Bridgewater Associates, one of the largest hedge funds, will use Northern Trust to shadow the fund administration work it previously outsourced to BNY Mellon. By using two outside administrators, Bridgewater achieves full redundancy of records and a formalized way to compare valuations between administrators through quality controls and reconciliation. While increasing costs, investors approve because it provides top quality accounting, full independence, and complete backup of records. Northern Trust sees potential in its shadowing role to provide quality controls and unique reconciliation services to other funds.

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Major Hedge Fund Will Run Two Sets Of
Books
Bridgewater Associates, one of the largest hedge funds in the
world with $120 billion in assets, will soon use Northern Trust
to shadow the fund administration work it outsourced to BNY
Mellon in 2011.
For asset managers, outsourcing middle and back office work to
custodians is nothing new; it has been going on for years as the
big custodians like JPMorgan, Citi, BNY Mellon, Brown
Brothers Harriman and Northern Trust use their skills, plus
massive deployments of technology, in the high­volume, low­
margin business of fund administration.
The first big fund to outsource was PIMCO back around 2000,
said Pete Cherecwich, head of global fund services business unit
at Northern Trust. As in­house systems age, funds facing the
decision to invest in new technology have often decided to to
outsource instead. The big custodians can provide depth of
expertise, the latest technology, a large staff of technology
experts and career paths for technologists that they wouldn’t
find in a bank.
For hedge funds, using outside administrators is a relatively
recent development.
Historically a lot of hedge funds did their own fund
administration, said Cherecwich.
Spurred by the Madoff scandal, many institutional investors
began to insist on third party fund administration. Citadel, the
Chicago­based hedge fund, sold its sophisticated fund
management system, Omnium, to Northern Trust in 2011 and
became a client.
For hedge funds, an outside administrator doesn’t satisfy all
their concerns. With fairly complex portfolios, large hedge
funds were not entirely comfortable with a third party
Tom Groenfeldt Contributor
I write about finance and technology.
Opinions expressed by Forbes Contributors are their own.

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administrator, he added. Many reserve the right to set the value
on positions regardless of what the fund administrator says.
“They said that from a quality perspective, while it was nice to
have an independent administrator, they knew their own
portfolios really well so they wanted to make sure the valuations
were right. So they ended up shadowing the administrator,
keeping a set of records on the fund’s own systems and engaging
in discussions with the administrators before regular reports
were released.”
Bridgewater has taken the outsourcing concept to a whole new
level, he explained, by outsourcing their shadowing. By using
Northern Trust to shadow BNY Mellon, it can achieve a
formalized way to compare valuations. In addition, with two
outside custodians holding Bridgewater records, the fund
achieves full redundancy; if something happens to either
primary administrator, the fund can move over to the shadow
organization to produce its reports. Presumably that would also
make it easier for a fund to fire one administrator, knowing it
has a second to fall back on.
Although using two administrators increases Bridgewater’s
costs, investors strongly approve of the arrangement,
Cherecwich said, because they have top quality accounting, full
independence, and complete backup of Bridgewater records
from the middle office to the back.
Valuations can differ even in something as apparently
straightforward as an IBM stock transaction — a late trade could
the value slightly. But it’s in more complex instruments that
shadowing shows its greatest value. In pricing fixed income or
derivatives, different models and different assumptions can lead
to different valuations.
“Derivatives can have a big swing because of leverage. Quality
control doesn’t focus so much on calculation of the price but
ensuring the terms and conditions are the same. An individual
[OTC] contract has lots of places for errors.”
In the price­sensitive world of fund administration, the goal is
to automate as much as possible, including quality controls and
determining and reconciling differences in results between the
main fund administrator and the shadowing firm.
“One of the things we are building is the ability to re­calculate a
value,” said Cherecwich. “We don’t want to value a derivative
ourselves; we use reputable firms like Markit, Numerix or
SuperDerivatives.
Valuations can also be thrown off by input errors, such as
buying a U.S. stock on a Canadian exchange and pricing the
results in USD rather than Canadian dollars. If a mismatch
shows up in the results, the fund administrator and the shadow
should be able to find and correct the discrepancy.
Northern Trust has no figures on how many discrepancies may
occur; it won’t go live with Bridgewater until the beginning of
next year.

3. 5/11/2016 Major Hedge Fund Will Run Two Sets Of Books ­ Forbes
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Cherecwich sees great potential in the shadowing role. Using
reconciliation software from a commercial vendor, it is building
a comparison engine to run its quality control business.
“I am happy being the shadow. We are building the comparison
engine, so the quality control will happen on our side, and we
will have something unique in the industry. Bridgewater is on
the cutting edge — this is a brand new approach.”
It also promises to be an easier sell to funds than the usual
outsourcing task of replacing existing systems.
“Nobody likes conversions because they are really hard. With
shadowing, I can go to all the people who are doing their
administration in­house and I can save them money.”
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