Bermuda Finance 2018, Asset Management Roundtable
From hedge funds to private equity to ILS to family offices—experts in asset management debated the shape of the landscape of this sector on Bermuda in a roundtable.
How would you characterise the health of the asset management sector on Bermuda?
Andrew Baron: There's a relatively under-appreciated asset management sector in Bermuda. The Bermuda Business Development Agency (BDA) has been pushing this for six or seven years. That gave a little bit of a perspective on what's possible on the Island in terms of whether there's talent here, whether there are people who can operate an asset management company here successfully.
As Bermuda has evolved and particularly in the insurance sector, there have been things that look like asset management companies here, with all the insurance-linked securities (ILS) funds, but actual asset management is often not done here, it's done in New York. The insurance side is done here, so it can be hard to tell exactly how big it is.
Sally Penrose: Both Elizabeths and I sit on the executive committee of the Alternative Investment Management Association (AIMA). Having a Bermuda branch where there is going to be more collaborative thinking between service providers, can help bring the community together. We think it's definitely reinvigorating the asset management community, and we have more correspondence and communication with the regulator as a result.
Baron: There are different perspectives on what kind of business can be brought here. I sat on the BDA asset management committee for a while but it was a frustrating experience, because they have all kinds of great ideas, but realism gets in the way. The reality is, this is an expensive place to operate, and the technology connections might be good, but they're not cheap.
It's very difficult to attract a business here from scratch. Cryptocurrencies might be a great potential new industry, but the problem is that in the past at least, proper incentives weren't put in place. I'm supportive of anything that's trying to do something like that, at least to generate some ideas.
Joel Schaefer: It's a very fractured industry, and what comprises an asset manager is a matter for debate. Do you do private clients, or institutional clients, do you do insurance, ILS, do you run a hedge fund? These are all different practitioners, so it is very fractured. There's the Chartered Financial Analyst (CFA) group but there are lots of people in the industry who aren't part of CFA Bermuda.
Nathan Kowalski: There are 200+ CFAs in Bermuda, which probably makes us the highest per capita in the world. We're definitely out there, but there's probably not more than a couple dozen or so people who actually make the investment decisions in a firm or a company here. The ILS industry is a separate thing again.
Baron: Guernsey, for example, has every European bank sitting there in basically the same kind of square mile area as Bermuda, and there are private client asset management practitioners in every location.
Elizabeth Denman: Most investment managers are dogs that walk alone, there's not a lot of collaboration. They have their infrastructures, and they're very siloed, so there's probably more here than you're aware of. They're not necessarily going to the CFA, they're not joining bodies, they're running their businesses.
Kowalski: But the numbers are likely not in the hundreds.
Denman: I think the reality is that if you're in London or New York, most asset managers may set up their Cayman-Bermuda-BVI fund, but they're going to stay where they are.
Penrose: Do we have to have boots on the ground here to build our asset management industry or can we work with asset managers overseas?
Baron: You can do a bit of both. I have seen it work where an asset manager was London-based, but from a corporate perspective they were a Bermuda company, and got to be of a size where you needed to have corporate management in the domicile where the holding company is registered.
There's a market for that, particularly for hedge funds. The tax and regulatory regime is such that you can be offshore as long as management was offshore, and you're not subject to the same kind of corporate tax rate that applies in other places. After the US tax reform, people should be thinking about that.
Even if not running the money, there are lots of accountants and compliance people here.
In the same way that the government more recently has tackled the blockchain issue, they've focused on the compliance side of things. Boots on the ground from an administrative perspective is something that Bermuda can do relatively well; it's expensive but it's not insane.
There are local people to do those jobs, and there is training and experience in that here. The BDA was very keen to get boots on the ground on the money management side but missed that whole middle bit. People need to think about the entire structure of an asset management company, and where are they growing right now? Compliance, just like everywhere else.
Penrose: One of the key questions is 'what's the landscape?'. It has been the regulatory environment, and we have the upcoming financial action taskforce assessment, there's been so much change in all the AML. We want to be the gold standard of regulatory compliance, and maybe there is some mileage on that.
Baron: The space is massive and there's huge regulatory pressure, banking, asset management, all of those things. If you as a domicile can be pretty good at it, you can attract locals to work in the industry, and also people to come here to work. We've hired many people from overseas to build up the compliance function over the last two-years.
Elizabeth Cava: I agree that Bermuda might not attract front office operations to the Island, given the propensity to be close to where the investors are. However, as investment managers review their operating models, it's possible service providers in Bermuda can take advantage of opportunities in middle and back office changes these managers are looking to make.
