The results of the Cayman Monetary Authority (CIMA)’s Hedge Fund Corporate Governance Survey taken in January confirms an earlier observation by Gonzalo Jalles, CEO of Cayman Finance, that “the Cayman director class has not helped its cause as some (but by no means all) of its members resist exercising self-restraint, do not limit the number of directorships they take on (regardless of the business model they have implemented), and become rather defensive and secretive when asked about the number of directorships they hold.”
The survey appeared quite Cayman-centric, focusing less on investors (only 28 were surveyed) and more on fund managers, service providers and directors. On the topic of a public database the survey found that directors were split evenly on the idea and, were such a database to be made public, directors gave virtually no support to allowing access by the general public nor to the creation of a search capability beyond what was already available on offering memoranda, i.e. search of directorships by fund but not a search of directorships held by individual.
The directors’ reactions in the survey are strange given the reality of the information they themselves have signed off on and which is publicly available for all to see on the internet: Thanks to Dodd-Frank, more than 4,000 SEC-registered investment advisors managing $8 trillion now regularly provide on Form ADV details of each of the 24,000 funds (including 13,000 hedge funds) that they manage and offer to U.S. investors. These Form ADVs list details on the investment manager, fund administrator, auditor, custodian, prime brokers, legal counsel and of course both executive and independent directors.
Funds filing these forms include thousands of Cayman domiciled funds – and Cayman resident directors are the ones signing off on most of these filings since these funds are offered to U.S. institutional tax-exempt investors such as pension funds, endowments, foundations and municipalities.
Of these 4,000 advisors, 300 are based outside the U.S. with 144 of them resident in the U.K. Additionally, another 2,300 exempt advisors − those with less than $150 million assets under management − file Form ADVs for their 7,300 funds.
Data already online
Access to all of this data is free and open to the general public through the SEC website. Increasingly more and more details are leaking into Google so even simple searches of a fund director’s name can yield links to SEC documents, court cases and the like. With online databases available in such domiciles as Ireland, Luxembourg, Switzerland and Hong Kong, transparency has going global at a rapid pace. In the post-Snowden era of big data we’ve all learned that there is no place to hide as plenty of tools exist for anyone to data mine information online.
Drawing from online government, regulatory and semi-regulatory filings, the Foundation for Fund Governance has compiled in an easy-to-access format information on the 2,100 individuals worldwide who hold or have held 15,000 (12,000 current and 3,000 past) hedge fund directorships. These independent directors sit on 5,000 hedge fund boards overseeing $3.3 trillion of balance sheet assets managed by 1,570 investment advisors. What do the numbers tell about Cayman?
Unitary vs. jumbo board directors
Despite Cayman’s dominant position as the domicile of choice for the hedge fund industry, most are taken aback to see that about half the world’s independent directorships are held by just over 230 Cayman-based individuals – that is to say less than 10 percent of worldwide directors accounting for the oversight of 3,200 funds with trillions of dollars managed by over 1,000 different investment advisors.
When presented in the above light, it makes for good fodder for ill-informed journalists. What is not often understood is the distinction between being retained by funds and retained by advisors. In the U.S. mutual fund industry, it is not unusual to see an independent director sitting on 50-75 different fund boards that are part of a fund complex such as one advised by a Fidelity or Schwab.
Known as a unitary board structure of governance, this type of independent director usually sits on multiple fund boards within the same category (e.g. across all stock funds or all bond funds of the mutual fund family). As the fund complex’s underlying infrastructure, i.e. the auditors, custodians, accountants, administrators, risk analysts etc. are the same people across all the funds in the complex, the logic is that the independent director is not only able to oversee the larger number of funds but is in a better position to ask better questions because of his/her ability to compare and contrast across a range of funds.
Given the workload required, it is rare to see an independent director having a relationship with more than one or two with a fund complexes. Of course the high level of compensation affords these directors the luxury of dedicating their time to just one or two relationships.
While being retained by a hedge fund manager is not directly comparable to being retained by a mutual fund complex, many of the larger hedge fund managers operate similarly to mutual funds with a “unitary board approach.” Data from the Foundation for Fund Governance suggests that while the average Cayman director holds 25 directorship positions, these positions are for funds advised by 9 investment advisors. Of the 230+ Cayman resident directors, only 15 percent have more than 25 “relationships” (i.e. are retained by more than 25 investment advisors to sit on their funds’ boards).
Almost half of Cayman resident directors have less than 10 “relationships.” Skewing the averages are less than a dozen “jumbo directors” who individually are retained by over 100 investment advisors and hold a couple to several hundred directorship positions. Perhaps the Financial Times should use the phrase “unitary board director” instead of “jumbo board director” to describe most of the Cayman’s directors.
The rise of split boards
The data suggest a number of factors may be responsible for reducing the dominance of “jumbo-style” directors in Cayman: (1) the establishment over the past two years of a couple of dozen new fiduciary firms whose stated business objectives include limiting the number of their appointments; (2) increased use of split boards to spread appointments across more firms and (3) greater encouragement by investors to managers to appoint directors who have more time to devote to fund governance. While it’s too early to say whether the boutique model will gain enough traction to remain economically viable, their founders bring a depth of experience that easily justifies their premium fees. Many have well developed relationships with managers as a result of previous interaction as the manager’s former auditor, administrator or legal counsel.
More recent ADV filings are also showing a tendency towards more split boards. Considered by some to be “best practice,” one can detect patterns indicating alliances between certain fiduciary firms (see chart). While an obvious way for smaller fiduciaries to align themselves with larger firms to benefit from their IT and support infrastructure, some of the larger firms appear to be creating networks to unload and improve their appointments per director ratio. With the exception of two “jumbo director” firms, data from the past 12 months suggests more and more Cayman fiduciaries are considering this path.
Numerous observations – some worthwhile and some still inconclusive − can be gleaned from data already available. If additional data is made available from CIMA, it will need to be seen in its own light, especially as it will include data from the thousands of funds that are too small to be SEC-registered and, importantly, not particularly of interest to the institutional investor.
However the focus on fund governance will hopefully go beyond Cayman and other domiciles to where the real battles should be: with the fund managers and investors. As a group many of the former still cling to a “my fund” attitude and are slow to recognize the need to infuse a “your fund” culture into their organization.
The degree to which some fund managers − including surprisingly some of the biggest – still pay “lip service” to fund governance is disappointing. Investors are also to blame. In their race to “invest with the best,” many an institutional investor in 2008 discovered the real cost of overlooking their manager’s blatant disregard for fund governance. Many still continue today to remain ignorant of poor practices all the while investing substantial pension monies which should demand a higher level of fiduciary due diligence.
As unpleasant as the sunlight of transparency has sometimes been on Cayman, the signs are clear that the “market forces” are working without new regulation: discussions, debates and surveys abound, new firms are opening, judges and courts are ruling, competition on and off island is heating up, new models are being tried and tested, some are faltering and complaining and others are succeeding and energized. This is capitalism at its best.