Most of the asset managers have fixed cost structure of the operations and the revenues are tied up with the asset under management, this exposes the firms to vagaries of the performance of markets. The current fee and cost structure is a survival risk that the firms carry in extreme market corrections. Outsourcing of investment operations not only provides cost benefits but also helps the firms to focus in their core business.
Industry Trends
Considering the non critical nature, most of the firms have already outsourced their back office operations; we can term this as the first wave of outsourcing. We believe that the current industry turmoil will catalyze the second wave of outsourcing; the outsourcing of investment operations. Investment operations outsourcing can be seen as the outsourcing of the middle office functions.
The middle office operations generally require a higher degree of skills, customization and flexibility than the back office environment as a result firms were reluctant to outsource it. But the firms’ apprehensions regarding outsourcing of the middle office has decreased due to the increased technological capabilities of service providers and the impact on bottom-line due to these initiatives. Outsourcing helps the firms to ramp up their operations swiftly by providing new products, access to new geographies and asset classes.
The operations outsourcing are typically performed in the following two manners:-
Bundled Services - In this service providers take the ownership of a significant portion of the operational process and the provider is considered to be an extension of the investment management division. Typically investment firms go with this option when they have trust in the capability of the service providers and they know that the service providers are able to understand their process.
Component or process based service – Asset managers may not want to outsource all their activities and would like to have control of the activities like client reporting and compliance reporting but would like to outsource some non-core processes. This is a new trend and typically large asset managers are adopting this approach. This approach also provides similar flexibility and cost benefits.
European asset managers have widely adopted operations outsourcing however it has not yet gained significant traction in the United States. The firms in US who have been outsourcing are getting significant benefits and it is expected that it will get significant momentum in the near future.
Operational Areas Amenable For Outsourcing
Firms should outsource operational areas which are non-core to their operations. Typically following are the processes which the firms should outsource.
Industry Trends
Considering the non critical nature, most of the firms have already outsourced their back office operations; we can term this as the first wave of outsourcing. We believe that the current industry turmoil will catalyze the second wave of outsourcing; the outsourcing of investment operations. Investment operations outsourcing can be seen as the outsourcing of the middle office functions.
The middle office operations generally require a higher degree of skills, customization and flexibility than the back office environment as a result firms were reluctant to outsource it. But the firms’ apprehensions regarding outsourcing of the middle office has decreased due to the increased technological capabilities of service providers and the impact on bottom-line due to these initiatives. Outsourcing helps the firms to ramp up their operations swiftly by providing new products, access to new geographies and asset classes.
The operations outsourcing are typically performed in the following two manners:-
Bundled Services - In this service providers take the ownership of a significant portion of the operational process and the provider is considered to be an extension of the investment management division. Typically investment firms go with this option when they have trust in the capability of the service providers and they know that the service providers are able to understand their process.
Component or process based service – Asset managers may not want to outsource all their activities and would like to have control of the activities like client reporting and compliance reporting but would like to outsource some non-core processes. This is a new trend and typically large asset managers are adopting this approach. This approach also provides similar flexibility and cost benefits.
European asset managers have widely adopted operations outsourcing however it has not yet gained significant traction in the United States. The firms in US who have been outsourcing are getting significant benefits and it is expected that it will get significant momentum in the near future.
Operational Areas Amenable For Outsourcing
Firms should outsource operational areas which are non-core to their operations. Typically following are the processes which the firms should outsource.
- Account opening and setup
- Fund accounting
- Performance Reporting
- Reporting
- Trade processing and settlements
- Corporate actions
- Reconciliations
- Collateral management
- Client reporting
- Accounting
- Warehouse
- Compliance and regulatory reporting
- Custodian aggregation
Many investment fund firms outsource a substantial amount of their fund administrations and accounting operations. Some firm may consider compliance and client reporting outsourcing as risky but given the maturity of the service providers and advent of ASP model and Service level agreements, the risk has reduced.
Benefits Of Operations Outsourcing
Benefits Of Operations Outsourcing
- Investment managers are not looking for just outsourcing, but an extension of their overall operating environment. Operations outsourcing provide significant benefits to the asset management firms. Some of these are highlighted below
- Asset managers can shift their operational risk to the service provider. Since service providers are specialized in these processes they are better equipped to manage operational risks and hence the asset managers are able to reduce their risk. The service level agreements (SLAs) provide the investment firms to resolve their critical issues within the tolerable time period.
- Reduction in the cost of operations as the specialized vendors owing to their scale and process are able to provide the operation services at a reduced cost.
- The risk of technology obsolescence lies with the service provider. Service providers are able to upgrade and implement new software products and hence the investment management firms have access to latest technology which they may not able to afford on a standalone basis.
- By outsourcing their operations firms can focus on their core business. Outsourcing provides scalability which is a critical factor for growth.
- The investment managers have better cost predictability
- Asset managers can minimize capital expenditure as most of the investment is done by the service providers and most of their expenditures are operating in nature.
- Firms can gain access to service provider expertise and are able to implement industry standards and processes.
- Improved front office support is one of the most important benefits as outsourcing brings operational excellence closer to the business and the front office personnel are able to realize the improved efficiency.
Drawbacks Of Operations Outsourcing
- Often requirements and service level agreements are overlooked which may lead to challenges in the outsourcing engagement
- Service providers must invest in technology to support complex activities like investment strategies, high throughput etc.
- Lack of controls may lead to delivery of in-accurate information to investment managers
References
- Middle Office Survey Results – Beacon Consulting Group
- In The Evolving Middle Office – Beacon Consulting Group
- Is operations OUTSOURCING the only solution? - Jonathan Dolby, UBS
- Asset management in the UK 2008 – The IMA’s seventh annual survey
- Financial Insights Asia/Pacific Executive Survey 2009
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