Since The Hedge Fund Journal published its first information technology report, the industry has moved on apace. Perhaps the most significant trend has been the increased focus on operational risk and regulatory compliance. The days when the IT policy was something a fund would consider a few years down the road, once it had raised its first $100 million, are over. Increasingly hedge fund managers are being expected to take an active role in ensuring their IT infrastructure is robust and up to date, from the analytical and transaction systems on the front end, all the way to price discovering and reporting at the back.
“The influx of new capital from institutional investors has meant that hedge funds have come to require some kind of risk management framework,” explains Andrew White, managing director with Aquin. “They are now finding they need it for beauty parades. The Excel spreadsheet used to be enough, but not any longer.”
Aquin has noticed an increasing willingness on the part of hedge fund managers to spend money on risk management and compliance, with some managers calling the firm to ask about its compliance solutions. “There are still some old school managers out there who are resistant to change, but the reputational risk of not doing anything about this is getting higher all the time,” says White.
Risk management is likely to become the name of the game for hedge funds, particularly those with the size and volumes that encourage further automation of many of their processes. Further moves towards straight-through-processing and an increased use of derivatives will mean that formal, consolidated views of a fund’s risk profile will become important.
Stuart Calder, Head of Product Strategy and Management at Linedata thinks that, while hedge funds have been ahead of the asset management pack when it comes to IT tools able to give them a competitive edge in the markets, they have still to close the gap in terms of bread and butter operations. But, he says, this is starting to happen, with even larger firms adopting ASP models where it suits them.
The move towards more rather than less prime broker relationships in the wake of the Bear Stearns debacle will also probably require more investment in systems which cover exposure management and efficient cash position transparency. “If regulations require hedge funds to put aside capital to hedge counterparty risk, then they will need mechanisms to monitor business workflow and cash flow predictions,” says Laurent Desnouck, a senior market manager at SWIFT’s broker/dealer and pre-settlement services. “You’re going to start to see consolidation in some of the systems used, although at the front end separate systems may still be required due to the prevalence of OTC securities.”
Counterparty exposure, particularly to prime brokers, is likely to lead to a need for ‘exposure functionality,’ the ability to generate a touch-of-the-button picture of a hedge fund’s hierarchy of counterparties. “It would need to be granular, almost down to the desk level,” says Peter John, OTC derivatives product manager at Fidessa LatentZero. “You didn’t see this nine months ago.”
For hedge funds hoping this will all pass them by, and it will be business as usual in six months’ time, think again. Providers in this report are anticipating major changes in the way hedge funds are required to operate, including accurate and regular disclosure of positions and other statements. At Omgeo, Director of Market Intelligence, Matthew Nelson, is expecting to see more regulations coming down the road, and with them, a requirement for more transparency. “We’ll likely see a big impact on the derivatives market,” he comments. “Hedge funds will need to build in new levels of transparency because of this. I’d love to be able to say that it will happen organically, and we’ve seen some fundamental changes in transparency already underway, but I expect that soon the industry will be forced to react much more ad hoc.”
All this change will also face hedge funds with a stark choice: continue down the road of the DIY technology model of yore, or turn to external providers for solutions. Third party involvement will bring with it attractive cost savings and the additional benefit of robust and stress-tested technology from the leading providers. It should sit well with the investors.
Fidessa LatentZero’s Peter John is expecting hedge funds to move away from their legacy internal systems towards independent vendors as their original infrastructure starts to date, failing to keep up with the rapidly changing financial landscape. It will be easier than rebuilding. “It will be important for software vendors to be extremely configurable,” he says, “but some hedge funds will also still want an out-of-the-box solution.”
There is an ever-growing emphasis on more accurate data and a more timely delivery of market feeds. At Options Technology, CEO Nigel Kneafsey is seeing funds that follow algorithimic strategies placing increased emphasis on the reduction of latency. Through his firm’s PIPE platform, for example, funds are able to exploit lowest latency market data and execution along with very high processing power. As funds gain access to this level of infrastructure the focus is back on exchanges to do more to reduce the latency made available to market participants. “Advanced infrastructure like the PIPE has largely eliminated previous latency between the market and the traders for those who have access to this level of connectivity,” he says. “It is now over to the exchanges to increase the performance they make available to the market.”
Who is going to be keeping an eye on all of this? Probably not the COO in many cases. This will lead hedge funds to either embrace an ASP delivery model, or continue to build on their internal IT departments.
