Different stages of pooling
The idea behind pooling – whereby the assets of multiple funds are combined into a single pool, which is then managed ad administered as if it were a segregated portfolio – is hardly new. Patrick Zurstrassen and Credit Agricole in Luxembourg did much to embed the concept in the public consciousness with the bank’s ‘cloning’ model back in the early 1990s, while the hub and spoke model touted by the Signature Group a few years later, if in hindsight a little over-hyped, nonetheless found its niche in the market.
In theory, pooling certainly has numerous benefits. In addition to speeding time to market, it allows greater flexibility when it comes to the creation of new products, as managers can draw on ‘best of breed’ pools spanning a broad range of assets. Significant gains in efficiency, control and cost can also be wrought. For the manager, consolidating assets into a pool is operationally more efficient as transaction costs and management fees are typically reduced, while for the client pooled arrangements can achieve the same diversification as fund of funds, but at a lower cost.
As Stewart Copland, vice president, European fund services at the Bank of New York (BNY), notes, pooling comes in a variety of forms. “The first stage, intra-pooling, involves building pools to support one product such as a multi-sub-fund OEIC, and can be achieved now,” he says. “The next step is extra-pooling, which is pooling between products, say a unit trust and an OEIC, within the same domicile and tax status. This needs specific regulatory approval but the processes are similar to intra-pooling.”
However, it is inter-domicile pooling that Copland describes as “the holy grail”. This could involve pooling onshore and offshore funds, pooling a range of fund products internationally or multinational pension schemes. “Here, multiple legal entities, domiciles and different parts of the pool are subject to diverse tax treatments,” he says. “Practically, this can be done right now but the tax and regulatory barriers make it difficult to pull off.”
He is confident the demand for such a pooling product now exists among both multinational pension funds and multi-product groups. “There is a convergence between the two camps,” he adds. “Certainly, they are different market sectors, with different structures and objectives and indeed different natures – but where in the past pension funds have been somewhat conservative in nature and hence rather lacking in innovation, in this instance they can see that there are very real benefits to be realised through this type of pooling arrangement.”
Fund groups, meanwhile, are approaching it from the multi-manager angle: “If you can give one of your sub-managers E100m to manage rather than E10m, then you can get a better deal and it is also more efficient from a processing and custody perspective.” That said, he concedes that the economies of scale inherent in this type of pooling really only kick in for those groups with assets of around $1bn (or equivalent).
The big challenge remains the different tax profiles of investors across the various markets. Income collection and tax payment rules at the custody level vary from market to market, so a pool has to be split back into national sub-pools, thus eliminating some of the scale benefits of the model. Then there is the transparency issue – regulators want to see that every legal entity has identifiable assets in order to ensure that beneficial owners know precisely what they own at any time. Unfortunately, the ‘look through’ properties of many existing pooling vehicles – FCPs in Luxembourg or the Irish CCFs, for instance – are open to question.
Consequently, BNY is looking to accounting entity pooling, whereby the legal funds actually own a share of the assets in the underlying pools. BNY will produce a daily valuation which means regulators can readily identify who owns what assets. Where BNY’s processing muscle really comes to the fore is in the rebalancing process, says Copland. “When money comes in from one fund, the number of units held changes and so the allocation ratio of the pool also changes,” he says. “As a result, we have to recalculate holdings on a daily basis, and you are talking about hundreds of rebalancing trades a day. Plus all trades have to go through the accounting system to ensure there is an audit trail.”
In its capacity as depository, BNY has already worked with MLC, a subsidiary of National Australia Bank, to allow it to offer its complex pooled vehicles in the UK. “Australia is one of the leaders when it comes to the concept of multi-manager funds, and the industry saw the potential in pooling,” says Copland. “There are essentially only eight asset classes out there, and if you establish pools around those you can create and market top level lifestyle funds based on different investment strategies, be they balanced growth, aggressive growth or low risk, using different combinations of the underlying pools.” Following this success in a multi-manager context, BNY is currently in discussions with a prospective client regarding a multi-product solution. “It has huge life funds and then a number of small unit trusts, so it would be much more efficient to pool them in one vehicle and get benefits of scale,” says Copland.