Fund admins partnering with custodians post-AIFMD likely to cull clients
Independent fund administrators seeking depositary partners as mandated under AIFMD could be forced to terminate some of their existing client relationships by risk averse custodian banks, a senior executive at HSBC Securities Services has warned.
A number of standalone fund administrators which do not possess banking licenses, as is required under AIFMD to serve as a depositary, are reaching out to global custodians in an effort to form partnerships. Experts believe larger, independent fund administrators with around $100 billion in Assets under Administration (AuA) could have some bargaining power on forming strategic partnerships, particularly if a custodian wants to expand its hedge fund distribution or cross-sell other products to hedge funds.
“It is feasible that a large fund administrator could form a partnership with a mid-sized or smaller global custodian but there will be a caveat. Custodians will be liable for any loss of assets and oversight of that fund administrators’ clients, and many custodians are being forced to de-risk. Were a fund administrator to form a strategic partnership, it would not be a shock if the custodian asked the fund administrator to terminate relationships with AIFMs it deemed as higher risk,” said Bill Scrimgeour, global head of industry and regulatory affairs at HSBC Securities Services in London .
AIFMD will ultimately force custodians to undertake rigorous operational due diligence on fund administrators’ underlying hedge fund clients. “Custodians looking to form partnerships with administrators will have to look carefully at those administrators AIFMD-compliant hedge funds or funds of funds. It will go well beyond a credit assessment and will look at strategy, controls and investor base,” said Scrimgeour.
Standalone administrators like SS&C GlobeOp, HedgeServ and SEI, given their AuA are the most likely candidates to form agreements with custodian banks. Smaller custodian banks, such as Brown Brothers Harriman, Royal Bank of Canada (RBC), Pictet, Fortis and CACEIS, would all be viable partners. Strategic partnerships could facilitate mergers at a later date. Proponents of strategic partnerships point out it would avert potential conflicts of interest which might arise if the depositary oversight and fund administration roles are carried out by a single entity.
However, strategic partnerships are not a foregone conclusion, and the majority of large global custodians, of which HSBC is included, are loathe to sign any agreements at present. “Large, global custodians will probably feel little obligation to sign a strategic agreement with a fund administrator as it would be helping a competitor, and it is easier to perform the fund administration and depositary role under one roof. More importantly, global custodians like every other financial institutions are being forced to de-risk and will be reluctant to take on the added liability of those fund administrators’ smaller clients,” said Scrimgeour.
AIFMD presents enormous challenges for standalone administrators, particularly those with a predominantly European client base. Offshore managers with a presence inside the EU are currently not subject to the full ambit of depositary liability, although this could change in 2018, which could ultimately endanger smaller administrators.