Managed accounts may be in vogue, but, says Nicholas Pratt
, they require more work.
More work from both investors and managers ... surely managed accounts won’t be in fashion too long?
Desperate times call for desperate measures. The scarcity of investment capital in these post-Madoff times has left the hedge funds industry with little option but to climb the steps into the attic, reach into the box marked ‘fund structures we hoped we’d never have to use again’ and pull out its last great hope – the managed account.
In the early days of the hedge fund world, managed accounts and bespoke mandates were of course quite common. Start-up hedge fund managers would persuade large institutional investors and very-high-net-worth individuals to part with their money by offering them their very own fund and their own set of investment guidelines determining the fund’s liquidity terms, risk appetite, asset allocation and so on.
As soon as the hedge fund world started to produce increasingly high returns and evoke more investor interest, managers realised they no longer needed to offer such high service terms. Comingled funds became more popular and investors were instead applying for shares in a limited liability partnership with broad mandates, standard terms and conditions, infrequent reporting, limited transparency and returns that were simply a percentage of the dividend based on the size of their shareholding.
For the hedge funds, this approach involved little work on their side, there were few questions asked and, as long as the returns came in, they could be left to get on with it. Meanwhile any talk of managed accounts was kept to a barely audible whisper and reserved only for the highest of rollers and the largest of institutional investors. This state of affairs remained the case until 2008 – the annus horribilis for hedge funds – when investors started to question just what their hedge fund managers were doing, the returns started to fall and the investment capital dried up. Consequently, managers have been forced to revert to managed accounts to entice investors back into the market.
While many people believe that this interest in managed accounts started the day that the Madoff scandal became public, Paul Dackombe, head of institutional sales at Man Group, believes that the revival of managed accounts is not so specific and is more a result of the general economic conditions of 2008 and the resulting behaviour of many hedge funds. “The lack of liquidity and the suspension of redemptions meant that investors were not able to get their money back. The use of gates and suspensions for anything other than genuine investor protection was arguably more damaging to the industry than Madoff and has been a principle factor in investors demanding better governance and control.”Evolution
As with any revival, there are some clear differences in what is being offered now under the managed accounts banner as opposed to the bespoke mandate approach of the 1990s where single investment vehicles were created for each single investor. The main evolution has been the creation of the managed account platform – a concept that has two variations – one where an investment manager mandates a series of external hedge fund managers that offer exclusively managed accounts (often called a managed account fund), and another where the manager offers a logistical platform on which the investor can build their own managed account.
“You can find a lot of different ideas under the managed accounts name,” says Laurent Guillet, deputy CEO of Amundi IS and Amundi AI, a France-based asset manager jointly owned by Crédit Agricole and Société Générale which offers its own managed account platform. “For us it is all about tight control – over the pool of assets; the manager; the service providers; the legal life of the fund; and the segregation of assets.”
Guillet concedes that it has become harder to define exactly what a managed account is and there are some managers misusing the term, therefore any potential investors have to be careful when undergoing their due diligence. “Just because a fund belongs to a managed account platform it does not mean it will automatically give you control over liquidity and more transparency. A managed account is a complex product and investors need to spend time assessing the quality of the platform – is the selection team good enough for you? Is the business model well suited to the level of control that you want? What is the quality of the platform managers?”
Investors also need to look at their own operations and whether they have the resources that are needed to set up a managed account and to continue to monitor the fund’s performance. “There is a responsibility that comes with added transparency,” says Lisa Fridman, associate director with Pacific Alternative Asset Management Company (Paamco), a fund of hedge funds manager that also offers managed accounts. “An inability to process and analyse key information might introduce a false sense of security and increased liability.”
There is also a cost that comes with greater investor control. Managers are attaching a premium to their managed accounts in order to make the extra administration more economically viable. However, they are keen to stress that their fees will primarily reflect the performance of the fund rather than how expensive it is to administer it. As Bertrand Bricheux, head of product specialists at Switzerland-based Union Bancaire Privée (UBP), says: “We don’t want to position ourselves as the cheapest in town. We would rather position ourselves as having the best service and the best performance.”
Bricheux also stresses that the managed account does hold some advantages for the managers other than allowing them to add a large premium. “When the fund is based entirely on their own structure, it is easier to manage investors’ expectations and anticipate their behaviour in terms of liquidity. During the financial crisis there was much less redemption with the bespoke mandates than with the comingled funds. And when we put together a portfolio purely for the investors they understand that it is a long-term investment, even if there are some hiccups in the market.”Tread carefully
A large premium nevertheless remains a large part of the managed accounts model although, according to Michelle Carroll, head of the audit and assurance division at Kinetic Partners, an advisory company working in the hedge fund market, investors are starting to question the value of the premiums and are becoming more aware of a possible dilution of the managed account model as it becomes a more common feature of managers’ offerings. “Certainly managed accounts are not what they used to be,” says Carroll.
It is a view shared by Shayne Krige, investment funds partner at M Partners, a member of the Maitland network of law firms. He says that investors should be careful in terms of their expectations when it comes to managed accounts, given the fact that it is a model that uses up a lot of the manager’s resources and the best ones will only take on these mandates in exceptional circumstances. “The worst asset managers that are not attracting any investment will be the ones most willing to offer managed accounts while the best managers will be more selective.”
In Krige’s view, as managers look for variations on the managed account model in order to save money, the definition of a managed account is being stretched to its limit with managed account platforms and managed account funds. “In a true managed account structure, the investor holds the assets directly, whereas in a platform, a multi-cell company is normally interposed between the investor and the assets. This often implies some form of compromise on liquidity and transparency over a true managed account. A managed account fund is a structure which will only invest through managed accounts. To the extent that these structures are referred to as managed accounts, I think the definition has been stretched too far. From the investors’ perspective, this structure is really no different from a fund. The managed account element is simply part of the fund’s investment strategy.”
This is not to say that either model is without merit and does not provide more transparency, liquidity and control (the so-called TLC offered by managed accounts) but the chief concern is the possibility of liability contamination. Should one of the investor’s funds on a managed account platform run into difficulty, will a court recognise the platform’s other funds as separate legal entities or simply judge it as one fund sharing the same infrastructure and manager? So far this question is yet to be satisfactorily answered, which may appear staggering to some as the problem of liability contamination is what drew investors away from comingled funds and towards the highly priced security of a managed account.
So what is the likely future for managed accounts? With the market still nearer rock-bottom than recovery, managed accounts remain popular and the various providers are keen to stress that managed accounts will continue to grow in importance. But others are less enthusiastic. “My feeling is that once the markets take off again, managers will decide that managed accounts are too much hassle,” says Krige. “And we are already seeing investors who were interested in managed accounts settling for conventional or comingled funds instead.”Natural deselection
The emergence of so-called ‘Newcits’ funds, the impact of the AIFM Directive and Ucits IV and hedge fund managers’ general move towards more regulated fund structures could also mean fewer investors will be willing to consider the high premiums attached to managed accounts, considering that comingled funds are now displaying more regular reporting and enhanced transparency and liquidity. As Kinetic’s Carroll says: “Managed accounts are riding a wave now because they are seen by some as the solution to a lack of transparency and liquidity, but as soon as liquidity and the appetite for risk returns, I would expect managed accounts to retake their natural place.” Presumably this place is in the attic, back in the box with a slightly amended label reading ‘fund structures we hoped we’d never have to use again but fully expect to when the next financial crisis rolls around’.©2010 funds europe