The main advantage is information. Asset managers (such as hedge funds or separate account managers) rarely hold their clients’ assets themselves. They use their clients’ custody banks as repositories, and instruct them to make changes to customers’ holdings any time they buy or sell a security. This means the custodian bank has a truly holistic view of the client’s holdings—even if that customer uses dozens of different asset managers. Also, custody is a business built on scale: These institutions oversee, literally, trillions of dollars worth of assets (see “Big Business” chart on next page). This gives them insights into how clients, in general, are shifting their money among different asset classes.

The private bankers who work at institutions with large custody businesses—for example, Northern Trust or Bank of New York, among others—claim that this combination of a holistic view of a client’s portfolio, and information on the overall flows of funds among asset classes generally, gives them information that they can use to benefit their customers.

SECURITIES SUPEREGO
At the most basic level, custody banks can provide guidelines oversight, meaning they alert clients if an asset manager goes outside its agreed-upon strategy. For example, if an investment-grade bond portfolio manager bought a high-yield bond, the custodian would alert the client to the breach of guidelines. They can also alert an investor if a number of his or her asset managers are all taking the same bet—unbeknownst to one another—resulting in a highly risky concentration. For example, if a bond manager bought General Motors debentures, an equities manager bought Ford stock and an international portfolio manager bought yen-denominated Toyota equities, the client could have a dangerously large exposure to the fortunes of the auto sector.

TOP VIEW Traditional custody banks are now offering a range of financial analytics and performance measures to their affluent clients. They claim that with sophisticated data-mining technologies, they can obtain a superior analytic view of the assets they oversee. Private bankers who are not affiliated with custody banks say open architecture makes these advantages available to everyone’s clients, so they do not give custody banks a significant leg up when vying for private banking clients.

More sophisticated tools, which have been available to institutional investors for years but are now being used to analyze wealthy individuals’ investments, fall into two general categories. Custodians’ return-attribution tools analyze an investment portfolio to find out which of its components are generating return. Their risk-decomposition tools do the same, only they seek to find the components that are generating the risk. When put side-by-side, they show whether an investor is making the most money in the investments that generate the most risk, or whether those perilous investments are not paying off. In the latter case, the investor can fire underperforming managers or reallocate money among asset classes, depending on the situation.

Predictably, however, there are those who downplay the value of this proposition. “The only value-add in custody is doing it correctly,” says Jeff Lauterbach, CEO of the Capital Trust Co. of Delaware. “As a result, we think custody is an anachronism. We use many different custodians deliberately, since we work exclusively with financial advisors and we custody where it is most convenient for them. There is no advantage to having all the data vertically integrated on your own systems versus in an open architecture platform,” he contends.

Still, in a world where knowledge is power, banks with robust global custody platforms could be on to something. “Clients want information at their fingertips, across a broad range of advisors and asset classes,” says John Hoffman, senior vice president and wealth advisor at Northern Trust, with $2.3 trillion in assets under custody. “We can drill down to each manager and get real-time, integrated reporting at the touch of a button.”