The Move to the Cloud: Remaining Competitive in the New Fund Reality
Today’s Fund Reality
Emerging fund managers have more challenges than ever before: Fee compression remains inevitable and regulation continues to redefine the nature of buy-side activity, in addition to a backdrop of and movement towards greater reliance on technology.
As more hedge funds look towards direct-investor models, the onus moves from fund of funds, pensions, and endowments to hedge fund managers and how they negotiate fees. According to a 2012 Ernst & Young report, many hedge funds are capitalizing on a preference for direct investor models. Additionally, these managers are conceding higher margin fees for greater commitments from the investor, including longer lock-ups and limitations on redemptions.1
However, as institutional investors make longer commitments to hedge funds, they also expect more transparency into their investments. A recent hedge fund outlook from Deloitte notes that “institutional investors, whose hedge fund allocations have increased five-fold since 2003, will continue to exert pressure on companies for greater transparency and customized fee pressures.”2 In the same study, Deloitte noted “the average institutional allocation in hedge funds is about 10 percent and expected to double by 2016. Those numbers could in fact be low if hedge funds return to historic performance levels.”
Furthermore, end-investor expectations only add to the weight of new regulatory mandates that include Form PF reporting and risk-based examinations. Globally, business models for hedge funds are changing – and both emerging and established fund managers are seeking new tactics and tools to mitigate risk and produce alpha, all while staying compliant.
What this all boils down to is that funds are being squeezed from two ends – on one side, the expectations of and safeguards for investors, and on the other, requirements from regulatory bodies. Regardless of which side squeezes tighter, in order to stay competitive, hedge funds must maintain rigid standards and guidelines and seriously consider reducing fees.
Today’s Operations Model
To tackle these new pressures, hedge funds must focus on both short- and long-term infrastructure processes to remain compliant within investment mandates and provide a window for investors to view key performance and risk indicators on demand. It is estimated that by 2015, compliance technology spending could increase by
35% amongst funds.3 Regardless of the level of investment, funds can ensure that they optimize infrastructure spending by:
• Minimizing maintenance costs
• Consolidating vendors
• Implementing cloud solutions.
Minimizing maintenance costs
Emerging fund managers will have to spend nearly 1/3 of their management fee on business expenses, according to a 2012 Citi survey,4 meaning that even new funds could have high maintenance costs unless the fund implements solutions that provide long-term value for core operations.
Established funds with legacy systems need to understand that their infrastructure will only grow older, and as a result, the cost of day-to-day maintenance and upkeep will continue to rise. While patchwork systems and bolt- ons to legacy infrastructures might work today, they don’t ensure compatibility in the future. What’s more, the cost to integrate, maintain, and operate disparate technologies is only increasing.
Consolidating vendors
Another tactic for mitigating infrastructure costs is to employ solutions that utilize fewer vendors. Funds that have fewer vendors are in a better position to mitigate risks by increasing efficiencies through better interoperability and workflow across different functions. In addition, vendor consolidation can lead to seamless deliverability and cross-function best practices – especially for any fund that can move to a single vendor offering with best-of- breed capabilities from front-office trading straight through the middle- and back-office.
Overall, the industry is moving towards vendor consolidation and/or partnerships as vendors scramble to reposition themselves as solution providers, instead of marketing their current approach of delivering a single- point system, such as a portfolio management system.
Implementing cloud solutions
Funds can move one step beyond vendor consolidation and use a single integrated platform to address business requirements across trading, portfolio management, risk management, as well as the middle- and back-office.
A single solution from a single vendor to address mission critical functions across operations is a powerful proposition for emerging hedge fund managers. It would empower managers to demonstrate to potential investors that institutional quality services are in place to manage investments. But even more powerful would be having this single solution exclusively built for the ‘cloud’. Simply put, cloud computing eliminates many of the hardware, software, data management, storage, and business processes required to run operations. Those responsibilities are outsourced and now become the responsibility of a tech-savvy, experienced partner like Liquid Holdings Group. Businesses can be active on a cloud-based platform in a matter of days, and access is as easy as opening a browser and logging in to the service.
