Morley’s first foray into funds of funds

Roxane McMeeken reports on the alternative manager selection process used by Benchmark Plus.

Morley Fund Management is the latest investment house to enter the multi-manager market. Over the summer the Ł104bn (e150bn) London-based firm launched its first multi-manager product, a fund of hedge funds called Alpha Optimum. With this vehicle up and running, Morley now has a blueprint for creating further funds of funds. The product is being marketed and distributed to high net worth investors, private banks and family offices through Morley’s European retail business, Aviva Funds.

“Two years ago we began a study of funds of funds,” says Neil Smith, director of alternative funds at Morley. “We decided that funds of funds would in five to 10 years be a an asset class that people in Europe and the UK were very interested in.”

Expert house While the alternative investment arena is not new to Morley, the disciplines of selecting, monitoring and blending together fund managers are. The first step to creating the fund of hedge funds was therefore to seek an expert investment house to run the product on Morley’s behalf.

“We spent a long time on interviewing 40 managers in Europe and the US,” says Mr Smith. “They broke down into three categories: investment banks, larger single fund of funds shops and boutique niche operations. We liked the latter two for a host of reasons and found that the investment banks were not keen on joint ventures, preferring to use their own asset allocation models.”

Once the investment banks had been ruled out, the remaining companies were asked to complete detailed forms. This left Morley with a shortlist of five, which included only one of the boutique firms, Benchmark Plus.

Benchmark stood out, according to Mr Smith, because it followed two main principles. “The first was ‘we have no idea what the macroeconomic markets are doing’, which was a bit of a concern at first,” he says. “The second was ‘what we do know is how to pick good managers’.”

With these principles in mind the people at Benchmark Plus “pick as many good managers as they can and then assess the systematic risk of each of them. They put the managers together in such a way as to eliminate all systematic risk”, explains Mr Smith.

“It’s not one fund cancelling out the systematic risk of another, but rather pure hedging – typically through a futures overlay. For example, a long-short fund might be 30 per cent long. Benchmark would eliminate the risk in this position by selling futures against it.”

Mr Smith adds that “Benchmark doesn’t choose any funds whose systematic risk it is unable to identify or which it cannot hedge out”. He believes that Benchmark’s technique is “incredibly effective at dampening their risk profile”. The firm reported returns of over 8 per cent for last year.

Trust and skillsRisk control is to be a governing factor in Morley’s newly-developed manager selection process, says Mr Smith. “One of the key things we need to understand about managers is market exposures and systematic risks, which must be consistent. We will constantly monitor these sort of exposures.”

After risk controls, Morley will look for managers who have a “unique process and skill set” and “trustworthy staff”, says Mr Smith.

Once Benchmark Plus was hired, Morley commissioned the firm to choose 20–25 underlying hedge funds, 90–95 per cent of these will be selected from US managers.

Morley has set only modest targets for the early years of its new funds of funds business, aiming to net E500m for Alpha Optimum within two to three years. Further launches are nevertheless planned, at both lower and higher levels of risk.

Fund facts

• Domicile: Luxembourg

• Minimum investment:

  private investors: E25,000;

  institutional investors: E1,000,000

• Charges:

  annual management fee: 1.25%

  incentive fee: 15%

• Denomination: Euros, non-euro holdings are hedged into euros by Morley

‘We decided that funds of funds would in five to 10 years be an asset class that people in Europe and the UK would be very interested in’

Neil Smith, Morley