FINCAD organized two interesting events in New York City yesterday, covering two hot-button areas of finance for hedge funds and banks. In the morning, we co-hosted a breakfast briefing for hedge funds at the Princeton - Columbia University Club. The panel included representatives of software providers, consultants and advisory firms. Audience representation included technology providers, fund managers, banks, insurers, and consultants and asset managers.
One of the themes of the discussion was the uncertainty flowing through from the debt ceiling gridlock and the patchwork global regulatory framework, such as AIFMD in Europe, Form PF and CPO-PQR in North America and OPERA that is on everyone’s mind. These global regulatory requirements are only partially overlapping and are still being defined, so we should start to see a convergence in the longer term when the dust settles and regulations are solidified. This will be especially true as the marketing rulebook is changed and investment allocations take a global focus.
There is also a growing need for hedge funds in North America to develop and enhance infrastructure to more effectively comply with Form PF, which will be a work in progress as the regulations evolve and the funds’ understanding of reporting requirements becomes recalibrated. The requirement list for funds to measure and manage their risk and lock-down compliance process for better monitoring and control will be a transition from an implicit requirement to a more prescriptive paradigm.
Along with these changes is the heightened importance of the risk management function as well as more robust risk processes. This has transpired from the financial crisis but also because many of these regulatory driven risk processes focus on complex calculations such as VaR (Value at Risk), counterparty credit risk, and a comprehensive portfolio-level exposure understanding through a centralized risk engine.
There is also a transition from a risk measurement approach to one that encompasses more risk management and comprehensive and holistic risk-aware decision-making. This will be the new norm for funds vying for institutional hedge fund strategy allocations in a competitive marketplace. Reporting requirements may be the minimum necessary, but investors may demand intra-period reporting viability. This culminates in an increasing need for well-developed risk management functions and puts the CRO into a critical role that drives the firm’s profitability, growth and stability as well as providing more transparency.
A well-developed infrastructure that can support the technology demands in complying with hedge fund regulations is required; and funds will need to overhaul the traditional bolt-on approach that has been implemented in the past. This is being driven from the demands to run calculations, preserve results for regulatory and audit purposes as well as record keeping. Data management will be a significant challenge for funds performing regulatory calculations, and also for the SEC, which will have to manage the data flow stemming from fund reporting requirements.
Trends and competitiveness based upon better due diligence will be expected to continue for the coming years. This will be the trend for all allocators, whereas several years ago this was really coming from the tier one firms. This all speaks to the new normal of a risk-aware mindset for the hedge fund world.
In this new landscape, implementing best practices for funds will require significant technology and computational resources. This isn’t something funds can most effectively build in-house with limited staff, while meeting time constraints and controlling costs.