Building a better and busier custody market

17 May 2018
| By Hannah |
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As Australia’s superannuation and institutional investment pool continues to grow, it is a good time to be a custody provider.

Add in greater data provision capabilities from technology and a shift to outsourcing, and it’s little wonder that custodians are doing well.

Hand-in-hand with this comes greater expectations from clients and regulators, and custody providers are needing to innovate and up their offerings to remain competitive in a sector where clients increasingly need to be able to give customers full and real-time information about their investments.

A slice of the pie

The Australian custody market is looking strong, with total assets under custody for Australian investors gradually growing.

As table one shows, overall assets grew by 4.9 per cent from the first half of last year to the second, with the majority of major custody providers experiencing growth.

Transaction volumes across that period also jumped 7.6 per cent, with JP Morgan, BNP Paribas and Ausmaq recording the biggest increases.

According to the Australian Custodial Services Association (ACSA), this reflects strong investment market returns domestically and abroad.

For example, the Australian market price index (S&P ASX 200) rose six per cent, and the USE (S&P 500) was up 10 per cent in local currency terms for the six months to December 2017.

JP Morgan, which has the largest market share of assets under custody with $778.79 billion at the end of last year, also pointed to wider market strength as key to growth.

To explain the company’s particularly high increase in assets, which, at 21.5 per cent, was close to the highest of all providers and significantly higher than the 4.9 per cent average, more factors were at play.

“Our growth in that period was largely driven by the on-boarding of the NSW Treasury Corporation and iCare business, representing incremental assets of A$56 billion,” JP Morgan head of sales, Bryan Gray, said.

He also pointed to JP Morgan’s strong client base as a driver of growth.

“Our view is that if we support our clients’ custody, information and data needs by delivering great service and ensuring we get the basics right every day, our business will continue to grow in line with the growth of our clients’ asset pools,” he said.

“Their growth and success, helps us to grow our business.”

More data means more service provision

Once custodians were only required to keep watch over their client’s money, but increasingly those clients are asking more of their custodians.

As well as providing support in accessing new markets, investors want custodians to provide information for valuation, accounting, tax and analytics.

These are the elements, ACSA chief executive, Robert Brown, said “required custodians to provide robust control of member’s assets and insight into performance and risk”.

Both Gray and Northern Trust head of sales, Asia Pacific, Angelo Calvitto, said the depth, breadth and complexity of the investment data expected by clients had increased.

“We need to value and unitise [investments] while providing [clients with] timely information on performance, risk, expose at an option, product, sector, portfolio and security level. The need for a timely complete data set … has become a critical deliverable for custodians,” Gray said.

Having already seen this trend occur globally, such as in the UK pension market, Northern Trust was well-placed to roll out their approach overseas to their Australian clients.

Additionally, Calvitto said the fund is “continually investing in [its] global operating model and technology” to ensure it continues to meet client demand for increased data access.

He said that the main way data rollout has occurred is through the company’s online front-end portal, in which it has invested heavily.

What more can you do for us?

Institutional investors are looking for more than just enhanced data – they are also increasingly outsourcing other capabilities to custodians.

Not that the custodians are complaining.

Calvitto said that not only has this trend led to greater business for Northern Trust, but that it has also contributed to overall market growth for the custody sector.

Northern Trust has seen two types of outsourcing occur.

First, clients’ previously in-house administrative functions were being sent the custodian’s way, such as unit pricing and accounting services.

Second, new services, including foreign exchange and securities capabilities, were being outsourced.

State Street has experienced the same demand, with the company’s head of sector solutions, Australia and New Zealand and head of consultant relations, Asia Pacific, Sinclair Schofield, finding that “the outsourcing of non-investment and member services related activities has been an ongoing trend”.

He doesn’t see this trend ending any time soon either.

“We believe that this will continue to be the case … large institutional asset servicing firms are extremely well positioned to provide custody, administration and other key services that greatly simplify the operating model and associated overhead of institutional investors,” he said.

“This is providing opportunities for investment managers and asset owners to substantially modify their allocation of resources to areas that better directly deliver on their core competencies.”

Eventually, this may lead to greater enhanced operating efficiency to the marketplace.

Technology’s helping hand

Technology is helping custodians respond to the increased service demand.

“As technology continues to enable the efficient calculation and delivery of net asset valuations and unit prices, along with performance and analytics, attribution analysis and stress testing data, the amount of activity that an asset servicing organisation can perform has greatly expanded,” Schofield said.

