After the Madoff scandal broke, questions were raised about how one of Wall Street's largest Ponzi schemes could have gone unnoticed for so long. One factor that certainly contributed to the scheme's success was the firm's opaque internal fund administration apparatus.
In Europe, and to a more limited extent in Asia, independent fund administration is standard. Boutiques like Custom House Group, along with established banking names, provide varying levels of fund administration services - including middle- and back-office functions, net asset value calculations and risk mitigation - to global and local institutional investors. Service providers in Hong Kong and Singapore report that post-Lehmans, clients have expressed increased interest in fund-administration services.
Dermot Butler, chairman at Custom House, says the Madoff scandal has created an opportunity for admin boutiques to pitch their services.
"In anything less than an independent fund administration relationship, there is at the very least a perception that a conflict of interest may exist," says Butler. "As stand-alone companies, independent administrators have no affiliations to any outside financial entities, therefore, no such conflicts exist."
Butler shares his views with AsianInvestor.
What has happened to the relationship between fund managers and investors?
In anything less than an independent fund administration relationship, there is at the very least a perception that a conflict of interest may exist that could prevent objective verification of a fund's investment activities and even the existence of underlying assets in a given fund, let alone an objective and accurate valuation of the fund's assets. This perceived conflict might occur when an outside administrator is affiliated with a financial institution, with an investment manager, or when the administrator is associated with a hedge fund itself.
In today's new investment environment, more than ever, hedge funds and funds-of-funds must have independent outside administrators as a foundation to help rebuild investor confidence and attract new investment capital.
Why is having an independent fund administrator so important?
There are two main reasons for the importance of an independent fund administrator. First is how the perception of a fund administrator has changed from a year ago. Today, independence from any bank or financial institution is a positive in regards to counterparty risk.
Secondly, independent administrators provide comfort to investors because they can independently confirm the existence of assets and can accurately price those assets. By performing those duties, the administrator resolves conflicts of interest between investors and fund managers. This is of particular relevance to US fund managers who have historically administered their own funds and who are post-Madoff are being pressured by major investors to appoint an independent administrator.
How would you describe independent fund administrator usage in Asia?
In Europe and almost everywhere outside the US, it is common to have an administrator and even required. Asia funds are also set up in similar jurisdictions. The market trend in the US will lean heavily towards independent fund administration because of investor pressure.
How does all this play out on your outlook for the industry?
There will be some political pressure for increased regulation of fund managers. This change is in reaction to the economic collapse that has nothing to do with hedge fund managers. The result will be increased pressure on the regulation of hedge funds but we don't know how it will pan out yet. There will also be pressure on greater liquidity, more daily reports from fund managers and a need to separate liquid and illiquid assets within a fund.
This year, I see many private equity firms will have cash flow problems. Distressed assets have become popular, partially because that is all there is left and, with industry layoffs we wouldn't be surprised to see more [fund management] start ups this year.