APRA believes that there is “a lot of scope for money to be lost” through the operational due diligence process, or lack of it. But ODD, as it is known, has taken on a new importance for asset owners and funds managers, with or without APRA’s view.
Craig Roodt, head of investment risk at APRA, told the AIMA Australia Forum on September 12, that Australian investors did not give ODD as much attention as asset owners overseas did. “Operational risks tend not to follow normal distributions, but, rather can be fat tailed,” he said. That is, operational risks, being idiosyncratic, can cause a lot more damage than market risks. Remember Bernie Madoff.
And, Roodt said, operational risks were not rewarded. “There is no premium for it”. That is not quite true, of course. If you get out early enough you are rewarded. Remember Bernie Madoff.
But he was correct in saying: “If a CIO of a fund changes they will get attention. But if a COO changes, [he or she] will not necessarily be noticed.”
This year’s AIMA Australia Forum included, for the first time, breakout sessions on “Operations and Regulations”. The sessions were well-enough attended – attracting at least half the total attendance at each of the three sessions – for the organisation to promise to continue them into the future.
Jonathan Green, the general manager of investment implementation and operations at the $85 billion NSW T-Corp, who reports directly to the Government fund’s chief executive, David Deverall, said the topic of ODD was getting a lot more traction in the market. “Asset owners are taking this sort of scrutiny to the next level,” Green said.
With the amalgamation of the investment implementation of the three big funds which make up the current T-Corp (the old T-Corp, State Super STC and the old NSW WorkCover) T-Corp established a board policy for ODD and investment DD across the two categories of incumbent managers and proposed managers.
The big news on ODD is the plan by the AIST, supported by APRA, to introduce a form of standard ODD practices paid for by the managers. There have been several industry get-togethers on this and a couple of live cases, to do only with domestic equities at this stage, to go on with. Both AIST and APRA admit the proposed system is not ideal, but, perhaps better than a system whereby ODD is too expensive for all funds to undertake.
Green said that T-Corp considered ODD to be “more than just a hygiene factor”. He said, for instance, his fund was appointing a loans manager, Pinebridge, who arranged for the fund staff to meet an administrator with the opportunity to develop a relationship.
“We view [ODD] to be both complementary and instrinsic to the investment process. It’s one of the baseline cases to be met… It also requires a thoughtful governance framework where there are clear decision rights and a systematic approach so that [decisions on] managers can be implemented quickly.”
Damien Jasczyk, a director of hedge fund consulting at Deutsche in Australia and New Zealand, said that larger investors were now giving their ODD teams equal or veto rights over whether they should invest thorough a manager.
Alex Wise, the head of Australia for ODD specialist Castle Hall Alternatives, who chaired the session at the AIMA Australia Forum, said that the proposed manager-pays model for ODD reports was an input into the process but not the whole process itself. “Maybe we will see some of the investment research process (investment DD) also included in this.”
Green said T-Corp viewed the APRA requirements as a guide, “but we’d like to go further”. He has even invented a term for it: “We see it as implementation leakage minimisation”.
Greg Bright is publisher of Investor Strategy News (Australia)