Bermuda can also continue to support industry by providing an agile business environment. Bermuda has been demonstrating this by making legislative changes, such as the amendments to the Investment Funds Act of 2006 and the Limited Liability Companies Act in 2016, and by keeping up with the global regulatory changes such as country-by-country reporting.
What advantages does Bermuda have in the asset management space?
Baron: Cayman has always been a funds domicile, they've got all these rubber-stamp directors who sit on 3,000 boards and all that kind of nonsense. Doing it better, is a massive marketing opportunity for Bermuda that's never been properly exploited.
We have one of the best regulatory regimes in the world, cleared by Financial Action Task Force waiting list, we have people on the ground who know what they're doing, we have training programmes in place, we have government support for this, you can domicile your fund here, or elsewhere, but you're not going to get the same kind of top-to-bottom support, and we take a more proactive view of the regulatory regime.
Denman: It depends on your audience. In the last five-years, we've gone to New York with that message, and it's been, 'we don't care, we want to get to market'. Certainly, if AIFMD gets going again after Brexit, we do have a huge advantage.
Scott Watson-Brown: Something that's going to come more quickly is probably the EU looking at substance. While we may not see a massive shift in the choice of domicile for offshore hedge funds, we can still attract other functions of hedge fund managers—if we could target functions such as back office and compliance, Bermuda could support these operations thus allowing managers to establish presence in a jurisdiction.
We need to ensure however that the infrastructure of the Island is current with industry expectations—the sophistication of technology support and allowing speed of execution needs to be top level with that experienced in major centres if we want to attract and retain managers.
Baron: The other thing is people who do specialised things. Your star traders spin out of one of the large funds, get the infrastructure going in New York, get the Cayman stuff set up quickly; you're right, we're never going to capture that. We need to capture things that are specialised, specialist asset managers, people who are doing more complex things.
Kowalski: Obviously it's not homogeneous, but overall the number of startups vs closures means it is shrinking now. In contrast, Bermuda controls the ILS market and is growing its market share. Even though lots of competitors are creeping into our space, we're doing a good job of maintaining control.
Denman: The interesting thing with competitors in the new highly regulated world is that the BMA is up to speed—if anything we all feel at times that they over-regulate. Cayman is having to get into this space in a way they've never done before, and CIMA's having to flex muscles.
I'm not aware that Cayman consults with industry the way that the BMA does, and we may have a bit of a niche when it comes to balancing the international pressures with the business reality; we may come to the fore in that respect in a way that other jurisdictions just don't have the ability to do.
The legislation allows us to focus on emerging issues that come up, compared to playing catch-up as other jurisdictions may have to.
Watson-Brown: The BMA and we as service providers and participants in the industry need to stay agile, because the financial world moves quickly. All parties have to stay nimble, and be able to anticipate and react, because you can't just sit and wait six months to update legislation and think about what's new because it's already happened and gone.
Penrose: That's where we have a bit of a jump on Cayman in terms of having legislation in place. It's the first time we are ahead as a jurisdiction, and hopefully we can balance investor protection regulation with staying nimble and agile in that space.
Kowalski: It's amazing how regulatory certainty helps set up businesses, that is a feather in our cap in terms of being ahead of the game. If we have the rulebook then it lets us set up a playing field.
Watson-Brown: There are still very split expectations from the two big markets: the EU and the US. US managers generally want simplicity in getting to market and carrying on operations. Most managers are regulated by the SEC, so any additional regulatory oversight needs to complement what a US manager is already subject to—Bermuda needs to continue to provide regulatory certainty and clarity to these firms— we need to be clear as to why we are imposing regulation and what it is designed to achieve.
The EU is a very different culture, and that drives different expectations, so we have to be careful how we play both sides of the coin, but it's important that we don't favour one over the other, as both markets are important to Bermuda.
How can Bermuda set itself apart in this space?
Watson-Brown: The areas we have in common with other offshore jurisdictions is greater than the differentiators. We need to better identify those differentiators and ensure they are significant attractors for Bermuda.
Increasing our focus on the private fund business, more private equity and venture capital, could prove positive for the island.
Family office is an untapped opportunity, but it is a tough sector to unearth. One differentiator that exists is that Bermuda is an island with a real business community as opposed to being an island of service providers. This is important when a firm is locating people on-Island; they have the opportunity to engage in a business community and establish real local business relationships.
