The digital future of asset servicing

BY LEON STAVROU

The asset servicing industry is simultaneously going through digitisation and digitalisation which will create new markets and products despite uncertainty about their ultimate form.

CCustodians have come a long way since their origins as the guardians of assets over a century ago. As an industry, asset servicing is becoming increasingly disintermediated, integrated, and collaborative. Industry participants will need to evolve and collaborate if they want to competitively position themselves for the future. Emerging digital infrastructures, and the rapid digitisation of existing processes, are fundamentally changing the asset servicing industry, driven by increasing demand for efficiency and insight. This evolution will require that each step becomes increasingly agile and collaborative. These changes will create new markets and products which, whilst there is still uncertainty about their ultimate form, have the potential to be truly disruptive.

Change in a brave new digital world

Today, custody is seen as a niche sector operated by a group of specialists, but the required skillset is evolving and is expected to change significantly by 2030.

Asset servicers have been supporting their clients using artificial intelligence, cloud computing, data analytics and blockchain technology. Beyond 2030, the industry will go even further. We anticipate that new, collaborative ecosystems will emerge that allow both digital and traditional electronic solutions to exist side by side.

By 2030, with the use of smart contract technology, we consider transactions could report themselves and asset servicers will have strengthened real-time assurance via blockchain to support more efficiency.

Digitalisation is also a significant driver of disruption. Today, the asset servicing industry is going through a process of digitisation and digitalisation simultaneously, though these are two very distinct things.

Digitisation is the process of moving paper content forward into the digital world, using machine learning and artificial intelligence to classify, ingest and analyse even non- structured data whilst digitalisation involves no paper in the process at all, assets, data and processes are digital native and at source.

Digitalisation is being driven by the growth of distributed ledger technology (DLT) and shared infrastructure, with standardised, commoditised processes being developed on those technologies. It is bringing about the advent of digital assets and other innovations including a growing shift towards decentralised finance (DeFi).

Two local examples of how this landscape is changing for securities service providers, is the Australian Securities Exchange (ASX) becoming the world’s first market infrastructure to deploy DLT at the heart of its clearing and settlement infrastructure by 2023.

In February 2020, the National Stock Exchange of Australia revealed a joint venture project to introduce a blockchain-based clearing and settlement system. This will help securities services providers connect to an immutable source of data, get access to real time data and also consider operational changes that allow concurrent workflow management and a move away from sequential messaging-based workflows.

Challenges with DeFi

Although the shift to a DeFi world has made digital assets more accessible to a wider group of investors, it is not without its challenges.

Institutional financial structures are likely to follow the trends we’re currently seeing in the retail space with an increasing demand for transparency and personalisation. Democratisation of investment access — enabled by advancements such as tokenisation and fractionalisation alongside the proliferation of digital assets — is likely to see the great democratisation of asset classes previously only accessible to large institutional asset managers or pension funds.

Last year, Northern Trust and Singapore based BondEvalue partnered to deliver integrated asset servicing for the fractional ownership of fixed income bonds. BondEvalue’s regulated exchange facilitates the trading of fractionalised investable assets based on wholesale assets, with Northern Trust as a strategic asset servicing provider.

The platform allows investors access to investments that were historically only available to larger institutions. This means any private individual, with even just a small amount to invest, can allocate to individual wholesale assets that they currently would not be able to access. By 2030, this type of service may be offered as standard by any asset servicer especially in alternative assets.

However, the variety of new developments, whilst offering significant opportunity for the industry, have the potential to create operational fragmentation, resulting in the necessity to navigate and manage multiple ecosystems simultaneously. From this arises a need for greater industry collaboration and standardisation.

We believe that the move from traditional, electronic solutions and capabilities to digital ones will not happen overnight and asset servicers will have a role in continuing to evolve. If investors allocate up to 10% of their portfolios to digital assets, for example, custodians will need to ensure that they have built the architecture to service and support

that 10%. Otherwise, they may end up losing the other 90% of their business.

An example of this is the emergence of cryptocurrencies as an investable asset class. Northern Trust and SC Ventures, the innovation and ventures unit of Standard Chartered, launched Zodia, an institutional-grade custody solution for cryptocurrencies.

Increased regulatory burden

Globally, regulators are approaching the industry’s digital evolution with similar intentions but different methodologies, resulting in potential for ‘regulatory arbitrage’.

This emphasises the need for a shared taxonomy in how emerging technologies are regulated but also the requirement for a flexible and adaptive approach underpinned by a commitment to investor protection.

Taxonomy is important because, as new markets develop, and operational functions become self-learning and self-functioning, and with the integration of data becoming far easier, the issue of standardisation will be paramount.

The need for an efficient, regulated marketplace is essential in an industry juggling multiple ecosystems and stakeholders.

If emerging digital assets are treated differently to other assets, there is a risk that regulation will create a disparity across regions. Market advocacy is also an important value add for securities service providers to bring their voice to industry and influence regulatory outcomes to benefit clients.

The Australian Securities and Investment Commission (ASIC) recently released information for product issuers and market operators on how they can meet their regulatory obligations in relation to crypto asset exchange traded products (ETPs) and other investment products.

