Prisma continues growth path with bespoke portfolio construction

Prisma Capital Partners has stuck to its vision of placing customisation at the heart of its offering and concentrating on managers with specific specialisations that can produce alpha for clients

Prisma Capital Partners specialises in bespoke solutions for institutional investors

Long before the fashion in funds of hedge funds moved towards customisation and bespoke products, the founding partners of Prisma Capital Partners decided the way forward was creating an organisation that would systematically address the investment requirements of institutions using experienced individuals and institutional quality. That was in May 2004.

Global events have justified not only their own clients and performance but the vision of the three founders also. Today Prisma manages just shy of $10 billion, with institutions accounting for more than 90% of all clients.

The three founding partners brought with them significant experience in key areas well suited to the management of institutional assets and had worked together at Goldman Sachs for more than 15 years. Girish Reddy, CEO and chairman of the investment committee, was a former partner and co-head of equity derivatives at Goldman. Prior to Goldman he was chief investment officer of LOR Associates, a hedging and strategy advising firm based in Los Angeles, developing strategic alliances with other established asset managers such as Wells Fargo and Aetna Insurance.

Gavyn Davies, senior adviser, was a partner and chief economist at Goldman as well as a former chairman of the BBC and a member of the UK Treasury's independent forecasting panel as well as economic adviser to the House of Commons select committee on the Treasury.

The third member of the triumvirate, Thomas Healey, was a partner and head of pension services group at Goldman, with oversight of more than $3 billion in defined contribution pension assets. Before that he was co-chief investment officer of the $10 billion Central States Teamsters Pension Fund managed by Goldman Sachs.

Shortly after founding Prisma, the company acquired the portfolio management team of Aegon USA Investment Management and the $1.2 billion proprietary hedge fund portfolio it managed in exchange for an equity interest. Prisma became an affiliate of KKR in October 2012 when KKR acquired 100% of the direct and indirect interests of Prisma.

“When we set the business up, we were really looking at bringing three dimensions to the business. The first is to take a very customised, solution-based approach, as opposed to being a 'single fund fits all' approach. We were really focused on having a consultative-type relationship with our clients and building the right solution for them. That was our primary objective,” explains Reddy.

“Second was that we really wanted to be completely transparent in our process and managers and our strategy allocation portfolio construction. Every part of the portfolio process is not only transparent, but our clients can see that, if they wish, through our access systems.”

The third driver for Prisma was its institutional focus. “We were really going to be focused on the institutional client base. Today we manage $9.6 billion. We are about 90%-plus from institutional clients: pension funds, insurance companies, public plans and endowments, family offices.” These, Reddy admits, are “pretty sophisticated clients” and as such demand a high level of service.

Prisma’s core competency is building customised portfolios of hedge fund managers for institutional clients. It also offers commingled products in various strategies.

Historically, Prisma’s portfolios have demonstrated strong performance relative to the benchmarks it uses. For example, the Prisma Low Volatility Composite has continually outperformed the HFRI Hedge Fund of Funds Index and US Treasury bills since inception of the composite in June 2004.

Prisma believes that collectively, the experience of the founders – in both capital markets and institutional asset management – gives it an edge in accessing and evaluating hedge fund managers and providing alternative investment solutions for its clients.

The company’s portfolio managers are responsible for the due diligence and monitoring of underlying fund managers and are all sector specialists with relevant capital markets and asset management experience in the strategies they cover. The portfolio managers are responsible for screening and monitoring managers and report directly to the investment committee.

Risk management is run by two PhDs, each with 25 years of experience directly related to their roles at Prisma. In addition Prisma's operations group has substantial expertise in the areas of hedge fund operations, accounting and audit, trading, tax and compliance.

Not only has it an overwhelming client base of institutions, more than two-thirds of Prisma’s business is providing customised solutions. This, believes Reddy, makes Prisma “slightly different” compared with its peer group, which has only really begun focusing on this aspect of the funds business since 2008.

Even inside commingled vehicles, Prisma customises at the manager level. For example, if Prisma is particularly excited about a sub-set of a manager’s portfolio and wants it to look slightly different than the main fund, it creates a separate vehicle for that. This has been particularly useful in insurance, where Reddy says Prisma has created a customised structure where the composition of the alpha should be different than the main fund.

“There are really three things that we think we do differently on the portfolio side. First is a very reasonably active strategy allocation shift in our portfolio. With the help of Davies and Henry McVey from KKR, we look at the world with an 18-month window where we [search for] regulatory-driven dislocations, capital-fleeing dislocations, or any opportunity where there’s suddenly a paucity of capital. We try to move into those specific opportunities because we want to be the marginal provider of capital,” says Reddy.

“In order to effect those kind of strategy shifts, we really need to be with specialist managers. Because we find a particular opportunity set, we want to find the best of breed in that particular area. We want to find a particular set of managers that have their core competence in that particular sub-sector,” he adds.

