A fast-moving situation like the economic fallout from the Russian invasion of Ukraine requires straight-to-the-point coverage, so here it is.
The majority of actions taken by custodians over the past week or so has been dictated by government decisions, causing network managers, IT teams and the heads of securities services – among others – to work late into the nights to review, adapt and cut accordingly.
The playbook is already in place for custodians when it comes to sanctions, and their understanding of the consequences of falling foul of them is well established. Following the removal of Iranian institutions from the SWIFT network in 2012 and again in 2018, systems and processes were installed for banks to implement sanctions against Russia immediately. This is a non-negotiable reputation-defining situation.
Subsequently, market infrastructures are taking the lead on suspending the trading, clearing and settlement of Russian securities and rouble-dominated assets, essentially dictating what investors are able to buy and sell. Euroclear and Clearstream have suspended settlement of these assets, while Russia’s market infrastructure isn’t letting foreign investors sell any of their assets.
This list of what custodians can’t do is piling up by the day as more clients, counterparties and assets are sucked into the wormhole sparked by Russia’s invasion of Ukraine.
Then custodians split into two camps: one which does business in Russia through a sub-custodian and the other which has a local custody offering for the country, and therefore will be directly impacted by the economic fallout of the Russian invasion.
The largest sub-custodians in Russia are domestic players Sberbank, VTB and Societe Generale – through its subsidiary Rosbank – while Austria’s Raiffeisen Bank International (RBI), UniCredit and Citi have sub-custody offerings in the country.
Citi has already said its entire bank has around $10 billion worth of exposure to Russia, but given the scale of its network, the impact on the custody business will be relatively minimal for the investment banking giant. However, for RBI, UniCredit and Societe Generale, all of whom have broader European operations – decisions will now have to be made around what to do with those businesses. Soc Gen has publicly said only 1.7% of its overall business is tied to Russia; however, within its custody business the significance could be greater. In a request for further information, Soc Gen declined to add further comment beyond a statement on its entire banking operations in Russia.
In a world of scale where many custodians have looked to Asia or other emerging markets for growth, the three sub-custodians of UniCredit, RBI and Soc Gen all focus on Europe and had successful business in Russia prior to the Ukraine war in what had been a fruitful location. Since UniCredit and RBI are present and active throughout central and eastern Europe, what is unclear at this stage is the relative contribution of Russian volumes to their regional securities services businesses.
As if network managers weren’t already facing a mountain of challenges, securities services veteran John Gubert also brings up a point about the longer-term analysis of sub-custody relationships in Russia.
“An interesting issue for Global Custodians and ICSDs/CSDs arises where they have direct relationships with local banks,” says Gubert. “If holding assets in their Russian sub-custodian creates greater liability than if they had selected an alternative one, they could face a challenge around the quality of their due diligence.
“Thus, if domestic Russian banks adopted a different approach to bank affiliates or subsidiaries of the major groups, would any ‘selection’ penalty create liability for the impacted Global Custodian? Furthermore, those custodians using branch structures could be treated differently from those using locally incorporated entities and again the legal documentation will define any added liability.”
A can-do attitude and a social responsibility
But what else can banks do right now, in terms of their business operations?
Firstly, it would have been established what relationships securities services providers hold with Russian sub-custodians, then an identification of Russian assets they hold in custody and, of course, an assessment of any clients based in the country.
After identifying, the next logical step would be to freeze certain assets. But things are moving fast in the markets, and in a matter of days we’ve seen most Russian assets either frozen or hamstrung when it came to selling due to the market infrastructure and rating agencies acting.
On the scale of: do nothing, freeze, suspend or completely severe ties most custodians will be opting for the ‘freeze’ option, though we did see this week BNY Mellon resign from its role as depositary for VTB’s global depositary receipts, so there are exceptions.
In addition, one of the first things sources have told me this week is that custodians are prioritising bolstering their cyber defences in preparation for what might come next. A “red alert” situation is how one securities services expert described it, with another stating that there has been a “noticeable increase in terms of number of attacks and the sophistication of them”. The attacks have stepped up so defences will need to do so in response.
Finally, what should banks do.
Someone once told me that banks don’t get involved in politics, but I believe this is no longer the case. We live in a world where brands carry weight, and make no mistake, banks are among some of the biggest brand names in the world in the same bracket as athletes, tech giants and clothing brands. Your employees, clients and range of stakeholders will be looking to you to make statements in both the literal sense through social media platforms and through severing ties of your own accord.
State Street’s chief executive was the first industry leader I saw to put out a statement on ‘Standing with the people of Ukraine’, while in recent days I’ve also witnessed posts from BBH and BNP Paribas. You can read these statements yourself and make your own mind up on what they are saying – or not saying – but these are prime examples of banks understanding their position in society as financial influencers. I believe in the coming days we will see more of the financial services community speak out publicly.
Challenges await in the coming days, weeks and – potentially – months around assets, relationships, valuations and the future of the Russian financial markets and its banks. For business heads, it is a case of ‘wait and see’ as governments, ratings agencies and market infrastructures will determine most of their next actions, but at the boardroom level decisions loom large as banks decide whether to be a first mover or a late reactor. People will remember the actions of BP, Norway’s sovereign wealth fund, even Apple and Disney, while hesitancy and stalling didn’t go well for others. The choice is yours.