The following is a transcript of a conversation of the podcast Dan Nikci on compliance and innovation in alternative investments between Dan Nikci of Applied Fund Solutions and GRIP’s Alexander Barzacanos.
[INTRO]
Alexander Barzacanos: Welcome to another episode of the Global Relay Intelligence and Practice Podcast. I’m Alexander Barzacanos, Deputy Content Manager for GRIP, recording today at Global Relay’s New York office.
If you’re tuning in for the first time, GRIP offers a wide range of articles, podcasts, and best practices pointers on regulatory and compliance topics. You can find us on LinkedIn and at grip.globalrelay.com. We look forward to seeing you there. Today as our guest, we have Dan Nikci, Founder and Managing Partner of Applied Fund Solutions, a company based in New York that provides outsourced CFO, shadow accounting and middle and back office functions for alternative investment funds. Dan, welcome to the podcast. It’s great to have you on.
Dan Nikci: Thank you. Great to be here. Very excited.
Alexander Barzacanos: Why don’t you introduce yourself? Tell us a little bit more about what you do at AFS.
Dan Nikci: I’m Dan Nikci, the founder and managing partner of Applied Fund Solutions. We are a tech-enabled service provider that serves the alternative investment community. We typically work with hedge funds, private equity funds, venture debt, so all of the alternative funds out there. Our premise is a little bit different than what you typically see, very much about tech-enabled services. We believe in having the people, process, and technology in order to be able to perform the right services. We believe that technology is an enabler, is an important part of the services that need to be provided.
Alexander Barzacanos: How did you come to be where you are today?
Dan Nikci: I started my career actually in public accounting, so CPA by background. As I learned more and more about different industries and got into financial services, really got more and more interested in the hedge fund space in particular. Kind of really exciting to be around entrepreneurs and those that are, they have great ideas, they put together great teams and going out there and making great investment decisions. That’s the type of entrepreneurial spirit that I’ve always admired and wanted to be closer to.
That’s essentially what also led me to Applied Fund Solutions as well. After being at a number of different hedge funds and seeing the different strategies and operating models, I found it really interesting and it felt like the idea of being a creator where you can take these different ideas and create something great for not only that represents our firm, but essentially everything we do is on behalf of our clients. That’s where the tech enabled services came in.
Essentially in the industry, if an emerging manager was to start up, if they were going to start getting some serious allocations, they would need, let’s say, an in-house CFO and a portfolio accounting system to make sure that they can manage the middle and back office. That’s essentially what we provide from an outsourced perspective. It’s the middle and back office. It’s CFO level work, very specialized where we’ve got people that are heavily reporting, reconciliations, all the work that’s involved in the middle and back office from top to bottom. We take very much a team approach. For us, it’s not being a jack of all trades, but it’s having a specialization where we can put people in place that can assist our clients because of the fact that our clients don’t have to go out there and necessarily build out a complete middle and back office if they’re not quite there yet. The reality is that many are not.
It’s not like you’re going to start off on day one and be able to have everything you need in place. This way, we enable these managers to be able to get out there and start their businesses, start their track records. As they scale, we can scale with them. They may bring in a CFO. They may bring in a COO, but we continue to be very relevant in providing shadow accounting services. We’re creating a duplicate set of books and records on behalf of our clients. Then that way, they can always come back to us and ask for, “What is our performance?” and ask us for different reporting. There’s a lot we can do in order to make sure that we can assist them in making their decisions.
Alexander Barzacanos: What’s it like working with alternative investments in particular?
Dan Nikci: It’s very exciting. You’re talking about people that come in with all different types of ideas. Just because of the sheer fact that we’re dealing with managers that take a different approach. Some in private investments, some in crypto. We’ve got managers that are focused on AI. They’ve had that tech arm, and then suddenly they’ve spun that out and saw that there’s a lot to be done there and focused on that. Then, of course, the hedge fund managers and credit managers who are just lots of different strategies there as well.
It’s keeping up with their different strategies and their needs. All managers have different needs. It’s not cookie cutter just as anything else out there. It’s really exciting to be able to formulate a good operating model for our managers and see how we can continue to be helpful as they scale and perform.
Alexander Barzacanos: Fascinating. So, would you have any recommendations for someone trying to get into the field that you’re in?
