Beating out a back-office solution

As with any other industry, technology has changed the shape of the wealth management sector over the last five years. But for many practitioners, that change is not coming fast enough and, more importantly, is not spreading across distributors’ businesses in a coherent fashion.

There are essentially three key parties in wealth management – the manufacturer, the distributor and the transfer agent (TA), who moves the client’s money between the two. There are also some new parties who have become involved, the competing ‘platforms’ such as Euroclear and Clearstream, who promise to settle all the fund management transactions without fuss. They have received a warm welcome from some quarters, but many of those who transfer the money from distributor to manufacturer are not so impressed.

There is no doubt that the platforms have invested in the technology necessary to solve problems of manual reconciliations, failed trades and losses of pieces of paper from the fax mountain. The question is whether they have the political will to work together and whether they can lower the cost of transactions, already spiralling out of control in a time of lower returns for private clients.

More complicated

Platforms, says Tony Solway, head of BNP Securities Services in London, have made life for TAs more complicated, not less, as they lead to multiple reconciliations. Speaking at a highly charged back office summit, called at the July 2004 Fund Forum in Monaco to tackle the problem, Mr Solway said the various conflicting models were on a collision course. Crucially, there was no dialogue between the protagonists.

‘There is more we can do to find real harmonisation in Europe, but the answer is not to kick the problem upstairs to the EU’

Tony Solway, BNP Securities Services

“There is more that we can do to find a way to real harmonisation in Europe,” believes Mr Solway. “But the answer is not to kick the problem upstairs to the EU. That’s what happened when CREST failed to introduce paperless trading in the UK and the Bank of England slapped it. We need to work out, together, how the whole thing will work. Fefsi [the pan-European funds association] has tried, but even if people have pots of money, they still don’t know how to spend it. What we need is a road map, but the US model will not work here.”

Crucially, the National Securities Clearing Corporation, which introduced an efficient system of transferring money between fund distributors and managers in the US, but failed to take off in Europe, was started by the banks.

“A new system will only work if led by distributors, not fund companies,” says Mark Tennant, senior vice-president of global client management at JPMorgan Investor Services, and a key participant in the Monaco debate. “Euroclear and Clearstream entered into the fray and said they had a solution, but all they did was mask the problem for distributors.”

The open architecture trend means that at some stage, volumes of funds bought and sold will increase dramatically, said Mr Tennant. When this happens, TAs will face “the biggest paper-pushing disaster in history”, unless distributors finally instruct the fund houses in the most efficient way to deal.

Even more dangerous to the long-term health of the industry is the possibility that clients will realise they are paying a minimum of $3 (E2.50) for each trade on top of total annual expenses of 240-300 basis points for each European fund.

“If equity markets only go up 8 per cent, investors will eventually realise there is no point whatsoever in investing in a mutual fund. It is better to put money in the bank,” concluded Mr Tennant. “Then our industry really will be in shock.”

Even Bruno Zutterling, director of Investment Fund Services at Clearstream believes the middle-men must come up with their own solution, rather than have one imposed on them. “Distributors must gather together to automate the industry,” he said.

Richard Willis, product manager for Continental Europe at the Bank of New York, believes manufacturers also have a key role to play. “Asset managers need to allow us to talk to their distributors to find solutions,” said Mr Willis. “But asset managers don’t want to confront distributors by asking them to go down certain routes, as they are scared of alienating them.”

It’s not all gloom and doom, however. There are other voices in Europe who praise the increased efficiency encouraged by platforms. According to Jean-Louis Bernardo, product manager at SG Global Securities Services, they have addressed improvements such as order routing and data base issues, but they do not answer every problem.

“Investors in Europe are facing an acute paradox,” says Mr Bernardo. “They have complex fund instruments, but the way to process them is very manual. In the equity world, it is easy to perform orders, settle and carry out custody. It is not so easy with funds.”

Innovative companies

Away from the platforms, some key transfer agency tools are being developed by innovative companies such as Mutual Fund Technologies (MFT), an offshoot of Fidelity, and International Financial Data Services (IFDS), a joint venture between custody bank State Street Corporation and software provider DST Systems.

Both agree that growth in the range of added value services provided by transfer agents across Europe has been dramatic, with distributors increasingly outsourcing TA functions.

