Mercer’s David points out that asset owners spend so much time, energy and money on tracking the performance of a fund manager, which includes sourcing performance, attribution and mandate compliance reporting from custodians. But if the backoffice took on investment services as well, super funds might need an internal team or another external service provider to keep watch on their master manager. The new services and cost savings would need to be worth it. It’s good that custodians are thinking laterally about their clients’ needs, she says, “but markets are very complex. Even tax propagation is very complex and doesn’t always go very smoothly”.
Making first base
Propagation, or tax parcel optimisation, is the first stage of the master manager service. It aims to preserve the capital gains tax (CGT) concessions attached to domestic equities by ring-fencing shares that underlying managers have owned for less than a year. Tax optimisation across the underlying portfolios is possible because each super fund can be treated as a single taxable entity. In the next phase, the custodian executes orders from underlying managers before the start of each trading day, and usually at the volume-weighted average price. This means they will rarely execute all of a manager’s trades on any trading day, nor will they seek out the best price. But cost savings can be made by executing trades in larger chunks.
Tax optimisation can also be performed concurrently because all of this activity is being carried out within super funds. However in the final stage, a custodian will propagate multiple clients’ portfolios individually, but net-off trading orders collectively, creating the potential for further cost savings as orders are executed in bigger chunks. State Street’s O’Sullivan says that tax propagation is fast becoming an almost mandatory service from custodians for super funds and other large multimanagers. State Street is on the verge of launching this service to its clients. But there have been some earlier adopters: Sunsuper asked its custodian, National Asset Servicing (NAS) to implement the service in January 2009. It was NAS’ first client to do so.
Australian equities have not made outrageous gains since then, so concrete evidence of the benefits of propagation have not materialised, says Craig Neal, manager – corporate and financial services, at Sunsuper. But in the next period of steady, sustained market performance, the fund expects to see “true savings” from the program, he says. But Sunsuper hasn’t decided if it will ask NAS to implement the second phase of the master manager service. “There is a mixed response because the industry is used to dealing in a certain way. Some [managers] embrace it. Others hesitate. It depends on their relationship with the brokers,” Neal says.