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Some of the world’s leading experts on global custody met in New York recently to discuss the challenges facing their industry. Global Finance’s publisher Joseph Giarraputo moderated.
Global Finance:
What impact have the Patriot Act and Sarbanes- Oxley had on custodians and their operations?
GEORGE EVANS,
executive vice president, BISYS: There’s renewed emphasis on compliance and regulatory services and more discussion around whether to provide those services inhouse or to use an outside provider. BISYS is contemplating a program relative to the proposed rule to serve as chief compliance officer for several firms that we currently service.
ALAN GREENE,
executive vice president, business head, US investment services, State Street: Most of the custodians had money-laundering procedures in place already, but there are aspects that have caused us to refocus thinking. It affects us twice as an organization because we certify our own results and because clients are coming to us, looking for us to sub-certify to what we do for them.
ROBERT DARMANIN,
senior vice president, The Bank of New York: We’ve seen much more certification on a quarterly basis. Also we’ve seen increased awareness amongst our customers, especially intermediaries. Historically, the regulated mutual fund industry never focused on money laundering to the degree they do today.
TOM D’ANDREA,
director of global custody, Citigroup: We’ve all been doing antim o n e y - l a u n d e r i n g ‘know your customer’ for years, so it’s really just beefing that up. The Patriot Act is almost a paper c h a s e , though, and it’s probably going to become a bigger paper chase down the road, if and when we are required to look at our customers’ downstream customers. It’s going to be very difficult. Pedelford
Lattimer, first vice president, Mellon Global Securities Services: We have had to provide extra training both for clients and internally. We’ve had to refocus, but we’ve been doing this for a long time.We’ve got a well-developed infrastructure in terms of controls, processing and being able to monitor and c o m m u n i - cate information.
TIM CONNELLY,
partner, Brown Brothers Harriman:We see an increase in spending on technology. It’s an added cost, but it puts a value on quality.Also, midand small-size firms that have leaner internal staffs and monitoring mechanisms are now looking for guidance with regard to best practices.That’s a value that a world-class custodian can offer.
STEVE APPELL,
senior vice president, Northern Trust: We see this as an affirmative resolution of the FDIC regulations of the early 1990s. As a trust bank, it is just a natural evolution of what we are hired to do—keep our clients’ assets warm and dry around the world and compliant with local regulatory authority. The technology, training and operational improvements all go with the territory.
D’ANDREA:
With the Patriot Act ever y customer has to have an identification number. We took it a step further and are doing it globally with all our customers, but the trouble we will face there is that you have to keep records for five years after an accountis closed. If you start to do that globally, you run into privacy laws. There are a lot of things that still have to be sorted out.
LATTIMER:
People are trying to address these issues in a number of different markets. If you are on the global stage, you really have to have an operating model and an infrastructure that allow you to address them in ways that are appropriate to the different markets you are doing business in.
EVANS:
A good example is the European Union savings directive that talks about international sharing of investor savings and investment income information to other members of the EU.
GREENE:
Some of the US legislation will spill over into the rest of the world.
GF:
New York State’s attorney general Eliot Spitzer has revealed a widening pattern of improprieties in mutual fund trading. How is this going to impact custodians?
GREENE:
On the issue of market timing we can help by ‘fair valuing’ funds’ portfolios. If you do this you can help eliminate the arbitrage opportunity. Second, we need to support industry efforts to restore investor confidence.
DARMANIN:
Eliminating market timing may mean changing the time for the calculation of asset values or calculating them several times during the day. That will add cost and possibly lead mutual fund companies to outsource those types of operations. Alternatively, exchangetraded funds may see a resurgence of momentum.
D’ANDREA:
Regulators are also focusing on possible conflicts of interest. The onus will be on the banks to eliminate them. We’ll no longer be able to claim it’s industry practice.
CONNELLY:
Eliminating conf licts of interest is something clients will seek.That becomes a tougher issue as the industry consolidates and you get a myriad of conflicts of interest just because of the nature of the corporate entity itself.
EVANS:
More interesting are some of the possibilities that arise from new legislation and policies. Cut-off evaluation is one issue: How can we consistently redefine that across all the markets? Another is fair valuation. A third is legal administration. We are finding huge consulting opportunities around these issues.
LATTIMER:
With the current regulatory environment and the issues that managers are already focusing on—figuring out how to enter new geographies, change distribution channels or launch new products—we’re seeing much more potential for outsourcing. We’ve seen increased demand for analytics systems and for consulting services, for example.
APPELL:
We see the evolution of that need but not yet the full acceptance of it. In the end, however, industry change such as this often presents many opportunities for custodians with their clients, such as with outsourcing.
GF:
What regulatory developments around the world should our readers be aware of?
EVANS:
There will be a lot of things coming out of the European Union in the next few years, as well as developments in offshore locations.
GREENE:
A lot of regulatory developments globally will mirror those in the US. Large pieces of US regulation are transportable to other environments, although some local regulations will be tailored to the local set- tlement practices of that particular market.
D’ANDREA:
Changes in the way custodians can charge mutual funds for trustee compensation will have a big impact.We are going to have to change how we get paid. For example, the broker dealer side of the bank will not be able to pay sales incentives to the transactions side of the bank.
LATTIMER:
We continue to see regulators try to facilitate the growth of capital markets. You are going to see a real push in the European Union to start to harmonize corporate governance and harmonize tax laws so that they can continue to keep institutional investors interested in their markets.
D’ANDREA:
One legal development is the cases, such as Enron, that are looking at trustees’ responsibilities. These could have a far-reaching effect on everything we do. And a development that may create a growth area for our industry is the regulation of hedge funds.
APPELL:
The implementation of Basel II further down the road will also be important, as will the different application approaches to the accord between the US and Europe.
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