Normal 0 false false false EN-AU X-NONE X-NONE MicrosoftInternetExplorer4

The stereotype is familiar: two gun portfolio managers leave an institution, ‘hang a shingle’ outside a small office, begin running money and living their entrepreneurial dream. But like all stereotypes, this is far too convenient and masks the complexity of some boutiques’ operations. There is no standard model for boutiques. “It could be as simple as a guy with a spreadsheet and a phone, trading Australian equities through IRESS,” says Bruce Russell, a former Morse consultant who now contracts for Victorian Funds Management Corporation. Sometimes the start-ups form when an entire product team at an institution walks – recall how the nine-person domestic equities team at Suncorp became Solaris Investment Management, almost overnight, in 2007. But as new business ventures, boutiques must come to terms with institutional demands for operational strength, and most have no choice but to outsource their back-office functions.


Many have a unique set of needs, such as different methods of performance attribution or after-tax reporting, and all are cost-conscious. “Boutiques are always looking for the lowest cost solution, and need to find partners who are willing to go with them and price at an appropriate level,” says Martin Carpenter, director of Citi’s securities and fund services division. The big custodians are too expensive, and so is building or acquiring an internal operations infrastructure: “You can’t buy a SimCorp-lite or HiPort-lite” to reconcile trades and report positions, he says. Custodians have invested in these systems, and since boutiques are founded by fund managers, they “need a little hand-holding” when learning about back-office operations.

Citi accommodates boutique budgets by allowing clients to choose which service they want to use – accounting, cash and foreign exchange management or brokerage – and packaging the service so that “each product team is not saying they need to make ‘X’ amount of revenue. If Citi is getting an appropriate amount of revenue we step back from the product-byproduct view,” Carpenter says. After initially providing custody, back-office service providers like RBC Dexia Investor Services have grown to offer fund accounting, unit pricing and registry. This is largely because “boutiques want everything – custody, fund accounting, performance attribution,” says David Travers, managing director of RBC Dexia Investor Services in Australia. Many boutiques outsource everything but their investment decisions. And while it’s important for managers to pick the right outsourcing partners to help grow their business, it is equally important for custodians to choose good boutiques.

“Some providers won’t entertain boutiques because they won’t get enough revenue. So there’s a disaggregation happening when you look at the boutique market. Everyone wants big investment managers because they’re an opportunity to earn high revenue. When it comes to boutiques, you’re backing a few individuals to be successful. And if you’re going to provide a service to boutiques when they’re small, you want to provide a service to them when they’re big because that’s when you earn revenue. You have to be there when they emerge,” Travers says. Carpenter agrees: “The names behind the boutiques are important. All custodians try to pick the winners,” he says.

The FI X is in David Paradice’s move to run global small-caps by staffing a new office in Denver shows how worldly Australian boutiques can become. Most boutiques now have some allowance to invest part of their mandates offshore: “They may be 90 per cent Australian equities but have capacity to trade that other 10 per cent in Asia,” says Sam Marshall, manager of wholesale portfolio solutions at IRESS. This has spurred the IRESS portfolio system (IPS), which has long been the dominant order management system (OMS) among domestic boutiques, to use its connectivity with the Financial Information Exchange (FIX) protocol to plug managers into Asian, North American and European stock exchanges. IRESS began connecting with offshore exchanges in the last two years, Marshall says, but the process was hastened in late 2009 when ConvergEX established an office in Sydney to offer its EzeOMS – a global, multi-asset class OMS that is popular in the US and Europe – to Australian boutiques.

To source global market data, IRESS has connected to exchanges in Singapore, Hong Kong, Indonesia and Thailand, and is in the process of linking to exchanges in North America and Europe. IRESS has only approached offshore exchanges nominated by clients – hence the absence of Tokyo. But its new competitor, the EzeOMS, is fully global, connecting with 450 brokers worldwide, says Chris O’Connor, head of the vendor’s domestic office. Both companies are preparing for the end of the Australian Stock Exchange’s monopoly on the domestic market, saying the provisional licence granted to pan- European trading facility Chi-X is a sign that another exchange will arrive soon, if not imminently.

