Managed Accounts: Not just for breakfast any more

14 March 2007

Switching focus now from Geneva to New York, Alpha Male reports today on Managed Accounts USA, an event bringing together hedge funds, investors and those who participate in the burgeoning business of providing “managed accounts platforms” that some say will give rise to an age of “do-it-yourself funds of hedge funds”. 

Many of the barbs usually lobbed at hedge funds have more to do with operations and less to do with actual investment strategy. “Hedge funds are small businesses” they say. “Most hedge fund ‘blow ups’ are the result of operational issues – not investment issues”. “Buyer beware!”

But the diversification and low correlation available from alternative investments (hedge funds, real estate, private equity, commodities and even high-alpha-proportion long-only funds), remain highly desirable.  So what can be done?

Enter managed accounts.  According to the chairman of “Managed Accounts USA” (UMass prof and CAIA co-founder) Thomas Schneeweis, managed accounts address many of these common concerns while maintaining the investment characteristics so desirable in hedge funds. This is especially attractive to institutional investors.  And with institutions forecast to become the dominant investors in alternatives over the next 5 years, managed accounts aren’t going away any time soon.

As several speakers at Managed Accounts USA in New York today pointed out today, managed accounts have been used for years as a way to work around tax issues.  But now they have become the weapon of choice in the hunt for alpha.

While managed accounts originally took the form of private single-investor accounts, the approach has become the stock in trade for new breed of service provider: the managed account platform manager.  These companies (e.g. SocGen’s Lyxor, Credit Agricole, MSS, and others) offer a menu of single manager funds that have all undergone full due diligence and who managed separate accounts for the platform provider.

Managed Accounts: “The new funds of funds”

According to Simon Hookway of managed account platform provider, MSS, institutional investors are now firmly up the hedge fund learning curve and are ready to move on to single-strategy hedge funds. The only problem is that the due diligence and transparency required precludes all but the largest institutions from doing so.

Hookway says that common risks (e.g. misrepresentation, misappropriation, mispricing, illiquidity, style drift etc.) can all simply be addressed by segregating one’s assets from other accounts. This can range from a separate prime brokerage account to what he calls an “advanced managed account”.  As a result, the value porpositions of funds of funds - due diligence and monitoring - will be fundamentaly challenged. 

Interestingly, Hookway says the drive toward managed account-enabled DIY funds of funds is a serious threat to the “plain vanilla funds of funds” sector.  In order to survive, he says, these funds of funds are either a) becoming more specialized or b) becoming index providers (a development that is reminiscent of the mutual funds industry).

To Hookway, the economic proposition is straightforward: the added costs of operating a managed account reduces the expected volatility of a portfolio of single-hedge funds. As a result, risk–adjusted returns go up.  

Types of Managed Accounts 

A couple of speakers here (Gary Crowder, CEO of Credit Agricole Structure Asset Management, and Sam Chung Associate Dean at Long Island University) have referred to a landmark EDHEC report on hedge fund operational risk.  Apparently, that 2003 study was the first to define various levels of managed accounts (custodial account, prime brokerage account, “basic” managed account and “advanced” managed account).  The following chart sums up the report:

The bottom line, we believe, is that like UMAs (unified managed accounts) for individual investor, hedge fund managed accounts represent an enabling technology for alpha-centric investing.

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2 Responses to “Managed Accounts: Not just for breakfast any more”

1. All About Alpha » Blog Archives » A Closer Look at State Street’s New Hedge Fund Survey Says:
   March 22nd, 2007 at 8:33 pm

   […] Respondents bought more single-manager funds and less funds-of-funds in 2006.  It seems that the pundits at Managed Accounts USA may have been right - funds of funds are getting the squeeze.  Over half of institutions in this survey owned 10 or more single manager funds in 2006.  Ironically, the number of respondents who used no single-managers at all also rose.  State Street suggests this group of apparent fund of funds owners may just be new to the hedge fund industry - and may be following the common entry strategy of making a maiden investment via funds of funds. […]

2. allaboutalpha.com: Welcome to AllAboutAlpha.com Says:
   May 22nd, 2007 at 7:39 pm

   […] As a footnote, this sounds like good news for providers of managed accounts platforms.  After all, their core value proposition is the ability to slice and dice portfolios of many funds on a position-by-position basis. […]