April 2011

HARD WORK AT THE COAL FACE: the challenges of the past year

MinersThere is no denying it, 2010 was a tough year, according to our fund administration survey respondents. Nicholas Pratt finds out what sizeable challenges they faced Fund managers’ demand for product flow placed pressure on custodian banks and other providers of fund administration services throughout 2010 as the industry grappled with squeezed revenues. Regulation and a general rise in complexity were also challenges. But at least fund flows were up, Fund Europe’s annual survey shows. According to Catherine Brady, head of fund services Emea (Europe, Middle East and Africa) at Citi, the principal challenge of last year was managing the new flow of product needs from asset management clients in the post-crisis environment, as well as understanding and interpreting the wave of new regulations coming from the European Union and the United States, such as Ucits IV, Solvency II and the Alternative Investment Fund Management Directive. Fund administrators’ revenues were also under threat, says Tim Keaney, chief executive officer at BNY Mellon Asset Servicing. “The persistent low interest rate environment globally challenged all custodians’ net interest revenue. Securities lending and FX revenues remain significantly below historic highs. “At the same time our clients continued to be challenged by ever-greater complexity – new instruments, investment models, distribution, and regulatory reform. This in turn challenged us to keep building the flexible and scaleable solutions they need, which required significant dollar reinvestment in intellectual capital and new technology. Meanwhile, margins continued to be squeezed as clients sought to reduce their own costs.” Net inflows On the positive side, net inflows were up for the year. The survey shows that the total net inflow figure was $619.92bn (€880.29bn). (This excludes State Street, which did not split out its administration inflows from its custody inflows. State Street's combined inflows were $2,036bn). All but one of the respondents reported positive net inflows. There were 1,828 mandates won and 1,974 retained in 2010. There was a wide variation in terms of asset size, client type and product type. The size of these mandates varied from €0.094bn (Swedbank) to €202bn (Bank of New York Mellon). And the client types included the traditional (US mutual funds, global fund managers, insurance companies and multi-national pension plans) to the alternative (hedge funds, funds of funds and private equity). But the biggest variation was in the product types requested by both the traditional and alternative clients. For example, fund managers were increasingly looking for multi-asset strategies and exchange-traded funds while the alternative hedge funds were seeking real estate funds, commodity trading advisers, bank debt and managed accounts. Product development With such a wide array of investment strategies evident in the new mandates won by fund administrators, it was no surprise that 2010 saw a large increase in the development of new services and products. In fact, so wide-ranging was the list of products provided that it is difficult to pick any major trends. For some administrators, FX-related services such as FX overlay and FX funds were important. For others there was a renewed focus by clients on managed accounts. Several administrators reported a great demand for reporting services, whether that be cross-border tax reporting (JP Morgan), online transfer agency reporting (Northern Trust), Ucits risk reporting (BNY Mellon) or even environmental, social and governance (ESG) reporting (State Street). For those administrators focused more on alternative managers, plenty of business was concentrated on the sophisticated Ucits market as well as the redomiciling of funds from offshore to onshore. There was also a need to provide lines of liquidity for hedge funds and funds of hedge funds as noted by Deutsche Bank AFS. “Raising capital in 2010 was certainly very difficult for the small to mid-size manager which has in turn lengthened the launch time of new funds,” says Mike Hughes, the managing director. Destinations In terms of destinations, the most notable development was the focus on wider international distribution as administrators looked beyond the traditional confines of Europe. This included both the established markets such as the United States as well as the popular emerging markets in Asia, the Middle East and South America. Developing links to these markets is going to be a key focus for administrators in 2011. Citi, for example, cited that a key focus during 2010 was the establishment of links between Europe and Asia in order to support clients seeking distribution opportunities in emerging markets. And in 2011, it is highlighting the continued improvements of these links, between Europe and emerging markets, in support of cross-border distribution via Ucits, as an area of concentration.  As Geoffrey Cook, partner at Brown Brothers Harriman, says: “Particular decisions relating to the location and use of management company passporting and a review of the application of product bifurcation between Ucits and non-Ucits will become critical.” Issues and challenges for 2011 Some administrators talk of a growing confidence as markets rise again. “Existing clients are starting to look to create more innovative products and services again,” says Andre le Roux, head of business development at Maitland. Furthermore, clients want to get their new products to market as quickly as possible. Consequently, administrators will find that they need to innovate at a pace far greater than in the past. While there is some optimism in terms of prospects for 2011, there is also a recognition among fund administrators that the challenges of 2010 will persist into this year, not least the regulatory burden. “We must continue to keep pace with the evolving client complexity and challenges paralleled by regulatory challenges and ensure we capitalise on the opportunities to provide a result, both for our clients and for ourselves,” says Marcel Guibout, Emea mutual fund administration product head at JP Morgan Worldwide Securities Services. The implementation of Ucits IV is likely to produce several such opportunities, says Guibout, such as the production of the Key Investor Information Document (Kiid) and any other operational issues that might arise in the early years of adoption. This view is supported by Rob Wright, global head of product and client segments at RBC Dexia Investor Services. “The implementation of Ucits IV will bring significant change and challenges to the fund management industry and this heightened regulation – particularly in areas such as risk monitoring and compliance – may help protect and maintain the reputation of Ucits funds and increase their market attractiveness, particularly alternative investment managers looking to further develop fund products that are Ucits-compliant.” Administrators focused on the hedge fund market will continue to see the smaller funds struggle for capital, says Deutsche Bank’s Hughes, despite the fact that hedge fund indices have enjoyed a good start to 2011. “Smaller managers have started to get some traction as well. However, the challenge for them to grow will be significant given capital is flowing in a waterfall from the $5bn funds downwards to the sub-$100m funds.” For those alternative funds that do manage to raise capital, it is likely that the main area of demand will be in the alternative Ucits space, says André Valente, who heads fund services business development, client relationships and marketing at UBS. “We anticipate an increased demand for alternative Ucits and for more complex product types in the regulated environment, in particular real estate and private equity.” Outsourcing Given the pressures facing fund managers in terms of regulation and reporting, allied with market conditions that are still creating relatively little in terms of returns or capital flows, it is no surprise that administrators are looking to promote the benefits of outsourcing to the market. “Another challenge in 2011 is convincing the asset management industry of the benefits of outsourcing other non-core aspects of
their business [in addition to Ucits IV requirements],” says Pierre Cimino, member of the executive committee at Caceis. The France-based administrator is not alone in this as many asset servicing providers look to expand their outsourcing services beyond the traditional back-
office functions, such as traditional fund administration, and more into middle- office functions such as valuations and reporting. This explains the focus on advanced performance and risk reporting (Swedbank), as well as the development of support services for securities lending, collateral management, counterparty risk management and also over-the-counter derivatives trading and the challenges that greater use of central counterparties, and a greater need for independent valuations, will bring. ©2011 funds europe

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