It is probably fair to say that next time we publish our IT Special Report, much will have already changed in terms of the way hedge funds use technology, and their relationship with the vendor community. As SWIFT’s Desnouck says: “The hedge fund industry sprang out of bright guys coming out of the investment banks. But spreadsheets are not adequate anymore.”
Download THFJ Technology Insight 2008 (PDF, 4.2MB)
“The influx of new capital from institutional investors has meant that hedge funds have come to require some kind of risk management framework,” explains Andrew White, managing director with Aquin. “They are now finding they need it for beauty parades. The Excel spreadsheet used to be enough, but not any longer.”
Aquin has noticed an increasing willingness on the part of hedge fund managers to spend money on risk management and compliance, with some managers calling the firm to ask about its compliance solutions. “There are still some old school managers out there who are resistant to change, but the reputational risk of not doing anything about this is getting higher all the time,” says White.
Risk management is likely to become the name of the game for hedge funds, particularly those with the size and volumes that encourage further automation of many of their processes. Further moves towards straight-through-processing and an increased use of derivatives will mean that formal, consolidated views of a fund’s risk profile will become important.
Stuart Calder, Head of Product Strategy and Management at Linedata thinks that, while hedge funds have been ahead of the asset management pack when it comes to IT tools able to give them a competitive edge in the markets, they have still to close the gap in terms of bread and butter operations. But, he says, this is starting to happen, with even larger firms adopting ASP models where it suits them.
The move towards more rather than less prime broker relationships in the wake of the Bear Stearns debacle will also probably require more investment in systems which cover exposure management and efficient cash position transparency. “If regulations require hedge funds to put aside capital to hedge counterparty risk, then they will need mechanisms to monitor business workflow and cash flow predictions,” says Laurent Desnouck, a senior market manager at SWIFT’s broker/dealer and pre-settlement services. “You’re going to start to see consolidation in some of the systems used, although at the front end separate systems may still be required due to the prevalence of OTC securities.”
Counterparty exposure, particularly to prime brokers, is likely to lead to a need for ‘exposure functionality,’ the ability to generate a touch-of-the-button picture of a hedge fund’s hierarchy of counterparties. “It would need to be granular, almost down to the desk level,” says Peter John, OTC derivatives product manager at Fidessa LatentZero. “You didn’t see this nine months ago.”
For hedge funds hoping this will all pass them by, and it will be business as usual in six months’ time, think again. Providers in this report are anticipating major changes in the way hedge funds are required to operate, including accurate and regular disclosure of positions and other statements. At Omgeo, Director of Market Intelligence, Matthew Nelson, is expecting to see more regulations coming down the road, and with them, a requirement for more transparency. “We’ll likely see a big impact on the derivatives market,” he comments. “Hedge funds will need to build in new levels of transparency because of this. I’d love to be able to say that it will happen organically, and we’ve seen some fundamental changes in transparency already underway, but I expect that soon the industry will be forced to react much more ad hoc.”
All this change will also face hedge funds with a stark choice: continue down the road of the DIY technology model of yore, or turn to external providers for solutions. Third party involvement will bring with it attractive cost savings and the additional benefit of robust and stress-tested technology from the leading providers. It should sit well with the investors.
Fidessa LatentZero’s Peter John is expecting hedge funds to move away from their legacy internal systems towards independent vendors as their original infrastructure starts to date, failing to keep up with the rapidly changing financial landscape. It will be easier than rebuilding. “It will be important for software vendors to be extremely configurable,” he says, “but some hedge funds will also still want an out-of-the-box solution.”
There is an ever-growing emphasis on more accurate data and a more timely delivery of market feeds. At Options Technology, CEO Nigel Kneafsey is seeing funds that follow algorithimic strategies placing increased emphasis on the reduction of latency. Through his firm’s PIPE platform, for example, funds are able to exploit lowest latency market data and execution along with very high processing power. As funds gain access to this level of infrastructure the focus is back on exchanges to do more to reduce the latency made available to market participants. “Advanced infrastructure like the PIPE has largely eliminated previous latency between the market and the traders for those who have access to this level of connectivity,” he says. “It is now over to the exchanges to increase the performance they make available to the market.”
Who is going to be keeping an eye on all of this? Probably not the COO in many cases. This will lead hedge funds to either embrace an ASP delivery model, or continue to build on their internal IT departments.
It is probably fair to say that next time we publish our IT Special Report, much will have already changed in terms of the way hedge funds use technology, and their relationship with the vendor community. As SWIFT’s Desnouck says: “The hedge fund industry sprang out of bright guys coming out of the investment banks. But spreadsheets are not adequate anymore.”
Download THFJ Technology Insight 2008 (PDF, 4.2MB)
