The exponential growth of hedge funds and private equity firms unfortunately comes hand in hand with rising expenses. Recent need for recruiting employees with a high lifetime value and adapting outdated paper based business processes has escalated expenses for hedge funds. They also have to contend with increasing pressure from regulatory and investor requirements – which has only driven expenses up further.
One of the reasons Over the course of the last ten years, industry surveys such as Ernst & Young’s annual global hedge fund surveys have gained traction. These surveys have consistently reported an increase in expenses among the majority of funds and firms. At times, the expenses have even risen by a staggering 15% in a single year.
In order to understand Investors and regulators have become unrelenting in their demands for more regular, precise and punctual data. Investors are seeking increased control over their investments by asking for this kind of information, which will enable them to maintain a comprehensive understanding of the performance of their funds and investments. Investors also want to ensure their guidelines are being met while appropriately managing the risk of their portfolios.
Regulators, on the other hand, are wielding more authority due to the enactment of the Dodd- Frank Wall Street Reform and Consumer Protection Act. The Act obligates hedge fund managers to register as investment advisers, thus giving them greater authority.
In response to the shift in attitudes of both investors and regulators, hedge funds and private equity firms alike have attempted to catch up by restructuring their method of operations. This is being accomplished by introducing new technological infrastructure into investment channels. Funds and PE firms are also in a period of active hiring.
Active hiring is usually an attempt to bolster the numerical strength of employees, particularly in legal, risk management, as well as middle and back office functions. This would assist with meeting investor and regulator demands and acclimating to business growth. Unfortunately, numerous hedge funds and private equity firms have fallen into the trap of throwing manpower at challenges that demand technological solutions.
While larger hedge funds and private equity firms have been done well with the incorporation of technology and outsourcing, smaller funds are still responding to issues by increasing headcount of their middle and back office teams. This trend was detailed in a recent McKinsey survey that noted that firms with more than $50 billion in Assets under Management (AUM) have an average of eight employees per $1 billion AUM. This is in comparison to 22-30 employees per $1 billion AUM in firms operating with a lower AUM.
This signifies that a large number of hedge funds and firms are still functioning at an efficiency far below their peak. This is largely due to their shared reluctance in applying technological and outsourcing resources.
There is a strong likelihood that most funds and firms will experience growth reliant on their implementation on these strategies. It is imperative that they streamline business activities around operational and scalable models. These models should be built upon three pillars: outsourcing cordiality, modifying the shadowing approach and putting technology to use.
Prolific infrastructure investment has enabled fund administrators to offer a wide variety of services to their client base. However, the increased investment has not deterred fund managers from wondering about the worthiness of additional services. There is also a lingering expectation of heightened performance from administrators.
Middle and backoffice operations remain the top outsourcing choices of fund managers. Risk management is the least favoured outsourcing operation. This could be due to the prevailing opinion among investors that front and back office risk management activities should remain in-house.
Fund managers have been seeking to define a threshold to outsourcing. In fact, many of them have no plans to increase outsourcing. Fund managers may need to put outsourcing on their agenda given the intensification of business costs and the impressive track record of outsourcing.
It is common for fund managers to shadow functions of their administrators. Unfortunately, this practice puts a massive strain on the revenue stream. While investors may enjoy the added confidence gained from shadowing, they definitely do not want to shoulder the accompanying costs. As expenses mount and profit margins compress for fund managers, a cost-effective industry wide shadowing standard is needed.
Substitution of shadowing approach with reviewing administrators work can be an ideal solution. Funds must strive to create an ambience where recourse is taken to the strengths of administrators and inefficiencies are addressed.
Cost-effectiveness is well within the grasp of those funds that make use of an external administrator through avenues of outsourcing which would ultimately lead to a fruitful review of administrators’ work and curry favour with fractional shadowing instead of a full blown one.
A technological infrastructure operates most efficiently when combined with long-term business planning. Restoring to technology on an ad-hoc basis only drives up expenses unnecessarily. However, with a smart, concrete vision, fund managers can put apprehensions about technological expenses to bed.
It is very important for fund managers to choose technological solutions proportional to their business interests and pursuits. Enterprise Resource Planning or ERP solutions are designed to uniquely serve funds. They can be customized to plan and manage all the core sectors of the fund. Take Resolvr for instance, an end-to-end expense allocation software which helps funds and firms with compliance, legal operations, asset management, and mid and back office functions. This is done with software that enables digital connections between all key task areas within a secure electronic environment.
Fund managers should refrain from viewing their current technological framework as disposable. While it is essential for the existing technological infrastructure to be updated, it is not necessary for it to be discarded altogether.
Technological solutions must assist fund managers in instituting effective authority over their data. Funds have multiple vendors and warehouses from which the same data must be administered. This data is then used by various sectors within the firm. By delegating the task of collecting information from vendors and channeling it to different handlers to the mid office, fund managers will be able to bring inefficiencies down to a bare minimum.
Funds should focus on technological tools that can automate repetitive tasks carried out by humans. For example, Resolvr can reduce the need for human manual tasks. This translates to funds and firms, both large and small, saving millions of dollars.
If expense allocation software (or spend management software) could help your hedge fund or private equity firm, get in touch with us to learn more about what we offer. We can set up demonstrations, trials and complimentary consultations to see if Resolvr fits your fund's requirements, with no strings attached.
Joakim is a marketing professional with a track record of applying cost-effective and lean strategies to achieve growth. He is the Marketing Lead of Bilr, a legal billing software that helps lawyers increase the efficiency of timekeeping. Furthermore, he's a published writer, with several articles such as "Can Smart Contracts Replace Lawyers?" published in leading tech publications and cited by others.