Dan Nikci: I think the right approach was, in a sense, I am happy with the course that I’ve taken in the sense that as an accountant, start off in public accounting, get that requisite experience, which is really, really important. There’s a lot you learn in public accounting that you won’t necessarily learn at other places. Then from there, work my way up, where working at a large firm such as Morgan Stanley, seeing how some of the larger organizations operate, and then get into the nitty gritty and get into the firms. The hedge funds themselves, and they’re all kinds of… They come in all different shapes and sizes, which is really exciting, and then just finding your own place.
Then from there, for me, it was, I wanted, I admire these entrepreneurs, I always have. This is what I’d love to be able to do, is be able to go out there and create. Obviously, there’s a lot of work that goes into it as a founder over the many years, but at the same time, it’s extremely gratifying and exciting. There’s a lot that goes with it.
Alexander Barzacanos: OK. I wanted to ask you about compliance. What are some common pitfalls that people fall into, and what would you recommend to avoid them?
Dan Nikci: That’s a great question. I think just as those that will outsource their middle and back office to a firm like ours, compliance is another critical area to have the right expertise in order to ensure that the investment managers are getting the right coverage. Just the same way as we’re able to assist our managers with expertise, with scalability, and also an economical platform.
You can find the same thing in particular with compliance consultants, legal counsel. It really is important that there are many of that believe that maybe if I’m not quite there, let’s just say as an example, I don’t need to register or I don’t need to get to that next level yet. So in that case, it doesn’t apply to me. And it’s just easy to just write N/A and, the more prudent thing to do is to think about what you’re going to look like once you are there, what are the expectations. And then starting with the end in mind really makes a difference. So the tone of the top changes when suddenly managers realize that somebody’s watching, this is the best way to do things. It matters to regulators. It matters to investors. And then this way, they get focused on what’s best.
But I will say that some areas that are common, it’s all of the usual suspects that we know of. So, if we think about it, anything from recordkeeping, disclosure, surveillance, data security, investing, all kinds of things that can happen. For us, we stay pretty close to our clients. And as a result, we see something, we say something. So we ensure that they’re aware of it. There are times it matters they’re just simply not aware of the fact they’re busy investing, they’re worried about what’s most important to them. So, we raise our hand, we raise a flag and let them know, hey, we’ve got to look at this differently. And that can come up just when fund documents are being prepared, where it’s reaching out to legal counsel and ensuring that legal counsel has a good understanding of what your strategy is going to be so you can adhere to the strategy.
I mean, there’s so many ways that the investment strategy can change over time. Are you advising your investors that suddenly it’s different, that it has changed? And that’s one of the drastic changes where somebody is, let’s say, investing in private equities and suddenly they go into fixed income or they go into credit or start making private investments or anything else. So they can really vary. And it’s really important to have that transparency with investors.
So I would say that that’s one area that they do want to be mindful of. And again, it starts from the very beginning. As an example, like I said, we do stay close to our clients. And as a result, we’re letting them know what they should be considering as they share with us what their strategy is going to be. Best execution is another one they just want to be mindful of. Allocation of trades is an important one as well. Are you properly disclosing that? It’s easy to say, well, the manager knows what his intention is when he’s allocating a trade and maybe it doesn’t belong in a particular account. Maybe a particular account is only best ideas. But it’s important that if you’re not doing something […] that managers should be mindful of recording that. So it’s really important to have that type of recordkeeping.
And that ties to recordkeeping as well. So is everything being captured? So luckily, the industry has matured enough. You do have good recordkeeping when it comes to the fund administrators and Applied Fund Solutions as a firm, one of the core services that we provide is shadow accounting. So, we are shadowing the administrator, ensure that the investment manager has a good sense of what the fund administrators doing. And we’re keeping those records and ensuring those records by our own calculation, independent calculations that they are accurate. It’s the kind of a thing that has been out there for quite a while. And all of a sudden, the SEC has gone after many firms more recently. And it’s low hanging fruit for them when it comes to … you think about phone and text and WhatsApp. And these are just all full areas where it can easily be taken for granted where somebody can think, well, nobody’s going to know. But they are catching on. It is important to record these things wherever possible.
