Infrastructure: a $100B plus per year expense

Inspiration for this week’s post comes from a couple of articles in the press this week. One highlights just how expensive it is to organise what happens after one person says buy and the other says sell. The other highlights a great initiative to encourage the use of standards.

The TabbFORUM published a very thought provoking article: “Alpha in Industry Infrastructure: Unlocking Value in Post-Trade Processing.” The article cites a 2013 DTCC study that found the banks spend a collective $100B on post trade infrastructure, with a mere 5% of that figure managed by market utilities or FMI’s. I would hazard a guess that this figure is only for the US, so global spending will be a multiple of that. “The Alpha in the Infrastructure” title is a great one. “Alpha” is the industry insider term for performance that is above the market return, the so called Beta. In simple terms, the authors are making the case that the cost of all the things that come after “I buy, I sell”  are reducing performance. That means less for investors: you and me. This is comparable to thinking about the difference between active and passive asset management; it is well known how few asset managers beat the index and equally well known that you might do just as well to buy a low fee index fund. In the infrastructure world, it is a fair bet that the same observation about how few people beat the average in investing holds true for infrastructure; little if any of 95% of the infrastructure spending that banks spend on “doing their own thing” is going to make a real difference in terms of money in clients’ or shareholders’ pockets.

The article trumpets a couple of current efforts by the DTCC to offer better utility services. I would commend the efforts, but offer cautionary words on the potential impact. These are services designed by Americans in the American market, so the chances are that the usefulness will be limited to the local market. It is a well known saying in the markets that for Americans, “multi-currency” means US dollars and Canadian ones.

On LinkedIn this week, Steve Lachaga, an old friend and wise head in matters of reference data, posted a link to a really welcome announcement from a European pensions association. EIOPA, the European Insurance and Occupational Pensions Authority, has issued guidelines that will mandate the use of the LEI, the Legal Entity Identifier. The LEI is the unique key that is the equivalent of a Social Security Number or National Insurance number for an individua.

Lessons to be Learned:  The DTCC figures are sobering; in terms of both in terms of absolute cost and the imbalance of the spending effort.

The announcement from EIPOA is music to the ears of those on the infrastructure side of banks. Once institutional clients have a unique identifier, there will be huge scope for buying in services and doing less themselves.

The banks need that regulatory diktat to help them re-balance that 95:5 spending pattern.

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