ASSET service providers servicing alternatives funds, such as private equity, infrastructure, and private debt, are transitioning their business models in the face of rapid growth, the search for yield, and higher customer expectations.
While the core business is still going to be capital and financial reporting to investors, asset service providers need to be more nimble, technology-savvy, and responsive to evolving client requirements as the growth of alternative fund assets continue to skyrocket in the coming years.
The alternative investment industry is expected to grow by 59% to US$14 trillion by 2023 as more and more investors turn to the alternative fund sector driven by the search for yield in a persistently low interest rate environment, as well as increasingly limited opportunities in the public equity sector, according to Preqin.
With this rapid growth in the industry, alternative fund service (AFS) providers are expected to deliver services more quickly, in much bigger volumes, and increasingly sophisticated strategies.
“The core business for AFS providers will not change, but they will need to be vastly more nimble in their service provision as the expectations of customers are rising exponentially,” says Cecilia Cheung, managing director of Linnovate Partners, a global fintech company providing fund administration services for alternative funds. Linnovate currently has over US$35 billion in asset under administration and monitors over 3,000 underlying portfolios.
Most of the current AFS providers still deliver fund administration services based on a high level of manual processing which will face increasing challenges as asset volumes increase and clients require more sophisticated forms of data transfer, data analysis, and financial reporting.
Unlike in the traditional mutual fund space where Straight Through Processing (STP) has been a reality for over 30 years, STP cannot be completely applied to alternative funds because of the lack of standardization in the fund administration of alternatives assets.
“It is impossible to imagine applying STP to private equity funds, venture capital funds, infrastructure funds, or private debt funds, because there is no standardization and this creates friction in terms of data, transfer, analysis, and reporting,” Cheung says.
“Traditionally, service providers have tried to address these with increased headcount, but we are reaching the limits of what this can achieve if the underlying technology platform is mainly Excel-based with the surrounding systems and processes heavily dependent on manual input and checking,” Cheung explains.
While it has been relatively easy for alternative fund managers to raise funds in a low interest rate environment, investing the capital that has been raised has become more challenging resulting in some spectacular deals with very high multiples.
Due to this, there hasn’t been too much pressure on fees, with general partners (GPs) in a private equity fund charging fees based on committed capital so they are guaranteed an income.
“But this is changing. Just 10 years ago, one could think of deals which were profitably bought and then sold or IPO’d (initial public offering) simply by financial engineering or capital restructuring. Due to the influx of capital into the sector, such gains are difficult to imagine now,” Cheung says.
On account of this, it is important that asset managers get operationally involved in both potential and current businesses.
“Freeing investment executives and analysts from mind numbing manual labour, such as manual portfolio monitoring will be incredibly important to the continued health of GPs,” Cheung says.
At present there is increasing demand for customized technology solutions portfolio management from alternative fund managers which requires AFS service providers to have a higher level of capability in financial technology.
For example, Linnovate uses some of the industry’s most advanced technology, applying automation at scale to complex bulk calculations and processes involved in international fund administration.
“This allows clients to benefit from cutting edge technology for increased accuracy, high quality and faster turnaround times than could be achieved with an internal function,” Cheung says.