New offices in the Old Mutual headquarters on Lambeth Hill are but one signal of changing times at Old Mutual Asset Managers (UK). It has been onwards and upwards for the firm since this magazine first interviewed the former head of the quantitative strategies team, Eoin Murray, in the fourth quarter of 2004. Then, the business was in recovery mode, following the departure of star manager David Ross in late April 2004. Now, it has a hedge fund asset base in excess of $2.5bn (long-only $6.5bn), making it one of the more serious players in the European hedge fund segment, and a member of The Hedge Fund Journal’s Europe 50 club.

Building a mature and sustainable business model is certainly the objective of Peter Baxter, who was promoted to the CEO’s job in May 2005. “We’ve achieved our objective of becoming a serious hedge fund player,” says Baxter, who arrived at OMAM in 2000, following six years with Hill Samuel Asset Management.

OMAM has also been keen to diversify the business away from an historic focus on market neutral strategies, and a reliance on star managers. The shock of David Ross’ departure has instilled in it a desire to explore new strategies and investor relationships, to create the kind of business we are seeing more of in the hedge funds space these days, one that is able to complement and enhance the core asset management offering of a major financial group. “We’ve diversified our products, we’ve increased the range of products available from our quantitative strategies and we’re very much focused on our multi-strategy and structured products range,” Baxter explains.

Diversification benefits

In terms of diversifying via channel and geography, OMAM now sells funds around the world, and has migrated away from a dependence on the traditional European hedge fund markets: it has developed important customer relationships in Japan, the Middle East, and southern Africa, and is seeking to carve out new channels in Latin America following its parent’s acquisition of Skandia’s investment management business and associated distribution capabilities. Despite the fact that most of its sales staff remain based in the UK, the emphasis is very much on the creation of a global hedge fund entity that suits the scale and global clout of its parent company. “We’re not going to be held hostage to any one market, or any one channel,” Baxter says.

The hiring of Dermot Keegan from ABN Amro’s institutional marketing team, where he served as head of UK institutional clients, has been a significant step. This was in line with the growing importance of institutional money on the firm’s balance sheet, especially in the areas of specialist high performance and absolute return products. Keegan has been focusing on selling structured and multi-strategy products to institutional clients in Europe, including the UK pension funds market. On the back of this, Baxter sees the firm diversifying from the fund of funds game into more specialised institutional mandates that can perhaps be better achieved via multi-strategy and structured products.

Being part of the Old Mutual international financial services group is of course, an asset. Like other hedge fund operations owned by larger financial brands (e.g. HSBC Halbis Partners, Mellon Alternative Investment Strategies), there is the increased confidence a respected parent inspires, plus the potential to capitalise on existing group distribution relationships. Bear in mind OMAM also has a considerable long-only book, which raises its total AUM to $9bn. While some distribution is achieved through group alliances, OMAM is also expected by its parent to stand on its own two feet, and it works with its own network of independent intermediaries to achieve this.

“The group has got strength, particularly in South Africa and the United States, and with the Skandia acquisition, in Europe and Latin America as well,” says Baxter. “Obviously, we look to leverage off that. Our relationship with group companies is very much willing buyer, willing seller. That’s the correct way to operate within a large group.”

But Baxter emphasises that Old Mutual group funds account for less than 15% of the hedge fund book. “Group companies, if you deal with them properly, are just your most demanding clients. The difference with a group company is that they’re more likely to come to us and ask ‘Can you make a fund portfolio that looks like this and has these characteristics? Can you spend some time developing a product for us?’ Similarly, if we’ve got a new product, we’d expect them to have the time of day to open the door and have a meeting. We wouldn’t expect our sales people to have to knock the door down. It’s that sort of relationship.”

Like Gartmore, OMAM has achieved considerable success already in Japan, a notoriously hard market to crack. It has sourced close to 40 institutional distribution relationships via one Japanese securities firm, for instance. It is this kind of penetration in far-flung geographical markets that provides large-scale institutional managers of hedge funds with a significant edge over their smaller privately-owned competitors. Going into these sorts of distribution relationships with the corporate credentials offered by a major financial services group is a major boon.

OMAM is demonstrating an awareness of the way institutional customer priorities are being expressed in the alternative investments space: there is more emphasis on transparency, on a demonstrable ability to quantifyand manage risk in hedge fund investments, and larger firms can achieve this through the construction of effective internal platforms and associated structured products suites. Such offerings are increasingly being seen as key in the institutional market for long-term success, and it is no wonder that OMAM sees the growth of its own internal platform as critical to its long-term success in this market.

“The best way to ensure the quality of your earnings is to be well-diversified,” says Baxter. “Eoin [Murray] has been instrumental in developing new products that we’ve been rolling out over this year in particular, and bringing the global equity market neutral strategy (GEMN) to capacity.”