‘If equity markets only go up 8 per cent, investors will realise there is no point whatsoever in investing in a fund’

Mark Tennant, JPMorgan Investor Services

“Banks and fund supermarkets were set up to do distribution rather than administration,” explains Paul Roberts, managing director at IFDS. “But they are now finding that administration is a very big element of their business, probably bigger than they expected. We are finding that they are tending to welcome working with a partner who is a specialist record-keeper and can actually help them to grow faster.”

The whole nature of TA is also changing as the industry grows, says Mr Roberts. “Today it’s more about handling high value, lower volume deals. When you are dealing with individual investors, reconciliation is not such a big issue, but when you are doing it with a nominee it is, and you need to have the right tools to help them reconcile their books.”

The increased and more sophisticated automation of fund transactions offered by some of Europe’s TA providers is playing a very important role in the development of cross-border fund distribution, by reducing administration cost and improving efficiency, believes Mr Roberts, particularly in the two major European fund centres of Dublin and Luxembourg. “There the TA market today is very focused on servicing the big distributors through nominee accounts,” Mr Roberts explains.

“In the UK we are starting to go in the same direction, with people moving their accounts onto platforms of some sort or other.” More and more retail products are being transferred to fund supermarkets or consolidators such as Cofunds, a client of IFDS.

Keeping up-to-date

In Germany, Italy, France and Spain, the trend among banks towards selling non-proprietary funds is to open their doors to the TA providers. But in order to exploit these opportunities, TAs need to invest time and capital in keeping systems up-to-date and developing new tools to compete with other players.

‘For every jurisdiction that a system supports it becomes a requirement that it must keep pace with any changes’

David White, MFT

“The need for systems to support open architecture is paramount for those distributors wanting to promote and market not only their own funds but also third party products,” says David White, managing director of Fidelity subsidiary MFT. “Only a few years ago our marketplace was proliferated by fund managers who owned their own systems. However, there has been a big shift towards fund managers outsourcing their back office needs to either system specialists, or third party administrators.”

One of the motors driving this trend towards going external has been the need for software platforms to keep pace with legislative and compliance developments. “The EU Savings Directive, UCITS III, as well as market timing, are just some of the new laws and industry changes that company systems and infrastructure must be able to support and assist with,” says Mr White. “And for every jurisdiction that a system supports it becomes a requirement that it must keep pace with any language, taxation and compliance changes that take place,” Mr White explains.

Another regulation

The arrival of UCITS III is affecting fund managers and distributors in different ways. “If you’ve got a really modern system for capturing information on your clients, the directive is not too much of an additional strain,” says Mr Roberts at IFDS. “However, on the other hand, it is another regulation, another complexity, and at time where everyone is trying to bring costs down, it means building costs up.”

Those already using modern systems can have those easily extended to comply with the new requirements regarding reporting, calculations and disclosure. “But if you’ve got an old system it means a lot of work, and this is another example of why fund management companies and distributors are deciding to outsource,” says Mr Roberts. He says the recent enlargement of the EU will also accelerate the creation of single domiciled investment vehicles for sale across Europe, with the consequent demand for TA solutions that can support these activities.

So what are the key demands of distributors and fund managers seeking to outsource TA? Mr White at MFT says clients want state of the art systems “that are not only fast and scalable, but flexible so they can be added to or amended”. The systems must also be able to support the 24-hour need of their global client base. Recent enhancements include the introduction of GFAS Message Exchange, MFT’s straight-through processing system.

“MFT has built message adapters to handle SWIFT message formats sent via Clearstream’s Vestima and Euroclear’s Fundsettle platforms, as well as providing the ability to enable those distributors who wished to deal direct via SWIFT, to do so,” says Mr White.

While the huge investments needed to buy these products mean the largest transfer agents will dominate the European funds arena, there is room for niche players offering a more individualised service to smaller fund houses. Managers specialised in specific asset classes tend to like the idea of working with a TA with expertise in that specific area. This is the case with State Street subsidiary IFS, which focuses on hedge funds. Alternatives is an area many TA providers have not yet penetrated, but it could prove to be one of the most lucrative, if current asset allocation trends among private clients continue.