Webinar: Regulated funds. Is it time to launch one?
AUDIO: An audio replay of the Webinar. Click on the 'Play' button to listen.
Regulated or liquid alternatives are rapidly gaining traction. Several service providers predict the asset class will enjoy bumper inflows, with Citi Prime Finance estimating as much as $939 billion in retail assets could be invested in these products by 2017. A number of those firms setting up regulated alternative, or ’40 Act structures, hope to target the $5.1 trillion Defined Contribution (DC) pension fund market in what could lead to a windfall in assets. The distribution benefits of launching a ’40 Act Fund are hard to falter, but the compliance and operational challenges are onerous. So is it worth launching a ’40 Act Fund? Here are the key points of a webinar hosted by COOConnect, and moderated by its founder Dominic Hobson. Panellists include Robert Hennessy , Director of Risk and Compliance for SMT Fund Services; Charles Bathurst , consultant to the board of SuMi TRUST Global Asset Services; Chad Elson ,Managing Partner and the Chief Operating Officer of South Street Capital Management; David Moss , EMEA Head of Business Advisory for Citi’s Investor Services group; Ermanno Dal Pont , head of Barclays’ Capital Solutions team in Europe.
Here are some of the key findings from a webinar held by COOConnect’s on these issues:
• There is about $140bn invested in 40’ Act hedge funds, which pales in comparison to hedge funds, although this is open to debate with some panellists believing it could be as high as $300bn. However, the flows into alternative mutual funds are impressive and look set to grow. In terms of alternative UCITS, assets managed are estimated to be around €300 billion.
• The largest UCITS launches are coming out of traditional asset managers and fund platforms. Nonetheless, hedge fund managers have been launching traditional funds. This can be done by launching the fund oneself although it is expensive because of the distribution costs. A hedge fund manager can sub-advise a regulated fund too. The third option is to join a platform.
• The appeal for regulated funds in Europe to institutional investors such as pension funds and insurers on the continent is that they are regulated. Many of these investors are notoriously conservative and do not have mandates to invest in offshore Cayman entities.
• There are very few funds of hedge funds operating under UCITS although some multi-alternative structures which are regulated under the ’40 Act are coming to market.
• 40 Act funds are far more geared at retail than UCITS, which is predominantly institutional. Hedge funds adopting ’40 Act structures have access to a pool of investors with trillions of dollars that they would not normally have. However, distribution remains a challenge. Creating a ’40 Act fund is not that difficult but accessing investors is not straightforward. RIAs require a lot of work to get access to while wire houses require minimum AuM thresholds. For alternative ’40 Act funds, the majority of money flowing in is coming through RIAs and wire houses. But in Europe, 90% plus of assets in alternative UCITS is derived from institutional investors.
• Distribution fees are up for negotiation at ’40 Act funds. Fees are capped at 150 basis points although the larger the manager, the better negotiating clout they will have. It is quite easy for a hedge fund to replicate their track record into ’40 Act and UCITS although legal counsel is strongly advised. However, there is likely to be divergence in performance between the regulated strategy and traditional hedge fund manager.
• Ironically ’40 Act funds are not as transparent as hedge funds as institutional investors will be in touch with managers frequently whereas the same cannot be said for investors in ’40 Act funds, who will usually receive information sporadically.
• Not all strategies make sense for regulated funds, namely those that are illiquid, directional and leveraged are generally not put into regulated products. Long/short equity is by far the most frequently replicated strategy in regulated funds. Interestingly, the fastest growing product in the alternative ’40 Act space was alternative bond funds. There is more flexibility in UCITS as NAV can be produced weekly whereas ’40 Act funds must produce a NAV on a daily basis. There are also better liquidity terms in UCITS than ’40 Act funds.
• It is essential to have a suite of products if launching a regulated product and not be overly dependent on a strategy that it is too niche.
• Liquidity mismatch is the biggest fear for regulated alternatives managers. There is a fear that one fund will do something bad and tarnish the reputation. The constraints on liquidity do exacerbate performance drag but managers can offer discounted fees to investors to compensate them.
• The cost of running a regulated fund is much higher than running a hedge fund. Size is a constraint if you want to launch a regulated fund. A $200million hedge fund will struggle to launch a regulated product because that firm might have a lack of brand awareness and the balance sheet to invest in the operational infrastructure. Smaller hedge funds considering launching a liquid product were told this will be a distraction to their core business and they should only launch a regulated vehicle when they have a bigger asset base. Hedge funds entering the regulated space need to evolve their investor relations teams if they want to manage retail money.
• AIFMs are likely to emerge as a halfway house between UCITS and offshore hedge funds. The marketing passport is still a work in progress and different member states are at varying levels of transposition with the Directive. Nonetheless, AIFMD offers managers a better liquidity offering and there are fewer restrictions on what they invest in.
• The intention is that AIFMD will become a global brand much like UCITS which has a strong following in Latin America and Asia. While there is awareness about AIFMD in Asia, this could change and it could emulate UCITS. However, this is not something which will happen overnight but over years.
• Sub-managing regulated funds is a sweet spot for firms running around $150m to $300m.
• Citi launched its AltX platform, a turnkey platform for regulated funds. It helps managers establish the vehicle by providing the operational infrastructure and reporting functions, not to mention the distribution. This helps managers reach their investor target base. However, platforms are being selective on the clients they take on. There is a long due diligence process when on-boarding funds onto the platform.