Citi Prime Finance’s 2011 IT Trends & Benchmarks Survey
I
27
Software Sequencing Places Core Capabilities
Before Insight
As IT planning turns from infrastructure to software, a hedge
fund manager needs to assess the state of their existing
platform and determine, from a sequencing perspective, which
capabilities make the most sense to introduce next. A desire
to immediately seek differentiation with targeted investment
decision-making tools needs to be balanced against focusing on
core systems that ensure basic capabilities.
Chart 13 highlights some critical points to consider in planning
how to deploy software dollars. Foremost is the fact that there
is typically a sequence by which hedge fund managers’ look to
add new functionality. This sequence refects a progression
whereby the manager frst builds out foundational trading
and portfolio management capabilities, then focuses on risk,
fnancing and collateral management systems that offer them
opportunities to better control and optimize their investments
and, only when they have these core capabilities in place, begin
to spend on customized tools that allow them to focus more
effectively on understanding their alpha creation.
Benchmark data provided by survey respondents underscores
the validity of this sequencing. Both small and medium-sized
hedge funds spent the majority of their IT software budget on
foundational trading and portfolio management systems. This
outlay accounted for 39% of small manager’s software budget
and 32% of medium-sized managers’ spend. Large hedge funds
by contrast only allocate 29% of their IT software budget to
these platforms as other priorities began to draw the majority
of their available dollars.
Not only are trading and portfolio management seen as the
foundational systems, thanks to the commoditization that
occurred in the industry during the tail end of Wave 1, they are
also the most broadly available and thus the most competitively
priced. One reason that these systems lie at the base of the
triangle shown in Chart 13 is that there is a signifcant number
of vendors available to hedge funds to pick from in selecting a
platform to meet their individual needs.
The impact of this trend can be seen in the benchmark data.
In evaluating the vintage of survey respondents, we see that
only 29% of large hedge funds are more than 5 years old,
whereas 100% of franchise hedge funds fall into that category.
The majority of large hedge funds thus launched in a period
when commoditization of trading and portfolio management
platforms was already underway.
These frms were able to take advantage of standardized,
competitively priced platforms whereas the older vintage
franchise frms had to build customized platforms to achieve
their desired functionality. Indeed, these franchise frms
represent the hedge fund pioneers discussed in Section 2 and
they have typically maintained their customized platforms
through to the present day. As a result, they still spend 39% of
their software budget on these platforms versus the 29% large
funds spend, as noted earlier.
Realizing adequate risk controls over the investment process
and fnding opportunities to optimize the frm’s fnancing and
collateral management are typically the drivers that emerge
to justify the next set of hedge fund investments. These
enhancements directly impact the manager’s perceived
“institutional” quality, a critical consideration given shifting
investor dynamics. Much has been written about how large a
hedge fund manager must be to attract institutional dollars.
One reason that larger funds are seen as more attractive targets
is that they have typically devoted more of their IT spend to
ensuring these core control and optimization systems.
This assertion is supported by the data emerging from survey
respondents. Benchmark data shows that as AUM grows,
the proportionate share of the hedge fund manager’s budget
devoted to these capabilities also increases. Small and medium-
sized hedge funds cite risk, fnancing and collateral management
software as accounting for 15% of their total IT spend. This
jumps to 19% for large hedge funds and 24% for franchise frms.
Because we are not yet through with Wave 2 and are only
beginning to see the full impact of its commoditization infuence,
there are fewer commercially available systems focused on the
hedge fund space available in the risk, fnancing and collateral
management functions as compared to trading and portfolio
management. As will be discussed in a moment, this affects
the approach a manager would use to achieve capabilities
in this space.
“ Our business needs to expand as we get into trickier
instruments. Once that is stable, we can focus on customizing
the outputs.”
– CFO of a U.S.-based hedge fund managing
less than $500 million USD
“ We’ve always invested more in technology than people. We
have tiny fnance and operations teams, as we’ve automated
everything. We have six people in operations, and we process
10,000 complex trades every day.”
– CTO of a Managing between
$3 billion and $5 billion USD, UK-based hedge fund