Deutsche Bank

THFJ AWARD WINNER

From setting up its first UCITS fund in 2002 to the advent of UCITS hedge funds, Deutsche Bank has been setting the pace of change in Europe’s regulated fund arena. The db-X funds division is part of the Global Markets division. It sits inside the investment bank and on the trading floor, close to the pulse of market action across all liquid asset classes. db-X funds, which is responsible for the UCITS platform, has at its disposal the expertise of 600 traders, 600 research analysts and 200 structuring analysts within Deutsche Bank. db-X funds leverages Deutsche Bank’s extensive relationships within the hedge fund industry to source managers while the bank’s managed account platforms provide other building blocks for many of the funds. db-X funds runs more than €10 billion (in variety of strategies, see Fig.1), of which over €2 billion is now invested in UCITS-compliant hedge funds offering daily or weekly dealing.

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The platform is versatile enough to house both traditional UCITS and those that replicate more sophisticated strategies. Since Deutsche Bank has long pioneered a myriad of systematic index strategies, these were a natural starting point for the suite of systematic UCITS hedge funds. The infrastructure is all in place for precisely devising indexes of systematic strategies and setting up swaps paying the returns of those indexes to the UCITS funds. At the same time the platform also accommodates more traditional fund structures that invest directly into the financial markets, relying on Deutsche Bank’s market leading prime brokerage and prime finance platforms to handle trading and provide synthetic leverage and shorting, all in accordance with UCITS rules on diversification and liquidity as well as restrictions on leverage and volatility. In each case the aim is to closely align UCITS performance with that of the original, mostly offshore, funds. The UCITS criteria apply irrespective of which type of UCITS investors select, as do the ceilings on counterparty risk. The UCITS that use swaps to mirror index returns must of course receive segregated collateral to back up those swaps in line with UCITS rules. The collateral itself naturally has to stand up to another set of quality guidelines, with investors’ counterparty exposure limited to 10% in accordance with UCITS.

The desire to diversify investor bases beyond those who choose offshore funds is a core locomotive for the growing UCITS hedge fund universe. Growing numbers of investors, says Director and Head of Fund Structuring Alex McKenna, “have a preference for the onshore UCITS vehicle as they look for a more regulated environment.” Apart from the obvious safeguards against fraud in terms of asset verification and independent valuation, rationales include regulatory restrictions on some investors’ allocations to offshore hedge funds, which might, for instance intensify under new solvency rules.

There are plenty of other well understood attractions of the UCITS framework. These include liquidity at least every two weeks, a ban on side pockets, oversight from regulators and transparency of the UCITS’ portfolio no less than twice a year. Deutsche Bank, of course, has real time visibility of portfolios that make up indices, and this acts as another backstop in terms of compliance with investment guidelines. Transparent accounting and financial reporting also appeals to many investors, especially in Europe. Investors who like to compartmentalise the costs of a fund can also rest assured that these expenses can be clearly identified, categorised and tallied. These messages are kicking a wide open door. By 2011 more than half of respondents to the Deutsche Bank Absolute Return Survey said they would choose a UCITS as opposed to a Cayman fund (See Fig. 2). A year earlier more than two thirds still named Cayman first.

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“Distribution, then, is a key draw for managers seeking to get onto the Deutsche Bank platform” says McKenna. Deutsche has a worldwide salesforce numbering over 1500 that has won inflows from inside and outside the European Union ‘womb’ of UCITS, as far afield as Asia and Latin America. Deutsche’s investor relationships encompass gargantuan pension funds, conservative insurance companies and family offices, funds of funds, private banks, high net worth individuals, wealth advisors, endowments and foundations.

Deutsche also has experience at obtaining regulatory approvals that may be needed to access some investors in some markets. Currently the team have been busy drafting Key Investor Information Documents that are sometimes needed to sell into some countries under UCITS IV; although in many cases Deutsche Bank already had the passports before UCITS IV was conceived. In terms of regulation the bank is also well positioned to keep abreast of the new US rules that may impact some strategies and managers.

