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Prime Custody: Achieving Asset Protection & Operational Simplicity
Remote Custody and i ts Impact on Buying Power
Calculations:
Another facet to be considered with the
remote third-party custody model is its impact on the prime
broker’s ability to calculate hypothetical buying power.
Remember, the primary purpose of a prime broker was to
extend their client’s buying power through fnancing loans
made to facilitate leverage and secured by the client’s long
positions. Prime brokers have spent millions of dollars in recent
years creating infrastructures wholly geared to the timely and
effective calculation of buying power and optimal utilization
of assets.
Unlike the traditional waterfall approach to trade and portfolio
processing around which custodians built their infrastructures,
prime brokers built platforms able to provide 360 degree views
of activity, as shown in Chart 4.
Inputs from every part of the trade and portfolio life cycle
are factored by prime brokers seeking to calculate the
buying power of their hedge fund and alpha-seeking
investment manager clients. By offoading a signifcant
portion of their assets to third-party custodial banks, prime
brokers undermine their own ability to most effectively service
and advise these clients.
Under these arrangements, the prime broker has to wait
for the custodian holding segregated assets to update their
valuations and release a report on the assets being held in their
account. This is typically at best an overnight process, and in
some instances, reports from custodians take much longer to
be updated and delivered. In rapidly moving or highly volatile
markets, this could potentially impact fund trading decisions.
Many custodians are not set up to transmit reports via
electronic formats common within the broker-dealer and prime
broker community. Oftentimes, custodial reports are delivered
via fles that must be either manually keyed or mapped into
the prime broker’s systems. This raises the likelihood of input
errors and increases the need for the prime broker and the
custodian to normalize their underlying data models—a
diffcult proposition.
Even when third-party custodians can deliver the data
effectively to support prime brokerage buying power
calculations, there are still multiple touch points to navigate
if assets need to be shifted between the prime brokerage
and custody account. Coordinating across multiple service
organizations adds time and the potential for errors into
the process.
As a full-service bank with both a broker-dealer and a custodial
banking entity, Citi has long been able to offer remote custody
arrangements for prime brokered clients if they so desired.
Rather than tout this native ability as a Prime Custody
“solution”, our approach has been to go beyond ensuring
asset segregation in crafting our offering and instead extend
to our clients a robust, seamless set of services that allow
them to ensure protection and oversee the use of their assets
in an operationally superior manner.
Advantages of Citi’s Integrated Prime
Custody Solution
Citi has an inherent advantage to many other leading
organizations in crafting a Prime Custody solution. Rather
than having to create a brand new special purpose vehicle
or employ a remote third party, we were able to combine
capabilities across two established and internal market-leading
businesses. Prime Custody is a joint venture offered by Citi
Prime Finance and by Citi Securities and Fund Services.
Chart 4: Custodial vs. Prime Broker Trade Life Cycles
Chart 3: Prime Custody via a
Third-Party Custodian