Currently, super funds have to collect around 900 data items on a regular basis to satisfy the needs of the Australian Prudential Regulation Authority (APRA). With effect from July, the number will increase to about 4000. Some of the information is naturally collected by custodians and some by the funds themselves or their administrators. For the first time, though, it will be necessary to combine large quantities of investment-related data with member-specific details. The regulator has been asked by the super funds and the custodian banks to introduce the changes gradually.

Rhys Octigan, regional head of business development in Australia and New Zealand for DST Global Solutions believes that the new changes have highlighted the complexity of data management by the super funds. “Many organisations have implemented tactical solutions to address reporting challenges. This has led to a plethora of databases, data consistency problems and a lot of integration code to maintain,” he says.

However, the intelligent collection of large quantities of data is only part of the headache for the super funds, custodian banks and administrators. Notes Octigan: “In the first place, everyone – regulators, internal auditors and accountants – needs to be satisfied that best practice is being adhered to. Further, the data gathered needs to be presented to users in a way that meets their specific needs. Finally, the solution needs to be flexible to cope with further regulatory changes.”

DST has been boosting its team in Australia so that it is better placed to deal with the challenge. “Many of the clients with whom we are working are multi-national organisations that operate in several jurisdictions,” say Octigan. “It is very common for clients to collect data to meet the requirements of several regulators simultaneously. And those requirements are constantly changing. DST is currently monitoring the evolution and implementation of about 18 separate pieces of legislation around the world.”

In line with more transparent reporting protocols, Vamos says while the focus in super has traditionally been past performance, there are ways to give indicators of future performance.

“Some funds do it individually, but we think it is something that can be done across the industry,” she says.

“This is done all the time in the listed-company space by analysts.”

It’s never been a focus in super, but Vamos thinks greater competition and more choice with providers makes it important to have a scorecard looking at potential future performance.

“As more and more people think harder about where they’re going to put their super, including what assets and what provider, we thought it was important for the industry to come up with [a] balanced scorecard.”

Vamos says the greater the transparency, the greater the trust.

“This is all about really building that consumer confidence in the industry, so we’ve started the project.”

Vamos says ASFA will call on industry to form working groups or councils to deliver the project. Watch the video to learn more about the organisation’s strategy on balanced scorecards.

By allowing the automatic transfer of information from one part of the workflow to the next, from one party to another, between execution and settlement without the need for human intervention, firms can minimise processing times and settlement risk, as well as significantly reduce operational costs.

To date, however, the journey toward STP has been anything but a steady march. Progress has come in waves and some parts of the industry have moved faster than others.

Straight through to who or what?

Among the greatest promoters of STP have been the brokers, banks and funds vying for market share of the global financial services sector. They have invested billions in STP processes to power faster and larger trades across multiple markets and regions for an increasingly diverse array of constituents. This competition-fuelled evolution has seen the automation of many frontoffice functions and structures.

More recently, the global financial crisis has seen a shift in the focus of STP to risk management in the financial services sector’s middle and back offices. Risk managers, along with investors, asset consultants, auditors and regulators are looking more closely at the risks embedded there.

While the lion’s share of discretionary spend among both the buy and sell sides has historically been directed at enhancing front-office execution, since the collapse of Lehman Brothers and scandals such as Madoff there has been a growing recognition of the disconnect between trade execution and processing capability.

Investment strategies engineered for millisecond execution can often still rely on slow, manual systems for postexecution processing. When advising clients on post-trade operations, we still come across the use of spreadsheets, phone and fax in the processing of trades. This is particularly the case on the buy side where, historically, there has been less focus than the sell side on middleand back-office automation.

The disparity between the front and middle office creates not only a time lag between trade and settlement for each trade but, in aggregate, a cohort of in-flight, at-risk trades at any given time. Until they are verified, matched and settled, these trades are at a substantially higher risk of failure, and expose the firm to unnecessary credit risk. As an industry veteran noted in the early 1990s, “nothing good happens between the trade date and settlement.”

