New Platform Responds To Asia...

 

 

A global hedge fund administrator has built a new low-fee platform that may make it easier for managers to launch funds in Asia, even in a weak environment for asset gathering. Custom House Group says it will only break even on its Nascent Fund structure after about 15 clients, but the venture will prove successful if it helps a top manager get off the ground.

 

Observers say hedge fund managers in Hong Kong and Singapore are having a tough time attracting clients for new strategies. That makes launching a fund a bit of gamble, with start-up costs threatening to consume emerging managers before they can establish a track record.

“In Hong Kong and Singapore, we’ve seen a lot of start-ups that haven’t gotten anywhere because they haven’t got the money, and not because they’re not talented,” says Dermot Butler, Custom House’s Dublin-based chairman.

 

Custom House, which has an office in Singapore, is hoping to make it less costly for managers to open shop. The administrator has been marketing its Nascent Fund globally for the past month and counts two clients already, with discussions under way with multiple managers in Asia.

 

The new platform is set up as an umbrella fund in which each potential manager runs a separate sub-fund organised as a segregated portfolio. The only restrictions are that each fund must be managed in a jurisdiction acceptable to Malta, where Nascent is based, and must clear Custom House’s review for anti-money laundering laws, know-your-client (KYC) requirements and basic due diligence.

 

Managers would still be responsible for raising their own assets. Any investor would commit capital only to a sub-fund and not the entire structure.

Custom House has priced Nascent at below-market rates. Sub-fund managers must pay an upfront start-up fee of €8,000 (US$10,447) and another €2,000 (US$2,612) per month, with an additional 20 basis-point fee on assets to cover operational expenses. (The manager must pay its own audit fees.) In contrast, a new fund might cost a manager a minimum of US$30,000 to US$40,000 to launch, plus another US$85,000 to US$110,000 per year in operating costs, says Butler.

 

The result is that Custom House will likely take a loss on these fund launches for at least the first year. “We don’t make money on the administration until the second or third year,” says Butler. “It’s a loss leader in the hopes that the start-up managers that join us will actually perform as they expect to, or that at least a portion of them will.”

 

After the first year, Custom House raises its fees incrementally. By the third year it sets its fees at a level it might offer any standalone fund, though that is still likely at a discount to the fee structure of larger fund administrators. If a hedge fund leader has not raised sufficient outside client assets by that point, “then he or she probably shouldn’t be in the business”, says Butler.

 

But after those first three years, if the hedge fund is ready to leave the nest, the manager is contractually obligated to retain Custom House as its administrator for another three years.

 

“If we get 20 funds into this product and 10 don’t make it and five dodder along with US$20 million or US$30 million and set up a standalone fund and don’t make it very far, then out of the last five you’ll have four in the US$50 million to US$70 million range and one that will make it big,” says Butler.

As an example of humble beginnings, Butler cites Winton Capital, a fund launched by high-profile hedge fund executive David Harding that started with US$4 million in assets and now manages roughly US$5 billion.

 

Harding did not launch through the Nascent structure. Neither will most new clients, says Butler. The structure is available to new fund managers “only if they need to” use it.

 

Custom House, which has US$40 billion in assets under administration worldwide, is looking to build out its business in Asia. The firm’s Singapore office is its only in Asia, but it is searching for an executive to launch its Hong Kong presence.

 

“There is no doubt that this is where the hedge fund market is,” says Butler. “If you want to have administration business in China, this is where that person needs to be.”

 

Industry observers in Hong Kong agree that small hedge fund managers – particularly start-ups – are facing a challenging environment.

“Right now it’s pretty tough,” says Keith Robinson, a Hong Kong-based partner with the law firm Dechert, which works in association with Hwang & Co. “A lot of people have trouble raising money. Everyone I talk to is saying this, and the people who are getting allocations are the more established players.”

 

Robinson says a structure like Nascent could help reduce costs for managers that need some time to get started. “It’s getting tougher to get seed capital investments, and the process is taking longer,” he says. “This could be a way of hopefully launching with a little less capital if you’re having trouble getting that first cheque or two.”

 

There are potential drawbacks to launching with a fund-of-funds structure.

 

An executive with another Hong Kong-based hedge fund service provider says he expects many managers to find Nascent’s fees attractive. In fact, some providers in the region offer outsourcing platforms to help new managers get off the ground at reduced costs.

 

But some clients may only be drawn to hedge funds that have the strength to set up on their own with relatively independent infrastructure, says the service provider.

 

Dechert’s Robinson notes that hedge fund managers will need to look out for “cross liabilities” between sub-funds in any umbrella structure. “If ABC manager in the series has a blow up, could that potentially impact manager XYZ?” asks Robinson.

 

That does not appear to be a concern for Custom House. Butler says sub-funds are not subject to the same liabilities as portfolio teams within multi-strategy hedge funds. The Nascent structure also uses a subsidiary trading company to ease with the transition between sub-funds into standalone funds, primarily so that managers can retain their track records.

 

Still, building a relationship with a fund administrator should be about more than costs. Administrators provide operational infrastructure, but they also often handle critical client communications. And Dechert’s Robinson notes that managers rarely change administrators or prime brokers unless the relationship is absolutely not working out.

 

Indeed, Butler says one of his clients recently summed up the importance of choosing the right administrator: “I can survive two months of bad market performance, but I can’t survive two months of complaints about administrator performance.”