Asset owner diversification in illiquid assets raises data questions

Asset owners around the world are embracing illiquid assets as they reconfigure their allocation strategies in the hunt for better risk-adjusted returns. But diversification is no free lunch, bringing a host of complex data challenges.

In this fifth article in our series on convergence trends, our experts Philippe Tassin and Frank Roden explore how asset owners in APAC and EMEA can solve the data issues their growing alternatives portfolios bring.

Split 47% in alternatives such as private equity and real assets, 45% in equities and 8% in debt, the allocation mix of one of Australia’s top six pension funds may once have raised eyebrows. Not today.

A traditional 60/40 allocation strategy has become a rarity among the world’s asset owners. In the hunt for sustainable risk-adjusted performance and inflation hedges, diversification is the order of the day. Increasing exposure to illiquid assets has been a particular trend, with investments either on balance sheet or in dedicated fund structures, often managed by third-party asset managers. Along with their peers in Northern Europe and Canada, Australia’s pension plans are among those leading the way, with a recent report from the Association of Superannuation Funds of Australia showing pensions’ infrastructure holdings have more than doubled in the past decade and now comprise 8% of total assets^[1].

Investment-wise the rationale makes sense. As Nobel Prize laureate Harry Markowitz put it, diversification is the only free lunch in investing. Operationally though, a multi-asset class approach presents significant challenges.

Illiquid assets diversify the data demands

Obtaining and integrating the relevant data into asset owners’ accounting and reporting processes is a key issue.

Institutions need a transparent view of all their liquid and illiquid investments, including look-throughs to the underlying fund structures; better visibility of cash flows (such as capital calls) and more automated cash flow monitoring; and the ability to quickly and easily aggregate and manage data for multi-asset portfolios.

“Boards have to justify their investment strategies to policy holders,” notes Philippe Tassin, Asia Pacific Regional Head of Asset Managers and Owners with BNP Paribas’ Securities Services.

It requires a huge level of data to monitor and oversee the assets, make educated investment decisions and explain the rationale behind them – data that may or may not be readily available depending on the asset class.

Philippe Tassin

Regulatory reporting adds to the emphasis on more and better data points. “You have to be able to interpret the regulation and understand what data you actually need,” says Frank Roden, BNP Paribas’ Securities Services’ EMEA Head of Asset Managers and Owners.

For example, the Australian Prudential Regulation Authority has set in stone more key performance indicators to assess the performance of every firm, even single asset managers that invest for pensions. In Europe, Solvency II reporting requires insurance groups to measure their subsidiary companies’ individual market and counterparty exposures from all the different assets held directly or indirectly by that group.

“If different insurance companies in the same group are invested into an investment fund, you have to extract all the portfolio data from that fund and slice it between the companies,” Roden explains. Data scientists may be needed to analyse and interpret the data to ensure it is translated correctly for the downstream reporting. “How that data gets into the accounting records is crucial, because the data manipulation needed to provide the end reporting can be complex across different asset classes,” he says.

With governments keen to shift investments into infrastructure projects, data has capital consumption implications too. Solvency II already offers the possibility of some infrastructure investments bringing lower capital requirements, notes Roden. “The more you can do to reduce capital consumption and shift more of that investment towards producing yield the better. ”

But to benefit from those incentives, you need the data to understand how your investments are categorised according to the regulations. 

Frank Roden

Environmental, social and governance (ESG) developments are adding a further level of data complexity, especially given the lack of universal standards. “Institutions are using different metrics and creating proprietary methodologies to measure and benchmark companies’ performance against the UN’s Sustainable Development Goals or ESG criteria,” observes Tassin. “You really need quant-based skills these days to interpret the data and make it useful.” And with the next generation of pension clients increasingly mindful of ESG issues and keen for investments made on their behalf to be attuned to their values, that data need will only grow.

Alternative asset owner strategies for sourcing trustworthy data

While the most sophisticated asset owners may manage their multi-strategy investments internally, most will appoint specialist managers, especially for more esoteric and illiquid asset classes. The result, says Roden, is multiple managers with their own data sources feeding disparate in-house middle-office processes that provide the data to the asset owner’s accounting records. “That creates an immediate data aggregation challenge. Then downstream you may find the data is missing some critical components needed to carry out the management and regulatory reporting.”

Quality and timeliness of the data delivered by asset managers is therefore crucial. Reconciliation discrepancies between an institution’s balance sheet and the underlying fund structures impact on downstream reporting and need remediating. Tightening reporting turnaround periods require shorter data delivery times, and streamlined data and analytics tools.

Some large asset owners have built their own data management programmes to solve these data issues. But the needs are increasingly complex. Data aggregation, cleaning, reconciliation and certification take specialist knowledge and infrastructure. And talented people with the necessary IT and data skillsets are at a premium. Most institutions would instead prefer to focus on investment and distribution strategies that are more aligned to their core activities, rather than invest on internal data experts and/or associated IT and software infrastructures. 

The alternative, says Tassin, is to partner with a strong provider that can manage the spaghetti of information, and deliver safe and transparent data points more efficiently, reliably and at less cost.

The BNP Paribas data solution

At BNP Paribas, the Securities Service’s time-tested approach is to work with each client to integrate the right solutions that best support whatever assets they want to invest in, says Roden. “Our DNA as a pan-European bank means we have long experience of operating in disparate legal environments, dealing with cross-border complexity and crafting solutions we can apply to different clients in different use cases.”

It is an expertise BNP Paribas’ Securities Services has extended to Asia-Pacific, with its diversity of markets and regulation, and huge variety of asset owner profiles, Tassin adds. “We are not trying to build a monolithic solution that is the same for everyone. Instead, we are creating an asset owner ‘user club’ where we come together to assess the challenges different funds may face in their territories, and find best practice frameworks that clients can reuse to address their pain points.”

First step is to discuss with the client their target operating model, and involve any partner organisations at an early stage. Depending on each institution’s needs, the client can then choose from Securities Services’ proven range of modularised services, spanning the middle office to accounting and end reporting.

Outsourcing the middle office tends to be a good starting point, to instil efficiency at the outset by ensuring data is captured right and can flow smoothly through the rest of the investment process, notes Roden. “Here we have experts that can provide middle-office activities around traditional securities, OTCs and private capital, including loan administration.”

For instance, the Securities Services business of BNP Paribas is working with a superannuation fund in Australia to reconcile the data it receives from multiple service providers. Each of the specialist external investment managers the fund works with has its own data sources, technology solutions and staff to manage the data and technology. “That made it very complex to consolidate and aggregate the multiple data layers to create a single golden source and trusted referential data framework every stakeholder can use with confidence,” says Tassin.

Through its technology infrastructure, BNP Paribas has been able to digest these multiple data sources, enrich the data where required and undertake quality checks to create a single golden reference source for the fund – trusted data that can be used by multiple systems across the front office, finance, regulatory reporting and investor due diligence.

“The enhanced data supports the fund’s investment decision making,” notes Tassin. “It can provide quality data to the right stakeholder far more efficiently. And it has a lean, scalable framework ready to support the fund’s growth into new asset classes and to cope with increasing regulatory complexity.”

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[1] Superannuation and the economy: Energy infrastructure, The Association of Superannuation Funds of Australia, February 2023, https://www.superannuation.asn.au/ArticleDocuments/359/230217_Superannuation%20and%20the%20economy%20Paper.pdf.aspx