Despite the spotlight shining into these parts of the trade lifecycle and audit committees combing pre- and post-trade systems for risk, a recent report from the Australian Securities and Investment Commission (ASIC) into risk management practices of asset managers found that “most of the selected responsible entities indicated that they had not changed their risk management system as a whole as a result of the global financial crisis”. Similarly, a November 2012 report from the UK Financial Services Authority into conflicts of interest between asset managers and their clients found that contract clauses are still widely used by fund managers to indemnify themselves from the costs of processing error, other than in the case of gross negligence. The FSA has also singled out hedge funds for their use of similar tactics.

What came first: reform or behavioural shift?

In today’s increasingly competitive environment and as due diligence in the selection of funds becomes more comprehensive, we believe a significant behavioural shift is under way. Manual approaches and the reliance on indemnity clauses to protect firms against risk are increasingly unacceptable in the eyes of regulators, investors and risk managers. As the definition of “best execution” expands to include back-office costs, it is as vital as ever that efficiencies in the front office are not overshadowed by extra cost in the post-trade process. This has been an issue for many markets in Europe adapting to more competitive trading landscapes.

At the same time, markets are facing wholesale structural changes aimed at reducing operational risk. In Europe, from January 1, 2015, trade settlement cycles will move from trade day (T) +2 to T+1, shortening the time in which a trade is “in flight”. Outside Europe, obligations on asset managers to fulfil fiduciary duties to their investors and the extended focus of best execution to post-trade processes are shifting the industry towards self-regulation and the adoption of industry-wide automation.

Risk-reduction technology as part of fiduciary duty

At this critical time, it is important for firms to work closely with trusted partners and the industry to ensure their middle- and back-office processes and systems are up to date and that they incorporate industry best practice. Clients need to take a more holistic approach to their operations. Using appropriate matching technologies, asset managers can verify trade terms in real time with brokers across markets via automated connectivity between execution management systems and the back office that allows operations staff to manage post-trade workflows on an exceptions-only basis. With real-time settlement-instruction enrichment and automated settlement-notification messaging to custodians and other third parties, firms can dramatically increase their same-day affirmation rates.

Same-day affirmation refers to the completion of the entire trade verification process on trade day, leaving more time for exception management and clearing and settlement processes within the intended settlement period, which in most markets means on the third day after trade execution (T+3). This reduces operational risk and costs borne by investment managers, broker/dealers and custodians in the trade verification process and allows lower transaction costs to benefit end investors, as well as enabling other benefits such as a reduction in counterparty risk and increased liquidity for the market as a whole. It is also a key factor in reducing trade failure.

Asset managers not embracing appropriate technologies to reduce risk in the investment chain are failing in their fiduciary obligations to clients.

It is no longer acceptable to expect investors to bear unnecessary excess cost and risk because of antiquated manual solutions when superior automated solutions are available.

Tony Freeman is executive director of industry relations at Omgeo.

Matt Christensen, AXA’s Paris-based head of responsible investment is in Australia to launch a new environmental, social and governance (ESG) framework for use by Australian investors, and explained his methodology at a media briefing.

Board diversity and generating revenue 

Christensen said that part of the framework was to look at the relationship between board diversity and revenues generated from outside home markets.

Looking at the nationality of board members at Europe’s top 50 corporations, the study showed that those with 20 per cent or more of board members from emerging markets were able to generate 60 per cent or more of their revenue from outside Europe.

“This is really a discussion to have around readiness to engage with emerging markets,” Christensen said. “These companies are geared around markets which are not traditional to them.

“Interestingly, some companies said they were aware of this and were even building in some key performance indicators, while others said this was the first time they had thought about it.”

Exceptions to the rule

In one case, a company with just over 20 per cent of its board members from emerging markets was generating 90 per cent of its revenues in those markets.

The highest ratio of emerging-market board members was just over 30 per cent in a company generating around 75 per cent of its revenue outside Europe.

