Similar to experiences in Europe and the US, firms in the Asia-Pacific region are facing a mountain of operational and capital pressures and are looking for a variety of services to alleviate these costs.
Outsourcing technology infrastructure has historically been the solution of choice for sell-side firms, either through using a technology vendor to manage their IT operations, or through buying a licensed service from a vendor which will then help them keep up to speed. However, the pressures on running a middle-and back-office are forcing firms to look for new avenues of efficiencies.
In the second part of a Global Custodian roundtable event in Singapore, sponsored by BNP Paribas Securities Services, leading market participants discussed what pain-points firms are currently facing and what steps they are taking to meet the new operational environment.
Evolving with market changes
Operating models have become significantly challenged by a wave of regulation and market infrastructure changes. Market participants in APAC are also no strangers to fragmentation. The experience with MiFID in Europe and the onset of best execution have sparked an influx of new trading and clearing platforms, but at the same time, has made fragmentation even more pronounced. Some of the effects of MiFID are now evident in APAC.
In addition to these regulatory changes in Europe, market participants also have to deal with a wide range of settlement cycles, clearing and collateral rules, capital requirements, and market connectivity procedures.
Best execution led to fragmentation of market infrastructure, more trading venues and clearing houses; all expensive to manage. Solutions have been developed in Europe to shield clients from most of these complexities and non-interoperable models. These are being exported into APAC.
The adoption of new technologies by market infrastructures also has the potential to significantly disrupt operating models. This could be extremely difficult for asset managers, brokers and investment banks operating in APAC’s bespoke markets.
At the same time, technological innovation in the region add a further layer of complexity to firms’ operating models. The current post-trade technology projects occurring in Australia, Hong Kong and Singapore, as examples, could all result in a number of challenges for those using legacy infrastructures and used to directly connecting.
All of these factors are forcing firms to look at whether they can shift some of the operational workload and capital cost upstream, resulting in a new form of outsourcing, particularly among the sell-side.
Back to the core
When considering outsourcing there are two main factors: on the one side, there is a focus on core competencies and seeing what you can offload, and on the other is the scalability of the provider.
Local brokers across the APAC region have historically outsourced research, algorithmic trading, direct market access (DMA) and other market connectivity functions. However, the capital requirements are now beginning to impact the post-trade. Clearing requires membership of CSDs and CCPs in each market in which the bank operates, and for those brokers that handle low volumes, this can be extremely costly to staff, oversee and allocate capital to.
As a result of these factors, sell-side firms in the region are all reassessing their operating models, analysing what they can still do themselves and what other models they can adopt in order to continue focusing on both their core competencies and delivering value to their own clients.
One of these is third-party clearing, an increasingly favourable option for investment banks and brokers in the Asia-Pacific region. While they are able to avoid costs associated with clearing memberships in the short-term with this model, they are able to gain the benefits of operational efficiency and market change minimisation.
Brokers and investment banks no longer have to worry about many regulatory burdens or market adaption to their post-trade processes. In addition, they can avoid adapting their IT infrastructure to new norms and can instead rely on their third-party clearer for tailored reporting and staggered enhancements aligned to the brokers’ own technical enhancement timeframe.
What this means in the long-term is they will be able to redeploy the capital used for clearing and IT elsewhere into their core functions and focus on new revenue-driving services.
Regardless of the technology developments in the region, there is a global trend of pricing pressure along the value chain, including the areas of custody, clearing and trading and market data.
These pressures have made it all the more important for providers to offer as much value as they can. It will be those bundled services of custody, clearing, market access, and reporting that will help offset pricing pressures with technology allowing providers to consider new services to ease the life of their customers and provide new sources of revenue.
Part of the evolution of technological and regulatory change involves how custodians charge their customers, particularly when it comes to data. The reality is the pricing model that has been applied for the last two decades will no longer work in this new world or be relevant to where the provider is truly adding value in the new marketplace.
With all the changes currently taking place in the post-trade landscape, providers will have to think carefully about all the factors that go into pricing outsourcing services. They will have to demonstrate their capacity and scalability in the face of market change, as well as commitment to enhancing customer experience through technology reinvestment and forward thinking that allows their customers to stay ahead of their own competition.
Outsourcing providers will have to move beyond bespoke and commoditised custody services, to offer a bundled ‘value-added’ model, whereby they can offer new solutions to parties that they have so far not been able to do themselves. New technologies will enable a more seamless transition to a value-added model and as a result, pricing may no longer be the determining factor in outsourcing.
The current state-of-play in the APAC region is incredibly challenging. Both technology and regulatory developments are forcing firms to find ways to future-proof their business and minimise the impact of these changes on their revenues. The potential for custodians providing third party clearing solutions to help overcome these challenges is significant. The providers that are able to offer this value-added service will stay relevant in a fast changing marketplace and help their customers fight off competition from both incumbent peers and new entrants from other industries.