Quantitatively speaking

Eoin Murray joined OMAM in July 2004 as Head of Quantitative Strategies, and was recently elevated to CIO. He arrived at the firm from Northern Trust Global Investments, where he was European Head of Quantitative Management. His task was to take OMAM’s existing hedge funds business and turn it into something established, diverse, and with the legs to go the distance. Another key hire has been Gavin Brown, who was one of the founding members of OMAM’s proprietary quant capability when he first worked for the firm in 1998-2003. He had worked with Murray at PanAgora Asset Management in 1996-98, and ended up working with him again at Northern Trust, where he was a senior portfolio manager in the European quant team.

The global equity market neutral strategy was OMAM’s first foray into the hedge funds market in December 2001, following the development of the in-house quantitative equities team by David Ross. Prior to Ross’ departure, the bulk of the firm’s hedge fund assets were contained in this strategy in two funds, Global Equity Market Neutral and GEM Plus. Thanks to the performance of the funds and the distribution team, they are both now closed to new investment, another good reason for OMAM to diversify into new pastures.

Looking forward, OMAM reckons it has the capacity to triple its current funds under management. Murray has been working to develop new strategy capabilities that will allow for this. Baxter’s aim has been to make sure that the company can offer clients a diverse range of hedge fund options, with all the requisite checks and balances in terms of transparency, liquidity, and risk management.

Murray has been busy. OMAM has launched no less than four key products this year, under Baxter and Murray’s aegis.

The primary mission when Murray came aboard was to grow the GEMN funds to capacity. Once that was achieved, focus turned to diversifying the business. Murray’s brief was to source the investment strategies that would achieve this for OMAM. The other key driver was to make sure the firm’s internal managed accounts platform had access to a sufficiently large array of strategies. “We also wanted to avoid the trap, that perhaps some firms fall into, of a single strategy that dominates everything. If that stops working, then you can be in a lot of trouble,” Murray explains.

These sorts of sentiments are music to the ears of risk conscious alternative investors.

In March this year, the firm announced it would be launching a European Statistical Arbitrage Fund, managed by its quantitative strategies team, including stat arb specialists Paul Simpson and John Dow, who joined the firm from Millennium Capital Management in January. The fund, launched in May, is managed using highly developed quantitative techniques which exploit short term price anomalies, and it also makes use of proprietary execution technology, usually only available inside investment banks. Murray was aware that he would need a seasoned stat arb team to make the fund a success, and that a sophisticated program would be required to ensure that success. The fact that Simpson and Dow had been able to deliver consistent performance through a variety of market conditions, and had worked together even prior to their tenure at Millennium, was another plus factor.

In April, OMAM launched the Spectrum Plus Fund via its multi-strategy products team, headed by Richard Tomlinson. The fund invests in a series of underlying managers and strategies through the firm’s internal managed accounts platform, and is a geared version of the Old Mutual Spectrum Fund, formerly the Old Mutual Multi-Strategy Fund.

In May OMAM launched a Global Sector Opportunities Fund, a global equity long/short hedge fund managed by the same team as runs the GEM funds. It is trading globally in liquid stocks in developed markets, using a sophisticated, proprietary quantitative model to compare stocks within the same sector across regions, in order to exploit pricing inefficiencies.

In June the firm hired Steve Kelso and Paul Jones, formerly of KBC Alternative Investments, to allow it to launch a volatility arbitrage fund. The duo had previously worked on KBC’s Global Volatility Fund, where Kelso had been the fund manager, and Jones looked after trade selection and risk management. Both have a background in investment banks: prior to KBC Kelso was trading single stock options and running European index option trading at Lehman Brothers, while Jones was working in derivatives trading and risk management at HSBC Investment Bank. The hires were closely followed by the announcement that a vol arb fund would be brought to the market and the Global Volatility Fund started trading in October.

“We’ve brought in talent opportunistically where we could find it,” says Murray. “It’s also partly luck – you have to be in the right place at the right time.”

OMAM also has a small group of strategies in incubation, which will hopefully provide the scope for the firm to rapidly develop its asset base going forwards. Old Mutual has provided its asset management arm with a small pool of capital to allow it to seed new strategies, allowing managers to hone their skills in a live environment. “It means we’re also able to mentor them in the early stages, often the most difficult when you’re launching a strategy,” says Murray.

Many of the managers in this in-house ‘nursery’ are currently running long-only assets for OMAM as well. As to whether, should their hedge fund be green-lighted for launch, they would continue to be able to run a parallel long-book, Murray keeps an open mind. This is a policy that differs from firm to firm, amongst those bigger houses that run both long-only and hedge assets. Some prefer to keep their hedge fund managers almost religiously segregated, operating as an effectively independent firm within a firm, with very little scope for contact with their long-only brethren. The reasoning here is that one portfolio could be compromised for the sake of another. On the other hand, other successful fund management businesses prefer to keep managers on the same desk, or running both long/short and long-only variants, because they favour the cross-pollination of ideas in what is often described as a ‘collegiate’ environment. Murray’s view is that this is a decision that the manager himself has to make, in discussion with the CIO. Some managers may be happy running multiple funds going forwards, others might prefer to focus their skills on just one investment strategy. “Some feel that they have to focus, and others appear to be able to do both very successfully,” he says. “I’d hate to dictate to the fund manager something they know better than anyone else, namely what they’re capable of.”

