Buy-side urged to review custodians’ asset safekeeping arrangements

Buy-Side Features
20 Apr, 2015

Asset managers and end investors should consider increased due diligence as to the way in which their assets are held in custody at their custodian banks following the UK Financial Conduct Authority’s (FCA) £126 million fine of BNY Mellon.

BNY Mellon was fined for its failure to comply with the FCA Client Assets Sourcebook (CASS) rules insofar as it did not maintain entity-specific records and accounts. BNY Mellon used global platforms to safe-keep client assets held in custody which differed from the BNY Mellon entities with which the clients had contracted.

This matters because it could have inhibited an insolvency practitioner’s ability to return client assets in a timely fashion as it would have been difficult to identify where the clients’ assets were held. It also would have meant that clients’ assets were not subject to UK bankruptcy law but the law of the jurisdiction in which the entity actually holding their assets was established. 

One lawyer has suggested that the buy side will want to up the ante on their due diligence on custodian banks in light of this fine, including reviewing the terms of their legal agreements with custodians.  Custodians themselves will want to check the quality of their arrangements and how the CASS rules are being applied.  They can also expect to be asked for more details of their safekeeping arrangements by regulators.

While no clients suffered any losses, these transgressions occurred during periods of intense market volatility. As such any failure or severe credit event at BNY Mellon during that period would have resulted in serious systemic risks.

BNY Mellon was also sanctioned for failing to prevent the co-mingling of assets held in custody with firm assets. The FCA also criticised the bank for utilising assets held in omnibus accounts to settle the transactions of other clients without the express consent of those clients.

The Financial Services Authority (FSA), the precursor the FCA, has fined other banks including Barclays and J.P. Morgan for non-compliance with CASS rules whereby client assets were comingled with those of the banks.  A number of non-bank financial institutions have been penalised by the FCA for similar offences including BlackRock and Aberdeen Asset Managers.