Matteo Perruccio, chief executive officer of $1.4bn fund of hedge funds (FoHF) firm Hermes BPK Partners, is a gadget fan. Or at least he is a fan of the Apple iPhone – a product, he feels, from which FoHF managers could learn a thing or two.

Apple’s triumph with the iPhone – today’s sleek, multifunctional, and not inexpensive, must-have gadget – is such that customers range from teenagers to septuagenarians and beyond. Perruccio should know. He’s recently been strong-armed into buying one for his teenage daughter. “Clearly the iPhone is more attractive to 20-to-35-year-olds,” he admits. “But what it shows is that, if a product is good and built for purpose, all sorts of people will be interested.”
Perruccio does not attribute the iPhone’s wide-ranging demographic to savvy marketing. The iPhone’s success, he says, is a result of Apple’s stripped-backed approach to product-design; a focus on quality rather than on demographics. It is an approach, he adds, that some quarters of the FoHF industry would do well to reproduce.  
 
“The FoHF industry had become more focussed more on asset gathering as opposed to investment management,” he says, offering an explanation for the sector’s downward trend in 2008. “Many product launches were driven by looking at client segmentation as opposed to what was the best product for the investor. The approach would be: ‘if I want to access high-net-worth platforms I will need greater liquidity. What do I have to add to my existing product or build to get there?’” This, concedes Perruccio, led to a lot of poor practises, such as running big liquidity mismatches in portfolios.

Hermes BPK launched as a $1.3bn enterprise in September 2008, with over £800m ($1.3bn) in seed capital from the £25.7bn ($41.8bn) (as of March 2009) British Telecom Pension Scheme (BTPS), the largest private sector pension fund in the UK. BTPS’s wholly-owned fund management arm, Hermes, is BPK’s majority stake-owner. Hermes owns 61.5% of BPK, with the remaining 38.5% owned by BPK’s ten-strong partnership. Perruccio – the ‘P’ in BPK – is one of the firm’s three founding partners, along with co-CIOs Mark Baker and Gregory Knott.   

“What we’re doing is the other way around – simply put, we’re asking ourselves 'what is the best possible investment solution for a particular investment need?', as opposed to ʻwhat’s the best way of doing it for a particular group or market segment?’”, Perruccio says. As a result, Ucits-compliant hedge fund managers, for example, are too “limited in terms of instruments they can use” to be considered. “ We’re not completely closed off to them though,” he adds.

Investment consultants polled on BPK by HFMWeek paint a positive picture of the firm’s industry standing – even if most admit that further time is required.  “The signs are good, but it’s a bit too early to tell,” says one interviewee.  
John Godden, CEO and founder of IGS Alternative Investment Solutions, is impressed with the set-up. “They’ve got some good people with good reputations,” he says. “Their model of doing quasi-managed accounts is a good one, and interesting. They choose the managers and then it goes onto their platform. Although it’s surprising that they haven’t done a segregated legal structure, I think it’s very pleasing that they’ve chosen to do something positive about infrastructure.”

BPK’s latest performance figures would appear to validate the London-based firm’s Apple-inspired product design process. The company’s two, Ireland-domiciled FoHFs – the $363m Hermes BPK Restructuring Fund and the $1.035bn Hermes BPK Fund, the firm’s flagship – both finished 2009 in strong positive territory.

The restructuring fund, a credit-focused product started with just under $300m, is up around 25% since its January 2009 inception, while the BPK flagship, a 35-manager-capacity FoHF launched with a little under $1bn in April, has risen by 7.6%. By way of comparison, HFR’s Fund of Funds Composite Index posted an 11.16% gain for the entire 12 months of 2009.

The timing of BPK’s launch as a firm certainly raised a few eyebrows. Not only did inception take place during the height of the credit crisis, but at a time when the FoHF industry itself was being singled out for criticism – with some naysayers even predicting the demise of the sector. Such hysteria, of course, has proved just that, while Perruccio claims the timing of the launch has ultimately been beneficial.      

“Not having the legacy issues means that we have been able to build portfolios looking forward, while much of the industry is occupied with managing legacy position side-pockets,” he says. “This means they are relatively handcuffed into what they can actually do in terms of portfolio construction.

