Credit: Shutterstock photoReputation is paramount to the competitive profile of buy-side firms, and with market manipulation tactics posing a constant threat, it is essential that asset managers and hedge funds adapt to protect themselves from reputational damage and address regulatory scrutiny effectively. Compliance officers need to be able to quickly and efficiently identify potentially abusive behavior - whether it is in manipulating the market or unfair treatment of investors. This can be a tall order without the right technology in place.
Identifying Side-by-Side Conflicts - Where are the Risks?
Conflict of interest is a major topic of conversation amongst the buy-side community today. Compliance teams are responsible for ensuring that portfolio managers are treating their investors fairly across all funds, regardless of strategy, legal or fee structure. In order to demonstrate to regulators, executive management teams, stakeholders and customers that allocation conflicts are being managed, 'side-by-side management' capabilities must be employed that highlight potential infractions and help compliance teams to identify problems early.
When a portfolio manager is responsible for a number of accounts, conflicts of interest may appear that cause them to favor one account or fund above another - often times with the goal of enhancing performance or gaining higher fees for the same trade. For example, a fund manager may receive fees based on assets under management (AUM) and performance. In this instance, a portfolio manager could be inclined to allocate the best performing trades to the accounts that will accumulate higher fees and earn higher bonuses. Short-selling provides another opportunity to allocate unfairly, where a portfolio manager could short-sell a security for one account and then go long in the same security for a different account. Short-selling a security while also going long in the same deflates and then inflates the price, which can result in favoring one account over another account.
The process of side by side management - which essentially refers to the process of evaluating funds/accounts 'side by side' for fair and transparent allocations -- ensures that portfolio managers are allocating all assets in accordance with regulatory mandates, and are not basing these decisions between specific accounts on gaining better fees, commissions, or personal benefits. Global regulators are very much focused on this space, including the Financial Conduct Authority (FCA) which passed regulation in regard to side by side management, and has issued fines and penalties against asset managers that don't comply. "Ensuring that conflicts of interest are properly managed is central to the relationship of trust that must exist between asset managers and their customers," says Georgina Philippou, Acting Director of Enforcement and Market Oversight at the FCA. "It is also a fundamental regulatory requirement…Not doing so risks customers' interests being overlooked in favor of commercial or personal interests." [1]
Meeting the Challenge
Institutions and individuals face greater accountability when it comes to how they treat their investors, yet they have to do more with manual and slow processes that risk becoming obsolete in the face of regulatory pressure. To help ensure side by side management is being performed effectively, compliance teams can utilize technology to ingest, organize, and analyze execution data, helping to show regulators a systematic process for evaluation of allocations and to help demonstrate that portfolio managers are treating their customers fairly and equally. We created Nasdaq Fair Investor Allocation to perform side by side management analysis for this purpose
Nasdaq Fair Investor Allocation processes firm transaction information and delivers a cloud-based, managed solution that provides measurable evidence of best executions and allocations for every client. The solution runs proprietary clustering algorithms, groups together and compares trades, showing in-depth information on execution timings, execution prices and capital allocations of the executed orders and produces a report to provide regulators and compliance officer evidence that assets are being allocated both fairly and equally. As a result, all trades are scrutinized, there is faster focus on high-risk traders and proactive management of report, response to regulators, and the firm's reputation is upheld.
To learn more, visit http://business.nasdaq.com/market-tech/market-participants/Buy-Side/Fair-Investor-Allocation/index.html . To learn more about Nasdaq Buy-side Compliance and Nasdaq Fair Investor Allocation, please download our factsheet: http://nasdaqtech.nasdaq.com/NasdaqBuysideComplianceFS
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
