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Why Hedge Funds Should Boost Their Prime Broker RoA
April 3, 2025
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Written by Usman Cheema
In today's dynamic and often volatile markets, hedge funds are constantly seeking ways to optimise their operations, enhance their stability, and secure advantageous financing terms. While much focus is placed on investment strategies and alpha generation, a critical yet sometimes overlooked aspect is the relationship with their prime brokers (PBs). A key metric that banks are using to evaluate the attractiveness of their hedge fund clients is Return on Assets (RoA). It’s often as important as revenue. For hedge funds, understanding and actively working to boost their RoA for their prime brokers can unlock a wealth of benefits, ultimately contributing to their long-term success.
Prime Broker RoA is a key measure that banks now use to assess client profitability, directly impacting how they view your fund. In a more stringent regulatory environment, banks are under pressure to optimise their balance sheets and ensure that their client relationships are generating adequate returns. A higher RoA signals to the bank that your fund is an efficient user of their resources, making your business more attractive and less likely to face unfavourable adjustments in service or pricing. Essentially, a healthy RoA for your PB makes your fund a more desirable client, leading to a more positive and collaborative relationship. Additionally, RoA is generally easier for a fund to manage then their revenue footprint.
Cultivating a strong Prime Broker RoA gives hedge funds more stability in their financing. When a prime broker views a fund as a profitable and efficient client, they are more likely to stand by that fund during periods of market stress or when the fund's strategies might face temporary headwinds. This stability in financing lines and access to leverage can be crucial for navigating challenging market conditions and executing long-term investment theses without the constant worry of financing being pulled or significantly reduced.
Beyond just financing, a strong RoA positions the hedge fund as a more strategic partner for the prime broker, unlocking valuable services like capital introduction and consulting. Prime brokers have extensive networks of potential investors and industry experts. Funds that are highly valued by the bank, as evidenced by a strong RoA, are more likely to be proactively introduced to relevant capital sources. Additionally, PBsoften offer consulting services on operational efficiency, technology solutions, and regulatory navigation, and these resources are more readily available to their key clients.
Furthermore, a higher Prime Broker RoA can translate into cheaper financing and a lower position in the pecking order of upward repricing. Banks are more inclined to offer competitive financing rates and terms to their most profitable clients. Funds that demonstrate efficient balance sheet utilisation and generate strong RoA for their PBs are seen as lower-risk and more valuable, making them less susceptible to financing cost increases during market shifts or when the bank needs to re-evaluate its risk premiums. This can significantly impact a fund's bottom line over time.
Moreover, a fund that consistently delivers a healthy RoA can cultivate "cheerleaders" within the bank. The individuals and teams within the prime brokerage who work with your fund will have a vested interest in your continued success. In the simplest terms if your AUM grows the bank will directly benefit through higher revenues. This internal advocacy can be invaluable when navigating complex issues, seeking approvals for specific trading activities, or requiring bespoke solutions. Having the bank's internal teams actively supporting your needs can significantly streamline operations and problem-solving.
This positive relationship can even extend to access to the bank's management. When a hedge fund is a significant and profitable client, senior figures within the prime brokerage are more likely to engage directly with the fund's leadership. This access can provide valuable insights into the bank's strategic direction, potential new offerings, and a direct line of communication for addressing critical matters. Not to mention, potential access to management own contact networks.
Finally, a strong Prime Broker RoA can enhance a hedge fund's ability to finance difficult or directional strategies. Some investment strategies, particularly those that are less liquid, require specialised financing arrangements, or involve higher perceived risk, can be challenging to secure funding for. However, a fund with a strong track record of profitability for their prime broker is more likely to gain the bank's confidence and secure financing for such strategies, opening up a wider range of investment opportunities
In conclusion, while generating alpha remains paramount, hedge funds should not underestimate the significant advantages of actively managingand boosting their Prime Broker RoA. It's a key metric that directly influences how banks perceive their clients, leading to greater financing stability, potentially cheaper funding, access to strategic resources, internal advocacy, engagement with senior management, and the ability to finance a broader range of investment strategies. By focusing on beinga profitable and efficient client for their prime brokers, hedge funds can build stronger, more resilient partnerships that contribute directly to their long-term success in the competitive landscape