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Outsourcing and the shift to oversight risk


As the FCA’s fears over resilience risk appear to be driving change, the asset management industry has been paying more attention to oversight risk.

In the hedge fund space, oversight risk is less of an issue because the hedge funds (even the smaller ones) tend to run shadow operations. These are generally internal arrangements, although we know that Bridgewater in the USA is running two outsourced operations, one shadowing the other.

One reason for this is that the hedge funds have observed the business benefits of shadowing. They are not doing so because of compliance obligations, they have recognised that it gives them the agility to invest as and when they need, but it doesn’t give them the huge overhead of being with a contractual back office. They run a shadow that is much lighter, more focused on feeding the front office and being able to make investment decisions. The more heavyweight middle and back office operations are handled by the outsource provider.

If there is value in having a shadow operation in the hedge fund world, should there not be an equal opportunity in the traditional long-only markets?

The asset management industry has to determine how it can generate new business benefits value from the FCA’s thematic review. This may mean changing their operating models to improve efficiency, better serve their clients, trade better in the front office and gain competitive advantage, rather than simply seeing TR13/10 as yet another compliance task.

Changes to an asset manager’s operating model through the use of a shadow could result in:

– having a better view of their positions at all times

– the ability to move at their pace, rather than at the pace of the outsourcer

– the ability to manage their outsourcer better, reducing errors and increasing accuracy

– more flexibility to, for example, launch new funds, as asset managers will have operational capacity ready to plug in

The FCA has (understandably) approached resilience and oversight from a consumer protection perspective. The asset management industry has to look at the value that can be derived from such major operational developments.

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