To take advantage of multiple trading venues, the broker network accessed by the EzeOMS offers 600 algorithmic trading programs designed to execute orders in one or multiple exchanges. They can be as simple as the VWAP, or volumeweighted average price algorithm, or as abstract as the ‘Night Owl’, which scans dark pools as well as public exchanges for the best prices. Meanwhile, IRESS is seeking a cornerstone client for its best market radar tool, which was developed by the company’s Canadian operation and helps brokers achieve best execution across multiple exchanges by comparing the available prices and liquidity, and also implementing customised rules to prevent users being front-run by traders who might predict their next move. “Algos will predict which exchange an investor will go to next, so it’s good to get around it,” Marshall says. He is confident the product will appeal to brokers, and expects they will buy a readily available system rather than build or import proprietary tools.

“A lot of the bigger brokers will look at us versus which proprietary systems they have overseas in their business, and the cost for them of bringing it into Australia will probably be more than the cost of using our system.” Nothing is certain but death and corporate actions IRESS was a provider of market data to managers before it developed an OMS. This enables the system to “go deeper into the back office” to provide full tax reporting and notification about corporate actions than other trading systems, Marshall says. But like the EzeOMS, it must tap into a ‘start-of-day’ information feed from custodians to display clients’ complete holdings. If this feed is delayed, the EzeOMS provides a theoretical start-of-day portfolio so managers are not “flying blind” until custodian data arrives.

This is possible because the OMS remembers each transaction that managers have executed, but is unaware of some other positions, such as cash holdings, which a fund accountant or custodian can only be certain of. Without an internal fund accounting system, such as DST Global Solutions’ HiPortfolio or the back-office component of SimCorp’s Dimension, managers must rely on data from custodians. Russell says managers often complain that custodians are too focused on post-trade information at the expense of pre-trade data, such as corporate actions. Although Citi automatically notifies clients of corporate actions through the SWIFT network and CitiDirect platform, Carpenter says it is sometimes difficult to assess the implications of corporate actions because they carry different nuances.

The spate of capital raisings in 2009, for instance, introduced some permutations about investor eligibility in share purchase plans. “It’s a bit of a moving target. But getting the information as quickly as possible and documenting it to clients electronically and allowing them to make a decision – for example, if it’s a voluntary event like a dividend re-investment plan – is really important,” Carpenter says. “Corporate actions carry a lot of risk. It’s probably the highest risk and where you can lose most in custody operations. The time delay between making an incorrect election and subsequently reversing the position can expose you to large share price movements if you choose stock and not cash in a dividend re-investment plan. “And it is manual in nature. There’s a greater chance of making a mistake and potentially more losses, whereas day-to-day settling of trades on the ASX is highly automated. Even if a trade fails, it’s not the end of the world – you cop some fail fees but are not necessarily impacted by share price movements.”

Delays in processing corporate actions are often caused when custodians need to pursue companies to gain further details so the full implications for clients are apparent, he says. But such lags, however justified, can be frustrating for hedge fund clients running event-driven strategies. To maintain more pre-trade information close to hand, some managers have bought enterprise data management products, from vendors such as GoldenSource and Eagle Pace, so they are not completely dependent on the startof- day feed from custodians. Expansion into this market is “something everyone’s looking at” in the OMS space, says EzeOMS’ O’Connor. But the uncertainty surrounding some portfolio positions – like cash holdings – tempers the vendors’ enthusiasm. At IRESS, Marshall is keen to work with custodians on using SWIFT to automate trade reconciliations reconcile between the back-office and OMS. Travers of RBC Dexia says OMS providers aiming to provide data management services “would still need to get the information from somewhere, unless they’re going to get into the administration business”.

