Hedge funds will spend approximately $2.09 billion on information technology (IT) in 2011, representing an average of approximately nine basis points of assets under management, according to the Prime Finance 2011 IT Survey released today by Citi (NYSE:C) Prime Finance, a multi-broker, multi-strategy integrated business unit comprised of prime brokerage, financing solutions, business advisory and capital introductions, and First Derivatives, a global provider of software and consulting services to the financial services industry. The report, “Managing Your Hedge Fund IT Spend to Achieve Differentiation”, which surveyed over 75 hedge funds in the U.S. and Europe and 15 vendors , documents for the first time both the industry’s aggregate expenditure on information technology and the average expenditure per hedge fund.
“The Prime Finance 2011 IT Survey demonstrates the powerful impact of technological innovation on the hedge fund industry,” said Sandy Kaul, US Head of Business Advisory Services of Citi Prime Finance. “The survey, providing information on IT investment for the first time, enables industry participants to evaluate their own expenditures and see how they stack up against their competitors. While the $2.09 billion spent by hedge funds is equivalent to just 2.8 percent of forecasted total industry-wide securities and investment spending of $75 billion, hedge fund IT investments have a disproportionately large impact on advancing the capabilities of the overall financial services industry due to their complex trading strategies and multi-asset focus.”
As the survey demonstrates, hedge funds are changing their approach to investing in new information technologies. While hedge funds have traditionally sought to differentiate themselves and to enhance their own performance through technological innovation, the current risk and regulatory environment is driving hedge funds to invest instead in more efficient use of collateral and financing. Software and solutions designed to improve portfolio management and trading have become standardized and disseminated across a broad group of hedge funds.
“The survey findings have important implications for hedge funds making their own plans for technology and other capital expenditures in 2012,” said Alan Pace, Head of Citi Prime Finance in the Americas. “We are committed to delivering this type of thought leadership on a consistent basis as part of our overall business advisory offering, as feedback from clients and other industry players indicates that such studies provide information that individual clients would find impossible to obtain on their own.”
Large or “franchise” hedge funds – those managing $5 billion or more – realize significant economies of scale in their information technology expenditures. Franchise-sized firms with assets under management (AUM) in excess of $5 billion are expected to spend an average of $7.9 million on technology in 2011 – more than 13 times the amount forecast for small funds with AUM less than $500 million. Small funds charge nearly the entire IT expense to their management company, but as AUM grows, more of these expenses are charged back to the fund level. The largest hedge funds are able to charge 20 to 30 percent of these costs back to the fund.
“The allocation of more expenses to the fund, rather than to the management company, can be considered a premium that investors pay to access these managers and reflects the ability of the largest funds to absorb these expenses without significantly affecting performance,” said Bill Saltus, Head of Hedge Fund Technology Consulting, at Citi Prime Finance. “The hedge fund business is highly competitive and, as our survey also indicates, innovations in technology are making it easier for newcomers to enter the field.”
Other survey findings include:
* More funds are adapting unified data management solutions. Specialized consultants focusing on hedge funds’ needs are helping funds consolidate data from disparate sources to produce unified reporting of elements including risk, accounting, trading, finance, and counterparty data, allowing funds to satisfy reporting needs for investment management, compliance and regulatory requirements, and investor transparency from a single platform.
* The “buy versus build” decision has shifted for hedge funds. Hedge funds can choose from a broader range of commoditized solutions, pioneered by a set of large hedge fund managers who developed their own platforms when commercially available options failed to meet their complex requirements. These platforms over time have become commercialized and commoditized.
* Technology innovations are helping launch new hedge funds, and helping existing hedge funds launch new funds more quickly. The proliferation of outsourced solutions designed specifically for hedge funds helps new funds minimize their capital expenditures. Hedge funds, for example, can now buy not only software as a service (SaaS) but “infrastructure as a service” solutions, shortening the time and expense needed to launch a new fund. Third-party service providers are also enabling hedge funds to outsource entire functions.
“The survey results indicate that there are multiple vendors and outsourced service providers offering solutions for core functions such as portfolio management and trading,” said Bill Saltus, Head of Hedge Fund Technology Consulting at Citi Prime Finance. “Leading funds and specialized consultants are now offering risk, finance and collateral management solutions while developing unified data management platforms and other platforms to give hedge funds the flexibility they will need to address evolving demands from regulators and investors.”