Key matters covered by ASIC include admission and monitoring standards, custody of crypto assets, pricing methodologies, disclosure and risk management.

The Senate Select Committee on Australia as a Technology and Financial Centre also released its final report on 20 October, 2021, with recommendations on developing a regulatory framework for crypto assets.

We also see opportunities in the future for markets to regulate themselves, based on algorithmic updates. Robo-auditors could also be used, which will make the markets more efficient, even for complex assets.

Recent regulations with a focus on accountability and governance have already encouraged the creation of new technologies for dramatically enhancing transparency. By 2030, questions of tax rates and repetition of associated data may well be eliminated through the intermediary chain. For effective regulation in a fast-moving technological world, it must be flexible and adaptive.

Similarly, in corporate actions, regulations will have significantly reduced competitive differentiation from corporate event announcements and disclosures. The asset servicing industry must adapt, and custodians’ competitive advantage will be determined based on their level of service and expertise for managing complex events.

LEON STAVROU

Sustainability at the core

Sustainability is another driver of change within the industry — driven by investor demand and enabled by technological developments, asset servicers have an important part to play in enabling investors and stakeholders to track data, manage standards and inform decisions to create a more sustainable future.

It is clear following the recent COP26 summit that the private sector will lead the green recovery post COVID-19, committing over US$130 trillion ($179.6 trillion) of private capital to transforming the economy to net zero over the next three decades.

All these trends and themes will have significant ramifications and opportunities for the asset servicing industry. We believe that custodians and service providers must collaborate as members of a shared ecosystem. Asset servicers and other industry participants will need to work together on platforms, and on shared infrastructure, to leverage market positions and to mutualise costs and create new revenue streams.

The asset servicers of the future will continue to be client centric and focused on asset safety. But they must also be flexible, agile, creative, and digitally enabled in ways we have never seen before, as new technologies, shifting institutional investing models and emerging market infrastructure entirely transform the financial landscape. The future for the new digital world is collaboration.

Leon Stavrou is head of Australia and New Zealand at Northern Trust.

The reality of mergers

With rainy weather abound in Sydney, Rollover was sat in front of his TV watching the smorgasbord of niche documentaries free-to-air has to offer.

From giga factories to shipping logistics to even our own metro system being built, it seems like a documentary can be made about anything.

This led to Rollover wondering why there is yet to be a documentary series about the high-stake world of superannuation fund mergers.

After all, it has been one of the hot topics in our industry this year and will continue to in the coming years.

With an election due too, there will be no shortage of drama in the industry next year either. One such likely political football, EISS Super, would be the prime candidate as the prudential regulator has not been at all subtle about the fund’s need to merge.

Speaking of the prudential regulator, Rollover wonders how much of the spotlight APRA board member, Margaret Cole, will be comfortable taking.

Given her keen interest in the equine, Rollover hopes Cole has an affinity for the extravagant.

Rollover can imagine the scene of Cole riding in on her beloved horse, Liam, as two super funds wait on a podium to learn the fate of the regulator’s approval for a merger.

It’s the sort of TV that will glue eyeballs to the screen and Rollover is waiting for offers from TV producers as you read this.

When the Vanguard fails to advance

As a history buff, Rollover is well-aware of the importance of the role the vanguard plays in a military force, as the leader at the front of battle.

Which is why Rollover found it ironic that Vanguard, the well-known leader in ETFs and managed investments, has delayed the launch of Vanguard Super until 2022.

The launch has been a hot topic in the super industry; after all, it is another big player joining in a time of consolidation, but it is also already one of the largest holders of securities on the ASX.

As an avid super industry aficionado, or as one might say part of the vanguard of super industry news, Rollover is quite excited to see how this will play out.

Rollover has found 2021 to have no shortage of headlines in the super space, with the Your Future, Your Super reforms having been put into action which included the inaugural performance test, and he expects with a Federal Election due there will be no rest for the industry next year.

Given Vanguard’s successful track record, Rollover is sure it will do fine and the delay was likely the most appropriate option under the circumstances, and he waits excitedly to see how the launch will play out next year. Now that crypto investing is mainstream, with Rest Super announcing it will put a portion of its funds into it, Rollover wonders whether his grandkids will think he is hip when he shows them his crypto balance in his new digital wallet.

Rollover thought it was a good time to invest in crypto after coming into a bit of cash from this year’s tax return, which was higher than last year’s on account of his new negatively-geared investment properties.

After becoming jealous from seeing a friend bragging about his crypto gains on Facebook, Rollover decided to not pester his grandkids about how to invest in crypto, instead opting to ask for advice from his new “hey Google” machine.

You see, Rollover likes to think of himself as somewhat of a tech connoisseur – within his cohort at least.

Down the crypto rabbit hole Rollover went, spending an afternoon working out how to verify his identity on the crypto exchange his Google machine directed him to.

After failing to verify his account because he couldn’t find his Medicare card, Rollover ended up begrudgingly asking his peacocking friend how he got his crypto.

“Your grandson – are you serious?” Rollover exclaimed.

ALL ABOARD THE CRYPTO TRAIN