Schaefer: It's like any other industry, you want to have that sense of collaboration. Those who are involved in the family office sector here, they know each other, but it's not publicised. You can't go to the Yellow Pages and say 'show me all the family offices in Bermuda', it won't exist.
A lot of collaboration occurs and needs to exist; if you want to start selling more clothes, set up a shop next to another clothing store. There are other family offices here and you collaborate, you communicate, you get a small community and it grows.
Denman: It's also a bit of first mover advantage: Bermuda has a long history in the trust industry and the family office, and that leverages off it. When we go to New York and we speak to the business drivers (ie the New York lawyers), their clients aren't coming in saying, 'Tell me about Bermuda', 'Tell me about Cayman', it's 'Where did Fred just do his fund? Oh Cayman, okay, cool'.
It's trying to get those business drivers to push the business to you, and those are the relationships which take a long time to develop.
Schaefer: The America's Cup last year brought the right people in that industry here. There's a long lead time in this field, so we're likely to see some interest in that, if not now maybe another year, two or three years down the road.
Baron: We funded an entirely new business based on somebody coming down for the America's Cup. We've made some inroads into the family office space from a trust banking-private banking-asset management perspective, but we've mostly done that through acquisitions. We acquired something, and it came with a big family office client, and we acquired something else and it's coming with another big family office client.
So we have attachments to the trust and family office-type of business, but it just depends on what the touchpoint is. Often the family office, or the adviser, sometimes that part of it is pretty much sandstone, it's never going to change.
Family offices are built mostly on trust, so if they trust the guy in Geneva to run the family office, that guy in Geneva is going to run the family office out of Geneva, until he's dead, or until the next generation thinks he's doing a better job or whatever. It's really difficult to move actual people around in that space.
Kowalski: Some of the assets do leak though, we've had experience with that; if the person moves here, sometimes they move some of their assets here and get that local manager to run it, and we've been fortunate enough to get some of those mandates as well. If you get more and more family offices, high net-worth people here—yes, they'll still have the New York-Geneva guy but sometimes they'll put a few million bucks here, and if you do a good job they'll put more people here.
Schaefer: They're multigenerational, they carry multiple passports, the children might not want to stay where their parents are, they might move around. There's opportunities to pick some up.
Watson-Brown: If we can make Bermuda attractive enough, a lot of those young people aren't going down what we'll call the traditional professional routes; they're looking to leverage the capital they have within the family, and start up their own business or venture. To the extent we can be a platform for the next generation of entrepreneurs that can actually be another niche we can succeed in.
Baron: The thing that is most lacking here to attract the next lot of intergenerational wealth transfer is technology. Everything has to do with technology for the next generation.
Denman: There may be a bit of a spinoff, whether the crypto space works, but it's bringing some people to domicile here, so you have to think if you're setting up your crypto head office, you're going to want technology that works, that it will be brought up to scratch.
Baron: Maybe, but it's something we have to deal with now. The next generation is not going to be satisfied with the technology solution we're providing to them at the moment.
Kowalski: Millennials are the biggest in the US right now, and in 10 years in terms of working age group in Bermuda they'll be one of the biggest. Whatever they like is what we should consider doing, it might be a driver.
To what extent will technology determine changes in this industry?
Schaefer: In our field there's the opening for artificial intelligence to start managing portfolios, it's slow but it's gaining some traction. All of us are keeping an eye on it, because among other things for millennials in particular it can offer a very attractive and inexpensive way to gain customised portfolio structuring, that has some proven background.
That's potentially one avenue we have to look at as a potential threat in our industry. What about compliance? I know there are fintech firms that are looking at managing compliance from a technology perspective, and privacy information, and retaining that right and simplifying the structure; does anyone see that as a potential opportunity?
Penrose: Hasn't the government come out and said put your KYC on an electronic format, so that it should make it more efficient.
Denman: They talked about putting it on blockchain, but there is a dilemma of people wanting complete privacy and certainty that you're not going to be hacked versus your information having to be available so that any one of us can see.
Kowalski: You have a special password, get the information, then you don't have to keep redepositing it, you put it into one central location.
Penrose: It would be a lot more efficient to have all your KYC in one place, but I guess there is a tension between GDPR and blockchain, because blockchain means you can't remove your data, it's there forever.
Kowalski: If you're not part of the solution, you're the problem. If what you say is going to take off some industries will be displaced, so if we're not involved in the displacement then we're just ending up being like the back-offices. Outsourcing is really a way-station to full automation. It's not like you would outsource and then you're done, you can see the transition to full automation.
