“I’m not going to tell you that some custodians haven’t tried to put a cap on the whole offering,” David says. Such a move almost defeats the purpose of outsourcing. “How are you going to sell that? Why not bring it all in-house?” While caps on unit pricing errors are applied on a case-bycase basis, indemnification for mandate compliance is a blanket provision in any contract. Part of a custodian’s job is to detect whether a funds manager has breached their investment mandate. If a manager transgresses, and keeps doing so, both service providers have failed to keep their sides of the agreement. But if a custodian reports these breaches, and either the manager or asset owner fails to remedy them, the custodian should not be liable for any consequent losses.

Some breaches result from market moves, and are seen as “passive” faults, says State Street Investor Services’ domestic head of sales, Greg O’Sullivan. Because custodians see their role as monitoring a manager’s work, and they have no sway over how they operate, custodians should not be liable for the impacts of deliberate or “active” mandate breaches. “We’re seeing more clients want a daily mandate compliance report,” O’Sullivan says.

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