Deutsche Bank survey highlights investor emphasis on hedge fund operational due diligence
Deutsche Bank today identified the changing regulatory environment as the most significant factor driving the growing importance of operational due diligence amongst hedge fund investors.
Deutsche Bank’s Hedge Fund Consulting Group’s second annual operational due diligence survey, which polled investors globally representing over $2.13trn of total assets, with a hedge fund allocation in excess of $724bn,shows almost three quarters rank a fund’s compliance and regulatory framework as the top priority for 2013.
Operational due diligence has continued to grow in importance and an overwhelming 70% of ODD teams now have explicit veto authority in the investment decision making process, which was exercised in almost 10% of manager reviews. In a further sign of the influence ODD teams now hold, 63% of investors won’t reconsider investing in a fund previously vetoed by the ODD team.
Further highlights of the survey include:
• Investors are placing greater emphasis on the depth and breadth of their ODD team – 80% of respondents have a dedicated ODD team and investors conduct an average of 50 manager reviews a year.
• Investors are increasingly focused on fund expenses – The majority of respondents have little or no tolerance for expenses such as non research related travel or employee compensation being charged to the fund. 40% accept charges such as regulatory reporting.
• Independent governance is expected – The majority of respondents prefer at least three directors on the board including two independent directors. Nearly a quarter vetoed an investment due to lack of independent governance.
• Start-up managers need to invest in people and process – Investment in human capital and proper segregation of duties were ranked as the top two operational recommendations for start-up and emerging managers.
• Managers should expect a thorough review of operations during the site visit – Almost 60% of investors observe daily operations during a typical ODD review, using a ‘trust but verify’ approach to validate what managers represent in their documentation.
Daniel Caplan, European head of Global Prime Finance at Deutsche Bank, said: “Hedge funds have seen impressive net inflows from institutional investors this year and operational due diligence teams are now a critical part of the investment decision process.”
Pam Kiernan, global head of Hedge Fund Consulting at Deutsche Bank, said: “This survey demonstrates the critical importance of operational due diligence to hedge funds as the industry experiences an ongoing evolution. Our results show that these teams have advanced in sophistication and provide valuable insights as to how managers can prepare for the road ahead.”
The survey polled 68 institutional investor entities globally representing over $2.13tn of total assets, with a hedge fund allocation in excess of $724bn, including consultants, endowments, public pensions, sovereign wealth funds, fund of funds, private banks and family offices. 63% of respondents manage more than $1bn in hedge fund assets under management.