Andrew Lapkin, CEO of HedgeMark, and Joshua Kestler, President & COO of HedgeMark, discuss Dedicated Managed Account solutions and address marketplace misconceptions.
This article originally appeared in HFMWeek’s 2015 Special Report on Managed Accounts. It is reproduced here with the publisher’s consent.
Andrew Lapkin (AL): Dedicated managed accounts (DMAs) are typically single-investor hedge funds established for the exclusive use of, and owned and controlled by, an institutional investor, such as a public or private pension plan.
The term ‘managed account’ is the source of significant confusion in the hedge fund space. Investors often think of this term in the context of traditional investments where it means giving a manager trading authority over a brokerage or custody account. In the hedge fund context, we are almost always referring to a fund or other special-purpose vehicle when discussing a managed account. The use of leverage and short-selling by hedge fund managers can result in liabilities that exceed the amount of investment. As a result, a limited liability vehicle is typically used to house hedge fund managed account investments.
Josh Kestler (JK): A commingled managed account (CMA) is a pooled vehicle generally set up by a managed account provider who is offering a range of individual managed accounts covering multiple hedge fund strategies to institutional and high-net-worth investors. These vehicles or ‘funds’ are sponsored and controlled by the platform provider who is responsible for oversight of the funds.
A DMA is typically set up by a platform provider for a single institutional investor who ultimately owns and controls the account. A DMA removes co-investor risk, provides the investor with much more control than a CMA and allows the investor to customize the account structure, service providers and investment strategy.
AL: While DMAs provide a number of advantages over a CMA, DMAs require a significant investment per fund, often $100m or more. As such, many investors will seek the benefits of managed accounts by investing in a sponsored CMA.
AL: No; a ‘fund of one’ generally refers to a fund created and controlled by a hedge fund manager for a single investor. In a fund of one structure, the manager rather than the investor typically controls the service provider relationships such as the administrator and auditor used for the fund. The manager would continue to have authority over key operational functions such as the ability to move cash and to value securities. While a fund of one can remove co-investor risk, it does not achieve all of the benefits of a managed account, including limiting the manager’s authority to trading authority only.
“A DMA removes co-investor risk, provides the investor with much more control than a CMA and allows the investor to customise the account structure, service providers and investment strategy.”Josh Kestler, President and Chief Operating Officer, HedgeMark
JK: No. A customized fund of funds product is often confused with a managed account. A custom fund of funds is a dedicated vehicle whereby a fund of funds manager invests in several different underlying manager-sponsored hedge funds on behalf of a single investor. This structure does not typically provide any of the traditional benefits of managed accounts – transparency, liquidity, governance or control. A custom fund of funds is equivalent to an investor making direct investments into traditional hedge funds under an advisor’s guidance.
AL: We are, however, seeing a new trend whereby fund of funds managers are using managed accounts as the building blocks for client portfolios. Fund of funds managers are beginning to understand the additional value that they can provide to clients by having position-level transparency, applying investment guidelines and maintaining control over the underlying assets.
The use of managed accounts by these managers changes and enhances the value proposition that fund of funds can offer clients including the creation of unique products that may meet investors’ demands for liquidity, asset control and transparency. It seems reasonable to expect that an advisor can substantially improve their investment and risk management processes with complete daily position-level information as opposed to limited exposure level information on a monthly lag.
AL :The hedge fund managed account industry has evolved significantly in the last several years and we believe that it will continue to mature. Unfortunately, there remains a great deal of confusion in the industry generally regarding the different types of managed account providers and the services that they each offer. Currently, every different type of provider seems to get lumped into the same category and compared on an apples-to-apples basis when in reality the comparison is often apples to oranges.
JK: There is not currently one industry standard service model. There are several types of providers: the most well-known providers are historically the CMA platforms, which effectively select and distribute hedge funds in a managed account format. This model was really the first phase of the hedge fund managed account industry and persists today. Many of the CMA Platforms have now also delved into the DMA space as the demand for customized, dedicated accounts has been a growth trend.
Pure play DMA providers such as HedgeMark exclusively support institutional investors in the structuring, operational oversight and risk monitoring of custom, private managed account platforms. Some providers do not offer structuring services which tends to be critical for many institutional investors who do not have the expertise to perform these functions internally and hiring external counsel is not a complete solution. This component of the DMA service offering tends to be critical for many institutional investors who do not have the expertise to perform these functions internally, and hiring external counsel is not a complete solution. There are providers that do not offer all of the operational support necessary to run anything other than the simplest hedge fund strategies, leaving these functions with either the investor or hedge fund manager which defeats the purpose of having a DMA.
We have found that certain providers hold themselves out as DMA providers, but in reality their services are limited to processing data and delivering some risk reporting. We believe that institutional investors are looking for substantially more from their providers than this. The ability for investors to differentiate among providers with barely any publicly available information regarding the specific services offered or an industry standard service model remains a major struggle for the managed account industry.
There are several fund of funds businesses that have developed their own internal managed account platforms. Most of these platforms are used by the fund of funds as building blocks for various products and advisory portfolios. These platforms are typically commingled from the investor’s perspective and the underlying funds are generally not offered on a stand-alone basis, but rather as a part of a broader product or portfolio. The fund of funds platforms are offering investment advisory products and solutions; whereas most of the pure managed account providers are offering a utility or service to facilitate investment management by the investor or its advisor.
AL: No. Unfortunately, we have found this to be a source of major confusion and misinformation in the marketplace. Managed account services and fund administration services are different. These services are complementary rather than competitive. Since a hedge fund managed account is almost always structured in a fund format, every managed account requires a fund administrator to calculate an NAV, maintain the fund’s books and records, produce financial statements etc.
A managed account provider performs various non-investment functions that would have been performed by the hedge fund manager, not the fund administrator, in a commingled, manager sponsored fund structure. The managed account platform provider is typically responsible for coordinating fund set-up; coordinating counterparty agreement negotiations and account openings; overseeing the administrator including reconciliation reviews, review and approval of the NAV produced by the administrator, cash movements for trade-related payments, expense payments and margin movements; coordinating the audit process; and risk analytics and performance reporting. Most administrators either do not have the expertise or the willingness to perform many of these services.
The views expressed in this article are those of the author only and not necessarily the views of BNY Mellon. BNY Mellon is the corporate brand of The Bank of New York Mellon Corporation and may be used as a generic term to reference the corporation as a whole and/or its various subsidiaries generally.
An investment in hedge fund strategies is speculative, should be discretionary capital set aside for speculative purposes, involves a high degree of risk and is not suitable for all investors. Investors could lose all or a substantial portion of their investment and must have the financial ability, sophistication, experience and willingness to bear the risks of an investment long term. Hedge fund strategies may be significantly leveraged and performance may be volatile. Accounts pursuing hedge fund strategies commonly enter into swaps, futures, forwards, options and other derivative transactions for various hedging and/or speculative purposes that can result in volatile fund performance. No representation is made that any Dedicated Managed Account’s investment process, objectives, goals or risk management techniques will or are likely to be achieved or be successful or that any Dedicated Managed Account or any underlying investment will make any profit or will not sustain losses. The risks of investing in hedge fund strategies will not be negated or even mitigated by HedgeMark’s platform, analytic tools, compliance policies or monitoring and no assurance is given that any Dedicated Managed Account will not be exposed to risks of significant trading losses. HedgeMark Advisors, LLC is an SEC-registered investment adviser.
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