And it’s not just the emerging managers, not just the hedge funds, let’s say. But I mean, you’re seeing the largest banks in the world that are being cited. So it is important for everybody to think about what is the tone at the top, what are the best practices and industry standard and to try to adhere to them. Some of the encrypted applications such as WhatsApp is really important too. If you’re using it to bring in recordkeeping rules. I would say as well, surveillance. We’ve got expert networks. Do you have a chaperone there to make sure that at all times you do have one? And there may be times where they pick and choose and feel that they, let’s say, the compliance officer is getting comfortable with it. That’s another one, you want to make sure that you set the stage for that. You’re properly managing that.
Another one in that area as well is if you are speaking to, let’s say, non-IR executives at the firm. If you are having a call with the CEO or CFO, are you recording that and making sure that you’re not getting some information that’s beyond what an IR person does, and then you can’t suddenly trade on that information. So there’s a lot there that needs to be considered. Data security is critical. We’ve seen so much, whether it’s SolarWinds or CrowdStrike there’s so many areas there. Data loss prevention. It’s being mindful of intrusion detection, intrusion protection systems.
At the end of the day, we want to make sure that best ideas don’t get out there. PII is critical. We don’t want that to get out there. Technology and cybersecurity is a critical part of that. It’s easy for somebody to say, well, that’s another part of the business, I’m not so interested in it, but we all have to be really mindful of what’s being sent over email, what’s being shared in other platforms, whether it’s WhatsApp, text, or anything else. It’s really important to just be mindful of these things. Not allow client data to get put at risk.
Enough happens at some of the largest firms. Never mind anything can happen with some of the providers that we deal with. If you think about disclosure expenses, again, I mentioned investment strategy, but expenses, I mean, there could be a number of expenses that are not being disclosed, and all of a sudden they start charging them. And the SEC comes in and sees that. Again, some things are just low hanging fruit. We want to be mindful of that and just prepare the fund docs and the compliance program in such a way that we’re capturing these things as opposed to, let’s say, it’s being discovered by the SEC. And some things are easier than others.
When I think about the ability of, let’s say, the recordkeeping when it comes to phone and text, then if they start finding out that, let’s say, you’re on WhatsApp and you’ve got all these messages, it makes me think of, in New York City, you’ve got these red-light cameras. They’ve become so common now. They come up so often where it’s like they can be at every other block or every block for a long stretch. And I kind of see it in the same way when it comes to the recordkeeping where it’s the low-hanging fruit, they can easily find these things out one way or another. So let’s get ahead of that. Let’s be proactive and bring it into the recordkeeping rules as well. Yeah, I’d say those are some of the main things, just being mindful of what’s out there, should I say.
Alexander Barzacanos: Of course, very interesting. The focus on recordkeeping finds that have been quite eye-watering has kind of been the compliance story of the last few years. I was at NSCP in October and there was obviously an incredible amount of discussion about the recordkeeping fines and whether they would continue under a new administration. Some of the compliance officers that I was speaking to had some interesting divergent opinions on that if we would continue to see these huge fines or if there would be some breaks placed on that as outgoing director of enforcement Gurbir Grewal said would be the case. Do you have any thoughts on that? Do you think we’re going to see more recordkeeping fines or do you think firms have kind of gotten the message on that?
Dan Nikci: These days you don’t have to catch somebody in the act. It’s a lot easier. I think that it’s a lot easier to use technology to find these infractions and then that way you can easily go after them. As with anything else, once you kind of open the kimono, then it’s easy for them to kind of find something else and it’s just not something you need. It’s important for managers or investment managers in particular to be prudent in what they’re doing. These are some of the largest banks out there and the fines are unbelievable. It’s just shocking how large these fines are. I see it as low hanging fruit. It’s an easy way for them to, if nothing else, bring in some additional revenue for the SEC and we don’t want to get in their crosshairs. Let’s be as prudent as we can in some of these easy areas.
Alexander Barzacanos: In an article that you contributed to in 2019, you highlighted the increasing importance of technology knowledge for COOs and sort of this idea that C-suite roles are no longer clearly circumscribed by the functions described in their titles. This trend seems to be picking up in some ways. I know you mentioned the SolarWinds case. In that case, we saw the SEC target a chief information security officer for the first time individually for failing to accurately describe his company’s cyber vulnerability, although those charges were eventually dismissed. The question is, from your position, how do you view this sort of increasing integration of technological know-how and other responsibilities?