AXA is rolling out its new framework along with its Responsible Investment Search Platform in the Australian market as it engages with Australian institutions on responsible investment issues.

However, when it comes to pay, Cbus raises some interesting questions about what the Australian industry is benchmarking itself against.

The Cbus board members got paid between $23,852 and $82,553. The chair and independent director get paid $107,183. This compares to the Future Fund’s annual salaries for directors of $91,280 and $182,530 for the chair.

As chief executive of Cbus, which looks after $18.6 million for 689,000 members, David Atkin gets paid $500,000 a year, which he tells me is somewhere near the fiftieth percentile when compared to his peers.

 Take your marks

But what is that peer group benchmarking itself against?

Jane Mendillo, chief executive of Harvard Management Corporation, which manages the $32-billion Harvard University endowment, was reportedly paid $3.5 million for 2010 and the head of the external managers’ platform, Andy Wiltshire, earned $5.5 million. The president of the United States gets paid just under $400,000.

But perhaps more than the crude number – an analysis of what you are getting against what hurdles for the money you are paying – is relevant.

Cbus doesn’t pay performance fees to its executives. Almost every other fund I’ve come across offshore does.

 Based on performance

In February this year it was announced that Mark Wiseman will succeed the retiring David Denison as president and CEO of the $165-billion Canadian Pension Plan Investment Board.

Wiseman’s salary will be $490,000 for fiscal 2013 and his incentive-compensation targets as a percentage of salary remain unchanged.

The CPPIB compensation elements include base salaries, a two-tiered short-term incentive plan made up of an annual individual objective and a value-added investment performance over a four-year period. There is also a long-term incentive plan, payable after four years, which is a percentage of salary to which a multiplier is added at the end of the four-year vesting period.

As CEO of the CPPIB, Denison’s long-term incentive awards and estimated future payouts will be $254,800 in 2015.

As executive vice president of investments, Wiseman’s 2015 incentive payout will be $498,000.

Similarly, the executives at CalPERS, including chief investment officer Joe Dear and chief executive Anne Stausboll, have performance-based pay. The rather elaborate measurement system for its executive pay structure is overseen by a performance and compensation committee.

The chief investment officer is measured against a variety of short and long-term investment and organisational issues: 70 per cent of his performance compensation in quantitative measures calculated on a sliding scale of performance above a series of basis points hurdles for the total fund; 20 per cent will depend on qualitative factors such as leadership, succession planning, risk management and teamwork. The remaining 10 per cent will be decided by performance in enterprise-wide initiatives during the fiscal year.

For the portfolio managers at Harvard Management Corporation, more than 90 per cent of their pay is variable and is tied to investment performance. Trish Donohue, executive manager of investments at Cbus got a total remuneration package of $379,800 for 2011-12, but it’s not calculated in such a way.

 Slow train coming

For pension funds around the globe paying their executive appropriately should be top of mind.

Keith Ambachtsheer, director of the Rotman International Centre for Pension Management, identifies executive remuneration as one of five critical pieces of the puzzle if a pension fund is to satisfy its tasks of investing productively, administering efficiently and advising wisely.

To do these well, he says, requires aligned interests with stakeholders, good governance, sensible investment beliefs, effective use of scale and competitive compensation.

For Australian funds, where transparency is like a slow train coming, being able to articulate what they are paying for, and how that compares to international peers is of paramount importance.

The information is contained in a Rice Warner report on superannuation commissioned earlier this year by the Financial Services Council.

While the report was delivered to the FSC in August, Rice Warner is now making it publicly available.

Rice Warner describes the fall in fees as “modest” and says that while fund consolidation has resulted in increased scale and lower fees across the industry, “other offsetting factors” have prevented fees from falling as far as they could.

Four fee factors

Factors working against a greater decrease in fees include:

1. A shift to assets with higher cost structures, such as direct infrastructure investment, private equity and hedge funds.
2. A “huge growth” in member-engagement services.
3. “Heavy investment” in administration platforms.
4. Continued inefficiencies in collecting and allocating contributions, largely as a result of poor practices by employers in meeting superannuation guarantee obligations.