He says there is a natural limit to how much pre-trade information a custodian can provide. “Boutiques have outsourced the investment accounting function to support portfolio management. The custodian has to provide an element of data to assist with pre-trade processing. Can you help with pretrade compliance? It’s really tough. A lot of that involves the portfolio manager looking at it and saying, ‘Can I do this within regulatory limits?’ Unless you’re sitting in the manager’s office it’s hard to tell them if they’re going to breach a mandate or not.” Fair fees Nor are managers without fault in the outsourcing relationship. “Managers squeeze custodians to the full on price to the point where it’s almost uncommercial,” says Russell. “They’ve squeezed the rate card, and then pulled securities lending, forex and cash – the things that make custodians money.

Service expectations are going up while revenues are going down.” Travers says custodians need to carefully assess the changes the superannuation industry will undergo following the Cooper Review, and how their workloads will be affected. The IFRS accounting standards, introduced in 2001, resulted in two-to-three times more work for custodians, but this change wasn’t necessarily reflected in the fees they received, he says. “So we need to ask: how do we price these changes? The systems capability needs to be there, but when it creates more effort, which needs to be reflected in fees.” Because an outsourcing arrangement is a partnership, no side should be treated unfairly.

“You need to have the ability to add additional services as and when they’re required. It’s not just about fixing a fee. An outsourcing relationship is very much a partnership, because you need to provide services as and when they’re needed. “The definition of a partnership is that both parties benefit from the organisations working together. You don’t want a situation where either side feels disadvantaged.” In this relationship, system upgrades do not warrant a renegotiation of a custodians’ fee, but more work does. “Look at the balance sheets of many custodians. It’s a mixture of revenue that they receive. A lot of it is from fees, and then other services – securities lending, trading currency or cash. You need to be careful. If you take away a stream of revenue from a provider, that provider will need to find that revenue from another place in the relationship.”

Normal 0 false false false EN-AU X-NONE X-NONE MicrosoftInternetExplorer4

The stereotype is familiar: two

gun portfolio managers leave an

institution, ‘hang a shingle’ outside

a small office, begin running money

and living their entrepreneurial

dream. But like all stereotypes, this

is far too convenient and masks

the complexity of some boutiques’

operations.

There is no standard model for

boutiques. “It could be as simple

as a guy with a spreadsheet and a

phone, trading Australian equities

through IRESS,” says Bruce

Russell, a former Morse consultant

who now contracts for Victorian

Funds Management Corporation.

Sometimes the start-ups form

when an entire product team at

an institution walks – recall how

the nine-person domestic equities

team at Suncorp became Solaris

Investment Management, almost

overnight, in 2007.

But as new business ventures,

boutiques must come to terms

with institutional demands for

operational strength, and most

have no choice but to outsource

their back-office functions. Many

have a unique set of needs, such as

different methods of performance

attribution or after-tax reporting,

and all are cost-conscious.

“Boutiques are always looking

for the lowest cost solution,

and need to find partners who

are willing to go with them and

price at an appropriate level,” says

Martin Carpenter, director of

Citi’s securities and fund services

division. The big custodians are

too expensive, and so is building

or acquiring an internal operations

infrastructure: “You can’t buy

a SimCorp-lite or HiPort-lite”

to reconcile trades and report

positions, he says.

Custodians have invested in

these systems, and since boutiques

are founded by fund managers,

they “need a little hand-holding”

when learning about back-office

operations.

Citi accommodates boutique

budgets by allowing clients to

choose which service they want

to use – accounting, cash and

foreign exchange management or

brokerage – and packaging the

service so that “each product team

is not saying they need to make ‘X’

amount of revenue. If Citi is getting

an appropriate amount of revenue

we step back from the product-byproduct

view,” Carpenter says.

After initially providing

custody, back-office service

providers like RBC Dexia Investor

Services have grown to offer

fund accounting, unit pricing and

registry. This is largely because

“boutiques want everything

– custody, fund accounting,

performance attribution,” says

David Travers, managing director

of RBC Dexia Investor Services

in Australia. Many boutiques

outsource everything but their

investment decisions.

And while it’s important

for managers to pick the right

outsourcing partners to help

grow their business, it is equally

important for custodians to choose

good boutiques.

“Some providers won’t entertain

boutiques because they won’t

get enough revenue. So there’s a

disaggregation happening when

you look at the boutique market.