Many blue chip managers have chosen to partner with Deutsche Bank, and most of them have long investment track records. The dbX Systematic Alpha Index fund for instance, based on an index of London-based Winton Capital’s strategy, is sought after for its consistent performance and continues to gather strong investor interest after positive performance in 2011. As Europe’s leading hedge fund location, London does supply many funds on the platform but Deutsche Bank also scours the globe in search of talent. Other CTAs on the platform, for instance, include Lynx of Sweden and Millburn Ridgefield from the US. Daily or weekly liquidity makes the db-X funds platform amenable to tactical rebalancing around asset classes, strategies and managers, with a menu including Deutsche Bank’s own systematic index products in addition to the UCITS hedge funds. Another notable alliance is with the UK’s largest pension fund, Hermes, which has special expertise in commodity strategies. Deutsche Bank itself has constructed a number of proprietary commodity indices, including innovative features such as optimisation of the rolling of futures contracts over time. Hermes has both enhanced beta and absolute return products available with db-X funds in a UCITS format. The latter has garnered a good number of performance rewards, partly for its solid 2011 return (See Fig.3), and it won Best Performing Commodity Fund for 2011 in the UCITS Hedge 2012 db3Awards

In the equity space, Deutsche Bank developed CROCI techniques for making company accounts more comparable over time, amongst companies and across countries. Similar thought processes inform the investment process of many discretionary equity investors. For example, the latest discretionary UCITS launch on the db-X funds platform harnesses the stock-picking skills of hedge fund legend Leon Cooperman, whose performance history extends over 20 years. The Omega Fund focuses on US equities, going long and short of mid and large caps. These sorts of partnerships demonstrate that db-X funds welcome discretionary and systematic approaches alike onto the platform.

There is no presettarget for on-boarding new managers. “Managers have to be of the right calibre, and the strategy has to fit into the UCITS rules” says McKenna. Clearly, the liquidity of the strategy is non-negotiable, but the due diligence process goes much further than that, into the culture and operations of firms. High levels of existing assets are not an essential requirement. Whilst some funds have billions of euros of assets, db-X funds may also take a longer term view on the growth potential of thoroughbred managers who are seeking to establish a UCITS. Having been doing UCITS for 10 years db-X Funds is in it for the long haul. Some of the managers on Deutsche Bank’s non-UCITS platforms may be waiting in the wings to launch a UCITS. Some of these already form part of db-X funds’ six multi-manager index UCITS products, that provide access to the managers through managed accounts. Systematic macro, macro trading, event driven, credit and convertibles, equity hedge, and equity market neutral strategy umbrellas complete the current line up of multi-manager funds. Each of these holds at least six, with holdings reshuffled periodically in accordance with the index rules. So, db-X funds already has a fine repertoire of contenders for future UCITS funds, to complement the 14 single manager UCITS already on the platform (See Table 1).

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Over 70 funds are now available on the UCITS platform. Some specialise in one asset class such as currency, commodity, equity, fixed income or credit while others blend two or more asset groups. The CROCI equity products have frequently picked up a clutch of Lipper fund awards in recent years.

Although minimum investment amounts for UCITS may be lower than for offshore hedge funds, db-X fund’s products are still primarily aimed at institutions. “Retail share classes are offered via carefully chosen channels” says McKenna, as Deutsche Bank wants to ensure that investors understand the products. Currency share classes range from sterling, euro, Swiss franc, the dollar, and yen to the Singapore dollar – and classes in other currencies could easily be created in response to investor demand. Both bearer and registered fund shares can be traded through the Luxembourg transfer agent RBC Dexia. Subscriptions and redemptions are executed at NAV. The internet portal www.dbxfunds.com is the gateway to swiftly downloading abundant fund documentation and analytics.

Amid competition from the proliferation of new UCITS platforms, this 10-year-old platform is, once again, a worthy winner of the ‘The Leading UCITS Hedge Funds Platform’.