Last year, the consultancy Deloitte published a report on the use of blockchain technology in Luxembourg’s fund administration sector. Adoption of blockchain will save fund firms time and money, but also risks cutting fund administrators (such as transfer agents, custodian banks and fund accountants) out of the equation, as well as the banks and financial advisors that today sell most investment funds to retail clients, a process which is called disintermediation.
On the upside, this cuts distribution costs and will let the fund firms roll out more types of products, and faster. On the other hand, “considering that the fund sector represents more than 50% of its economy, the blockchain has the power of an earthquake” that could, Deloitte reckoned, “shake” Luxembourg’s financial sector “to the ground”.
While blockchain is the technology behind cryptocurrencies like bitcoin, this issue has nothing to do with digital money. To vastly oversimplify, blockchain, or digital ledger technology, is like an Excel file where one user at a time can add data that is permanently saved. It can be seen, but not changed, by all future users. This means financial transactions can be completed more quickly and companies save money because data does not have to be manually re-entered or conflicting figures rectified by each counterparty. But those administrative tasks employ thousands in Luxembourg.
According to the Deloitte report (PDF):
“Luxembourg must structure itself in order to move forward into the new paradigm. Failing to do so could mean that a lot of existing actors would be replaced by new entrants and the country would lose [its] predominant position in the global fund industry.”
So, should the fund administration sector be worried? The industry is unlikely to be razed any time soon, according to the experts Delano interviewed, but change has already started to take root and the sector will probably look quite different within a decade.
A year after the report came out, Laurent Collet, a Deloitte partner and co-author of the report, told Delano: “I don’t think that the custody business and depositary bank business is in danger, clearly not.” Even in the future, when financial instruments are stored “in a cloud or a distributed ledger somewhere”, a trusted party will still need to “safekeep the assets and make sure that everything is fine”. That said, “it could be a challenge” for depositary banks to “reinvent” themselves as a sort of provider of security services.
Opportunity or threat?
“From my point of view, there are more opportunities than threats for fund admins,” said Olivier Portenseigne, managing director of Luxembourg-based Fundsquare, which runs a funds trading platform that is in the process of rolling out blockchain-based services. The use of blockchain requires a level of standardisation of how data is handled that simply does not exist in the industry today. Shifting to the technology will ring out huge efficiencies and let money managers and admin providers “focus first on what is creating value” for their clients, he argued. For example, providing market intelligence that lets asset managers create smarter products.
“We don’t believe that in the next two to three years it will completely overhaul the industry, but it is a long-term trend that is starting now,” said Tom Casteleyn, global head of custody at BNY Mellon Asset Servicing, one of the largest providers of fund administration services in Luxembourg. “We want to be driving that train, not just riding it.” Firms like his want to tap into all the benefits, but given the huge amounts of money they process, “there is no radical transformation in our industry… which is probably not a bad thing.”
RBC Investor & Treasury Services, a giant fund admin services provider, declined Delano’s interview request. Clearstream’s parent, Deutsche Börse, emailed a statement which listed its participation in several consortiums that are developing or have tested blockchain-based prototypes around securities lending, securities transactions and cross-border collateral transfers.
Already on the market
In May, Calastone, a funds transactions network based in the UK, shifted its entire client base onto the blockchain. Its platform “sits in the middle” between customers, meaning financial outfits did not need to immediately change any of their IT systems, Henning Swabey, Calastone’s head of continental Europe, told Delano.
Last year, Calastone commissioned research from the consulting firm Forrester, which forecast that the global funds industry could save £1.9bn (around €2.2bn) over six years by moving to blockchain-based infrastructure.
Swabey said his firm works with several major fund industry outfits in Luxembourg, including RBC Investor & Treasury Services, Henderson, M&G and Schroders.
Important for Luxembourg
“Luxembourg needs to be one of the first to adopt blockchain technology,” said Portenseigne. The French financial sector looks at blockchain as a way to regain market share that it has lost to the grand duchy. So “Luxembourg has much to lose”, he said. Blockchain adoption is “not a wish; it’s a need”.
That sentiment was echoed by Emilie Allaert, head of operations and projects at the Luxembourg House of Financial Technology, a promotion outfit: “If we want to keep and maintain our second place [among investment fund centres] in the world, we’ll have to really dedicate resources to developing these solutions, because if we don’t do it, some other countries will just jump on it.”
“My personal opinion is we are doing okay in what we’re actually doing. We are not doing okay in how we make people know about it,” said Monique Bachner, a lawyer and chair of the Luxembourg Blockchain & DLT Association (which goes by LëtzBlock). For example, while Switzerland has been grabbing international blockchain headlines, “they’re not really doing anything new, but they’ve been very open about their whole process and discussing [blockchain]. We [in Luxembourg] have been holding our cards very close to our chest. And so people go, ‘oh nothing’s happening in Luxembourg’, whereas actually [Luxembourg has all] these people beavering away and people don’t know about it.”
The shift to blockchain will require a different set of skills. For example, moving from “inputting transactions” to “providing data analytics”, Portenseigne noted.
Casteleyn said “the next 18 months is really about talent”. They need people who understand both the business and the technology “to make this connection, to work on proof of concepts, to work with clients to define what these solutions could look like… but in the end, this is just a technology. Clients need to be serviced, operations need to be managed.” In other words, the industry will need to carry on, even as it integrates new technologies, as it has successfully done in the past.
Bachner stated: “Whether it’s blockchain [or artificial intelligence] or any of the new technologies, you also need the talent across the entire ecosystem.” That includes everyone from board directors down. “Every single person actually needs to keep developing new skill sets. So it’s not only about coding, because it’s the whole ecosystem.”
Allaert added: “It’s also understanding the possibilities. Just grasping what the technology can bring. That’s the minimum actually.”
The need for standardisation will also require more cooperation across the sector. “With blockchain, it makes no sense to go alone,” said Laurent Marochini, co-chair of the blockchain and cryptocurrencies working group at the Association of the Luxembourg Fund Industry. “So we need to have a consortium of players, not
a consortium of several hundred players but a consortium of ten players, just to have the critical mass and also to fine tune... we need to work well together.”
Big bang or slow transition?
When will this all happen? “A lot of people think that you’ve got to go from current state of affairs to this utopia in one leap,” said Bachner. However, “the way that innovation works usually is you launch with your minimum viable product and you iterate and you iterate and you iterate, and I think it’s no different” with blockchain solutions.
Portenseigne reckoned fund management companies (but not necessarily fund admins) will start using blockchain technologies “before the end of the year” with “massive adoption after three to four years of this type of infrastructure running”. Casteleyn predicted there would not be a “big bang” transition either. He said it would take “12 to 24 months before you see real momentum in adoption of these solutions”. Marochini estimated 50% of transactions could be on blockchain in “maybe five years. If you say three years, 30%, I don’t know.”
Collet agreed that it will take at least five years to reach widescale adoption, but even hedged this statement. “I have no crystal ball. I mean, you don’t know, but it’s important to have a vision. It’s important to anticipate, because the leader of tomorrow will be the one who basically anticipated the train.”