Over the past year, pension fund interest in managed accounts platforms (MAPs) has been growing. And that interest, initially manifested in requests for more information, has been increasingly transformed into investment activity. MAPs have been adding new funds to their books and assets under management have been on the rise. Sciens Alternative Investments, for example, said in August last year that it had seen platform assets grow by 35 per cent year on year.
So what is it that makes managed accounts so attractive to pension funds? As a starting point, PiRho Investment Consulting director Phil Irvine explains: “A managed account platform is a financial intermediary that allows investors to access their managed accounts.” Managed accounts on a platform replicate a benchmark fund - typically a hedge fund, he says. “The platform normally puts in place investment restrictions, legal documentation and has a common custodian and administrator for each managed account and is able to provide independent pricing, risk and position level data.”
With a managed account held through a custodian, for example, investors are exposed to debit risk, which means that if they utilise an investment manager that uses leverage or shorts, they could be liable for more than the initial capital they invested. With a MAP, this risk is shifted: “Investors are protected from debit risk (this risk is borne by the account platform owner) and co-investment risk is reduced as the investment manager is normally required to follow liquidity guidelines which might be ignored when running their own hedge fund.” Essentially, according to Irvine, the key benefits of MAPs can be boiled down to: “Heightened transparency, liquidity and security.”
And Sciens Alternative Investments CEO Dr Stavros Siokos agrees: “In line with the increasing focus on governance, institutional investors continue to seek in-depth information when making investment decisions regarding their hedge fund portfolios. Managed account platforms provide greater transparency along with the security and control they require.”
MAPs also offer the capacity to reach some of the top hedge fund managers, but on their own terms, argues Lyxor senior product specialist Cyrus Amaria.
“There are some outstanding hedge fund managers, but the big concern is always the opacity of a manager,” Amaria says. “As an investor, you have very little control over that. So to be comfortable, what is the best way of accessing a hedge fund manager? It comes down to risk management,” he says.
Pension funds may want to invest with a certain hedge fund manager through a dedicated managed account, which will be built for them, replicating that specified flagship fund, but with fees and terms negotiated in a bespoke manner. The manager may already be ‘on board’ and if not, MAP providers can approach them to start a bespoke managed account on the platform. Turnaround time can be very quick if a manager is not yet included. Within as little as two months, due diligence can be carried out and the relationship can begin.
Developments in managed accounts and their platforms have also been making it more straightforward, and less costly, for investors to get involved. “In the past,” says Amaria, “the main concerns regarding managed accounts were fees and tracking error, or the difference between the flagship fund and managed account. That has been a core focus for Lyxor in the past few years, a truly institutional offering with lower fees and extremely detailed replication of the strategy.”
Investing on your own terms
While dedicated managed accounts remain the preserve of the very biggest investors, comingled managed accounts, in which more than one entity can invest, also give access to smaller pension funds.
“Co-mingled managed accounts can offer more ‘bang for your buck’ given negotiated fee discounts that are possible with managed accounts,” says FRM head of managed accounts business Stephen McGoohan. “If you are an investor in a managed account that [holds assets of] £250 million then you get the fee benefits of the entire £250 million rather than just your investment.”
And of course you get that investment on your terms, or those decided with the provider. “Every hedge fund we bring on to our platform must abide by a set of our rules,” explains Amaria. “These might relate to maximum leverage, assets they can allocate to, or they might be restricted from certain asset classes.”
Some practices are off limits all together, and close monitoring ensures managers stay within the prescribed boundaries. “Certain hedge funds, once they reach a certain size, may have difficulty generating the same level of alpha,” Amaria explains. “Historically, some hedge funds even farmed out capital to other funds but a managed account restricts such a proposition. Similarly, a fixed income fund might be struggling, and might start trading more equity because the risk reward is better placed. Our guidelines might restrict them from trading outside of their core expertise on our managed account.”
That close monitoring also allows investors to have immensely detailed information on the assets held within the fund, giving them a level of transparency that can be enormously reassuring as well as invaluable when it comes to close portfolio management. As Irvine explains: “The MAP controls the underlying assets and hence has full visibility into trades and positions.”
And this gives them a different dimension when it comes to overall portfolio management. “These are not just operational vehicles,” says McGoohan. “They also give you the ability to understand what a manager is doing, and manage a portfolio in terms of your exposure to all the different asset classes [within a managed account and a portfolio of managed accounts]. This gives the trustee a much more holistic view of the risk factors impacting their investments,” says McGoohan.
And with so many funds still suffering the impact of 2008, another of their appealing facets is that they give greater control over counterparty risk, explains Amaria.
“As a managed account provider we select service providers and do the ongoing due diligence,” says Amaria. “In 2008, for pension funds or anyone else, one of the biggest concerns was getting their money back,” he says.
“When Bear Stearns was going under, we were able to pull them as our prime broker. When the same issue happened with Lehman Bros, everyone expected them to be bailed out. We ensured that we were removed from Lehmans, for our own managed accounts. We were able to move assets away from the prime broker as we were set up with a large number of different brokers. We were not comfortable and made an active decision which saved our clients from having their assets restricted. A lot of hedge funds are getting their money back from Lehman’s bankruptcy but it is taking four to five years.”
And they also help to mitigate valuation risk: “Each managed account is valued independently by a fund administrator selected by the MAP,” says Irvine. And Amaria concurs: “Valuation risk is specific to several hedge fund strategies. Assets are not always that liquid. We select independent administrators and service providers, and our administrator values the portfolio – so it is not just a view – it is an independently verifiable net asset value,” he says.
For pension funds, the chance to invest in top hedge funds, to benefit from their performance at a time when they are increasingly looking attractive, and to do so with the governance that comes from a MAP, is an increasingly attractive proposal. There are other steps that can be taken to reduce the risks involved, but, argues Amaria: “If you want to truly mitigate those risks beyond due diligence, with the transparency of a managed account you can sleep a lot better at night.”
Sandra Haurant is a freelance journalist