While it tends to get less attention than digital transformation or product innovation, the decision to self-clear or outsource remains a vital cornerstone of a wealth management firm’s business model in North America. In fact, it’s a major choice that brings with it a range of implications for a firm’s value chain, operating model and platform.

The rising importance of this decision mirrors the evolution of the custodial function’s role and remit in recent years. Having started as the primary driver of a firm’s front-to-back operating model, it then morphed into a “commodity” function that firms sought to minimize—but is now pivoting once again towards becoming an integral part of the new hybrid advice ecosystems that are vital in retaining and attracting top advisors.

Against this background, it’s primarily only the largest firms—generally those found in the top tier of Barron’s Top 40 wealth management firmswho remain self-clearing.  By contrast, the trend continues towards mid-size firms moving to outsourced custody, aiming to share the burden of operational overheads, platform management and regulatory compliance.

That said, a number of smaller self-clearing broker dealers also remain in the market. So, what are the key trade-offs in choosing to self-clear or outsource?

In our view, three main drivers standout. First, control: how much flexibility and access do you want to give clients and advisors for direct trading? Second, cost: do you have sufficient economies of scale to support your own operations and justify maintaining them? And third, capabilities: given the ongoing change in the landscape of servicing and platform capabilities, what are your core capabilities and differentiators—and do they include clearing?

In weighing up these trade-offs, it’s important to understand the provider landscape. In contrast to the largely fragmented state of the wealth management vendor ecosystem as a whole, clearing is mainly dominated by a small number of large providers.

In the self-clearing space, most firms have moved away from legacy homegrown platforms, and industrialized with the two currently dominant clearing platform providers—Refinitiv BETA and Broadridge. While the market for custodian services is wider, BNY Mellon Pershing and Fidelity Clearing & Custody Solutions are the traditional pure custodian providers with $1.9T[i] and $2.3T[ii] in AUM, respectively. Other self-clearing wealth firms monetize their back-office via RIA and correspondent clearing channels—common examples include Schwab Advisor Services, TD Ameritrade Institutional, RBC Correspondent and Advisor Services, Wells Fargo’s First Clearing.

Meanwhile, all providers across the marketplace are making significant investments into their business models and platforms in order to respond to shifting economics and support “Digital 3.0”, where wealth managers could service clients holistically, within all dimensions of planning. This has resulted in the creation of flexible service models and new capabilities like Fidelity eMoney[iii] and Pershing’s partnerships[iv].

So, as the clearing and custody market continues to evolve, how should you think about your decision? In our view, it should revolve around five factors:

  1. Strategy determine the desired level of service you want to offer and the degree to which you want to control the advisor and client relationship.
  2. Economics look at how vendors pass through your business value chain, and your appetite for a correspondent business offering.
  3. Platform ecosystem decide on the level of reliance you want to have with vendors, including the consideration of best-of-breed offerings and plug-and-play capabilities.
  4. Capabilities understand both your vendor’s functional and platform capabilities.
  5. Service-Level Agreements (SLAs) — choose upfront a measurable delivery framework for the capabilities to be offered.

The message is clear. Amid all of today’s talk of digital transformation and product innovation, it’s all too easy to regard “self-clear or outsource” as a side-issue. You shouldn’t. It’s a key choice that goes to the heart of your business model—and it should be treated as such.

If you are considering whether to self-clear or outsource for your firm, please email Scott Reddel or Mike Marsiglio. We would be happy to help you think through your decision journey.

[i] https://www.pershing.com/_global-assets/pdf/pershing-at-a-glance.pdf
[ii] https://www.fidelity.com/about-fidelity/fidelity-by-numbers/fidelity-institutional
[iii] https://www.fidelity.com/about-fidelity/individual-investing/next-generation-advisor-technology-platform
[iv] https://www.prnewswire.com/news-releases/advisorengine-announces-expansive-integration-with-bny-mellons-pershing-300786990.html