Dan Nikci: It’s critical for the different executives to be on the same page. Is everybody in sync? Are they portraying the same message to investors? It could lead to something like this. It was quite shocking that they went after CISO, but at the end of day, eventually it was removed. If you think about the CCOs, I mean, the chief compliance officers have been at risk and that’s already been known. It’s the impression that this is spreading and that they’re going to go after who they feel is responsible for these infractions.
So yeah, it’s important for everybody to be on the same page. COOs, CFOs, it used to be that they wouldn’t necessarily need to know much about, let’s say, technology. But today’s day and age, I mean, technology is everywhere. Technology is a critical part of business processes. Technology is a real part of the business. Good example is Domino’s Pizza, actually. Most people look at Domino’s Pizza and what do they think? It’s a pizza maker, right? It’s like they make pizza and they sell pizza and that’s that. But it’s really a technology platform that sells pizza. And they present themselves in the same way.
We can see how a firm can start off as one thing, look at, let’s say, Applied Fund Solutions. We see ourselves as tech-enabled services as opposed to just simply a service provider. But let’s say somebody that starts off as strictly a service provider, as they start developing their platform as we have, they start to realize that, OK, it’s not good enough. It doesn’t fully disclose or describe the firm as just simply saying it’s a service provider. That technology aspect of it is a critical part of it. We look at it the same way where the CSIOs, the CCOs, CFOs, COOs, everybody has to be on the same page. They’ve got to understand that this is a critical part of the business and they’re all on the same page. We have to be able to talk about it. We have to be able to speak about it and understand what the risks are.
So, it’s easy, let’s say, from a compliance perspective to leave the responsibility with somebody else in another group that feel that, OK, this is something, it’s Greek to me. I’m not familiar with it. Let them handle it. They have to know enough that they can speak about it and get comfortable that we are in compliance. One of the more important things at the beginning is you start to understand an industry and then you drill down to start understanding the client in the same way here. It’s like you understand the industry, but you’ve got to get a little bit deeper and understand the technology here. So these different aspects of the business.
Alexander Barzacanos: I also wanted to ask you about the type of funds you work with and how they interface with regulation, that is to say, non-traditional investments. A lot of hype has been made about Trump’s enthusiasm for deregulation and investors have gotten very excited about that. We’re seeing Bitcoin shoot up to like $100,000. The economy in general is sort of getting hyper-charged by this anticipation. What do you see going forward next year in terms of these alternative investments? Do you potentially see any new risks coming with deregulation or do you think this is a net positive?
Dan Nikci: We’ve been in a period where let’s say the SEC approach has been not to contribute to these asset bubbles and they were slow to offer guidance and rulemaking. But at the same time, we did see that they were more than willing to be quick to penalize the violations that came up. Things are obviously changing. The fear has clearly been that the US could be falling behind other countries, can be the ones that are leading the world in areas such as blockchain technology and cryptocurrency.
We’re seeing the same thing in AI. There’s always another headline of who’s on first and who’s leading this area. I do believe that it is important for us to continue to push as much as possible and to be a leading force in that. Is there going to be more? I mean, if bitcoin’s at $100,000, you can expect that there’s going to be more people that lower, let’s say, their risk profiles and believe that it’s time to get in and start investing. They’re certainly going to hit investments that are not going to make it. That’s just with any company, never mind with an emerging technology. I do believe that it’s heading in the right direction. Regulation should remain as guardrails of innovation, but not to stifle it for innovation. It’s important for regulators to partner with industry and ensure that they can assist them in achieving their goals without setting it too far back.
Alexander Barzacanos: Dan, thank you so much for coming on the podcast. It’s great to have you.
Dan Nikci: Thanks again, Alexander. This has been a great opportunity to connect with you and to share my thoughts on compliance and what we’re seeing these days. These are exciting times. It’s easy to focus on what’s going to happen next and be overly concerned about it. But the exciting thing about what we see in investment managers is instead of crawling under a rock, it’s more about, let’s face up to this. Let’s get in front of this investment opportunity.
We just need to make sure that they’ve got the guardrails that are necessary in order to make sure that whether it’s for the benefit of our investors or for the benefit of the regulators, that the right guardrails are in place internally. And then that way we don’t seem like we’re a risk to our investors. So, thanks again. It’s been a really great opportunity to have this conversation with you.