What about the IP side of it? I'm not a lawyer, but I'm assuming if you develop that software here you get the royalties international tax-free. Am I on the right page there? That might be a driver too. We want to have the mind and management programming group here. We want the intellectual capital here.
Baron: Constructing things on an algorithmic basis applies itself well to certain parts of the investment management industry. It doesn't really apply itself very well to discretionary, very conservative, fixed income portfolio management on the institutional side.
On the private client side it doesn't apply itself very well to building relationships and trust, which is still, despite all the talk about artificial intelligence, the most important part of private client asset management.
It has its place, but its place is not to take over from personal relationships, and if anything has been proved over the years, it's that the airline industry is not dead because people have Skype. Personal interaction is still very important to people and it's very important in the asset management space to this day, even in an interconnected world that's talking about artificial intelligence.
Schaefer: As one of your portfolio managers told me, when the market drops, the robot portfolio is not going to call you.
Baron: That's true, so we're all singing from the same hymn sheet on that, it's a tool rather than a solution in other words. Having the ability to pick up the phone and call somebody is very important, and we hear it all day, every day, from every person we deal with.
Part of the job of being an asset manager is to be there when things are not going well. Passive investors, ETFs, are really good at being there when the market is going up, but they're not so good when you want to pick up the phone, you can't call iShares and ask what's going on.
Schaefer: But like other things that creates greater leverage, and greater capacity. You can't make a phone call more efficient.
Baron: Nathan mentioned there's 200+ CFAs here, all of them have read the studies that have time and again proved that it's very difficult to beat the market, particularly in equities, so at the end of the day we don't market that, that's not what we sell; we sell personalised service. As long as we're doing that, and not we're going to beat the market time and again, then I think we're fine. Our customers are buying that service, it doesn't matter if it's institutional or selling them a mutual fund.
It could be a $1,000 mutual fund client who walks in from the branch and wants to buy something, that guy can pick up the phone because there's a person he can talk to. Similarly, somebody who's a $150 million institutional client can do the same thing, so it's its top to bottom, as long as you have that ability to connect to people, you'll always have a business.
Kowalski: We need to move away from that concept of only beating the market, because some people don't need to beat the market, that's not their goal.
Schaefer: The important part is being in the market, having a structure that's low cost, but most importantly has the risk profile that's necessary to meet what an individual investor wants. And staying in there and having someone call you, and say, 'Don't panic, now's a good time to add to it', or 'This is what's going on, this has happened before'—all that stuff.
Whatever it is, those types of things have so much value. There's a lot of very intelligent people who have a good background, know what they're doing as well as anyone anywhere in the world, but there's a perception that perhaps it's not being done as well here as it is overseas, and that's not true. The data prove otherwise.
Kowalski: As local managers, we compete with Goldman, Morgan, you name it, every day. I know some of these guys, they come and compete with us, and thankfully we've been doing a good job as a group, and they're not coming in and taking all the assets that are run here. We all must be aware that it is a global economy, so it's important to accept that you're going to have competition no matter where you go.
What other changes have you seen in the market?
Penrose: I was thinking about investor goals, and whether you have seen a trend here in terms of responsible and ethical investing.
Baron: This area is an evolving space. Traditionally you've had what I would consider to be what they call ESG now: environmental and social governance. Most of the thinking on that has been around products, or restrictions, so you can't buy tobacco, you can't buy oil, whatever.
More recently, with gun violence in the US, and things like gunmakers are inside the ETFs you buy every day, there's trillions of dollars floating that is forced to invest in companies like that. So, people are starting to think about where is the money going, and why is it going there?' That's a positive.
It's much more nuanced now, and people have to have a view on that. You don't need to have a product to sell to people that's ESG, but you have to have a holistic approach to the way you run your business.
Penrose: Maybe that is something that is outside the automation and that kind of disruptive technology, because you actually need a person to think about it.
Baron: There are lots of people who are trying to put quantitative measures around this kind of ESG issue.
Denman: It certainly plugs into the private client space as well, which we're still strong on, because most private big families will have a philanthropic arm that cares about this. There's a good synergy there.
Baron: Increasingly you need to go in with an idea of what you're going to say about that, and increasingly it can't be, 'We don't do it', or 'We don't have a product that does that'. That's not the question that they want answered.
They're asking about how you run your business, who your people are, and how they get paid; where does the money go, and do you contribute to the local economy, do you support local charities, do you support international charities?
Cava: Yes, that's a millennial trend as well.
Baron: Those questions were asked by the entire age spectrum.
