Oct 20, 2021

Some think outsourcing is all about cutting costs or labor arbitrage, but it’s not always a cost play.

In fact, in Cutter’s prior research on this topic, member firms more commonly cited scale and expertise as the main factors in deciding to outsource, and outsourcing could be useful for firms looking to explore new markets, investment strategies, or asset classes like alternatives.

With allocations to alternatives increasing, many firms lack the infrastructure or staff to support the complexity of these asset types ─ at least perhaps not at the scale that’s needed to meet their investment objectives.

The alternatives market is vast, ranging from the more traditional private equity and real estate to debt, infrastructure, and even entertainment and music royalty rights. And it continues to expand. But the more traditional private markets are getting crowded, and some firms may look to new areas of investment or even more esoteric assets to find value. By finding a partner already prepared for a variety of asset types, outsourcing can help accelerate your firm’s time to market as new investment opportunities arise.

If we are to believe, as some have predicted, that only smaller specialist managers will be able to compete with the industry giants by 2030, managers will need to find a way to separate themselves from the competition. And unlike the larger firms, they’ll need to find a way to do so without the same resources at their disposal. At the same time, asset owners will continue to increase their allocations to alternatives in order to meet capital requirements and future liabilities in a low-yield environment, and increasing numbers of investment boards will look for a larger piece of the pie through co-investment and direct investment.

Both asset managers and asset owners will require the right tools and expertise to support these investments. But the market is immature and ever-changing, so private investments may require multiple solutions by asset type. Also, finding the right expertise for operational support functions may prove even more difficult for firms located outside of large financial centers.

It’s no surprise that these trends are fueling new partnerships and acquisitions among both software and service providers. BlackRock acquired eFront, State Street purchased Mercatus, a private market solution that will help to augment Charles River, and MSCI acquired a minority stake in Burgiss, which just merged with Caissa, a multi-asset platform built for asset allocators. And a number of service providers also use Burgiss to support their alternative investment service offering, as well as other third-party platforms like Wall Street Office (IHS Markit) for bank loans.

BNY Mellon, Northern Trust, State Street, and others are now also looking ahead, expanding their offerings to support investments in cryptocurrency and tokenized assets, while integrating with third-party fintech start-ups that offer complementary functionality where they do not already have those capabilities in place.

This is only the beginning ─ with both software and service providers realizing they cannot win this arms race on their own. They, too, will need to find the right partners, and alliances and interoperability are the wave of the future.

So, when we think about outsourcing, it reminds us of that line in the 1987 fairy tale movie Princess Bride after Vizzini cries “Inconceivable!” The character Inigo Montoya then responds with, “You keep using that word. I do not think it means what you think it means.

Outsourcing is not about just cutting costs ─ it’s about finding the right partner that can offer your firm the scale and expertise that is needed. For some investment managers, that will put them on the path to agility and growth.

This post is part of a Cutter series on the benefits of outsourcing. Read part one, Outsourcing: Where to Now?

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