At a time when custodians are trying to differentiate through services, representatives from four of the most influential institutional investors believe the best way for them to do this is through core custody services. At the Global Custody Forum 2011 last week, the investment and pension fund managers agreed that with the prolonged financial crisis and increased regulatory pressure in the form of FATCA, the Dodd-Frank- Act, AIFMD, UCITS IV / V, to name a few of the upcoming regulations, effective risk management, the timely and accurate provision of data that helps manage risk and safekeeping are high on these institutional investors agendas.
In a panel on what institutional investors value the most in their custodians, BAE Systems Pension Funds Investment Managements head of Finance & Operations Litsa Psara said: Weve had long relationships with our custodian and some of the things we look for may not be the same as they were before, including financial strength, which is more important today than it was eight years ago. A cultural fit is important given our size as we regard ourselves as small. This has meant we could build close relationships with providers of a certain scale. Size matters. Accuracy and timeliness of data we take as a given.
Psara said pension funds relationship with custodians should be more like a love affair rather than a marriage. You want the stability but its important to have regular (interaction) or weekly meetings with your network managers, she said. In addition, you expect the custodian to give feedback (in relation to your investments), quarterly benchmarking, monitoring, recover legal agreements and service level agreements.
Murray Preston, director Business Operations Global Provider Strategy, Blackrock shared his thoughts on current trends in investment management and how this directs the firms custody relationships. In what he described as challenging times for the investment management industry and how this has led to a partnership approach in working with custodians, Preston said: There is an increasing move towards ETFs, alternative assets, frontier markets, small caps and increased merger and acquisition activity. We have relationship management, strategy and guidance on these fronts as well as flexibility, transparency of risk cost and a set of parameters for the selection of partners. We have about 50 custodians and prime brokers, including 24 partnerships with custodians and fund administrators. Having multiple partners allows us to leverage price and scale. The investment manager also has a weekly service review and biannual strategy meetings with its service providers in order to monitor these relationships, added Preston.
Other aspects of Blackrocks current arrangement with service providers include low trade fail rates, including 85% rates for inbound trades.
This year Blackrock introduced a review process focusing on the quantitative components of its custody relationships, including performance measurement and escalation and the qualitative aspects such as dedicated market intelligence, said Preston.
Markus Ruetimann, group COO at Schroders, another fund manager with multiple custody relationships, said the most important service element is data. The key is data on demand and easy access to accurate and timely asset portfolio data is important, he said. If you dont excel at that you wont succeed.
Danny Sullivan, executive director, European Vendor Management, JP Morgan Asset Management, agreed that timely and accurate data is important, adding: Data on demand has changed fundamentally over time. Its a matter of going to custodians to get things like MIS reporting with Greece falling out of the Euro, for example. That has grown in importance. Its important that I can talk to my manager and get market intelligence in countries where we trade.
Panel moderator Penelope Biggs, EVP, head of Institutional Investor Group, EMEA, Northern Trust, asked panelists to comment on the importance of technology in their relationships with custodians. Preston said this is important in terms of the delivery from custodians. They have to do a lot of consolidating (of data). Some are dealing with many platforms. We expect that connectivity to take place and to get information directly from the market.
Panelists were asked to share whether they have risk-based or service-based fees in place for their custodians. Ruetimann said: Its a matter of how do you measure the risk to your client. I would have no problem with an Ad Valorum fee for custodians. The pricing will change as there is an element of risk. Custodians can help with the recalibration of the Euro from a system providers perspective in terms of scenario planning abilities. Operational agility in terms of servicing new funds is important. Operational stability is also important we learned a lot in 2008 about who stood out and who suffered. The years 2007 and 2008 taught us many lessons in terms of where the buck stops. We learned a lot about recovering assets from all of these components including CSDs, custodians and prime brokers.
Three things are important: talent, technology -interaction between ours and our providers – is integral and its important that we both make changes and services that improve time to market are also important.
The panelists were also asked to comment on the importance of generating revenue through value added services such as securities lending.
Psara replied: We dont look to our custodian to perform these things. We came out of securities lending in 2005. While the fund welcomes revenue our trustees have a different view of risks associated with that. Where BAE Systems Pension Funds Investment Management could see value added services being beneficial, said Psara, could potentially lie in interest rate margin, where the pension fund manager could take this off balance sheet, said Psara. We could pay for safety, probably something wed welcome in the current environment. But we wouldnt look to our custodian to generate revenue, she added.
Biggs noted that services around fund manager performance and oversight were increasing in importance. Aggregating data is also important, she added.
In addition, the Eurozone crisis and the possibility of a counterparty failure in Europe are also putting custodians in the spotlight in terms of how they could help.
Ruetimann commented: In terms of scenario planning, a couple of weeks ago, when the recalibration of the Euro came up, this led to panic and we talked to our providers about risk and the possibility of withdrawing funds. You have to be clear about what funds you can get out of the settlement environment in the case of a counterparty failure in Europe. This is where the infrastructure teams are more important than asset management. One cannot plan for this but you need operational agility to cope when it happens.
Finally, Biggs asked panelists where custodians should focus their money in terms of helping investment managers.
Psara said: We want it all. We want custodians to focus on core services but we also want to outsource our middle and back office at the same time.
Preston said: We wish they would do more. Blackrock does FX in restrictive markets. Help in this area would be beneficial, he said.
Ruetimann said that most importantly, he needs custodians to manage risks.
Sullivan concluded: Core services around safe keeping are still by far the most important. Learning how cash is held has also become more important. Performance attribution is also important.
(JDC)