Cava: I say that because many younger workers and investors want business leaders to be proactive about making a positive impact on society. Investing in funds which avoid companies operating in certain sectors—such as fossil fuels or weapons—is one piece of the sustainable investing spectrum. It will be interesting to see how far down the supply chain the investors want to go. Beyond simply limiting risk exposures in a portfolio, it's interesting to see investors viewing companies holistically and looking at both impact targets, and ESG factor ratings.
Kowalski: One of the fastest growing areas within the ESG realm and the investment world right now is a concept called impact investing. The metrics there are not 'what was the return for the year?', so to speak; it also involves how many jobs this creates, and how much CO2 emissions did it produce, so the markers that are used for the investment, this is more of a private equity or a direct investment fund, are predicated on outcomes for stakeholders other than just investment.
You want to make money and that's one of the factors, but a whole host of other factors must be hit as a goal for the fund outside of the return: so many jobs, so much CO2, so much water density, all these issues. It's starting to catch on because it's not just ESG, it's focused on specifics.
Is private equity a potential growth area? Where are the other positives?
Denman: Private equity needs service providers who really know what they're doing. We have that depth of good directors, good service providers, good administrators, so the back-office can be done here probably in a much better way than elsewhere.
Watson-Brown: ILS has been good for Bermuda; it's kept the asset management industry vibrant and relevant. We have seen capital allocations in the $200 to $500 million ranges, as opposed to startups looking to raise circa $50 million. The ILS sector has ensured allocators and due diligence firms remain comfortable with Bermuda.
The ILS sector has allowed Bermuda to showcase the jurisdiction's ability to support the creation of structures to satisfy this strategy, develop regulation suitable for its supervision and for our service providers to say 'here's an alternative strategy that's come along and we can service it and support it as it grows and evolves'.
Bermuda is a place where if someone wants to try something new, we have a platform that can facilitate this. You have an engaged regulator and government, and industry professionals who can help you to market. The jurisdiction has a good story to tell in this area.
Denman: Where you get innovation you get service providers who are pushing that envelope because they've got the skill to think, 'Well, what's next?'.
Watson-Brown: Government is making positive efforts to understand the industry, what's new and what's needed and saying 'let's get out there and embrace it'.
Kowalski: You have to let everyone know you're open for business, and that you're interested in it, otherwise they're not even going to pick up the phone or look at your jurisdiction.
Baron: That's the problem, isn't it? It's the waiting for the phone to ring problem—you can't be doing that any more in this environment.
Denman: I tend to be a bit of a lone wolf, but it's such a small part of the international asset world that to focus on just ILS is short-sighted. There are other things now, with the cryptocurrencies. We still have an appetite for hedge here; there are managers doing that, so I think you need to have a good offering for everybody and not pinch it all yourself.
Kowalski: On a positive note, it does offer a great place for high networth individuals and family offices to move to. We are very welcoming to more of that kind of business. We do have a full suite of service providers, from the people running the money, to the lawyers, to the accountants, to the administrators, it's all here in one place and it's easily accessible.
Bermuda does offer quite a lot for someone looking at different jurisdictions. I'd really encourage them to check us out at least.
Cava: If we're looking at 15 years down the road, I'm not sure we're going to know what will be the main growth market. Bermuda is well placed in the ILS space and leads in an innovative niche market. Bermuda has built a world-class reputation, and if the country remains agile in market innovation and regulation, we can be well-placed to take on new challenges.
Penrose: We need to focus on innovation, and data management is going to be key going forward, and keeping that dialogue with the regulator, with the government, and with the industry players. We have everything in place, we do have a great reputation, and it's just making sure we continue to focus on those areas, to bring the jurisdiction to the fore again.
Watson-Brown: Innovation is a key part of growth; we have to keep an awareness of what's happening out there, what changes are happening in the asset management industry. We need to ensure Bermuda is actively promoting the role the Island plays in the global economy and the support provided to multinationals.
We haven't touched on tax today; there's a lot of pressure coming from jurisdictions all over the world, because everyone is seeking greater tax revenue. We have to get out in front of the 'tax audience' and articulate the role the jurisdiction plays and just how we are effective, and not a hindrance to other economies in tax collection.
Denman: Successful jurisdictions, or financial centres, going forward are going to be those that can balance innovation and speed to market, with the increased international pressures from a regulatory perspective. But for me it's got a good history of having done a good balancing act, of having sensible but effective regulation that we talk about, and yet giving businesses the room to grow, and to develop into what they want to be, without overly handcuffing them.
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