The pending merger of the Bank of New York and Mellon Financial Corp. will form the worlds largest custodian, but the bank will need to expand operations in Asia and in hedge fund administration to retain its crown.
The proposed creation of Bank of New York Mellon Corp. is expected to be approved by shareholders of both companies May 24, with a deal expected to close July 1. The combined bank will have $18.6 trillion under custody and administration.
JPMorgan Chase & Co., New York, is second with $14.7 trillion under custody, followed by State Street Corp., Boston, with $12.3 trillion under custody.
Those three firms each derive 70% to 75% of their revenue from custody and asset servicing in the Americas, according to data from The Tower Group, Needham Mass. The fourth largest player, Citigroup Inc., New York, gets 55% of its revenue from the Americas, the bulk of that from the U.S. But the U.S. is a mature market. Typically, the only way custodians grow their businesses in the U.S. is taking clients from other custodians or adding to the services already provided to a current client, said Matt Nelson, a senior analyst for The Tower Group.
The growth opportunities are overseas or in hedge fund administration.
Investment managers and large pension funds in other countries, particularly in Asia, are in the early stages of investing abroad, creating new demand for global custody.
Bank of New York officials have set their sights on expanding their custody business in China, Korea and Taiwan. Tim Keaney, senior executive vice president, said the regulatory environments in those countries is allowing for more cross-border investment, making it a good place to expand the custody business.
The Bank of New York will try to establish its presence in those countries through partnerships with local banks or through acquisition. If the right opportunity comes along, our preferred method is to acquire, Mr. Keaney said. If not, well be patient and watch how things develop.
Patience may be required. While the merger with Bank of New York and Mellon will make the bank into the largest custodian, it does not help them in Asia, said one consultant who helps institutional clients select custodians.
They (BNY/Mellon) are going to face a lot of competition. Asia is an equal playing field, said the consultant, who asked not to be identified. They (all custodians) are all behind the eight ball. No one is particularly stronger.
The main challenges in Asia include finding local talent to help develop the custodial business and convincing potential clients that its cheaper to outsource many of the functions of a global custodian than performing those tasks internally.
But finding that local talent is tough anyone who has the know-how to work in custody could also be useful at hedge funds, so theyve already been hired.
Theyre all competing for very few people. Finding local people who understand the custody business is not easy, the consultant said. So far, State Street and Northern Trust Corp., Chicago, have done a better job of securing local, senior level talent, the consultant said.
And potential Asian clients have been slow to outsource services to a global custodian. They will use a global custodian for safekeeping of assets, but they will do tasks like accounting and fund administration in-house.
Europe is a fragmented market with different challenges. The merger will do little to help the merged firm increase the global custody business in those markets, said the Tower Groups Mr. Nelson. They merged two predominantly North American entities, he said.
Europeans agree. No doubt theyre a leader in the industry, said Jacques-Philippe Marson, chief executive officer of BNP Paribas Securities Services, Paris. Having said that, a lot of those assets are U.S.-based. Were a leader in the European market. That deal does not change that. BNP Paribas has $4 trillion in assets under global custody.
The largest global custodians face their biggest challenges in Europe trying to compete with the smaller local players, the anonymous consultant said. Europeans tend to not like American banks. Historically, theyve always done business with the guy down the street.
One of the guys down the street, HSBC Holdings PLC, London, is integrating each of its regional platforms, support and client service systems, which should help the firm grow its global custody business. Previously, its client-facing systems were regional, which made clients think of HSBC more as a local custodian.
Now HSBC has realized if they can move to a global platform, they can take people head-on, the consultant said.
The consultant noted that U.S.-based custodians will also face stiff competition from other local players in Europe. Societe Generale (Group, Paris) has a pretty impressive hedge fund administration platform. BNP Paribas has phenomenal performance measurement and compliance reporting systems, the anonymous consultant added.
Hedge fund challenges
For Bank of New York Mellon to maintain its status as the worlds largest custodian it will also have to increase its hedge fund business.
Among its hedge fund services, the Bank of New York provides lending clearance, collateral management, custody, fund administration, securities lending, performance and risk management, execution, transfer agency and depot bank services.
JPMorgan is the only other custodian offering credit, collateral management and clearing to hedge funds, Mr. Keaney said.
Neeraj Sahai, global head of securities and fund services for Citi, would not comment directly about the Bank of New York and Mellons potential to serve hedge funds but said that, in general, firms that can bundle custody and prime brokerage to hedge funds have a leg up in winning that business.
As hedge funds become more mainstream and expand beyond the U.S. and U.K., theyd like to find a custodian who can provide a full suite of services including prime brokerage, financing solutions and asset servicing, he said.
But Mr. Keaney said Bank of New York Mellon will benefit from staying out of the prime brokerage business. Prime brokerage firms are more likely to recommend the bank to hedge funds looking for custodial services because they know the bank will not try to steal the prime brokerage business away later, he explained.
In the parlance of the financial company, were a bit like Switzerland, Mr. Keaney said. The prime broker will want to bring us in.