The securities industry is becoming more comfortable with next generation technology over existing infrastructure developed from third-party bolt-ons and integrations. Deloitte notes that many firms will migrate to cloud-based software solutions, “given the increased sophistication and security protections they offer for front- to back-office functions.”5 Many funds are already utilizing cloud technology in some capacity. In an interview with Wall Street & Technology, George Michaels, the CEO of G2 FinTech, observed “hedge funds’ back office functions are going into the cloud right and left.”6
Using cloud technology seems like an obvious next step, but what is important to remember is that cloud solutions and the capabilities and services they make available are not all created equally.
Solutions, Born in The Cloud
While fund managers are trending towards cloud solutions, there are key differences in what the cloud actually holds from vendor to vendor. When making purchasing decisions, managers should determine whether a vendor has created a solution by migrating software into the cloud or if the solution actually has been built exclusively for the cloud by checking off three key elements in initial conversations with cloud service providers:
• Rapid provision
• Simpler software upgrades
• Less hardware for clients to manage
The advantages of purpose-built cloud solutions are manifold – providing emerging funds with advanced interoperability that evolves with their growing needs while also ultimately lowering overhead costs, improving direct-investor relationships, and enabling growth.
Eliminating The Cost of IT & Operations
Technology built exclusively for the cloud allows funds to eliminate the cost of integration and daily upkeep regardless of whether maintenance costs can be seen in the form of old technology, disparate systems, or extra arms and legs. A cloud platform can eliminate desk space on and off the trading floor with less reliance on internal technology and operations personnel. What’s more, mission critical capabilities are centralized in a single platform and on a single database which allows one set of data and content to be used across the capabilities, making systems integration unnecessary.
Improving Relationship Management
As funds challenge traditional models with a new focus on direct investors, institutional investors have more weight and stake in the management of their investment. Providing fund managers with a portal to give their investors access and visibility to client reports is key. Cloud technology, when linked to a market-tested analytics engine, facilitates real-time reporting and provides managers the ability to customize specific reports for any client, at any time.
Creating Greater Speed and Scalability
Cloud-based platforms also offer fund managers greater speed and scalability. By selecting a platform provider that has built a solution exclusively for the cloud from the ground up, managers can take advantage of real efficiencies such as endless scalability, the fastest possible performance, a multi-tenant model that ensures the highest levels of security, and real-time calculations across big data.
In addition to the cloud, fund managers will benefit from using a platform built on a unified database, where the economies of scale for the provider translates to increased power for fund operations such as more interface flexibility, greater scalability, and true real-time calculations across all capabilities built or integrated into the platform.
Tomorrow’s Fund Solution: Harnessing Purpose-Built Technology
Both emerging and established managers need to stay competitive in one of the most challenging market environments we have ever seen. By selecting a hedge fund platform created with the end-user in mind, managers can leverage cloud technology for greater speed and scalability, better relationships with their investors, as well as eliminating unnecessary overhead costs.
The value of the cloud is tied to the actual capabilities and services housed there. Tomorrow’s fund solution needs to be purpose-built to manage the entire transaction lifecycle in real-time, in a single cloud platform, and on a single database. It also requires bundled managed services to automate manually intensive processes such as corporate actions and broker reconciliations. Hedge funds should choose a partner who can provide a platform that has a purpose-built solution – driven by the changing needs of the industry.
1 Ernst & Young; Global Hedge Fund and Investor Survey 2012
2 Deloitte; 2013 Hedge Fund Outlook
3 HedgeCo.Net; Hedge Fund Compliance Technology Spending Is On The Rise; July 2013
4 2012 Citi Prime Finance Hedge Fund Business Expense Survey
5 Deloitte; 2013 Hedge Fund Outlook
6 Wall Street & Technology: Hedge Funds Increasingly Using Cloud For Back-End Computing; August 2013
For more information on leading edge, purpose-built cloud solutions for hedge funds, contact us at marketing@liquidholdings.com.
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