Revere Capital Advisors, launched in 2008, is hoping the knowledge and experience of its founders will help a new generation of emerging managers reinvigorate the hedge fund industry. It hopes to do this through providing infrastructure backing, governance and advice as well as through seeding emerging managers in return for an equity stake or a revenue share. Revere’s pedigree is distinctive: its four co-founders are all ex-Man Group. They include Daniel Barnett, a former finance director of the hedge fund group’s predecessor E.D. & F. Man who is CEO of Revere and Harvey McGrath, CEO of Man Group during the 1990s and chairman until 2007. This is rounded out by former senior Man executives John Kinder, MD and main board member and Michael Stone, who is a cornerstone investor in Revere.
Changed seeding market
Revere’s Mayfair offices on Piccadilly, opposite St James’s Park, provided the setting for The Hedge Fund Journal to meet Barnett to discuss the emerging manager proposition and the environment for seeding hedge funds.
“There has been a pretty pronounced change in seeding,” he says. “I make 2008 the demarcation for our industry. In seeding specifically there are quite a few changes before and after 2008. There used to be an adage about negative selection: when allocations flowed the question was would you give up part of your economics if you were any good. I’m not even sure that argument was valid before 2008, but it is not even an argument any more. The money that is coming into the industry needs that talent. Since it is institutional investors, they are going to demand things of managers, including size, in order to invest. So I think seeding has become very important and will continue to be so.”
Promoting emerging managers post-2008 has been a tough sell. Virtually every major manager that closed – including European leader Brevan Howard, for example – re-opened to new investors in 2009 as redemptions kicked in. But with hedge funds now attracting rising net inflows it is likely that some top managers will begin to close or limit new allocations to existing investors. The upshot is that emerging managers can reasonably expect new opportunities to pitch for capital. In the current environment, however, institutional allocators and others are putting a higher compliance threshold on managers in terms of risk management, governance and operational infrastructure.
Focus on operational risk
“We like the concept of emerging managers,” says Barnett. “If you feel the industry is going to grow the role of emerging managers is going to grow as well since the big, established managers will be closing. Institutional considerations mean that operational risk is a far bigger concern and you need infrastructure to handle it in order to attract investors. However you define the emerging manager area, Revere wants to be in it. We think it is an important facet of the hedge fund industry which as it grows will need new talent to absorb demand from investors.”
Revere’s seeding model stands out for being proactive. Many seeders take a pot luck approach and seed dozens of managers, hoping a few big winners will compensate for losers and mediocre performers. With Revere, the aim is to seed managers that can benefit both from the firm’s experience in operational risk management and from its global marketing team (located in Singapore, the Middle East, London and New York) to improve distribution to investors.
Barnett wants Revere to be very hands on in helping the manager build on the core seed and increase the assets under management. Typically, Revere negotiates a partnership giving a minority piece of equity in a manager or a revenue share in exchange for a seeding commitment of $15-50 million.
Partner managers
So far, it has completed agreements with four partner managers. The three smallest (with AUM ranging from $10 million to $51 million) include: Dickson Capital Management, a European long/short equity fund in London; Quest Partners, a New York-based commodity trading advisor; and Baywater Asset Management, a quantitative global macro manager in San Francisco. The biggest partner manager is Broadmark Asset Management, a tactical long/short equity fund, of which Barnett is a former CEO and which has AUM of $1.9 billion. Given Broadmark’s size, Revere’s role will soon be reduced and it will get a capital repayment to be recycled to another seed.
This raises the question of what exactly Revere is looking for in the partner managers it seeds. Barnett is adamant that what they won’t do is pull someone off a bank prop desk without knowing whether the trader has the skill set to be in the hedge fund business.
“What we want is to find people that are in the hedge fund business and have some capital, but can’t break through to the next level,”says Barnett. “They have to have two things. One is a passion to run money. And the second thing, which is rarer, is that they need to be willing to make the sacrifices and decisions you have to make early to build the business.”
New capital pool
In order to expand the manager seeding, Revere is looking to raise a capital pool. It has four prospective managers in the pipeline and hopes to roll them out at a rate of one per quarter. Other seed investments will follow up to total about 12. Investors in the seeding pool will get either a share of the revenue or equity pieces obtained from the manager seeds. They will also get a piece of the broader Revere business, which is marketing and advising other emerging managers outside of the seeded partner managers.
“In this funding round, we are looking for strategically involved partners that will be partners on every front,” Barnett says. “The revenue pool will look like a normal seed pool but with a couple of extra kickers. It is like a private equity play but with Revere picking the managers to seed.”
