Marc Mallett contends that when it comes to asset servicing, the industry has largely focused on reducing cost and complexity for users. Where asset servicers have faltered, though, is alpha generation.

“Historically—whether it’s Northern Trust or other asset servicers—we’ve focused on solving the first problem, which is helping clients drive cost and efficiency. But we haven’t really focused on investment alpha. We’ve talked a lot about operational alpha. We don’t believe anyone has really solved the alpha challenge at scale, and that’s worth focusing on,” says Mallet. 

To address the alpha-generation needs of asset managers, asset owners, investors, and third-party administrators, the Chicago-based financial services giant formed its Whole Office unit, which is headed by Mallett. The team provides trading solutions, data, analytics tools, and operations services.

Whole Office was established in 2020 after a partnership with BlackRock’s Aladdin team. That was followed by a similar pairing with IHS Markit’s ThinkFolio unit. But at the same time, Northern Trust is now looking to make strategic investments in, and partnerships with, fintech companies to help accelerate its strategy of providing tools to customers that are more targeted at the front office, rather than simply improving operational efficiency and reducing cost in the middle and back offices.

In February, the firm invested in EDS, a cloud-based analytics platform that provides decision-support tools to asset managers for idea generation, portfolio construction, and risk management. A month later, it signed an agreement with Venn, Two Sigma’s investment and portfolio analytics platform. The pairing will allow Northern Trust to provide asset allocators with portfolio insights aimed at asset allocation, manager selection and quantitatively-driven investment decisions. And then in September, Northern Trust announced an investment in Essentia Analytics, which provides behavioral analytics to improve trader performance.

“We identified a number of components or functional areas that we thought we could support, that were under-supported in the market,” Mallet says. “That’s where we looked at things like the true investment decision-making process—idea generation, research management, portfolio construction—and then we looked at what we thought was an emerging area, which was behavioral analytics.”

Look into the past

Essentia Analytics was founded in 2010 by Clare Flynn Levy with the aim of improving the performance of portfolio managers by analyzing past performance and their trading behaviors. The vendor captures data through nudges focused on trade context, sent in response to a trade; decision points, sent when a pattern resurfaces in a portfolio; and journaling, sent at time intervals that prod fund managers for information throughout the day. The captured data is collected and put into a dataset that can be analyzed later. 

Mallet says one of the key features of the Essentia partnership is that it allows Northern Trust to integrate client data with Essentia’s platform, eliminating the time, effort, and cost usually involved in adopting Essentia’s platform. 

“The platform and the solution require a significant amount of historical data in order to produce accurate analytics. For many of our clients, we have that data,” he says. 

Northern Trust has worked with Essentia to integrate their platforms and streamline the abilities to add value and create analytics and provide that information to Northern Trust’s clients.

“When we think about doing this at scale, rather than having Essentia as a service provider going to each one of the asset managers and sourcing that data, Northern Trust can now act as an aggregator on behalf of our clients, and give them ready access to the analytics, without a significant lift on either the client side or Essentia’s,” he says. 

Mallet says clients need to recognize that this partnership with Essentia provides an opportunity to learn more about their investment own processes and identify and engage with patterns. Coupled with the coaching that Essentia can provide, clients can uncover unconscious biases in their decisions and, ultimately, improve. 

“We’re saying to our clients, ‘You have an opportunity to engage with this analysis and information, and you may learn something about what you’re doing today.’ We’re asking our clients to be open-minded about engaging in this type of activity. Our goal—and we believe that we can meet this—is to make the technical process of integration and onboarding as seamless as possible for our clients,” he says.

Northern Trust has completed the integration of some of its systems with Essentia. Mallett declined to reveal which systems have already been integrated, but says he envisions that it will eventually integrate with all of Northern Trust’s relevant systems. 

“The scope of this is focused in two key areas: historical transactions and positions. And then on an ongoing basis, it will be updated for transactions and positions. We were able to work closely with the Essentia team to understand what they needed specifically in terms of the data content, the formatting of the information, and the timeliness of that data,” Mallet says.

