Banks revisit prime brokerage growth strategies as hedge funds bounce back
An asset class rotation among hedge funds could encourage prime brokers to invest significantly in specialising in servicing credit and multi-asset strategies.By Joe Parsons
With many hedge funds recording a return to profitability through new trading strategies, banks offering prime brokerage could look to change their approach to servicing clients.
As markets recover following the extreme volatility caused by the COVID-19 pandemic, hedge funds managing macro and credit have witnessed some of the biggest rebounds.
According to alternatives data provider Preqin, hedge fund performance bounced back hard in the second quarter, delivering returns of 11.48% on average, with macro funds and long-short credit funds being among the most sought-after strategies by investors.
A potential asset class rotation, with a focus on credit and multi-asset strategies, could result in prime brokers revisiting their growth strategies with the aim to compete on product lines.
“We could see a big asset rotation coming, moving from equities to relative value fixed income and credit, and offering the necessary offsets and to provide custody and financing to clients who want to engage in those strategies. A lot of roles are being posted from those sectors for the prime’s risk team,” said Anthony Bennett, prime brokerage lead at consultancy firm Capco.
The asset class rotation among hedge funds could encourage prime brokers to invest significantly in specialising in servicing credit and multi-asset strategies, as well as creating an infrastructure that can service the entire trade lifecycle.
“We are seeing more demand for a multi-asset prime wrapper, and we have to ensure our infrastructure continues to be the best, our ability to service assets providing financing is correct, and that our cross-margin regimes are broad enough to adapt to the client strategies,” said Stephane Marchand, head of international prime finance and clearing sales, JP Morgan.
Prime brokers also appear to be more willing to bring on increased hedge fund balances following the crisis. The likes of Goldman Sachs and JP Morgan saw their hedge fund balances boosted by increased trading activity from managers looking to capitalise – or limit their losses – from the volatility during the first quarter.
“We remain focused on delivering value and scale, with a client acquisition mindset and continuing to expand our client footprint. Our strategy hasn’t changed during this time, and we have either kept market share or grown it. There have been some mandates won entirely virtually, carried out by our sales and relationship management team through Zoom or Microsoft. It has been a surprise that the pipeline has been so active,” added Jon Cossey global head of prime finance, JP Morgan.
How prime brokers will approach pricing of financing and how it will factor in gaining market share will also be vital in their post-COVID growth strategies. Over the past few years, pricing power has largely rested in the hands of hedge funds, who have used their influence to enact downward pricing on their prime brokers.
With hedge funds deleveraging massively and balance sheets across the Street falling by up to 40% at the height of the crisis, banks may turn to cheap pricing as a lever to make up for this. That being said, others could review how they price financing riskier, illiquid assets such as private equity and emerging market debt.
“Primes were previously lending too much without understanding the assets they were lending against, maybe because they had priced it too cheaply. There is going to be some re-pricing so they can guarantee returns,” said Dougal Brech, global head of prime finance, Nomura.