The Evolution Of A Relationship
By: Annie Blouin
Equipped with industry expertise and the latest technology, custodians are stepping up to help satisfy the new, complex needs of Canada’s pension plans. Annie Blouin, of RBC Global Services, examines what is happening today.
So here we find ourselves … pension plan sponsors and custodians, sitting side by side on that giant roller coaster spanning the institutional investing landscape. The roller coaster is making a slow, steady climb to the apex and, all the while, external pressures in the marketplace – such as consolidations, continuing poor returns, an aging population, and regulatory changes – are challenging some of the traditional assumptions and realities these businesses were built upon.
Indeed, the environment we operate within is changing yet again. The stakes, however, are arguably higher than ever before. The question is whether or not we will be able to adapt to the driving forces impacting our industries. Will we evolve and succeed, or stumble and stagnate?
The American Heritage Dictionary of the English Language, Fourth Edition, 2000, defines evolution as “a gradual process in which something changes into a different and usually more complex or better form.” Both pension plans and global custodians are at a critical crossroads in their respective industries. There is a period of tremendous opportunity lying before each of us today.
By strengthening our relationships with one another and by re-inventing the way we work together in partnership toward a set of shared goals, we can help forge a new business model that ensures ongoing, mutual success in an industry undergoing fundamental change.
A Dramatic Shift
The custody industry has witnessed some dramatic changes over the past 15 years or so. From their strictly back office roots, custodians have extended their scope and reach to help clients make decisions aimed at improving fund performance and managing risk.
Custodians have also moved up the value chain by providing their clients with solutions to new needs – solutions such as securities lending, portfolio analytics, transition management, and fund administration products. In short, the custodians who have survived the massive changes that evolution has thrown their way have done so by transforming themselves into powerful investment management service providers, building on their traditional roles as dependable transaction/ settlement suppliers.
This shift has also made its mark on the pension business as plan sponsors and managers look for more timely delivery of sophisticated analytical tools and data that will enable them to best manage their assets, particularly in today’s less-than-ideal market conditions.
There are a number of factors influencing this shift in the custodian/pension plan sponsor relationship. First, most pensions are challenged today. This is due in part to the languishing market performance over the past five years. It would appear that the days of double digit annual returns for the Canadian balanced pension plan are gone, at least for the time being.
Another factor driving this change is our aging population. As the baby boomers reach retirement age, there will be unprecedented strain on the resources of the Defined Benefit pension plan. As a result, plan sponsors will be under tremendous pressure to generate returns – and to that end, many are revisiting fundamental elements such as portfolio structure.
Recent regulatory changes are also contributing to the overall environmental changes. These changes, while opening the doors to tremendous opportunity, are also fraught with risk. For example, the proposed elimination of the foreign content restriction means that pension plans are forced to reconsider the suitability of strategic asset allocations. In terms of fiduciary responsibilities, the burden of governance on plan sponsors is also increasing as a result of these changes.
Yet another element contributing to these shifts is the growth in popularity of alternative asset classes including real estate investment trusts, structured products, and, of course, hedge funds. These alternatives translate into the opportunity to diversify and potentially enhance returns. For plan sponsors, the challenge is to understand and mitigate the risks associated with these opportunities – this means data access and management, which is where today’s custodians come in.
In the past, custodians provided historical data in reports for governance purposes. Today, we’re seeing the continued movement toward online, real time data by custodians in response to the pension plan requirements for greater oversight and understanding. This process requires integration with the custodian as a strategic partner who has the infrastructure, the expertise, and the capacity to provide this sophisticated level of service.
The Evolution Of A Relationship
Custodians are among the best-positioned providers to step in and help satisfy these new, complex needs of Canada’s pension plans. By virtue of their traditional roles, custodians have unparalleled access to three critical resources – intellectual capital, advanced technology, and data – lots and lots of data.
The whole notion of effective client service has become (and will continue to become) more complex. To be efficient business partners, custodians need much more insight into the client’s direction than ever before and they need to be able to engage their organizations to help their clients reach their goals.
To provide these new, integrated service offerings to their pension plan clients, custodians are attracting individuals with the specialized skills, training, and education needed for the shift that is currently taking place.
The idea of client service today is not just about the number of people custodians have responding to client queries. Instead, it’s about using specific skill sets. The leading custodians are looking for people who are solutions-oriented, and who can enlist operations and product development groups. They are looking for a business mindset in their new hires because clients are dealing with business issues, not custody issues.
Technology is another key reason why custodians are able to add more value to pension plan sponsors. Where they were formerly providers of data and some analytics, custodians are now able to leverage rapid developments in technology to aggregate that data and then drill down and analyze it on behalf of each client. Rather than simply providing data, custodians are now conveyors of thoughtful, timely information which pension plan sponsors use to make key investment decisions and reposition portfolios.
Looking forward, this type of interaction will grow exponentially. With more plan sponsors moving to alternative investments, they are looking for real time information that will enable them to see the movement of their funds on a daily basis and make quicker, more informed decisions. As a result, committed players in the custodian space will continue to associate with and/or acquire companies that can add to their offering including analytics boutiques, technology vendors and integrators, specialist outsourcers, and administrators.
What’s In A Name?
As pension plan sponsors strive to meet the challenges today’s business environment is presenting, they will partner more and more with those custodians who can provide products and services that integrate seamlessly with their pension plans.
Originally, custodians were trusted holders of securities. Over time, they evolved into managers of data. Today, they are transforming themselves yet again, into business partners that integrate with the pension plans in the management of information. Custodians will provide access to data, the sophisticated tools to manipulate that data, and industry expertise to work with their partners to put context around this information. The pension plans of the future will require this assistance in order to manage the demand for enhanced returns while simultaneously under the scrutiny of greater risk management.
Custodians and pension plan sponsors will be working together to develop true end-to-end, customized solutions. We’re seeing this to some degree today, but there is still room for this new model to grow. Expect to see tremendous advances in this area over the next three to five years, as the connectivity between these entities increases.
Currently, the products and services of the custodian correspond to specific requirements. However, the industry is moving toward a stage where services will be tailored to the needs of each pension plan sponsor. To go that extra step, custodians will need to work more closely than ever with their clients, using individualized feedback to look at how they’re using current products and understand what needs to change so they get absolutely everything they require.
Custodians will be required to deal with their plan sponsor clients in a much more meaningful way, taking their expertise and using it to co-develop products. Here, custodians will continue to evolve from being reactive suppliers to critical business partners who collaborate to provide integrated, seamless solutions, giving the name ‘custodian’ an entirely different connotation.
Annie Blouin is vice-president, corporate and institutional services, at RBC Global Services.
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