For Essentia, the investment from Northern Trust allows it to work on ideas and enhancements in the background. Flynn Levy says the investment will push the need for behavioral analytics the same way risk analytics are used. 

“I’ve always felt that behavioral analytics would end up becoming an industry standard in the same way that risk analytics became an industry standard. It takes time, but eventually, this will be just part of how allocators evaluate managers and how managers evaluate themselves,” she says.

Essentia will focus on making the platform scalable, as there is a difference between serving 30 clients, 300 clients and 3,000 clients. The investment will also be used to build on the nudges’ functionality.

Learning integration

Northern Trust’s Mallet says with the addition of Essentia to its investment data science business, there is potential to “marry” and integrate features with other fintech platforms with which the organization has partnered.

For example, fundamental active managers could benefit from EDS supporting their data-to-day investment decision-making process, while Essentia could provide a periodic review of their decisions.

“We believe there are opportunities over time to look at a level of technical integration between the platforms, but we’re just getting started with that process. We’re confident that there’s synergy between what you’re going to learn from Essentia and what you’re doing every day in Equity Data Science,” says Mallet. 

Speaking to WatersTechnology separately about the EDS investment, Paul Fahey, head of investment data science at Northern Trust, says that while the order management system (OMS) is a key component for most portfolio managers, they were spending the majority of their time outside the OMS. 
 
“What we found is that portfolio managers don’t spend any time in the OMS. They come up with all of their strategies, their research ideas in Excel, Word documents, OneNote (Microsoft’s note-taking program), Teams—it’s a mishmash of technologies they’re using. There was no one place,” he says. 
 
He says EDS will be a “game-changer” thanks to its platform in which portfolio managers and research analysts can “live and spend their entire day” doing portfolio construction, idea generation, and research management. 
 
“It doesn’t replace what a portfolio manager does, but it digitizes their process and makes it computable. Once it’s computable, you have the ability to scale it, and more importantly, the good ideas then are repeatable,” Fahey says.

Looking at the results of “good ideas” and delving into the process of generating those ideas is currently an analog task. “Being analog, it’s very difficult to go back and see why the idea was successful and find how it can be repeated,” he says. 
 
The EDS platform also enables better collaboration across teams. Since investing in EDS, Fahey says Northern Trust has had multiple conversations with clients where the recurring theme that emerged is the need to collaborate across teams. 
 
One example is when the portfolio manager has to explain their investment decisions around a particular stock, or several stocks, to the investment committee. 
 
“The process of evidencing that was going back, looking at the three-and-a-half-year-old email chain when they first had their conviction with that particular stock, looking at the email exchanges between the portfolio managers and the research analysts, and piecing together—based on all of that history—what their conviction was based on and how they’ve maintained that over the three-and-a-half-year period,” Fahey says.
 
“That is time-consuming work. That is heavy lifting for research analysts and portfolio managers. … We want them focused on generating alpha and not combing through reams of data to try and piece together a justification or evidence for a decision made,” he says.

Diving deeper

For now, Venn by Two Sigma, a portfolio analytics platform that provides support to asset allocators, is the last piece of the puzzle in Northern Trust’s investment data science business. 

Mallet says this platform could also leverage Essentia’s capabilities and provide allocators with insights into their third-party managers that they previously didn’t have access to. 

“We’re looking at the ability to leverage the Essentia capability to dive deeper into how that particular asset manager is managing money for you so that you can assess the same skills that the portfolio manager might look at themselves to understand what they are good at and where they might be able to improve. The allocator can look at those same metrics, that same data, to understand how their third-party manager is performing. Are they really good at research? Are they really good at sizing? Do they suffer from alpha decay? Those are additional metrics that today most allocators wouldn’t be able to answer,” says Mallet.

He says this information will be another data point beyond a track record, or operational due diligence, that examines the effectiveness of the manager’s investment process. 

Now that it has made these three investments, Mallett says Northern Trust will focus on best bringing the solutions it has identified to its clients. Beyond that, it will look at other areas that it hasn’t previously covered.  

“We are now looking at other areas within that value chain or other areas than what we’ve covered. It’s really looking at adjacencies that we haven’t covered yet,” he says.