in every market cycle there are unique opportunities – not only for investment but for innovation. With the reconfiguration of investment banks, fund managers and prime brokers, the universe of companies providing services to hedge funds has shifted. During the credit crisis, hedge funds gained a new appreciation for counterparty risk and financial strength. They looked to partners, particularly custodian banks, who could provide this improved security. Investors also pressed managers for increased transparency. These events were the genesis for the growth of the prime custody model, although there are differences between its evolution on both sides of the Atlantic.
In the US following the crash in 2008, hedge funds sought strong custodians to safe-keep and service their unencumbered cash and securities. Through a Federal Deposit Insurance Corporation (FDIC) member bank custodian, hedge funds had the reassurance that un-invested cash balances in certain transaction accounts were 100% FDIC-insured until December 2012. The custody model expanded as services traditionally reserved for the prime brokerage sector, such as cash management, global clearing capabilities and collateral management, became essential components of a service partnership. Middle-office services also grew, with increasing demand for fail management and claims management products that are able to co-ordinate the resolution of failing trades and related claims between the client and counterparty.
The European interpretation of prime custody is different, as hedge funds primarily use custodian banks to provide collateral management services on initial and variation margin. European hedge funds are also moving towards a self-financing model. In this instance, emphasis is on using reverse repo processing to offset short sales. This removes constraints on collateral notification and allocation, which helps to ensure market liquidity across clearing banks.
The most recent development is in the US model, which has now advanced to accommodate partnerships with primes. This type of partnership enables prime brokers to maintain their current relationship with their hedge funds, while providing the fund with the ability to hold assets with a third-party custodian. This is now expanding to Europe as well and we believe this is a potential growth area in 2012.
The partnership with a prime service model appeals to hedge funds because it allows them to stay in control of their assets at all times through a direct relationship with their custodian. Unencumbered assets are held away from the primes, but primes continue to provide hedge funds with a consolidated view of holdings at both the prime broker and custodian. The custodian bank can also segregate hedge fund securities to act as collateral for leverage with a third-party prime broker.
For many EU-based hedge funds, today’s relationship with custodial banks remains either indirect or non-existent. Prime brokers maintain a direct relationship with the custodian and enjoy direct control over unencumbered assets. This service model is being challenged; driven by the need for greater protection and control, hedge funds are pushing prime brokers towards service models similar to those in the US.
Next year will be another testing one for investment managers, those that service them and their investors. But that is the challenge of a truly great firm; the ability to turn market lows into revenue opportunities. Thus, we will likely witness the continued evolution of prime custody models based around the increased demand for transparency.
- Share
-
Text Size
Decrease text size
Increase text size
60 seconds with... Kenneth Turchin
CAN YOU DESCRIBE YOUR CURRENT ROLE?
I have worked in public accounting and hedge funds and in the past eight years have been selling middle- and back-office services to the alternate investment industry. My role is to build relationships with clients, teach them about SS&C’s products and services, and ensure seamless transactions every time the firm launches a new fund.
IF YOU WERE DOWN TO YOUR LAST £1,000, HOW WOULD YOU INVEST IT?
I would buy THREE shares in Apple and hope for a repeat 383% return in the next five years.
WHAT WOULD YOU DO IF YOU WERE IN PRESIDENT OBAMA’S SHOES?
That’s one pair of size 12 shoes I do not want to be in!
WHO WOULD PLAY YOU IF THEY MADE A MOVIE ABOUT YOUR FIRM?
Kevin Bacon. He is a versatile actor and the centre of the entertainment universe. I am in sales. Everyone in the industry would be linked to me in six steps or less. My client list would be ridiculous.
HFMWeek Daily Snapshot - 17 May
Today: Magnetar Capital subject of SEC probe; Paulson keen on CVR Energy following Icahn involvement; mini victory for US prosecutors in Rajat Gupta insider trading trial; and more...
SS&C wins Form PF mandate from $23bn Lone Pine
SS&C Technologies, the hedge fund administrator, has been mandated by $22.7bn Lone Pine Capital to provide its Form PF reporting solution, HFMWeek has learned.
Squeeze on fees continuing, according to State Street
Downward pressure on fees for hedge fund services such as administration, alongside an increased demand for more transparency on pricing, continues to be a defining industry characteristic, State Street executives said today.
Investor demand for CTAs is on the rise, says Agecroft Partners
Agecroft Partners is seeing widespread demand from institutional investors for Commodity Trading Advisors (CTAs), which is a dramatic change from the historical reluctance of many institutional investors and their consultants to allocate to this strategy.
Read More07/06/2012
UK: Impact of the AIFMD - the real story
Join us and our panel of experts for HFMWeek's Subscribers' Club June's UK breakfast briefing, 'Impact…
31/05/2012
US: Family Offices
The next US HFMWeek Subscribers' Club breakfast, will take place on Thursday May 31. Join us and…
02/02/2011
European Hedge Fund Services Awards 2012
HFMWeek's European Hedge Fund Services Awards are designed to recognise companies that have outperformed...
Be the first to comment on this article!