Best Practices for a CTA's back office - part 1
: 23 Feb 2016
Every trader who has tried to raise money knows the drill from investors: yes we want to know about your performance, but also, explain in detail your back office (infrastructure, organization). Most allocators come with pages of checklists and expect the CTA to be able to answer their questions in full. In these next two blogs, we’re going to cover what allocators expect and explain what it really means to have a back office that passes investment standards.
Allocators like stability and thoughtful, business-like leadership that goes beyond what the yen will do tomorrow. Obviously, a core aspect of their job is performing due diligence on potential (and current) managers to make sure CTAs live up to these expectations. Many have a separate unit that only performs operational due diligence, and if they find anything amiss, even if the trader has outstanding performance, the investment will get nixed. As Joe Vanderbosch of Dominion Capital Management notes: Allocators are looking for reasons to stop looking at you. So here we’ll discuss the first hurdles allocators want a CTA to overcome, and in our next blog, we’ll go over a checklist of essential back office needs and how to prepare.
1) Performance metrics: It’s not enough to have good performance, you need to be able to get into the granularity of it with daily and monthly performance data including information such as P&L attribution by market and sector, volatility, VAR and standard deviation. Vanderbosch notes that your end-of-month performance might be up 2%, but an allocator wants to see within those numbers and hear you explain them in an organized and disciplined fashion.
2) Reinvestment: Are you regularly investing in research and systems? You’ll have to show how you update not only your trading systems, but prove that you’re properly funding the research team and operational infrastructure.
3) Personnel: Obviously if a key manager leaves, the question is why? How was that person replaced? How long has personnel been with the firm? Who makes up the trading desk? Who runs the back office? What is the turnover rate? These answers need to be explained thoroughly, especially if there was a personality rift between principals and key managers/traders.
4) Expenses: Where is the money being spent, especially related to fees? Extravagance is a turn off.
5) Transparency: Holding back information when explaining your systems won’t win points. Allocators often feel CTAs think they’ve discovered the Holy Grail when it’s a simple trend following program. One London consultant noted a coy trader wouldn’t be recommended to clients.
6) Execution: Allocators realize this is a main ingredient in the trade process and expect CTAs to understand its importance and be able to explain it fully during due diligence. They want to see that you have a detailed process that is transferable across your team.
7) Outside advice: The make up of your board should have at least one Independent director, an independent fund administrator and solid outside service providers. Unknown, poor quality service providers can show a lack of commitment to invest in the business.
Next time we’ll detail Back Office Best Practices, and show how CTAs can alleviate the day-to-day pain of managing a business and handling managed accounts in a practical and simple way.
Dana M. Comolli is president of DMAXX (dmaxx.com), a back office software design firm for alternative investment managers. TheBooks software is designed for the trader, and is built to do price, position and order management, reconciliation, trade accounting, performance reporting, risk and data management and act as a gateway to a wide variety of execution platforms. You can reach Dana at: firstname.lastname@example.org