“In 2009, many FoHFs were waiting for things to transpire that were beyond their control, and not really able to deploy significant money or look at new managers. We had fresh capital to deploy at a time when managers were more willing to make accommodations to us on things that we felt were important. Significantly, this meant we were also able to pick and choose some of the best managers.”

BPK’s roster of managers in both of its FoHFs is close to capacity, but additions are close at hand. The firm’s flagship, which has the potential for around 35 funds, currently stands at 30, with plans afoot to add a further two managers in the near future. The restructuring fund has ten of its 12 positions filled – a situation, in contrast, that Perruccio expects to stay “static”.  

“The challenge for Hermes is that everyone knows they have good money to play with, says Godden. "It’ll be interesting to see how they filter out managers going forward. How their selection plays out, whether they go for reputation or if it’s slightly more scientific. It’s not too clear currently.”

It appears that 2010 will see further changes for BPK. Earlier this month, HFMWeek revealed that the firm is on the verge of securing its first outside investment, having received soft commitments from institutional investors and pension funds in Australia, Canada, Switzerland and the Middle East. Perruccio expects the first wave of new capital – “probably less than $100m” – towards the end of the first quarter. Year-end inflows, he estimates, will total several hundred million dollars.   

According to Perruccio, BPK has only recently commenced external marketing. Though elaboration and praise is avoided due purely to the, as yet, unfulfilled nature of capital commitments, investment-led developments suggest that the firm’s third-party marketing relationships – including First Capital Plus in Australia and Global Frontier Advisors in the Middle East – are bearing fruit.

If Perruccio considers BPK a more modern class of hedge fund investor, then he is similarly enamoured with BT’s approach to asset allocation – a risk-driven style that, he believes, is becoming increasingly prevalent.
“The way I see it there are two types of asset allocation approaches – traditional and more forward-looking,” he explains. “I believe the more effective way of looking at risk is looking at it in terms of the profile of the investment, as opposed to the asset class it belongs to, and attributing risk to the asset class. In other words, there are hedge funds that demonstrate very different characteristics. Some are closer to fixed income, others to equity, and some are totally uncorrelated to traditional asset classes.”

Because BT distributes its investments according to risk-profile – aka the “more forward-looking” style – BPK’s two FoHFs, with their contrasting risk profiles, reside in two separate BT buckets. “It’s about putting your investments into assets with different risk/return profiles and then placing them in buckets with different time horizons and to achieve the overall return you’re looking for in the portfolio.” Under the modern regime, potential hedge fund money is subjected to fewer restrictions, leaving room for more managers with different profiles.  

Fee structuring is another industry-wide issue facing fresh changes, according to Perruccio. Both BPK funds command a 10% performance fee, and management fees of 1% or 1.5%, depending on share class. Though unremarkable in terms of the set levels, the structure of said fees is fairly unique.  

“Our rates are relatively standard for the FoHF industry. It’s the structure of the fees that many established managers won’t be able to replicate,” explains Perruccio. “We do a three-year rolling fee structure where we take the performance fee in year one and put two-thirds aside and only take it in years two and three if we are above the high-water mark. If the client redeems before then, we return the remaining fees. Many established funds really can’t handle the cash-flow issues, while some simply just don’t want to do it. We think it’s very important in order to show alignment with our investors.”

Intriguingly, Perruccio reveals that BPK has a fee-related innovation lined up for later in the year. While he won’t reveal details at the time of going to press, he does say it will be worth the wait. “It’s not something that’s been done before,” he smiles. Watch this space.  
 
Perruccio may be excited by BPK’s potential, but he remains cautious about FoHF industry progress in general. BPK’s products proved to be two of the few new FoHFs launched in 2009 and the firm’s CEO doesn’t see the floodgates opening any time soon. “It’s not over yet,” he says, referring to the recent period of market uncertainty. “The quantitative data’s pointing towards a recovery but our view is that, though it may suggest a recovery right at this moment, it may be short-lived and unsustainable. The FoHF industry is going to experience more closures and more consolidation. I don’t expect there to be many FoHF launches in 2010.”  

The FoHF industry may still be experiencing a period of flux, but BPK has proved, with its 2009 figures at least, that market instability is no obstacle to a successful launch. For Perruccio and BPK, the key has been to put quality first and avoid client segmentation – principles that brought Apple one the century’s most-celebrated gadgets. The next crop of FoHF managers may well want to follow suit.