Allocating To Hedge Funds Now Doesn’t Have To Take Years
The manager selection process in the hedge fund industry can be a lengthy one; institutional investors have been known to take 12-24 months to make an allocation. Creating a customised portfolio from scratch can take even longer. Noviscient is a Singapore-based investment manager which wants to disrupt that process by reducing the time it takes to allocate from years to months, even weeks.
The secret sauce is a technology platform Noviscient Founder and CEO Scott Treloar has built. Hedge fund managers send Noviscient their actual trading signals that they use in their private fund vehicle and Noviscient’s platform systematically allocates client capital to them, essentially creating a customised fund of hedge funds portfolio for an investor. The difference is that Noviscient’s algorithm allocates between the hedge fund strategies in a client’s account frequently, sometimes on an intra-daily basis, thus creating a quantitative fund of hedge funds product.
“To use an analogy, if you want a new suit, you don’t want to be given the fabric, thread, liner and the buttons” says Treloar. “We take the best materials, and tailor a custom-fitted suit for you. And we easily and quickly adjust the fitting if things change on your side, so you always look your best.”
Noviscient has fifteen hedge fund strategies on its platform now and will add more as and when they find new ones they like. New managers don’t have to work exclusively with Noviscient, but they won’t receive a management fee because Treloar believes that alignment is critical.
“The manager isn’t necessarily closing their existing private fund; they’re sending us their trading signals. We’re another route to market for them. They can still raise money if they want through their usual approach” said Treloar. “But we don’t pay our managers a management fee. We distribute the profits to the manager, but if performance isn’t as good then there has to be alignment in pain in the form of a clawback mechanism as well”.
Their approach to screening managers is somewhat unique, however – they perform minimal operational due diligence, and are only really interested in the quality and repeatability of the trading strategy signals.
“Typically, it takes a long time to onboard a manager but when that decision is taken, there is actually very little objective decision making. We have a way to objectively work out at what point we have enough confidence that the alpha is real. We review the managers’ strategy and review the signals, and if we find true alpha, the strategy makes it onto our platform. The ODD is largely absent, which makes us quicker at onboarding a manager – or not, as the case may be” said Treloar.
As with most quantitative-based investment strategies, the risk management is built-in. Noviscient’s platform can trade out of a strategy within a few seconds if something is going wrong. “At the worst case, we are mitigating black swans”, says Treloar. “But those are rare. It’s equally as important to mitigate continuous drawdowns. If you have spent 2 years reviewing a manager and then you finally invest, and then the manager starts to perform poorly, what are you going to do? You’re not going to immediately get out. You’re probably going to sit there and wait and hope they get better. We remove that organisational inertia risk.”
Noviscient’s genesis is also rooted in what Treloar feels is a structural challenge facing the hedge fund industry. He feels that alignment and innovation come from the more focused and nimbler managers, but they face an uphill climb due to infrastructure and capital raising challenges facing the hedge fund firm managers.
“We estimate that up to 60% of the costs that are borne by a hedge fund are compliance, capital raising, and operations”, he says. “We feel that hedge funds should be focused on alpha generation and not asset gathering.”
Consequently, Noviscient’s platform enables managers to focus on trading and developing their models as all operations are essentially outsourced. “The managers we’ve onboarded in this initial wave see us as a partner that can help them with infrastructure and capital raising so they can focus on generating alpha”, Treloar said.
Noviscient is a regulated investment management firm and so the investor relationship remains with Noviscient. They assume all manager selection responsibilities, just like a traditional fund of hedge funds would.
“We are the fund or managed account. The capital stays with us rather than goes out to our various hedge fund partners around the world. This reduces operational and counterparty risk for investors because there is one ODD process on Noviscient rather than many on the individual underlying managers and funds” says Treloar.
Noviscient looks for hedge funds with a two-year track record which trade exchange-traded and liquid securities, so equities, futures, ETFs and spot FX, but the ability to generate true alpha is the real focus for Treloar.
“We’re looking for market-neutral strategies with negligible factor exposure”, he said. “We monitor the strategies against around 25 factors broken up by asset class. The idea is to remove common factor exposure to reduce the risk and severity of drawdowns. Alpha is what’s left after factor returns. That’s what we’re looking for.”
Noviscient has been trading internal capital for the past 18 months and have an initial wave of family office investors for the go-live process. They offer two products – a pure alpha product, which is high-yielding with low drawdowns, and a low volatility product which focuses more on diversification. Noviscient charges a 10% performance fee with a 1% management fee that will scale down as AUM grows.
Noviscient has also been begun to have conversations with larger institutional investors. “There is definite interest from the institutional community in the ability of our model to offer scalable alpha with very good fee alignment”, he said. “We plan to be running $2-3bn in 3-5 years. We want to be the partner of choice for hedge fund investors of all types who are looking for scalable, uncorrelated alpha.”
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