Consultants free of conflicts becoming a bit harder to find

Alternative investment consultants that are free of conflicts are an increasingly rare breed, continuing to be picked off by consolidation, initial public offerings and the addition of money management services.

Rising competition, client demands and downward pressure on consulting fees have altered the alternative investment consulting universe. Consultants are now offering commingled funds as well as boosting discretionary management. And the larger consulting firms are getting larger by acquisition. IPOs could present problems as well if the market values a publicly held consulting firm based on its fees coming from assets under management rather than consulting fees.

Just this year, Stepstone Group, which started out as a private equity consulting firm and now manages $66 billion in assets, went public. Aksia LLC is buying real estate consulting firm Alignium LLC with the ink barely dry on its acquisition of private equity consultant TorreyCove Capital Partners LLC. And Aon PLC is merging with Willis Towers Watson PLC. Among Aon's list of businesses is the iconic real estate consultant Townsend Group, which in the last several years started managing commingled funds and offering other discretionary money management. StepStone, Aon and Townsend executives declined comment.

While some asset owners are taking steps to understand potential conflicts among their consultants, industry experts said, it's not a easy thing to do.

"I believe that conflicts of interest are a real problem in the investment industry," said Keith Ambachtsheer, Toronto-based president of KPA Advisory Services Ltd. "They are spawned by asymmetric information between buyers and sellers of investment consulting services, with the sellers knowing more about what they are selling than the buyers know what they are buying."

Consultants have a fiduciary duty to provide "unbiased, unconflicted advice," he said.

"This becomes impossible if they stand to gain from their recommendations," Mr. Ambachtsheer said. "Any client that hires a conflicted consultant is probably not aware that the advice they are getting is tainted advice. ... Thus, they pay too much for advice of little value," he said.

Jon Pliner, New York-based senior director, investments, U.S. head of delegated portfolio management at Willis Towers Watson, declined to comment on how potential conflicts will be managed once the merger with Aon is complete. However, he said that for Willis Towers Watson, it is business as usual and the firm takes steps to minimize potential conflicts of interest whenever they might arise.

Willis Towers Watson offers general investment consulting and alternative consulting and some investment management. To guard against conflicts, Willis Towers Watson has policies and procedures to ensure that its advice is not biased. For example, when Willis Towers Watson is helping a client search for an alternative investment manager, WTW would not include its own investment solution as part of that search process, Mr. Pliner said.

There is a growing list of potential conflicts of interests that asset owners and consultants need to manage, said James Vos, New York-based CEO of Aksia. Sources of potential conflicts include:

• Consultants that sponsor commingled funds and market them to clients.
• Consultants that have different teams for investment management and consulting.
• The best investments going to investment management portfolios rather than consulting clients.

Aksia has three services: research, consulting and bespoke discretionary investment management, Mr. Vos said.

To avoid a potential conflict of interest in its discretionary investment management offering, the investment professionals involved are the same regardless of whether a client chooses a non-discretionary or discretionary relationship with Aksia, he said. When consultants have different teams, there is a possibility that the best people and those who are most aggressive in getting commitments to sought-after funds are working on the side of the business where the consultant stands to make the most money, he said.

Potential conflicts have become a growing issue with asset owners, said Daniel Strachman, Coral Springs, Fla.-based co-founder and managing director of the Investment Management Due Diligence Association, which provides due diligence education for institutional investors.

Since the pandemic, the association has seen a significant uptick in requests for both online training and custom training, he said.

"They (asset owners) are charged with a fiduciary duty to pensioners and so they really want to be on top of it (conflicts of interest), but at the same time they are stressed to do the work," he said."There's a push-pull going on."

Asset owners are taking steps to avoid conflicts in a world where the number of consultant choices is getting smaller.

"The consultant industry is a treadmill of consolidation and potential conflicts," said Rachel Wray, spokeswoman for the Oregon Investment Council, Tigard, which runs the $77.7 billion Oregon Public Employees Retirement Fund.

Earlier in November, the council hired Meketa Investment Group as its new general investment consultant and Aksia as its diversifying strategies consultant. The council has a 5% allocation to diversifying strategies as part of its $8.1 billion alternative investments portfolio. Aksia is also the consultant for Oregon's $1.7 billion opportunity portfolio.

"We obviously try to get as much information as we can when conducting independent due diligence research and making decisions," Ms. Wray said.

What's more, consultant contracts are on a fixed-fee, non-discretionary basis, which council officials believe minimizes conflicts of interest, she said.

In a recent RFP for a real estate consultant by the Los Angeles Water & Power Employees' Retirement Plan, the document had multiple disclosure requirements aiming to reveal potential conflicts of interest. The RFP not only asks about potential conflicts of interest, but it also asks for disclosure of internal conflict of interest policies as a contract requirement, which needs to be reaffirmed by the consultant each year.

The RFP also asks whether the consultant's real estate consulting services unit is separate and distinct from the rest of the organization, and if not, how the firm addresses potential conflicts of interest.

If an alternative investment consultant is owned by a money manager, there's the potential that the consultant could recommend its parent company's investment strategies, the Investment Management Due Diligence Association's Mr. Strachman said.

There also could be fees paid to the consultant for allocation to certain investment products, he said.

"The most important thing in the world is that asset allocators have full disclosure on any and all relationships that may result in conflicts of interest," Mr. Strachman said. "This is something people are paying attention to much more than they did a few years ago."

Some asset owners are considering bringing due diligence efforts in-house because they are concerned with the quality of information plan officials are getting from their consultants, Mr. Strachman said.

Even those asset owners that are resource constrained and cannot bring due diligence in-house want their staff to be knowledgeable so they can "check the work" of their investment consultants and be better able to identify possible conflicts, he said.

"Institutional investors have a fiduciary duty to ensure the advice they are buying is untainted," KPA's Mr. Ambachtsheer said. "I am sure they can still find it if they look hard enough."