As we approach the 14th NeMa network management conference, which has a focus on “How will sub-custody survive the decade?”, “How will regulation affect the cost of risk and the altered product offerings?” and “T2S: what does the future hold?”, there has never been such sustained pressure on service providers and market infrastructure.
As we approach the 14th NeMa network management conference, which has a focus on “How will sub-custody survive the decade?”, “How will regulation affect the cost of risk and the altered product offerings?” and “T2S: what does the future hold?”, there has never been such sustained pressure on service providers and market infrastructure.
At the forefront are the myriad pressures from regulations such as the US Dodd-Frank Act, European Market Infrastructure Regulation (EMIR), Markets in Financial Instruments Directive (MiFID) II, Central Securities Depository Regulation (CSDR) and TARGET2-Securities (T2S). These reforms are designed to decrease systemic risk, but there are operational challenges and associated cost pressures that impact heavily on the client as a consequence of these new rules and regulations.
Therefore, there is a need for greater levels of transparency and interpretation. The subsequent navigation through these new reforms is challenging enough for clients operating in a single jurisdiction—for many firms trading in multiple markets around the world, that challenge is exponentially multiplied. Understanding the impact of being compliant, how regulations connect, reporting, and how this impacts the use of infrastructure, can be very complex.
As a consequence, it is paramount that firms work in partnership and closely align themselves with service providers that truly understand them, their business needs, drivers in the market and underlying requirements. Businesses should seek a partner that can provide advisory services, expert guidance and effectively position them in the markets in which they operate. They must also understand how adept and nimble the bank is at adapting to change.
At a simple level, one can see that banks are restructuring as a response to capital requirements in order to create a stronger base to work from. When selecting or reviewing a service provider, financial institutions, asset managers, funds and corporates must evaluate the quality of the institution. They need to know that it has the required strength, capability and representation to operate on their behalf anywhere around the globe. These requirements reflect the drive for increased transparency. Clients not only want to see that the bank is well-balanced, they want clarity as to how their own assets are segregated and recorded with ownership being clearly understood.
The changing face of custody
Changing capital charges and transparency requirements impact particular areas of business. For example, re-hypothecation of assets has been falling out of favour as there are balance sheet implications to consider for the provider and a need for clearer understanding from the customer as to where assets are. That makes the existing model less cost-effective and inefficient, as a greater degree of asset segregation is required to provide that certainty.
While custody in its broadest sense is a very straightforward product, if you are a corporate or fund manager with lots of activity across different landscapes—for example Asia, Europe and the US—the environment is made complex by the lack of standardisation or harmonisation between regimes, as well as service providers.
Clients can have difficulty understanding even the simple invoicing from a custodian, because services are often bundled together and the standard custodian fee schedules often overly complex. Invoices can hold up to 50-plus chargeable points of service, making both understanding and reconciliation increasingly challenging.
There is also often a lack of internal integration within the big custody providers that could deliver greater efficiencies to the clients. Big banks are often unable to integrate all of their execution capabilities with their post-trade servicing environment. Delivering change within big organisations using a global infrastructure can be akin to turning an ocean tanker on its axis.
Cumulatively, these create a significant problem for many custodian banks, under pressure to provide certainty and transparency for their clients. The banks have to re-examine their systems and their core operating environment.
Getting to grips with the market
For financial institutions, asset managers, fund managers or corporates, it is crucial to understand that custodians do not take legal liability for your compliance issues. If you want to connect to multiple markets, you have to have a good understanding of what is going on from a legal and regulatory perspective. While banks will provide some degree of navigation, the bottom line is that regulatory compliance always lies with the client.
The more that banks deliver a ‘one-size-fits-all’ approach, the more firms are required to make investment themselves in understanding their legal and compliance position in new markets, how they should position themselves or set up in a given country, and how the services they need are matched with the services they are currently receiving.
Commerzbank’s approach is to be strong locally in key markets. We have both expertise and centralisation of process in local markets, rather than offshoring to other global low-cost locations. We do this to ensure we truly understand our clients and their specific needs and business imperatives. As a result, we can tailor our service approach to them, without forcing them into a ‘cookie-cutter’ type of service. We have a highly experienced workforce who have unparalleled connectivity to local regulators and market infrastructures. This means we are able to put our clients’ needs and representation, in a given market, at the forefront of our thinking.
We are focused on creating a simple process and service without reducing the quality.
This has required some innovative thinking in parts. For example, TradeCycle, which launched in September 2013, required us to integrate services from across several of our investment banking business lines with the infrastructure of post-trade services provider Clearstream, to deliver a ‘one-stop-shop’ for over-the-counter (OTC) derivatives clearing, settlement, custody and collateral optimisation.
Initiatives like these are of paramount importance to non-bank clients operating in the capital markets. Using an integrated service like TradeCycle with a single piece of documentation, a client can access the OTC derivatives market with all of the associated challenges, such as collateral management, taken care of. Combined with expert local market knowledge, it creates confidence in the custody provider and clarity for managing day-to-day business. It should be simple, but for many of our clients, that is not the case.
