CEO - LYXOR AM
• Total AuM: €96.3bn
• Passively managed: €42.5bn
• Structured funds: €23.7bn
• Alternatives: €20.1bn
Think Lyxor Asset Management’s brand-defining products and the word ‘barbell’ comes to mind: on one end, Lyxor ETFs and other index products (the cheapest and most passive vehicles); at the other, the market-leading hedge fund managed account platform (the most expensive and active investment strategies).
But this is more coherent than it looks at first: while ETFs are passive investment vehicles, for institutional clients they are most often a tool for more active asset allocation strategies. Despite the difficulties that ETFs present to pension funds - many are swaps-based, you need to be able to trade securities to own them, they may not necessarily be as cheap and efficient as in-house indexing, they do not sit comfortably with the traditional request for proposals and manager selection processes - Lyxor’s CEO Laurent Seyer reckons European ETF assets have been growing by 25% per year for about half a decade now, and that there is more institutional money ready to come out of active management.
“There is still room for a much larger move by institutional investors from mutual funds to ETFs,” he says. “And if we do see a larger wave, it may be because institutional investors spend a larger budget on tactical asset allocation, for example - for which ETFs are very well-suited.”
Furthermore, Lyxor has always managed significant money in the quantitative active management space - it just has not been able to shout about it very much for fear of competing with fellow Société Générale subsidiary SG Asset Management (SGAM). Now that SGAM has joined with Crédit Agricole Asset Management to form Amundi, “the weather has changed for us”, says Seyer.
Post-2008, investors have been edging back into equities, but this time Seyer says that they are far more focused on downside risk. “We’ve seen demand for genuine absolute return, like our Quantic Low Vol range which pursues volatility-related strategies,” he says. “Also other areas where we are really focusing today: flexible asset management - asset allocation products based on quantitative models - and products that offer some sort of capital protection.”
That sounds like the sort of bond-plus-call-option structured products that investment banks churn out - and Lyxor does provide that solution (they call it “formula based management”). But Seyer emphasises progress with what it calls its CPPI or “cushion management” products, essentially capital-guaranteed dynamic asset allocation strategies. “With options-based products you are vulnerable to gap risk, you are locked-up until maturity, secondary market liquidity is scarce and valuations are therefore erratic,” he says. “Because the main asset is a bond, the primary driver of valuation is interest rates. So you can see that if you put this into your equity portfolio the tracking error would be huge.”
The advantage is that the call option always embeds equity delta into the product to participate in the market upside. With traditional CPPI dynamic asset allocation, a big market fall can push a product entirely into bonds - leading to the same tracking-error problems of the bond-plus-call structure. “So what we’ve been developing are products inspired by CPPI which try to mitigate these drawbacks by implementing a dynamic asset allocation process on a day-to-day basis, being much more flexible - always retaining the ability to return to risky assets,” says Seyer. “We will bring some significant products to market during 2010.”
Quant-driven asset allocation might give investors pause for thought, given the difficulties faced by optimisation models in the uncharted waters of 2007-09. Seyer sympathises, but points out that Lyxor has never been a slave to the numbers. “We are a quants house, for sure, but over the past 18 months in particular we’ve been adding value by mixing quants with very strong macroeconomic asset allocation views.”
Finding the evidence to back that up brings us to Lyxor’s hedge funds offering - in particular its managed account platform. Assets doubled to about $10bn (€7.3bn) in 2009, not least because even the worst-performer among its three pooled portfolios of managed accounts lost just 4% in the previous year. “Pension funds and endowments have realised that they can’t afford to lose 20% in their fund of funds - even if the market is losing 40%,” Seyer notes.
A cynic might suggest that this outperformance was just an accidental effect of one of the main disadvantages of managed account platforms - the fact that they are forced to hold very liquid portfolios. The most liquid hedge fund strategies - global macro and managed futures, for example - happened to be best-suited for 2008’s markets. In normal or recovering markets, the argument is that managed account platforms cannot give access to the full range of strategies, nor to the very best managers, who baulk at the liquidity requirements and administrative burdens that managed accounts impose. Seyer observes that hedge fund aristocrats like Tudor Investment Corp and Caxton Associates have funds among the 100-plus represented; and that the platform even supports a distressed debt strategy from Apollo Alternative Assets - albeit a tailored portfolio enabling monthly liquidity.
“In bullish markets managed accounts will lag more illiquid assets,” Seyer concedes. “There is a tracking error cost - we estimate about 30-40bps per year. But we’ve been delivering 5% per year, and while the outperformance in 2008 was helped by our liquidity profile it was also a result of our dynamic asset allocation and hedging policies. We could see that some of the managers were becoming more correlated with markets and we had a top-down view that we should be short. We were able to see that happening, first of all, and then re-allocate the portfolio in response to it. We even bought some of our own synthetic short equity positions - we saw it as our duty to protect client capital.”
It is this transparency - and the portfolio risk-monitoring that it facilitates - that Seyer picks out as the major potential advantage of managed accounts for pension funds. Segregation is important - “Many [pension fund] CIOs have told me that they didn’t like getting hit by being commingled with hot-money” - and the thirst for transparency has largely been caused by the Madoff scandal, but Seyer thinks these are the tips of an iceberg of benefits.
“If it’s just going to be for the sake of risk control, it’s a lot of investment and work, so think twice,” he advises. “But we have relationships with very large pension funds that are considering switching all of their hedge fund investments to managed accounts, and the ones who are most motivated think that this is a powerful tool for totally revolutionising the way they manage their exposures. It’s about knowing, each day, which risks you are exposed to, which in turn is not just about monitoring managers for style drift and diversification but also about managing your own exposures. If you have a fund of funds that is supposed to be providing a hedge against your fixed income portfolio and for some reason the underlying managers switch their style, your overall risk profile is distorted - and with a non managed account you’d have no idea until you received the monthly report from the fund of funds.”
For those with sufficient expertise and resources, a portfolio of managed accounts creates the possibility of extensive analysis - sensitivities, VaR metrics, stress testing, and so on - of the hedge fund exposures within the whole-portfolio context.
“That’s where we are seeing tailor-made requests from pension funds,” says Seyer. “For some - one large UK fund, for example - we even manage equity hedging policies, in fund form, for the entirety of their equity exposure with five or six managers. We are a kind of execution-only derivatives platform for them, and the NAV of the fund is effectively the P&L of the hedging policy.”
Seyer is quick to point out that Lyxor still manages more hedge fund money in pooled funds than in managed accounts. “Some investors want best-of-breed funds of funds, and we can do that as well,” he says. He is no advocate for a single model or solution, after all, but a believer in having the best toolbox from which to choose the most appropriate tools. With the shift to passive, alpha/beta separation, a focus on the downside, and better integration of alternative investments into the broader portfolio representing strong trends in pension fund asset allocation, Lyxor’s toolbox may turn out to be very well-positioned to attract Europe’s institutional money.