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Masters of Custody: the state of play
by Robert J Brown*
The Australian master custody market is vibrant, competitive and facing more challenges than at any time in its 30-odd years as a recognised sector. To add to the excitement, many of our market’s leading custodians have some new faces at the helm. Custodians really have only two things to worry about: scale and differentiation.
To set the scene, a number of well-established trends are driving the broader market, and carrying master custody along a road that is both straight and narrow.
The rise of the direct investor has been well chronicled as a mega trend, and continues to drive fragmentation in the market. Retail investors are increasingly making a deliberate and often (but not always) informed choice to in-source many aspects of investing. The same trend applies to the direct institutional investors establishing in-house teams to run money.
A parallel crisis in confidence and challenges to the commercial sustainability of traditional distribution channels is arguably both a cause and consequence of this first trend. Despite some true innovation from a leading few, it’s still too early to see which are proving successful in terms of flows.
Substitute products continue to proliferate. Traditional trust based unlisted funds, mFunds, exchange traded funds, exchange traded products, separately managed accounts, listed investment companies, syndicates, limited partnerships – all can offer different ways of packaging the same underlying investment strategy, but with diverse distribution footprints, costs and (in some cases) quite different outcomes in the hands of the investor.
A very, very crowded market for the management of traditional assets and significant appetite for alternatives. A sufficient number of institutions, high net worth individuals and increasingly the mass affluent with the means to make meaningful allocations.
These drivers are a mix of retail and institutional, so why the specific impact on custodians? Joining the dots, large super funds see leakage of high value balances to self-managed direct investors, and at the same time are looking to middle and front office solutions as build out their internal capability. The traditional institutional aggregation model becomes more difficult and expensive when diluted through fragmentation in product and channel, and an ever expanding investment universe further divides asset pools across not only markets and currencies but also the mechanisms in which these less vanilla assets trade and settle, can be valued, reported and monitored.
In this ocean of change, the master custodian’s only have a couple of decision points.
> Step one: offer the true commodity elements of custody at a commodity price. Do this by being standardised and efficient, and have scale. If you don’t have scale (and by this I mean true industrial throughput), outsource to someone who does. Don’t believe your clients – they all shop at Bunnings – lowest prices are not just the beginning, they are also the middle and the end.
> Step two: be deliberate in defining your sweet spot in terms of client segment and solution focus. Despite the hype, Australia is a small and crowded market when it comes to large contestable institutional mandates for custody and investment administration. Align your services to demonstrate differentiation. If you are not already in, or close to, this sweet spot, then immediately review down your revenue budget.
If you have differentiation, then build scale. Use this scale to drive your differentiated services until they too become commodities. Standardise, lower the price, and if you don’t have enough scale, find someone who does. Repeat steps one and two.
So, only two things to worry about – scale and differentiation. Spoken with tongue firmly in cheek, but our industry does have a habit of reducing simple concepts to their most complex form. The analysis and homework are complex, but to be effective the articulation of strategy should be simple.
*Robert Brown is a seasoned custody industry professional having held senior positions at State Street, National Australia Bank and, most recently, HSBC. He is now principal consultant and director of Alford Brown & Associates.
