A custodian bank, or simply custodian, is a specialized financial institution responsible for providing securities services. It provides post-trade services and solutions for asset owners, asset managers, banks and broker-dealers. It is not engaged in "traditional" commercial or consumer/retail banking like lending.
Custodian banks provides a wide range of value-adding or cost-saving financial services, ranging from fund administration to transfer agency, from securities lending to trustee services.
Definition
Custodian banks are often referred to as global custodians if they safe keep assets for their clients in multiple jurisdictions around the world, using their own local branches or other local custodian banks ("sub-custodian" or "agent banks") with which they contract to be in their "global network" in each market to hold accounts for their respective clients. Assets held in such a manner are typically owned by larger institutional firms with a considerable number of investments such as banks, insurance companies, mutual funds, hedge funds and pension funds.[1]
History
Early history
In 1961, U.S. President John F. Kennedy established a Committee on Corporate Pension Plans.[2] Two years later, Studebaker Auto Manufacturer shuttered its business and operations, and it failed to provide pensions to the approximately 7,000 employees affected. Hence, in 1974, U.S. President Gerald Ford proposed an Employee Retirement Income Security Act (ERISA Act), protecting the employee benefit plans' standards.[3]
Since the Act has become effective, employers could not hold and keep their pension fund assets. Instead, they are obligated to appoint external custodians to safekeep the assets.[4] Also, they are required to appoint trustees and depositories to ensure the pension funds are operated in the best interest of the pension holders and aligned to the investment mandates.[5]
Further developments
Banks have developed a wide range of custody and related services (securities services), and have been developing new technologies (e.g. blockchain, API, distributed ledger) and aligning with the fast-moving regulatory requirement, such as digital assets.[6][7]
Client segments and products
The securities services industry mainly serves two types of clients: 1) Asset Owners & Managers and 2) Banks, Brokers & Dealers.
Asset owners and managers
The client segment of Asset Owners & Managers includes asset management companies, alternative asset managers, insurance companies, pension funds, sovereign wealth funds, central banks, family offices and prime brokers.[8]
Banks, brokers and dealers
Importance of custodian
Using US definitions, a person who owns street name securities and who is not a member of an exchange holds the securities through a registration chain which involves one or more custodians.[16] This is due to the perceived impracticality of registering traded securities in the name of each individual holder; instead, the custodian or custodians are registered as the holders and hold the securities in a fiduciary arrangement for the ultimate security holders. However, the ultimate security holders are still the legal owners of the securities. They are not merely beneficiaries of the custodian as a trustee. The custodian does not become at any point the owner of the securities, but is only a part of the registration chain linking the owners to the securities. Global securities safekeeping practices vary substantially, with markets such as the UK, Australia and South Africa encouraging designated securities accounts in order to permit shareholder identification by companies.
The definition of shareholder is generally upheld by corporate law rather than securities law.[17] One role of custodians (which may or may not be enforced by securities regulation) is to facilitate the exercise of share ownership rights, for example and processing dividends and other payments, corporate actions, the proceeds of a stock split or a reverse stock split, the ability to vote in the company's annual general meeting (AGM), information and reports sent from the company and so forth.
Industry profile
Industry size
As of end-2023, the market size (as measured by worldwide client assets under custody and/or administration) amounted to some $230 trillion. The market share of the largest global custodians has varied quite dramatically over the past 25 years[18]
As of 2022, the market size (as measured by revenue) of the Custody, Asset & Securities Services industry in the US is $32.5bn, with a YoY 2.9% growth between 2017 and 2022.[19]
Industry players
Many investment banks and banks offer securities services. Generally, the division of securities services is either grouped with Global Markets to form a larger umbrella of Markets & Securities Services (MSS) or falls under the umbrella of Corporate Banking or Transaction Banking.
For instance, Citi and HSBC restructured and combined their Global Markets and Securities Services divisions in 2019
Notable industry acquisitions
2000 to 2010
In November 2002, State Street announced that it had acquired global custody business with assets under custody of approximately €2.2 trillion of Deutsche Bank's Global Securities Services (GSS) business for $1.5 billion, subject to adjustment.[25]
In July 2003, HSBC announced the agreement to acquire 82.19% of Korean fund administrator Asset Management Technology (AM TeK) for $12.47 million in cash, which was the biggest fund administrator in South Korea, with $24 billion of assets under administration.[26]
In August 2003, U.S. Bancorp acquired corporate trust business of State Street
Self-directed retirement account custodians (US)
According to the Internal Revenue Code (IRC) in the US, various retirement accounts such as: Traditional IRAs, Roth IRA, SEP IRA, or 401k plan accounts require that a qualified trustee, or custodian, hold IRA assets on behalf of the IRA owner. The trustee/custodian provides custody of the assets, processes all transactions, maintains other records pertaining to them, files the required IRS reports, issues client statements, helps clients understand the rules and regulations pertaining to certain prohibited transactions, and performs other administrative duties on behalf of the self-directed retirement account owner.
Self-directed retirement account custodians (also known as "self-directed IRA custodians" or "self-directed 401k custodians") should not be confused with a custodian bank, which strictly provides safekeeping for securities. While a self-directed retirement account custodian can provide custody for securities, typically it will specialize in non-security assets, or alternative investments. Examples of alternative investments would be: Real Estate, precious metals, private mortgages, private company stock, oil and gas LPs, horses, and intellectual property. These types of assets require a specialization on the part of the custodian due to the complexity of the documentation required to keep the alternative investments in compliance with the IRC.
Mutual fund custodian
A mutual fund custodian refers typically to a custodian bank or trust company (a special type of financial institution regulated like a "bank"), or similar financial institution responsible for holding and safeguarding the securities owned by a mutual fund. A mutual fund's custodian may also act as one or more service agents for the mutual fund such as being the fund accountant, administrator and/or transfer agent which maintains shareholder records and disburses periodic dividends or capital gains, if any, distributed by the fund. The vast majority of funds use a third party custodian as required by SEC regulation to avoid complex rules and requirements about self-custody.
A mutual fund retirement account (IRA, SEP etc.) custodian, however, refers to the plan administrator and recordkeeper such as noted above, which may not necessarily be the same institution providing custody services to the investments of the overall fund.
See also
Further reading
References
- David Loader. Clearing, Settlement, and Custody Butterworth‑Heinemann (Elsevier), 2020^
- Erisa 40 Timeline Alternate U.S. Department of Labor, retrieved January 25, 2022^
- President Ford Signing ERISA of 1974 Pension Benefit Guaranty Corporation, retrieved April 27, 2017^