Everyone wants big investment

managers because they’re an

opportunity to earn high revenue.

When it comes to boutiques, you’re

backing a few individuals to be

successful. And if you’re going to

provide a service to boutiques when

they’re small, you want to provide

a service to them when they’re

big because that’s when you earn

revenue. You have to be there when

they emerge,” Travers says.

Carpenter agrees: “The

names behind the boutiques are

important. All custodians try to

pick the winners,” he says.

The FI X is in

David Paradice’s move to run

global small-caps by staffing a new

office in Denver shows how worldly

Australian boutiques can become.

Most boutiques now have some

allowance to invest part of their

mandates offshore: “They may be

90 per cent Australian equities but

have capacity to trade that other

10 per cent in Asia,” says Sam

Marshall, manager of wholesale

portfolio solutions at IRESS.

This has spurred the IRESS

portfolio system (IPS), which has

long been the dominant order

management system (OMS)

among domestic boutiques, to

use its connectivity with the

Financial Information Exchange

(FIX) protocol to plug managers

into Asian, North American and

European stock exchanges.

IRESS began connecting with

offshore exchanges in the last two

years, Marshall says, but the process

was hastened in late 2009 when

ConvergEX established an office

in Sydney to offer its EzeOMS – a

global, multi-asset class OMS that

is popular in the US and Europe –

to Australian boutiques.

To source global market data,

IRESS has connected to exchanges

in Singapore, Hong Kong,

Indonesia and Thailand, and is in

the process of linking to exchanges

in North America and Europe.

IRESS has only approached

offshore exchanges nominated

by clients – hence the absence of

Tokyo. But its new competitor, the

EzeOMS, is fully global, connecting

with 450 brokers worldwide,

says Chris O’Connor, head of the

vendor’s domestic office.

Both companies are preparing

for the end of the Australian

Stock Exchange’s monopoly on

the domestic market, saying the

provisional licence granted to pan-

European trading facility Chi-X is

a sign that another exchange will

arrive soon, if not imminently.

To take advantage of multiple

trading venues, the broker network

accessed by the EzeOMS offers

600 algorithmic trading programs

designed to execute orders in one or

multiple exchanges. They can be as

simple as the VWAP, or volumeweighted

average price algorithm, or

as abstract as the ‘Night Owl’, which

scans dark pools as well as public

exchanges for the best prices.

Meanwhile, IRESS is seeking

a cornerstone client for its best

market radar tool, which was

developed by the company’s

Canadian operation and helps

brokers achieve best execution

across multiple exchanges by

comparing the available prices and

liquidity, and also implementing

customised rules to prevent users

being front-run by traders who

might predict their next move.

“Algos will predict which exchange

an investor will go to next, so it’s

good to get around it,” Marshall

says.

He is confident the product

will appeal to brokers, and expects

they will buy a readily available

system rather than build or import

proprietary tools.

“A lot of the bigger brokers will

look at us versus which proprietary

systems they have overseas in their

business, and the cost for them

of bringing it into Australia will

probably be more than the cost of

using our system.”

Nothing is certain

but death and

corporate actions

IRESS was a provider of

market data to managers before it

developed an OMS. This enables

the system to “go deeper into the

back office” to provide full tax

reporting and notification about

corporate actions than other

trading systems, Marshall says.

But like the EzeOMS, it must

tap into a ‘start-of-day’ information

feed from custodians to display

clients’ complete holdings. If this

feed is delayed, the EzeOMS

provides a theoretical start-of-day

portfolio so managers are not “flying

blind” until custodian data arrives.

This is possible because the OMS

remembers each transaction that

managers have executed, but is

unaware of some other positions,

such as cash holdings, which a fund

accountant or custodian can only be

certain of.

Without an internal fund

accounting system, such as DST

Global Solutions’ HiPortfolio

or the back-office component of

SimCorp’s Dimension, managers

must rely on data from custodians.

Russell says managers often

complain that custodians are too

focused on post-trade information

at the expense of pre-trade data,

such as corporate actions.

