Information Classification: Confidential

Liquid Alternative Custody and Enrichment

Steven Morgan

AIS Client Solutions

July 29, 2014

2 Information Classification: Confidential

• Liquid Alternative Funds Overview

–Liquid Alternative Funds are relatively new to the market and growing

–The Liquid Alternative space utilizes strategies similar to Hedge Funds

–BNY Mellon services this new investing product under its Global Prime Custody Model

• Client Solutions Services

–Trade File Development

˃Custom Trade File

–Trade Enrichment

˃Enrichment is expanding to meet global prime custody client needs

–Customized Reporting

Executive Summary

3 Information Classification: Confidential

• Funds registered under the Investment Company Act of 1940

• Also known as ‘40 Act Funds

• Set up like mutual funds

• Single-Manager Funds, Multi-Alternatives, and Commodities (Managed Futures) Funds

• Managers are prohibited from charging performance fees

• Funds are required by the ‘40 Act to assign a custodian, fund administrator, and investment services provider

Liquid Alternative Funds

4 Information Classification: Confidential

Comparison of Hedge Funds vs. Liquid Alternative Funds

Hedge Funds

• Funds usually are not registered under the 40 Act

• Periodic liquidity (quarterly, semi-annually, annually) and no limit to percent of liquid assets

• Unlimited use of leverage

• Only accredited investors or qualified purchasers may invest

• Treated as a partnership for tax purposes

• Performance based fees permitted

• Periodic NAV

Liquid Alternative Funds

• Funds registered under the 40 Act

• 85% of their portfolio must be in liquid assets (instruments that take no longer than one day to liquidate in public markets)

• Use of leverage limited to 33% of gross asset value of the fund

• More frequent investor reporting

• Daily Net Asset value

• Daily Liquidity at current NAV

5 Information Classification: Confidential

Liquid Alternative Fund Strategies

Due to the daily liquidity requirement, many strategies are shifting towards trading in highly liquid securities such as equities and listed derivatives.

6 Information Classification: Confidential

• Liquid Alternative Funds are growing rapidly

– 2013: 43% growth industry-wide1

– 2013: New alternative mutual fund industry brought in 66 cents on every dollar of new assets invested in hedge funds despite being 18 times smaller than the hedge fund industry1

• The Hedge Fund industry is continuously changing

– 2013: 15% industry growth driven by performance, not new client flows1

• Hedge Funds and Mutual Funds are looking to expand into the liquid alternative space

Importance of Liquid Alternative Funds

1. According to Barclays Strategic Consulting

7 Information Classification: Confidential

• $400 Billion Assets under Management in Liquid Alternative Strategies as of 3Q 2013–Represents 2% of industry assets

–Forecasts estimate that liquid alts will represent 14% of industry assets by 2023

Importance of Liquid Alternative Funds

8 Information Classification: Confidential

Coverage Flow

GFI - Client Implementat

ion

Legal Risk

Compliance

Steering Committee

AIS/AS Client

Service

Enterprise On-Board

AIS Service Delivery

AIS Client

Solutions

CLIENT

Sales/RMReview requirements and Pricing

Assess, evaluate, and vet each potential new relationship against our proposed service model

Each supporting discipline will participate in weekly meetings and provide updates for their areas of responsibility

9 Information Classification: Confidential

• BNYM provides a global service model to Liquid Alternative Funds

• Liquid Alternatives middle managers often do not fully understand the complexity of how a custodian bank supports the strategy

–Many advisors have little to no interface with middle managers

• Liquid Alternatives Funds are serviced similarly to Hedge Funds with a partial Prime Custody Model

• Comprehensive Onboarding

–Dedicated Project Managers

–Adaptable Steering Committee

BNY Mellon Service Offering

10 Information Classification: Confidential

• Client Solutions deals with Franklin Templeton and Virtus, both Liquid Alternative Funds new to the Liquid Alt market

• Client solutions recently has a client launching in Europe (Guggenheim)

• Day-to-Day Services

– Multiple Trade Feed Options

– Reporting Solutions

– Multiple Technology Platforms

• Client solutions deals with on boarding new clients in addition to day-to-day issues with client-facing technology

AIS Client Solutions

11 Information Classification: Confidential

• Offers an alternative solution to clients with trade automation

limitations

– Many clients are not SWIFT compliant– Custom file combats high-cost options

• Trade file allows for testing and production of settlement message

types (system request pending for cash messages)

• Global and Domestic Trades, Repo Processing, and Block Trading

are all supported by the custom trade file

• To date, 44 clients have automated their trade feeds by utilizing the

custom trade file

AIS Custody Trade File

12 Information Classification: Confidential

• Client Solutions builds and maintains settlement instructions upfront

for all brokers of the client

• Clients do not have the capacity to store broker data

• Providing enrichment for our clients provides a more prime-like service model

• Clients are increasingly seeking enrichment

– Client simply supplies a Broker Code

– Client Solutions updates the Broker Mapping Table

Trade Enrichment

13 Information Classification: Confidential

• BNY Mellon meets the needs of clients who cannot store broker information

• To date, 24 custody clients have benefitted from our trade enrichment services

• Enrichment is only available with the custom file

• Enrichment mitigates settlement risk by preventing exposure to the client

• Enrichment prevents “fail cost”

– The cost to the client for not settling on the settlement date

Trade Enrichment

• “Alternative or Hedged Mutual Funds: What Are They, How Do They Work, and Should You Invest?” from Forbes

• Barclays Strategic Consulting

• CNBC

• Internal Training from Zubin Yacoobi and Mark Kamienowski

• “Introduction and Overview of 40 Act Liquid Alternative Funds” from Citi Prime Finance

Sources