Peter Baxter’s three year plan

Murray thinks he has the bases covered now in terms of the strategies he would like to see OMAM providing for investors. Some may not have come to fruition yet as funds, but he has them under development and is bubbling with enthusiasm at the thought of hopefully bringing them to the market. If there is a gap he’d still like to fill, it isEuropean equities, and he is actively seeking seasoned European long/short equity managers.

There is shaping up to be what he calls “a nice balance” of asset classes: equity market neutral, equity long/short, vol arb (starting as an equity-based strategy, but then diversifying into other areas), and stat arb. Fixed income is under consideration, and is being reviewed at the incubator level, but no decision has yet been made as to whether a bond-based strategy will open for business, although it would be fair to say that OMAM has strong capabilities in the long-only bond space, and Murray admits bonds have been added to the list of asset classes currently under scrutiny in the ‘quant lab’.

As with other big institutional money management shops, OMAM is in the position to draw on existing historical strengths as a long-only shop. A $6.5bn long-only book certainly represents a valuable reservoir when it comes time to seek out hedge fund capacity for the marketplace, but it is noticeable that this year OMAM has been consistently going outside the firm to pick out talented and established teams to run its hedge funds.

“We have a fund development program that goes out to three years, with what we intend to launch, resource, and develop, and incubation is a key part of that. One of the drivers for that is the multi-strategy fund, and developing the platform for the multi-strategy fund,” says Baxter. “Obviously the multi-strategy fund wants a macro fund, which, if Old Mutual has the capability of developing one, should be developed internally. Anything that the multi-strategy fund would want, as a strategy, we would look at to see if we could manufacture that for ourselves. In some cases we would say no, that doesn’t fit with what we’re doing, and we would continue to outsource that particular strategy, but generally, the nature of multi-strategy products means we can either manufacture it now, or give ourselves a one, two, or three year period to make it available.”

Murray stresses that the multi-strategy fund has to maintain its integrity, and has to have the option to buy both internal and external funds, depending on where its management team wants to invest. He’d like to see Head of Multi-Strategy Products Richard Tomlinson one day in the awkward position where clients are asking him why he isn’t using the better internal product for his fund.

Again, like some other major institutional players, OMAM sees the development of an internal platform as a key necessity in the development of both structured products, and a credible multi-strategy product. The launch of Tomlinson’s Spectrum Plus fund was aided by the fact that it can use margin financing rather than debt to attain 2.5 times leverage. Although not an open-architecture platform in the mould of SG’s Lyxor or BBVA’s Proxima, the OMAM facility is accessible by client institutions who want to partner with the firm to build structured products based on the underlying managed accounts. “It’s not set up so that you can come in and buy a single strategy via a managed account,” Baxter says. “We’re not competing with the Lyxors of this world on that basis. This is a facility to let us make very good products on a risk/return basis.”

The multi-strategy fund has been in business for over three years now, and was recently re-branded as the Old Mutual Spectrum Fund. Eighteen months ago it was switched from a classic fund of funds to a multi-strategy product. Head of Multi-Strategy Richard Tomlinson joined the business in May 2004, but had been working with Old Mutual in the construction and management of hedge fund portfolios since 2002. Along with colleague Christopher Rule he developed the internal processes used by the multi-strategy team, and like Eoin Murray has a long track record in dealing with quantitative models. Rule and Tomlinson were previously working for GNI Fund Managers, which was re-launched as Bright Capital by Old Mutual following the sale of GNI Holdings to Man for £100m in October 2002. Bright was later integrated into the OMAM stable as a fund of funds, later multi-manager, operation in 2004.

“That experience base would have taken us a long time to build up ourselves,” says Baxter. “That was a very successful merging in of another operation, just in terms of the intellectual property alone.”

Conclusion

So where to now? OMAM has had a busy year, with the recruitment of new portfolio managers and four new funds. It currently has 30 dedicated sales and marketing professionals, and more sales vacancies still to fill. “While we have worked hard to develop new capacity, now the focus is on filling that capacity,” says Baxter. “We’ll roll out new products for the investor base when it makes sense, when they’re ready, and when there’s the demand. I think we’ll see a steady stream of new products, and a steady stream of funds closing to new investment over the next few years.”

Baxter stresses that he is very much working to a three-year plan. While he accepts that it is difficult to predict the demands of the market three years into the future, he wants his investors to know that there is a basic framework that is informing the way he is building the business. It is measured, it is cautious. Funds are not being launched unless the firm is absolute sure there is demand for them, that the management team is competent, and that the infrastructure is in place to support them.

But the focus right now is on selling the new range of funds into the market. “That is quite a briefcase full of products,” Baxter says.

APPENDIX: Old Mutual Asset Managers Strength In Diversity

European Statistical Arbitrage Fund

Investment Approach