Over a 10-year period, the report says overall fees have fallen from 1.37 per cent, representing a 12-per-cent decrease.

To read the report, click here.

Zachary May, ISN director of regulatory policy, says HFT is on the rise in Australia and already accounts for the majority of trading in the United States.

The advent of alternative execution platforms in Australia, such as Chi-X, could increase the prevalence of HFT in the Australian market.

May says HFT trading “creates and exploits an unlevel playing field” which can come at the expense of long-term investors such as super funds.

“HFT undermines investor confidence in the markets because the way HFT firms obtain advantages – with sneak peaks at market information – is fundamentally unfair to long-term investors such as super funds,” May said in a telephone interview.

He listed three negatives issues with HFT.

FIRST BAD

“One is that the liquidity is poor quality and tends to dry up in times of stress and makes the market more fragile,” said May.

SECOND BAD

“The second issue is fairness. In some cases HFT traders will pay for information on a sneak-peak basis, which creates advantage through special access.

THIRD BAD

“And a third problem is deceptive practices. An estimated 90 per cent of HFT orders are cancelled before they can be executed against, suggesting that they have only been done to sniff out interest or even confuse others.”

In many cases, said May, HFT order cancellation practices are not “bona-fide commercial activity” and are not based on sound market fundamentals; rather, it was trading based on data simply to make profits.

The ISN has made a submission to the Australian Securities and Investments Commission on the subject, along with a number of other issues the network believes have the ability to impact on long-term investors.

Bourke, who leads the national diversity and inclusion practice at Deloitte, says people are attracted to other people who are fundamentally the same as themselves.

“We need to reset the mindset to help them understand that is the comfort zone but that’s not the best way of doing business,” she says.

Bourke, who works with corporations including Westpac and BHP on their diversity programs, says the collective intelligence of 10 people around a boardroom table will “cap out” if there is lack of diversity of perspective.

She says shifting the thinking on diversity can only be done by experiential learning and she works with corporates to go through unconscious bias training.

“We give them the opportunity to learn by experience, our workshops help leaders experience the information in a different way, and we look at inclusive behaviours.”

She believes that board diversity extends beyond gender diversity and to a difference of life experience and skill.

“Questions to the board are large and complex so diversity of thinking is essential,” she says.

“There are so few cues to check the measure of a boards’ success, the lack of demography is one measure.”

Women make up 20 per cent of board positions on Australian superannuation funds. On the boards of ASX-listed companies, that number is only 14 per cent.

The September issue of Investment Magazine looks at diversity on superannuation fund boards in Australia.

Papers on gender diversity mentioned in the cover story include and articles of interest on the topic include:

https://infocus.credit-suisse.com/data/_product_documents/_shop/360145/csri_
gender_diversity_and_corporate_performance.pdf

http://www.womenonboards.org.au/pubs/articles/

http://www.themonthly.com.au/do-mandatory-gender-quotas-work
-status-quota-cordelia-fine-4667

http://m.theatlantic.com/magazine/archive/2012/07/why-women-still-can-8217-t-have-it-all/9020/

http://www.ap2.se/Global/Kvinnoindex/NIS%20AP2%20
Fem%20Rep%20Index%20english.pdf

http://www.mckinsey.com/locations/swiss/news_publications
/pdf/Women_Matter_2012.pdf

http://www.catalyst.org/publication/527/commonwealth-bank-of-
australiaopening-the-door-for-gender-diversity

Transparency and reporting demand

Telstra Super’s head of alternative investments, Kate Misic, is a keen advocate for the open-protocol reporting system, saying she hopes it is adopted globally as it improves on the current proliferation of reporting methodologies and templates.

Misic monitors four hedge fund managers as part of her role managing alternative assets for the $11-billion fund.

