The WWW and the Global Custody Business
...One Year Later

What a difference a year makes! For a second year, Buttonwood's Global Custody Survey explored the use of the Internet WWW for the global securities business. Fifteen global custodians - with corporate operations located in the U.S., Canada, and Europe - were polled.

Last year, we were somewhat puzzled by the returns - the Internet did not seem to gain the attention of the global custodian community. Our survey questionnaire - over 20 pages in length - was available for distribution to participating custodians by Internet email, but only two custodians of eighteen, admitted to having email addresses.

This year, the use of the Net for the survey was very different. The questionnaire was available on Buttonwood's Web site - with appropriate security of course - for file download by participating custodians. We are happy to report that most custodians used the Internet to download the questionnaire and also, upload completed questionnaires - a savings of time and communications cost for all involved. Alas, few exceptions were encountered - one overzealous LAN administrator prohibited file downloads from the Net while another custodian did not have access to the Internet. Overall, use of the Internet for our 4th annual survey was a huge success.

Survey Results

What is the current state of the Net development by the global custodian community? For starters, last year only two custodians had running Web sites, while today fourteen of fifteen custodians have Web sites.

"Today, the Internet is best suited to time-sensitive information that is in the public domain and not client-specific. That said, Royal Trust is solving security concerns to support the safe transmission of instructions and account details for both cash and securities. The Net could well displace proprietary systems--eventually," says Mary Taylor, Vice President GSS Sales and Client Relations, Royal Trust. The results of our survey tend to support Taylor's observation. The most popular applications placed on the Net by the custodians are in the public-domain

Survey results were categorized by three levels: Corporate Publishing, Customer Account Services, and Electronic Commerce (see accompanying Table). At the first level - Corporate Publishing - most custodians had "glossy brochure" type applications, i.e. descriptions of the corporate bank, services, products; corporate news stories; and a few advertising programs. A handful of banks are using the Net for job recruitment, economics research reports and even entertainment (sports program).

State of Internet Development
by the
Global Custodian Community

Applications listed are representative of the group;
exceptions noted by (number of custodians).

Source: Buttonwood's 1997 Global Custody Yearbook

Note: Internal bank uses of the Internet covered a variety of activities such as monitoring regulatory trends, market research, administrative e-mail, corporate policy and human resource information.

In the second category - Customer Account Services - the custodians offered a variety of applications to existing and potential clients. Most frequently mentioned applications were Emerging Markets profiles and practices, market data, and current news. Systems which support e-mail services to bank customers are under development by several custodians. Providing client-specific information on the Net remains elusive because of concerns raised by all custodians about security, data confidentiality and data integrity.

The final category - Electronic Commerce - remains a wide open opportunity area and a potential minefield for the first marketplace entrants. The idea of placing relatively low volume, high ticket value transactions on the Net causes the most savvy technology specialists to be a bit squeamish. Custodians say that the Net is an interesting alternative to their highly secure, proprietary, worldwide network but a few issues must be first resolved, Internet security being one of many.

The Real Challenges of Commercializing the Net

"In the past year, significant strides were made to enhance both the perceived and real aspects of Internet security on an industry-wide basis," says one custodian. Most survey participants agreed. Every custodian expressed a concern about the security on the Internet, and each has addressed the issue by various programs such as computer firewalls, data encryption technologies, internal audit review procedures, and constant monitoring.

The practical issues of using the Net for any commercial enterprise were nicely summarized by one custodian as follows:

• Authentication - knowing with absolute certainty that information is exchanged between only authorized parties.
• Confidentiality - ensuring that sensitive data is interpretable only by authorized parties.
• Integrity - ensuring that the information clients receive is exactly as it was sent and vice versa.
• Reliability - ensuring 100% up time of the network and 100% message delivery.
• Performance - ensuring timely delivery of all messages.

This custodian - apparently well steeped in the issues - also mentioned legal considerations that relate to intellectual property (copyright law), advertisement (federal and state regulations), securities law (SEC and state regulations, NASD and NYSE rules), and various foreign laws.

Another custodian - from outside the U.S. - was rightfully critical of government meddling in technology, "The U.S. will only allow the export of 40 bit encryption [key]which can be cracked using very powerful computers in less than an hour." This custodian built extra measures of security on top of the standard encryption for their products. PGP (Pretty Good Privacy) was mentioned as available to encrypt messages, supporting a more secure encryption key up to 128 bits in length.

One custodian believes that "...the newer browsers have built-in security features that are required to access any secured areas of the Internet or WWW. As the Net becomes more and more commerce driven, the development will be driven to meet the needs for secure transactions and functionality."

Service levels were mentioned by several custodians as problematic. "Today bandwidth, latency and availability all present significant challenges to guaranteeing the adequate service level required to do business over the Internet. This problem will be compounded in the short run as more users gain access to the Internet, creating even longer delays in service. Addressing this problem on a wide scale will take time and significant capital investment," says one custodian.

"The regulatory environment could also present a barrier to doing business over the Internet on a global basis. Many countries have started to restrict access and use of the Internet within their borders," he adds. Also, the cost of Net access is prohibitive in some European countries because of metered telephone usage on relatively low bandwidth lines.

One major custodian touches on the business challenge faced, "...speed and flexibility of the Internet for data distribution is dramatically changing the custody business by enabling banks and other third-party service providers to develop and deploy new information products more rapidly and at a much lower cost. ...banks will increasingly compete on the basis of their ability to deliver reports and data in shorter timeframes." This custodian anticipates a shorter product life cycle will result.

Field of Dreams?

"Our clients use the Internet in much the same ways we use the Net, although to a lesser degree. We are eagerly awaiting more widespread use by our clients," says one custodian. The general feeling of the custodians is that usage of the Net by their clients is on the high growth curve. But which market segment is most enamored by the new technology medium? We attempted to probe the issue and came away with a few insights, albeit more qualitative in nature. Comments follow:

• "The extent to which clients are using the Internet varies greatly. A small number of clients, mostly money managers, are active Internet users," says one custodian.
• "Clients are Internet capable and are using the Internet for global e-mail, research and marketing purposes. They are publishing fund prospectus information, providing marketing materials, offering retirement calculators, reporting NAV information, and supplying general company information," adds another custodian.
• One custodian reported about 3,000 visits per month to their Web site, with each visit session reviewing slightly over 10 pages.
• "Increasingly, our customers are requesting greater access to information via the Internet, especially in the area of individual investor services such as 401(k)s. Development efforts are underway to address this demand, " says another custodian.
• "We have received many visits from existing and prospective clients to our Web site since its launch. We also received numerous job applications, and exchanged files with clients," says another custodian.

The commercial use of the Internet is in its infancy - less than two years old in most cases. Although an in-depth marketing analysis of client usage may be a stretch at this time, a simple observation is quite clear: the global custodians are investing heavily in the new technology, their clients are quickly coming up the learning curve, and usage of the Net is expected to explode over the next several years!

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