Although Citi automatically

notifies clients of corporate actions

through the SWIFT network and

CitiDirect platform, Carpenter

says it is sometimes difficult to

assess the implications of corporate

actions because they carry different

nuances. The spate of capital

raisings in 2009, for instance,

introduced some permutations

about investor eligibility in share

purchase plans.

“It’s a bit of a moving target. But

getting the information as quickly

as possible and documenting it to

clients electronically and allowing

them to make a decision – for

example, if it’s a voluntary event like

a dividend re-investment plan – is

really important,” Carpenter says.

“Corporate actions carry a lot

of risk. It’s probably the highest

risk and where you can lose most

in custody operations. The time

delay between making an incorrect

election and subsequently reversing

the position can expose you to

large share price movements if

you choose stock and not cash in

a dividend re-investment plan.

“And it is manual in nature.

There’s a greater chance of making

a mistake and potentially more

losses, whereas day-to-day settling

of trades on the ASX is highly

automated. Even if a trade fails,

it’s not the end of the world – you

cop some fail fees but are not

necessarily impacted by share price

movements.”

Delays in processing corporate

actions are often caused when

custodians need to pursue

companies to gain further details

so the full implications for clients

are apparent, he says. But such lags,

however justified, can be frustrating

for hedge fund clients running

event-driven strategies.

To maintain more pre-trade

information close to hand, some

managers have bought enterprise

data management products, from

vendors such as GoldenSource

and Eagle Pace, so they are not

completely dependent on the startof-

day feed from custodians.

Expansion into this market

is “something everyone’s looking

at” in the OMS space, says

EzeOMS’ O’Connor. But the

uncertainty surrounding some

portfolio positions – like cash

holdings – tempers the vendors’

enthusiasm. At IRESS, Marshall

is keen to work with custodians on

using SWIFT to automate trade

reconciliations reconcile between

the back-office and OMS.

Travers of RBC Dexia says

OMS providers aiming to provide

data management services “would

still need to get the information

from somewhere, unless they’re

going to get into the administration

business”.

He says there is a natural limit

to how much pre-trade information

a custodian can provide.

“Boutiques have outsourced the

investment accounting function to

support portfolio management. The

custodian has to provide an element

of data to assist with pre-trade

processing. Can you help with pretrade

compliance? It’s really tough.

A lot of that involves the portfolio

manager looking at it and saying,

‘Can I do this within regulatory

limits?’ Unless you’re sitting in the

manager’s office it’s hard to tell

them if they’re going to breach a

mandate or not.”

Fair fees

Nor are managers without fault

in the outsourcing relationship.

“Managers squeeze custodians to

the full on price to the point where

it’s almost uncommercial,” says

Russell. “They’ve squeezed the rate

card, and then pulled securities

lending, forex and cash – the things

that make custodians money.

Service expectations are going up

while revenues are going down.”

Travers says custodians need

to carefully assess the changes

the superannuation industry will

undergo following the Cooper

Review, and how their workloads

will be affected. The IFRS

accounting standards, introduced

in 2001, resulted in two-to-three

times more work for custodians,

but this change wasn’t necessarily

reflected in the fees they received,

he says.

“So we need to ask: how do we

price these changes? The systems

capability needs to be there, but

when it creates more effort, which

needs to be reflected in fees.”

Because an outsourcing

arrangement is a partnership, no

side should be treated unfairly.

“You need to have the ability

to add additional services as and

when they’re required. It’s not just

about fixing a fee. An outsourcing

relationship is very much a

partnership, because you need to

provide services as and when they’re

needed.

“The definition of a partnership

is that both parties benefit from the

organisations working together. You

don’t want a situation where either

side feels disadvantaged.”

In this relationship, system

upgrades do not warrant a renegotiation

of a custodians’ fee,

but more work does. “Look at the

balance sheets of many custodians.

It’s a mixture of revenue that they

receive. A lot of it is from fees, and

then other services – securities

lending, trading currency or cash.

You need to be careful. If you take

away a stream of revenue from a

provider, that provider will need

to find that revenue from another

place in the relationship.”

 

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