Firms should enhance investor reporting well in advance of Solvency II and Basel III

05 Feb, 2014

Forward-thinking hedge fund managers should consider reporting position-level data to banks and insurers well in advance of Basel III and Solvency II deadlines, according to the chief operating officer at Mesirow Advanced Strategies, the $13.5 billion, Chicago-based fund of hedge funds.

Solvency II will require insurers to hold capital worth 49% of any hedge fund investment they make, while Basel III may require banks to hold capital if they invest into hedge funds too. Rules implementing Solvency II and Basel III have not yet been finalised, and may not be uniform across jurisdictions.  However, if managers supply regular position level data, their banking and insurance clients should be able to receive a much lower capital charge.

“Hedge fund managers should consider supplying investors with position level data now in accordance with what we anticipate to be the most stringent rules to be adopted under Basel III and Solvency II. Even though the rules are still some way off from being implemented, hedge funds reporting complete transparency directly to their investors or, if preferred, through an aggregating risk platform, will help their clients handle the regulatory changes in a more seamless way when they do take effect,” said Greg Robbins of Mesirow Advanced Strategies. 

At present, very few managers are doing this. Interestingly, service providers have yet to produce a Basel III or Solvency II reporting template for hedge fund managers either. “We would certainly like to see risk aggregation service providers create a reporting template for managers that captures the data that will be required under the strictest rules interpreting Basel III and Solvency II,” said Robbins.

Large or established hedge funds might be reluctant to supply this data, many of whom will argue that it is proprietary. “There are some managers that will not supply this data – possibly because they are well-established and are not seeking capital from banks or insurers. Nonetheless, I do believe that most smaller hedge funds will be amenable to supplying the data necessary to comply with the strictest Basel III reporting requirements,” said Robbins.

Some have argued that managed accounts, given their transparency, could help banks and insurers attain a lower capital charge. Proponents of Open Protocol Enabling Risk Aggregation (Open Protocol), the risk reporting initiative spearheaded by Albourne Partners, said that too could help facilitate underlying investors obtaining a lower capital charge. 

However, some expressed doubts whether Open Protocol would be sufficient.  “As I understand it, most firms are not supplying data to Albourne that would fully satisfy Basel III or Solvency II’s strictest transparency standards. A lot of hedge funds are supplying the most basic level of information so I am not sure if Open Protocol would help investors obtain a lower capital charge in all jurisdictions,” said one expert.

Given the challenging capital raising opportunities at hedge funds today, the investors ensnared by the full ambit of Solvency II and Basel III cannot be ignored. European insurance assets currently stand at roughly €7.5 trillion compared with pension fund assets which are at €5 trillion. Of that €7.5 trillion, approximately 1% or €75 billion is invested in hedge funds whereas pension fund exposure to hedge funds is around 3% in aggregate. Furthermore, a survey by BlackRock in February 2012 revealed one third of European insurers expected to increase their allocations to hedge funds and private equity. 

Mesirow FinancialBasel IIISolvency IIOPERAAlbourneBlackRock