Iain Morse surveys Sweden’s highly competitive custody market
“Competitive is the word I would choose to describe the custody market in Sweden,” says Toby Ankarman, head of domestic business development at Handelsbanken’s Nordic custody services. Four Nordic banks, SEB, Nordea, Handelsbank and Swedbank are active in the local market. They act as principal custodians to domestic clients, employing sub-custodians abroad, and also fulfil the role of sub-custodians.
The global custodians are also here, either directly employed by one of the sizeable AP public pension funds, or hoping to win this business. Some operate directly in Sweden, some via one of the Swedish sub-custodians. “Only a few have boots on the ground,” according to Stephen Merry, managing consultant for investor services at Thomas Murray. These are Citi, JP Morgan and Northern Trust; rival providers operate from other European locations. Citi provides both domestic and global custody in Sweden, while JP Morgan and Northern Trust are not concerned with domestic custody provision.
There are plenty of reasons why Sweden supports a domestic custody industry. The economy is strong, as are the four local banks engaged in custody. These also lend money to corporate Sweden and provide retail banking services. “Their brands are strongly established in the local market,” adds Merry. “SEB, in particular, has good market share.”
Estimates suggest that assets available for custody in the market are worth up to SEK800bn (€91bn). Pension funds account for SEK100-200bn in assets under management. Insurance company assets lie in the SEK100-400bn range, and the figure is up to SEK50bn for fund managers that are part of larger groups. On top of this, there is a further slice of independent fund managers with assets of up to SEK50bn and corporates with assets of up to SEK30bn, according Handelsbanken. The reason for the breadth of some of these estimated totals is simple - a lot of assets are captive, held within broader groups and serviced accordingly.
The coverage of pension provision offered by public bodies and private companies is high - around 90% of the employed labour force. There are strong generic similarities in the benefits offered by different schemes; until 2007 they generally offered a version of defined benefit pensions. Many are insured, some are housed in off-balance-sheet, pre-funded pension foundations. However, some use a device similar to the German ‘direct promise’ of a balance sheet liability to pay pensions.
These balance-sheet liabilities require credit insurance provided by PRI, a mutual insurer, and charged at a flat rate. Employers like Erickson and Volvo use this type of promise as part of their employee benefit package. Last year, car maker SAAB’s insolvency triggered its credit cover to meet a funding gap on liabilities of SEK325m. Insured schemes often cover more than one employer, or are set up on an industry-wide basis. Insurers used to offer guaranteed return pension products; these have been progressively withdrawn or curtailed. Alecta, for instance, now only offers a guaranteed return of premiums paid on its default pension fund.
As in Switzerland, Sweden has its own domestic accounting standards - Swedish GAAP - which values future pension liabilities in a different manner to their treatment under the IFRS. “Swedish GAAP generally places a lower cash value on liabilities than IFRS,” explains Mattias Brus, a partner at KPMG Consulting in Sweden. “There is a trend to use IFRS, which is focusing minds on how to reduce pension liabilities.” Corporates which need to access international credit markets are increasingly switching to IFRS valuation of pension liabilities.
Since 2007, anyone born in or after 1979 has lost eligibility for enrolment in a defined benefit workplace pension scheme and instead is offered access to a defined contribution scheme. As elsewhere, there has been a strong trend to de-risk pension arrangements. This means that custodian access to pension assets, with the exception of the AP funds, will increasingly be via insurance companies and fund management companies rather than via a sponsoring employer.
The Swedish financial services industry and pensions industries are generally acknowledged to be open and relatively transparent. Larger clients do not give automatic preference to local service providers. “In our experience, it is unusual for Swedish pension funds to use both a local and global custody provider,” says Merry. “Most of the larger funds choose to maintain a relationship directly with a global custodian.” Some funds exclude local providers from their custodian searches.
“Large Swedish institutions are buying the resources and know-how of global and global/local providers because they doubt locals can offer the same quality of service,” adds Merry. Local custodians will have to choose between investing heavily to stay in the market, or withdrawing from it. Merry expects further consolidation in the market, with one or two of the current local participants likely to withdraw.
At present, SEB is accepted to be the largest local custodian. It is a free-standing operator. “All the others have either sold their custody business, as Nordea did with JP Morgan, or have a collaboration with a global custodian, such as Handeslbanken with Northern Trust,” notes Asa Mindus Soderlund, CEO at SPP Konsult AB. He says that many of the big investment managers already place their non-Swedish assets with a global custodian, and adds that “diversification always creates opportunities for global custodians to win business at the expense of local ones”.
Meanwhile, the mighty AP funds each appoints its own custodian. AP2 uses State Street, and its local sub-custodian SEB but only for core custody, according to Ula Eriksson, head of business support at the fund, which carries out administration and so-called value-added services like performance and risk measurement in-house. Aside from core custody, State Street carries out a limited range of other activities that include restitutions, tax re-claims, and a security-lending programme for foreign securities owned by AP2.
However, the fund manages the lending of its domestic securities in-house. Cash management is carried out by AP2 and collateral management by State Street, with a low basis point fee. Much the same applies to the other AP funds. All will require a principal custodian to have a strong A/A1 or A rating and to have been rated by two or more of the major agencies, not to mention having a minimum of assets under management, typically around $1trn (€798bn).
Last but not least, come foreign investors needing a custodian for local securities. “Agent-bank risk is top of the agenda for many of our non-domestic clients,” according to Jonas Modigh, head of foreign custody at Handelsbanken. “They want our credit rating, and to know whether there is good liquidity in the bank.” Foreign investors account for up to 25% of transaction values, generating for custodians some significant transaction-based fees which have otherwise fallen by around 65% due to the advent of a Swedish/Nordic CCP.
As a result, custody in Sweden is a competitive business. “Fees tend to be bundled, often in the low basis point range, but I think the industry will be forced to un-bundle due to price pressure,” concludes Modigh.