By: Bryan Gibbs, Senior Vice President, Manager of Transition Management at CAPIS
Each asset class adds its own complexity to a transition event. From illiquid small caps and overseas settlement timelines to NAV-traded mutual funds and opaque bond pricing, the nature of the assets being bought and sold plays a major role in shaping the risks, logistics, and timing of a transition. Understanding those nuances is key – not just for executing trades efficiently, but for preserving performance and avoiding costly surprises.
Of course, some events are more straightforward than others – and the same is true of asset classes. Each one comes with its own personality. In previous installments in this series, we’ve explored several of the factors that go into a successful transition, such as timing and benchmark selection. A transition manager can help ensure that every process – from the initial conference call to the exit analysis – is undertaken with care and awareness of all relevant risks, no matter the asset class.
In this piece, we explore how different asset classes can affect the transition process and what transition managers can do to keep everything on track.
Domestic Equity: The Straightforward Starting Point
Complexity: Low
Transitions involving only U.S. equities are often the easiest to trade – provided the positions are liquid.
Key nuances:
- Small caps – Small caps typically introduce the potential for illiquid items that can prolong the trading timeline. If the time needed to execute extends past the client’s goals, there are still avenues. On the legacy side, the outgoing manager might be asked to trim illiquid positions leading into the transition. With target positions, the transition manager can allocate cash in place of hard-to-buy securities or use an ETF or similar proxy as a temporary stand-in.
- ETFs and ADRs – These instruments may appear illiquid, but their true liquidity depends on the underlying securities or local market, which a transition manager must account for when trading.
- Performance reporting – Data can easily be accessed to provide transparent assessment of the event. Therefore, the main focus should be on what benchmark to use. Benchmarks should be discussed ahead of time and understood by all parties.
International Equity: Where Things Get Complicated Fast
Complexity: Moderate to High
Trading outside the U.S. introduces another world of items to account for – literally. Liquidity varies widely, foreign exchange risk becomes a factor, and every market has its own rules and timelines.
Key nuances:
- Trading hours – The Earth rotates – therefore, international markets are open at different times. Some overlap and some do not. This must be considered when attempting to minimize risk. Beyond shifting the timing intraday, a transition manager can use futures or ETFs to maintain the proper exposure.
- Developed markets vs. emerging markets – Settlement processes vary widely across regions, with emerging markets often posing higher costs, more operational hurdles, and greater risk of failure when transferring or settling positions. Transition managers must account for this heightened risk.
- Settlement cycles – Beyond normal corporate actions like stock splits and dividends, as well as holidays that can cause operational headaches, a global transition may require the manager to account for a range of different settlement lengths. If you are buying a US stock that settles T+1 but have international sells settling T+2, you have a problem: you won’t have the cash in hand to cover the buys. This often necessitates short settlement or extended settlement.
- FX – Buying and selling global securities generates currency exposures that must be actively managed. Most transition managers handle the necessary foreign exchange to ensure timely settlement in the correct denominations – leaving it to the custodian can lead to higher costs and greater risk.
Fixed Income: The Opaque Landscape
Complexity: Low to High
Fixed income transitions are a different beast entirely. While Treasuries are easy to trade, most bonds do not have great depth of electronic information. Pricing is evaluated, not posted. Liquidity can dry up fast, especially in mortgages or municipals.
Key nuances:
- Transition size – Some transitions involve assets that were bought in bulk across multiple accounts by an investment advisor and then allocated in smaller pieces. This approach can lead to better pricing but often causes issues during liquidation. Smaller positions can decrease interest and affect pricing.
- Business model – Many trading desks operate on a principal dealer basis, meaning they take inventory and price accordingly. No single dealer will offer the best pricing across all securities, so it’s important to know whether the transition manager is leveraging multiple counterparties to maximize price discovery.
- Mortgage factors – Bonds backed by mortgages or with sinking fund provisions require careful handling, as their cash flows and principal values can change unpredictably. These structural features can affect pricing, liquidity, and the timing of trades during a transition.
- Post-trade benchmark limitations – Since pricing is not adequately available on many bonds, many managers use a third-party pricing matrix to determine end-of-day pricing. To ensure accuracy, it’s important to base the pre-trade analysis on the same pricing model that will be used for post-trade evaluation.
- Disclosures – An agency broker will show a separate line item for commission. A dealer will have markups or markdowns embedded in the price.
Mutual Funds and Commingled Vehicles: Timing Is Everything
Complexity: Moderate
These fund structures operate on NAV pricing and usually come with trade cutoffs, notice periods, and fund-specific rules. You won’t have transparency into underlying holdings –and execution flexibility is limited. Keeping market exposure is the main consideration.
Key nuances:
- Feasibility – Are these funds traded through the custodian or directly with the fund company, requiring wires to and from the custody account?
- Cash on hand – Some custodians do not allow the purchase of mutual funds until the cash is in the account. There are usually ways to address any issues, but it requires all parties to discuss and determine what can be done.
- Intraday timing – Even if mutual fund purchases and legacy stock sales can occur on the same day, aligning them is tricky. Mutual funds have early trade cutoffs – often hours before the NAV is set – so the transition manager must carefully plan timing and build in buffers to account for market movement.
- Entry limitations – Some funds have minimum dollar amounts, while others only trade on certain days of the month as opposed to each day the stock market is open.
A brief note on derivatives: these asset classes can be powerful tools, but when it comes to transition events, they are often operational landmines. While some derivatives can be useful to hedge with during a transition, most items (swaps, options, futures) should be closed out before the event.
Wrapping It Up: Why Asset Class Nuance Drives Transition Success
Transitions aren’t just about trading. They’re about timing, coordination, and avoiding costly missteps. Each asset class brings different levels of friction – some in execution, others deep in the back office.
At CAPIS, we work with institutional clients to manage the entire lifecycle of a transition –from pre-trade analysis and strategy to execution and post-trade reporting. And we don’t just focus on price – we focus on process, because that’s where real value protection happens. To learn more, contact us.