Growth Segment: Minority Broker Dealers
Carl Weir, HSBC, provides a snapshot on the MFDV’s space, the market size, why it is interesting and the business possibilities in this market.
In the US, over the last few years, a small yet growing group of broker dealers has been stealing a march on the larger institutions for a share of the pension fund space. This group is known as Minority Female Disabled and Veteran (MFDV ) Broker Dealers.
It is important to remember for the purpose of this article that MFDVs are known by such names as Qualified Minority Broker Dealers, MBE Broker Dealers, WBE Broker Dealers, Emerging Managers, Emerging Brokers, Underserved Broker Dealers and Economic Transacted Investment (ETI) Broker Dealers – to name but a few. This space requires identification for a number of reasons:
a. The allocations of US state, municipal and corporate pension funds to this space are increasing year on year.
b. The allocations are federal, state and municipal government mandated.
c. Some MFDVs are getting allocations of funds to invest from multiple states and municipalities.
d. Based on 2010 figures from Thomson Reuters, MFDVs have been outperforming larger institutions in the areas of fixed income and global equities (e.g. in 2010 MFDVs participated in 25.8% of all municipal fixed income transactions in Illinois, by volume, compared with 13.3% in New York, and 14.2% in California).
e. Competitive investment performance is one of the primary factors driving demand for MFDVs among institutional investors.
f. Diversification is leading to the potential for reduced risk through portfolio diversification in their investment strategies.
g. Their focus is through specialization.
h. They offer reduced organizational risk, and
i. Reduced operational risk.
The simplest way of looking at this space, whether you are a buy-side or a sell-side institution, is to ask yourself: “Do I have a relationship, and am I obtaining order flow from a US pension fund?” If the answer is “Yes”, the assumption is that you are getting as much order flow as can be transacted with that pension fund. Then ask yourself: “Do I have a relationship, and am I obtaining order flow from a US or global investment manager of a US pension fund?”
If the answer is “Yes”, the assumption is that you are getting as much order flow as can be transacted with a US or global investment manager of a US pension fund. At this point you might see a light switch on above your head, as you ask yourself: “Hey, if the pension fund and the investment manager of the pension fund are both giving me order flow, then is the MFDV allocation of the fund not diluted between the two?” The answer is “No”.
Look at it this way… If a pension fund, for example Texas TRS (with Assets Under Management (AUM) as at 30 June 2010 of $92.3bn) dictated that 42.5% of assets are managed ‘externally’, but also states that investments through minority and women-owned businesses equals 5% of externally managed assets, then without access to MFDVs, your actual available order flow is only part of 37.5%, and so on.
Ideally, if you are an MFDV you should be looking for international organizations with global infrastructure you can leverage, that can take you to more than 100 exchange destinations across the globe. Preferably you would want an organization that has a global reach for both execution and custody, and has ‘bricks and mortar’ (people on the ground that know the local market) including those in emerging markets. Also, you probably want to engage an organization who will not compete with you in your US institutional business.
Why should you care?
Based on data compiled in 2010 from Texas TRS, Albourne Associates, Altius Associates, Credit Suisse, Ennis Knupp, Hamilton Lane and The Townsend Group, of the top 16 US state (10) and corporate (6) pension funds with $1.68 trillion AUM, the total Minority Broker Universe is currently 469 firms (compared to the MFDV Universe recorded in the landmark 2005 LACERS Consultiva report figure of 29), with a combined $AUM of 423.7bn.
The investable Universe by pension funds for MFDVs with >$1bn AUM is 82 firms, with total AUM of $347.1bn. Not taking into account the diversity, products and activity of a $347.1-$423.7bn market would be foolhardy to say the least. To break this down into further total and investable Universes with an example of real pension fund commitment (Illinois pension funds have been intentionally overlooked as they are historically used as a benchmark, Texas Teachers Retirement System [Texas TRS] has been chosen to illustrate the growth of the MFDVs space outside Illinois):
For long-oriented equity the number of firms is quoted as 155 with a combined AUM of $301.7bn with 46 > $1bn AUM, and those with AUM >$1bn equating to $281.1bn. TRS’s commitment is to two MFDVs for $1.2bn, where the $1.2bn was committed to two women-owned MFDVs.
For hedge funds the number of firms is quoted as 21 with a combined AUM of $21bn with 7 > $1bn AUM, and those with AUM > $1bn equating to $18.1bn. TRS’s commitment is to three MFDVs for $370m, where the $370m was committed to two Asian-owned MFDVs.
For real estate the number of firms is quoted as 62 with a combined AUM of $16.5bn with 7 > $1bn AUM, and those with AUM > $1bn equating to $12.6bn. TRS’s commitment is to four MFDVs for $400m, where the $400m was committed to four African American-owned MFDVs.
For private equity the number of firms is quoted as 231 with a combined AUM of $84.5bn with 22 > $1bn AUM, and those with AUM > $1bn equating to $39.4bn. TRS’s commitment is to eleven MFDVs for $121m, where the $74m was committed to six African American -owned MFDVs; $21m was committed to two Hispanic-owned MFDVs; $15m was committed to one women-owned MFDV; and $8m was committed to two Asian-owned MFDVs.