Using specialist managers is an integral part of Prisma’s portfolio and manager selection as well as portfolio construction. “We do not have large multi-strategy type managers in our portfolio; they’re very much a specialist approach.”

Prisma also is unafraid of putting money into early stage managers. “We don’t seed them but if they pass the due diligences that we do – portfolio risk and operational due diligence – we’re comfortable to be an early stage investor in a manager. We feel the advantage is we get to know the risk-takers better, we have better fee terms that we negotiate and we negotiate capacity for our clients. Our clients benefit completely from lower fee negotiations – we don’t take any share of that revenue,” Reddy states.

Finding such managers is not difficult. All of Prisma’s portfolio managers have been in the business trading, managing assets or selecting managed hedge funds for at least 20 years. Together they create a strong network. Typically Prisma interviews 500 to 600 managers a year. “Most of the managers we invest in are early stage managers that we have known earlier at other hedge funds where we’ve been invested,” says Reddy.

Prisma sticks with its manager choices until there is a reason to redeem. “If you look at the turnover in our portfolio, the biggest driver of our turnover is our strategy allocation shifts. The second biggest is when we are concerned about a manager’s style drifts or if the assets and liabilities are starting to get mismatched by the manager becoming more and more concentrated in a fewer names because he’s growing faster and yet he’s offering reasonably liquid terms to the underlying client,” explains Reddy.

The risk-monitoring process that Prisma does is “focused on whether the manager is outside his sandbox, whether the leverage is going up, whether the concentration risks in the portfolios are getting mismatched relative to the terms that they are offering the clients. Those are really the reasons and in most cases, size is one of the reasons that these kinds of things develop in the portfolio but not always the case.”

The selection process and ideas are informed through a quarterly strategy review where Prisma “looks at the opportunities in front of us over the next 12 to 18 months”, says Reddy. Davies and McVey review the top-down and bottom-up views in the marketplace. The senior and risk teams also contribute to that discussion by reporting what they are hearing from the hedge fund managers in which they invest.

“It’s a very good combination of what we’re seeing on the ground versus what our research is suggesting. From that what we can conclude is what are the shifts that we want to effect from the portfolio over the next three to six months. Because we are not tactical, we don’t try to make these shifts in a month, given the business model we have. Hopefully our managers are effecting tactical shifts. What we want to do is effect more strategic shifts,” says Reddy.

This meant, for example, that in 2007 Prisma identified the short subprime and invested in managers that had a short subprime “because we felt there was a good arbitrage value based in these funds that we wanted to capture”. As a result Prisma had a very strong 2007. In 2009 and 2010, Prisma went the other way, long mortgage strategies.

“We were more excited about the interest-only space because we felt that was most dislocated. We went long those and went as high as 25% to 28% of our portfolio in those strategies. Then last year [2012], we really started to scale that back and start increase the more equity and event-type opportunities because we felt that in a corporate activity – whether it’s buy-backs, restructurings, M&A, dividends, active – all of these should provide a good tailwind for event managers and long/short managers. We moved our portfolios significantly into those two sectors away from some of the more relative value and structured credit that we had been in in 2009, 2010 and 2011.”

This is the theme Reddy says Prisma will take over the next 18 to 24 months.

Prisma does not use a systematic tail hedge investment, mainly because of costs.

[Pictured: Paul Roberts, Prisma Capital Management International]

However, it accomplishes this by building a diversified set of managers. Within each sector, Prisma will have 25-30 managers with several in each sub-sector and then, within the sub-sectors, a specialist focused on a well-defined opportunity set. This, says Reddy, allows for no overlap in positions at the portfolio level.

“We diversify our portfolio by strategies and managers but even within strategies, we are very careful to make sure that not all of them are doing the same thing. We feel that is a much more cost-efficient way to [tail hedge],” says Reddy.

“At times when or if portfolios end up being much more equity-oriented, we tend to use shorter managers to balance out the betas in our portfolio because historically we run significantly lower equity beta portfolios than most of our peer groups. The way we neutralise that is through some of our short managers or we do something more tactical, but it’s mostly through short managers.”

At present Prisma is invested in around 85 managers. A concentrated portfolio may invest in 10-15 managers but the norm is around 25-30.

Prisma’s own AUM has grown consistently over the last five years. “Over the last 12 months our assets are up 19% and half of that has come from performance, half from new client money. It’s been good balanced growth. If I look at our AUM over the last three years, those numbers would be very similar,” says Reddy.

With growth of around 18-20% over the past three years, Prisma is confident its model is what its investors want and one that will endure over the years to come.

Prisma Capital Partners was recognised as the best institutional FoHF provider at the European Fund of Hedge Funds Awards 2013.