When worlds collide

Private equity firms interested in entering the hedge fund space should be aware of certain operational challenges says Bijesh Amin of Indus Valley Partners.

Earlier this year Indus Valley Partners (IVP), a technology consultancy for private fund managers, helped several private equity firms assess what the impact would be on their fund platforms if they were to acquire a hedge fund business and then add them to their stable of existing private equity and real estate funds. 

Bijesh Amin, co-founder and managing director of IVP, said they had found three options:

1. Build a new fund platform to support both the existing private equity funds and newly acquired hedge fund(s).

Bijesh Amin

2. Move the hedge fund business onto the current platform.

3. Operate the portfolio management aspects for both the private equity and hedge fund businesses side-by-side with no change to their respective intra-day processes (i.e. trade capture, position-keeping, intra-day risk/p&l). Additionally, “sandbox” the new hedge business from the current platform but ensure data for risk, p&l, position management etc. would feed into a central repository (in other words a data warehouse) for risk analysis/aggregation, monitoring, regulatory reporting etc.

Amin told PE Manager option three was found to be the only realistic way forward for the following reasons:

1. The first two options are too expensive/disruptive and the market lacks comprehensive portfolio management solutions encompassing both private equity and hedge funds. 

2. The high-turnover, low duration hedge fund portfolios require different systems with support for different counterparties (e.g. prime brokers) than private equity firms typically have. 

3. The third solution is the least expensive/disruptive, most easily implemented, and enables the requisite level of control across both businesses.

So why is this kind of platform achievable only now?

Nowadays there is no need to build core fund systems from scratch. Execution/order management systems, portfolio accounting and risk systems are all available from a credible set of 3rd party vendors.

In addition, the best of these vendors have designed their systems to have pre-built integration to counterparties such as prime brokers, swap dealers, valuation agents, custodian banks and fund administrators.

Finally, security data management and hedge fund specific data warehouse solutions have recently emerged that give the requisite flexibility in terms of data analysis, reporting and support for multiple asset types that a hybrid hedge fund/private equity complex requires.

With this platform funds can spend more time analysing value-added data (e.g. the cost-of-carrying a portfolio or assessing funding/margin requirements) and less time on lower-return activities such as trade reconciliation and security data maintenance. Funds will benefit from a deeper, more productive collaboration with portfolio managers to support and enhance their alpha-generation efforts and investors and regulators will benefit from the increased transparency and reduced operational risk.