Increased regulatory oversight is now set to produce a convergence of the regime under which traditional asset managers have operated and the to-date, less tightly governed hedge fund and alternative asset management industry. New reporting and record-keeping requirements will impose increased costs on hedge funds and other alternative investment firms. Managers cannot rely upon consistent price appreciation in asset markets as the key driver of profitability. It has thus become imperative for firms to simultaneously achieve improvements in their business models:
1. A cost-effective distribution model that can help grow AuM on a consistent basis
After staff compensation, marketing and distribution is the single-largest cost category in most fund managers’ profit and loss accounts. Outsourcers can release onshore staff time that is currently devoted to repetitive tasks and use this time to focus on identifying specific factors that will make the firm’s products a compelling solution for each prospective client.
2. A state-of-the-art risk management platform and associated internal and external reporting
Institutional asset managers need to be able to satisfy regulators and potential investors that their reporting systems provide a clear picture of the aggregate exposure and risks undertaken by all operating units within the firm. Outsourcers can help with the heavy lifting required to reconcile reports produced by incompatible legacy systems.
3. Active managers must do everything they can to sustain the bulk of their funds in the upper two quartiles
Portfolio managers and buy-side analysts need to be relieved of tasks that are not directly related to the generation of alpha or benchmark out-performance. Research outsourcing can not only deliver the specific bespoke information needed to support an investment decision, but it can also ensure that consistent valuation standards and investment methodologies are applied and documented for each investment style. Managers need to examine how much their daily activities contribute to the delivery of value for the firm. It may be the case that onshore seniors could deliver more value if they outsourced repetitive and lower-value-added tasks, and focused on key activities such as the identification of investment ideas, exercising judgment based on experience, and overseeing the consistent application of their investment method.
In addition to reviewing back- and middle-office activities to obtain the optimal in-house vs. outsourced services mix, fund managers should also review risk management and front-office activities such as funds marketing and research support to determine whether or additional efficiencies can be gained by taking advantage of outsourcing in these areas.
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About the Author: Andrew Houston, CFA, is a co-founder of Amba Research. He was previously Head of Asia Regional Research at Jardine Fleming Securities/JPMorgan and Asia Equities Strategist. Andrew holds an MBA from London Business School.