The lock-up is for two or four years with a revenue stream paid out to investors as it is received from the seeded managers. The aim is to build a diversified pool spread across many strategies with a mix of equity and revenue stakes giving investors exposure to the top and bottom lines.
“Big financial companies who love the hedge fund industry have a hard time justifying how to spend the time and the money to get into the emerging manager space,” says Barnett. “A single ticket size of $50 million is too concentrated when an emerging manager has less than $100 million under management. The financial companies are better off dropping the seed into Revere to let us do the emerging managers and diversify the investment. When the manager gets established they can invest more if that is what they want.”
Keeping deals flexible
Every deal Revere does is different. The business experience of the principals means they look to keep things flexible. As a seeded manager grows, what that firm will need from Revere is likely to change.
“The toughest thing in seeding a young manager is to avoid crushing his economics early in the fund’s life cycle,” says Barnett. “He ends up spending his life trying to figure out how to get you out of his house rather than using you to build his house. So we are very careful that whatever we have on the top or bottom line is a combination that is palatable to the manager and he has plenty of economics to grow his business.”
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Exit strategy
One way Revere aims to do this is with the exit strategy, which is generally built around getting a manager to a level of AUM such as $750 million rather than a defined period of time. When good managers grow AUM rapidly it can become a source of conflict if the manager feels he pays away significantly, “unwarranted” revenues for five or more years to the seeder for limited efforts thereafter.
“Our goal is to get them up to scale and we hope they will get there as fast as possible,” says Barnett, adding that Revere would be happy to seed a fund with $50 million and come out of it a year later were it successful in getting to $750 million.
“When the manager gets to that level he can afford to build his infrastructure out and some of the things we do for him he can now do for himself,” Barnett says. “Perhaps we will still market him to investors. It doesn’t matter since we keep a trail. Once we aren’t helping with the business we don’t want to overstay our welcome.”
What Revere can offer early stage managers is experience of how to build up a business. This can range from help with distribution to providing guidance and adviceon compliance or even finance issues. When a fund is below $100 million in AUM Revere can use its experience to help the manager run the business in a sound way, something that can reassure other investors. Through its affiliate SRL, risk management solutions are available. For example, daily position level recording is processed independently through the service provider, while leverage, concentration and possible style drift are monitored. In sum, the aim is to ensure that the manager’s operations run the way investors are being promised.
Early years at Man
Barnett’s initial role at the then E.D. & F. Man was in running their US operation. He went to London in 1982 to become finance director. In those days, Man’s core business was trading sugar but change was afoot. This came from a chance meeting in 1981 with Larry Hite and Peter Mathews who were trying to build a company based on a ‘black box’ modelled commodity trading advisor strategy. Later that year the Mint programme opened to mark Man’s first foray into managing money.
“We’d noted that programmed trading had begun on equities markets,” Barnett says, recalling how this was before industry luminaries like Paul Tudor Jones and John Henry had even launched. “Our intellectual curiosity led us to look into what that meant and who was doing it. Mint was very much considered a sideline to our commodity business, but it saw us get involved in the hedge fund world and it was quite successful. I was quite intrigued by it as I was on the finance side of things.”
Man seeded Mint with $5 million and an additional $20 million was raised from early stage investors. The experience accumulated in money management, including learning how to distribute the product, began the rapid transformation of a sugar trader into an emerging hedge fund leader. In the late 1980s, Man built on this with the development of AHL, now the leading managed futures fund by AUM with $22 billion.
Motivation gets forgotten
Number crunching and Greeks aside, Barnett believes that the hedge fund industry often forgets about motivation and the qualities that make a manager successful.
“Morale, motivation, encouragement and good will: it is all those things you need on top of just the numbers,” he says. “If the numbers alone are going to tell the whole story then you should just be able to crunch the numbers and be at the top of the league tables every year. But that doesn’t always happen. So there is obviously something missing and I think it is not paying enough attention to the behavioural side of things, particularly in the early life of a manager.”
Emerging manager advisory
Alongside the seeding business, Revere will continue to build its emerging manager advisory platform. This advisory business is looking at a much larger universe of 1000+ or so emerging managers. Managers will be qualified through due diligence with a preferred list of about 200 being selected for its advisory peer group. Revere advisory business provides a low touch sourcing tool for institutional investors, as well as more hands on support in the identification and selection of emerging managers.
“We want to be the emerging manager go-to guy,” he says. “There is a lot of value in that. The importance of emerging managers is going to grow as more institutional money comes in and needs to find the talent. We want to be the bridge to marry that institutional money with the emerging talent. Our goal is to build Revere into one of the industry leaders in the emerging manager area.”
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