Acquisition raises uncertainty over the future of mini primes

Jan 17, 2011 by Charles Gubert

Cantor Fitzgerald is expected to acquire PCS Dunbar Securities’ prime brokerage division raising further doubts about the viability of mini primes.

The deal is reportedly set to be finalised on January 30.

Mini primes burst onto the scene in the aftermath of the financial crisis as hedge funds tried to diversify their counterparty risk in the wake of Lehman Brothers’ collapse. They also benefited as bulge bracket prime brokers offloaded some of their smaller hedge fund clients as they wanted to eliminate risk from their balance sheets.

However, the mini prime market has become overpopulated recently and is facing renewed pressure from investment banks and mid-primes such as Merlin Securities and Jefferies Prime Brokerage who are taking away some of their hedge fund clients.

Some of the major investment banks have also stopped offering clearing and custody services to mini primes as they do not want exposure to the additional risk burden associated with these small outfits.

Institutional investors too have been vocal in demanding hedge funds use brand name prime brokers. Paul Smith, chief executive officer at the Hong Kong-based Triple A Partners, a third party marketing firm for hedge funds, said investors want prime brokers who they know and can trust. He added a mini prime might even be offering superior client services than a bulge bracket firm – but that is not enough to placate many sophisticated investors.

The last year or so has been marked by a series of mini prime mergers and closures. Earlier this month, it was reported that FBR Capital Markets was to shut down its prime brokerage business having only established it in March 2009. Lighthouse Financial Group and its prime brokerage outfit filed for bankruptcy protection with debts of $14.6 million at the tail end of last year.

In April 2010, ConvergEx purchased NorthPoint Trading while last November it was announced the US derivatives brokerage firm I.A Englander &Co; was in acquisition talks with Alaris.

“What all prime brokerage entrants of 2009 and 2010 have realised is that this business takes more time, talent, resources and capital than anticipated. Hedge funds and their investors demand much more than a 'me too commoditised offering' and the bar to offer prime brokerage services is only going higher from here," said Ron Suber, head of global sales and marketing and senior partner at Merlin Securities.

Suber added many of these mini primes charged excessively low fees. Given that their clients do not trade significant volumes, it is hard to see how these firms can make money in this tough economic environment.

However, some have jumped to the defence of mini primes saying they offer smaller hedge funds a superior client service to what they would get from bulge bracket investment banks.

“Now that the crisis is over many of these major prime brokers may be looking for smaller hedge fund clients but a $20 million fund won’t garner that much attention from them,” said Mark Howells, chairman and president of the Phoenix, Arizona-based mini prime M.S Howells & Co.

He added that mini primes offer a personalised service and are far more willing to help smaller hedge funds with their various needs.


Prime Brokerage

2 Comment(s)

Posted on Jan 23, 2011 by jd

Interesting piece - i too agree that there is going to be further consolidation in the mini prime arena. However, those that offer really customised services will still remain.

Posted on Jan 24, 2011 by Mark

I'm not sure if the mini prime model is viable. This acquisition is just latest and i think there will be more to come. But i do agree that client services is something that these guys should focus on - i think that is their main advantage.

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