The overseas hedge-fund managers with whom the fund has mandates have taken great strides in recent years to meet the demands of institutional investors for more transparent reporting.

Misic points outs that problems can occur when a third-party risk aggregator then takes that position-level information and crunches the numbers to provide risk reports, with sometimes limited input from the manager. There is the risk that reported positions might be misunderstood or possible hedges of risk positions missed.

“If everybody provides information in consistent format, then it allows someone like me, who is a one-person hedge-fund team to say, ‘OK, here are my hedge fund managers; they have provided information in the same format; I can then aggregate that information and I can understand my portfolio better than getting four different types of reports’,” she says.

Misic describes the open protocol as a “middle ground” because it attempts to balance the needs of investors for transparency with a cost-effective way for managers to meet the growing reporting demands of clients and regulators.

Standardised format

The open-protocol system also gives managers choice in the granularity of reporting they are prepared to provide.

The initiative is being used far more prevalently offshore, with around 40 global hedge funds that are willing to provide open-protocol reporting and more slated to join by the end of the year, according to Misic.

“We should see that the numbers of hedge funds adopting this will be substantial by year’s end and there are even third-party risk aggregators out there who are going to be able to provide that open-protocol report as well.”

“So, if your manager can’t do it but they can provide position-level data and you can then get your third-party aggregator to provide that standardised report, the endgame is that you will be able to get consistent information from all your managers so you can see your portfolio in a standardised format.”

Members of the OPERA working group include Albourne Partners Limited, Citco, Thomson Reuters, Goldman Sachs, Morgan Stanley and public pension fund, Utah Retirement System.

No substitute

Misic was quick to point out that the open-protocol system was not designed to replace the risk reporting that hedge-fund managers already conduct. However, this additional format could provide a better tool for risk aggregation.

“This is not designed to replace what managers’ report to their clients, I understand it is not going to tell the whole picture for a lot of hedge funds. It is more about how can I look at my total portfolio in the most sensible way,” she says.

The template does not change to take into account different strategies. Questions are focused on a range of general areas including counterparty weights, geographical allocations, equity and credit allocations, and liquidity disclosure.

A unique aspect of the open-protocol reporting framework is that it still allows aggregation, despite the various disclosure standards of the underlying hedge fund managers.

Managers can choose three levels of disclosure, with the first being summarised information and the third level providing the most detailed, granular information.

Misic is a speaker at Conexus Financial’s upcoming Sixth Annual Alternatives Conference at Melbourne’s Park Hyatt from September 5 to 6. The session will examine the developments in hedge fund reporting and risk analytics and includes a panel discussion with MSCI executive director HeongWee Chong. Other keynote speakers include the Future Fund’s chief investment officer David Neal, discussing the fund’s innovative hedge fund strategy, and Debra Ng, a partner at Albourne Partners, who will look at how investors around the world are using hedge funds.

Conexus Financial is the publisher of Investment Magazine Online.

The $43-billion fund’s chief investment officer Mark Delaney says the fund’s 40-member investment team – half of which are in the policy part of the portfolio – will be expanded as part of a push to eventually in-source management across asset classes.

“All asset classes are currently external, but we are looking to bring part of Aussie equities internal and we will look to diversify that over the next three to four years,” Delaney says.

Small-cap Australian equities will continue to be externally managed, but the team will focus on the broader market.

Currently, half of its Australian equities are passively managed.

Delaney says that the fund will look to add between 10 and 20 staff members to manage part of its allocation to Australian equities, with the team competing for capital with other managers and strategies.

“We will start carefully and if [internal management] proves to be successful, it will attract more capital, like any other manager works,” he says.

Delaney says that the decision to move to internal management is driven by its capacity to access a better portfolio of assets, whether it can be done cheaper and whether the strategy can be effectively executed.

The investment team currently operates an internally designed risk-management system that looks at risk across the portfolio.

In addition, the team also handles asset allocation and sector tilts.

Investment staff set broad sector strategies, while specific stock selection is left to external managers, Delaney says.