Cut through the maze of functionality

Software systems for private banks have been a huge growth area in recent years. A lack of investment in internal systems, coupled with a general recognition that sustaining an internal platform for client portfolio management is simply not viable, means that systems and platforms have sprung up to assist with client portfolio management. But defining ‘must have’ functionality versus ‘nice to have but not essential’ has become more and more difficult as the IT overlap between front and back office increases. “Wealth managers now buy in software as they realise that technological solutions need to be innovative and capable of rapid evolution,” says Nick Brewer, head of group strategy at software provider Temenos. “Banks with their own systems tend to end up with patched upgrades and additional functionalities, and these small incremental changes don’t really work long-term.” Indeed, outdated legacy systems are a real issue at the moment. The market downturn in 2001 hit wealth managers hard and, in turn, IT spending was cut almost overnight. This means that entire operational models are stuck in 2001 and there is a clear case to buy in more software to keep up to date. Factor in private banks dealing not just with cash and equities but also with complex investments that were previously limited to Treasury departments, and the sense in buying in new software becomes even more compelling. Steve D’Souza, general manager at technology supplier Odyssey, says that performance attribution for more exotic investments, and linking them with more traditional ones, is proving to be a great challenge for wealth managers. “There are many workarounds including separating out the two and having, in effect, two portfolios,” he says. “Non-daily priced investments and partial redemptions require more processing than plain vanilla ones and the vast majority of platforms were simply not designed to accommodate them.” Mr Brewer adds: “For some instruments like dual currency deposits, extensive reworking of the portfolio system may end up being needed. The issue is that with these sorts of products, at any one point in time before maturity, it is very hard to know the worth of the investment and thus statistical models are needed to work out the various scenarios – as you would with any other derivative instrument.” What then are the requisite functionalities of a portfolio management system? There are two key elements: the decision-making process and the system of record. Asset managers need to understand what is going on in several portfolios and match that to record-keeping, compliance, tax, settlements and other back office functions. “Wealth managers need to remember that private clients also need customised solutions to match individual circumstances,” says Dave Lee, head of business change at Kleinwort Benson. He adds that, in the UK, to issue of capital gains tax (CGT) on exit from a fund is foremost in wealth managers’ minds. For this reason Kleinwort Benson tends to create its own funds and then place clients into them. This limits CGT liability and means that the portfolio manager can model or rebalance the fund like any other. This institutional approach in the private client arena obviously also demands software that goes way beyond the simple Excel spreadsheets of yore. Lord Calum Graham, a member of Advent’s European advisory board, says: “It would be too time-consuming to remodel each portfolio on an individual basis, so essentially the adviser needs to apply modelling templates to many portfolios in minutes, but also be able to verify at the same time that individuals mandates and client classifications are not being breached.” Multi-user access Software systems such as Advent link the portfolios so that although there is only one interface, that it can be accessed by various user groups with the private bank. The system can also be tweaked and scaled up or down. “We use a front office client enquiry and accounting system called Globus,” says Rupert Robinson, head of private banking at Schroders in London. “It allows account managers to go in, have a look at their clients’ portfolios and get a comprehensive breakdown of their investments, usually at the close of the previous day’s business. You can also compare portfolios with a strategy, calculate trades and send orders through to the dealers for execution.” He thinks the initial asset allocation is also a key function. This is basically number-crunching according to risk and return profiles, and allows resampling and room to manoeuvre should an asset class not behave as expected. “We use New Frontier Advisors portfolio resampling technique to enable us to incorporate and allow for errors in our long-run forecasts,” says Mr Robinson. “The result is to create much more diversified portfolios across asset classes. This software also allows us to do lifecycle modelling. This allows us to communicate with clients on understanding the interplay between risk, return and capital/income withdrawals, and importantly, what the range of possible consequences may be.” Client reporting is another area increasingly being sought after in third party software systems. The reasoning is again that meeting increasingly sophisticated client demands using in-house is not commercially viable. Odyssey’s Mr D’Souza comments: “What wealth managers are now dealing with is a younger set of entrepreneurial clients who are more demanding and like to be kept up-to-date. Often they have made their money in the financial markets and so are very questioning and knowledgeable. They expect much more than a table of returns.” Indeed, clients often want to know much the same sort of thing as the portfolio managers: performance data, plus a range of possible consequences for their portfolio, how it compares to portfolios with similar risk and return profiles. But the key is to have that information in a user-friendly format. Mr Robinson at Schroders comments: “I call this function the quant black box. The key is to put what comes out of it into a language that clients understand. And then to be able to communicate to them what they can expect to happen.” But Kleinwort’s Mr Lee thinks that to include client reporting within a system that is essentially for portfolio modeling and management is heading into overlap with other applications. The variances in business models means that modular offerings are becoming increasingly popular as they can be build on as the business expands and becomes more sophisticated. An example of this is with hedge funds. A number of them have realised that they can borrow more cheaply if they turn into banks. But doing this means becoming more operationally solid to meet regulatory requirements and thus a need for a robust operating system arises. Distinguishing features Another problem is the perpetual tug of war between hedge funds and the prime brokers who try to keep them as clients. Mr Brewer at Temenos comments: “If prime brokers were to add on additional services like transactional reporting then the fund managers would have more reason to stick with them. I think that the next 18 months will see these issues clarified, and there is increasing pressure, from regulators and other financial institutions, for hedge funds to up the ante.” But assuming the wealth manager has decided which functions, if any, he requires, how do the many software houses seek to distinguish themselves? Advent’s Lord Graham says: “Making the right initial decision is of utmost importance as the overall cost of clearing out an inappropriate system every five years and transferring onto a new one is just horrendous.” He says that Advent provides ongoing upgrades, to keep users competitive. “We try to build in clients’ requests while not jeopardising the system stability, and are very aware that the financial services industry is highly creative. Things that are now new will be considered plain in a few years’ time. It is vital for software houses to keep up to date and to be able to have ongoing functionality upgrades.” Another issue is ongoing training with a wealth management firm. People move on and so relying solely on the team who were there at implementation is a risky strategy for maintaining knowledge and making the most of a system. Mr Robinson at Schroders says the systems employed by the bank have relevant attributes and the key to success is not to tinker with them too much. “Experience tells me that changing aspects of your business model rather than adapting your systems is a better discipline and invariably leads to a superior end product,” he says.

Brewer: small changes don’t work