It also helps them to provide the extra information that clients now want from their custodians.

“As data querying and intelligence tools continue to improve, the power to conduct ad-hoc, detailed security level analysis with full look-through capabilities within fund hierarchies is now expected,” Schofield said.

“The leverage of artificial intelligence will see new means of applying close to real time investment news to holdings information, giving portfolio managers daily insight on issues that may impact the valuation of their held securities.”

In this, Gray’s words that “rather than posing an issue, technology is the enabler to create an efficient custodial business” ring true.

Furthermore, as with most services, the provision of custody is increasingly becoming automated.

Technology departments in robotics and artificial intelligence, for example, have assisted custodians to automate previously manual functions.

“This remains the case even when those processes involve accessing external websites and communicating with multiple internal and external parties, significantly reducing the time involved to complete critical processes such as reconciliations,” Gray said.

Joining the blockchain club

Leading the way in technological changes, the Australian Securities Exchange (ASX) is planning to become the first global market to clear and settle trade using blockchain technology in late 2020 to early 2021.

Custody providers have got behind the exchange in this, as they work together to make the blockchain serve the industry.

“There is a keen interest in looking at the potential outcomes and implementation of distributed ledger technology to deliver solutions in the future,” Gray said, with Northern Trust vice president, market advocacy and innovation research, Asia Pacific, Danielle Henderson saying that the industry as a whole is taking the blockchain seriously.

“Understanding the benefits of technology is a big opportunity to drive industry-wide change,” Henderson said.

While there is not yet much information available regarding the deployment of the blockchain from the ASX, the exchange has said it will be communicated to stakeholders.

Henderson said the ASX was committed to mitigating the impacts for service providers of the transition as much as possible, with companies such as Northern Trust then trying to make sure clients were not negatively affected.

ACSA has also been involved in the consultation process with the ASX, and wants the entire industry to assist in ensuring the transition from CHESS is as smooth as possible.

“Immediate focus is now on review of the consultation paper released by the ASX in late April outlining the planned new features and timetable for replacing CHESS with a distributed ledger technology (DLT) solution,” Brown said.

“ACSA will be encouraging focus across all market participants to build confidence in the migration process from current technology and practice.”

Australia is the first major exchange globally to transition to blockchain from CHESS or similar systems.

“Other market infrastructures will be monitoring what happens here carefully,” Henderson believed.

Regulatory challenges

With data and privacy concerns gripping industries across the world, it is little wonder that custodians say they are also feeling regulatory pressure in this area.

Regulation involving custody is now unsurprisingly increasingly focusing on both transparency and privacy.

“In support of a range of policy objectives, there has been a steady rise in the scope and frequency of regulatory data over recent years,” Brown said.

This, Calvitto said, follows global trends.

More clients are needing to report to the regulator, meaning that custodians need to provide more underlying information to enable transparency.

Managing this process can be challenging.

There are practical implementation issues, such as the adoption of data standards, streamlined formats, and de-aggregation rules to encourage efficient transport of data.

“New technologies are part of this landscape, but of course do not replace the foundation work required to retain control of data quality,” Brown said.

ACSA has been trying to act on this by driving bottom-up consistency of definition, collection and dissemination of core fee and cost information for investment managers and super funds.

The Association’s goals include “a consistent approach to mapping from portfolio accounting systems, agreed fee and cost classifications and groups, and market conventions that allow the proportionate look-through to underlying investment funds – all intended to promote efficient implementation”.

While more work, Calvitto believes that the regulatory attention is ultimately worthwhile.

“We are only seeing that [data reporting] become more onerous and detailed in the regulatory environment,” he said.

“But regulators are, and should be, trying to protect underlying investors’ information, which ultimately is the mum and dad investors, so we certainly feel that it’s a good thing.

“We have the information so we’re able to provide the protection, so that’s something we see as an important role that we play.”

Looking forward

With asset pools for institutional investors rising, plus the above growth in service demands, work for custodians looks like it will remain steady as investors look at a growing range of instrument types and asset classes.

The current Australian market “remains highly competitive and vibrant”, according to Brown, with “the contemporary scale and sophistication of Australian institutions mean[ing that] they are investing more broadly than ever before”.

“The Australian superannuation and investment fund market is large and complex, has features not common to other developed markets, and an environment of constant regulatory change.

“Improvement can only be achieved through cooperation across sectors of the broader industry – well-known inefficiencies like corporate actions processing, unlisted managed funds and regulatory data all require an end-to-end view of process and solutions.”

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