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Selecting the right Portfolio Management System for your hedge fund business

The need to improve process efficiencies within investment management firms has never been greater. Shrinking margins due to increased competition from low-fee passive products, the burden of regulatory reporting and the threat from new market entrants have forced buy-side firms to look for even greater operational savings.

With software solutions often representing a significant element of operating costs, a groundswell of hedge funds are deciding that now is the time to construct a business case for changing their Portfolio Management System (PMS) and other areas of their IT infrastructure. Many are contemplating defining issues such as Total Cost of Ownership and the fund manager’s ability to outsource functions. But what are the key elements to consider in such a review?

Leaving a legacy

Hedge fund firms have long relied upon complex systems and architecture that serve discrete elements of their business, usually built up over many years with often substantial investment. By and large, these so-called ‘silos’ operate well within the parameters set and adequately serve the individual needs of the business lines they sit within. The last two decades have seen this maxim being severely tested.

Changing regulatory regimes, macroeconomic events and the relentless drive towards increased operational efficiencies mean that rapid adaptations to legacy operating models are more frequently required. It’s at this point that the limitations of a siloed architecture are fully recognized and the ‘Don’t fix what isn’t broken’ notion is really tested. The last 18 months have really tested the true resilience of these systems where some firms have been in ongoing DR mode.

Best of breed or consolidated system?

One option for investment managers seeking operational efficiencies is the consolidation of various technology platforms covering the front and middle office into a single platform. There are, however, a number of areas to consider before embarking on a single consolidation play.

Asset class coverage is one of the most important factors in this decision between consolidated and best-of-breed architectures in the front and middle office. For a traditional asset manager running fixed income and equities, a consolidated system might be appropriate, but as firms move into more complex asset classes such as derivatives, real estate, fund of funds, private credit or private equity it becomes more difficult to find a single platform that will provide the requisite functionality to support the investment process.

OMS or PMS?

Hedge funds need an order management system that can support not only electronic trade execution but also increasingly diversified portfolios – yet all without overextending their technology footprint.

With margins tightening they also looking to reduce their Total Cost of Ownership through maintaining less systems. The pre-crisis policy among most hedge funds of having an OMS supported by a separate PMS system has come under question. Platforms also need to be fit-for-purpose with a wide range of functionality out-of-the-box (such as connectivity to the prime brokers and fund administrators).

The good news is that today’s leading systems like Enfusion and AlphaDesk provide a powerful, integrated OMS/PMS, helping hedge funds meet this need whilst maintaining relatively low running costs.

Connectivity is key

At the same time, software vendors have historically been defensive, excluding other vendors by ringfencing their technology. Hedge fund businesses today want to see vendors that are open, collaborative and able to share their platforms so that competitors become partners.

Available APIs for integration with other systems that improve both efficiency and accuracy have become a prerequisite. Connectivity is everything.

Risk mitigation

Of course, the COVID-19 pandemic has piled pressure on financial markets and operating models around the globe. In the first two weeks since the global lockdown began there was alarming volatility in the market. On 23 March 2020 alone (the first day of lockdown) the FTSE 100 was down 35 per cent from its peak of 7,675. Hedge funds, asset management firms and fund managers were dealing with enormous spikes in trading. Systems that were not designed to be used remotely came undone - causing bottlenecks and necessitating risk-laden manual interventions.

There have been two key learnings from this period. The first has been that hedge fund businesses relying on manual processes are incapable of meeting their client obligations during market turmoil and are also exposing them to unnecessary risk and financial penalties.

Disaster recovery

The second learning is that in an epidemic disaster recovery situation, the investment, procedures and safeguards associated with a back-up location is of no benefit. Firms are relying on the resilience of their existing software suppliers in sending data to staff sitting at computers in their living rooms. The pandemic has highlighted the strength of cloud-native Portfolio Management Systems that can be deployed, maintained or upgraded entirely by remote means.

Last word

Of course, for a forward-looking Chief Operating Officer, the selection of the right PMS for their business is only part of the equation. Whilst it is important to evaluate such a key component of your investment operations, running a wider operational model review for efficacy is even more strategically vital.

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