Third-Party Monitoring: the Thomas Murray Specialty - The Prime Broker Programme


A core function of Thomas Murray is to provide independent, detailed third-party monitoring of post-trade service providers in the world’s capital markets. It has done so for over two decades, and has established a considerable database across 100+ marketplaces, expertise, and a reputation for rigour.

One of the new programmes came into effect just a few years ago as a reaction to how the implementation of the Alternative Investment Fund Managers Directive (AIFMD) in the European Union (EU) fundamentally changed the risk landscape that depositary banks are required to navigate. Strict depositary bank liability for assets held by third parties, a much higher standard than previously applied, has meant that the network of custody providers that requires monitoring has increased enormously.

As a result, prime brokers and their network of custody providers have become subjects of increased attention from depositary banks appraising how the service providers hold cash and non-cash assets on behalf of their fund clients. The practice of prime brokers being able to rehypothecate some of these assets brings added complications in terms of depositary banks’ ability to understand exactly how and where assets have been rehypothecated.

Thomas Murray’s experience of monitoring CSDs, global custodians, sub-custodians and transfer agents means that the firm is ideally positioned to understand, identify and assess the risks that depositary banks face from their exposure to networks that are outside of their direct control.

What are the risks?

In conjunction with a number of large prime brokers and depositary banks, Thomas Murray used its expertise in the field of custody risk to develop a questionnaire designed to draw out the key information affecting the risks described below, in addition to factors specific to AIFMD. The methodology applied to the data to enable the assessments to be produced has also drawn upon existing core custody assessment methodologies with the addition of aspects that specifically address risks associated with AIFMD.

Financial Risk

Understanding the financial health of any entity to which a company has exposure is a key part of mitigating counterparty risk. The financial crisis of 2008-2009 demonstrated that even large and seemingly financially-robust firms could find themselves in difficulty if over exposed to markets that fail. A prime broker failure, with client assets held in multiple markets, some of those having been rehypothecated to other counterparties, could lead to a lengthy process to “recover” those assets. Ensuing litigation would potentially take place as those liable for the assets attempt to prove that they discharged their responsibility fully.

The Prime Broker Risk Assessments (PBRAs) use the latest financial information to analyse the financial strength and performance of the prime brokers to which our are exposed. The purpose is to understand a firm’s capacity to withstand operational losses and support long-term investment in all aspects of its business. Factors taken into consideration include: balance sheet strength; revenues and expenses; capital ratios; credit ratings; parental guarantees; insurance coverage and the provision of contractual discharge and indemnity.

Asset Safety Risk

The importance of understanding how and where your assets are held has been highlighted on a number of occasions over the last decade. It applies equally to both your local sub-custody provider and your global custodian. Under AIFMD, funds and depositary banks will have their assets, or assets for which they are liable, held by firms over which they have no direct control or supervision. It is important therefore to understand as much as possible about how safe custody is maintained.

Thomas Murray’s risk assessments help its clients understand the protections to which their assets, and those for which they’re liable, are subject whilst being held by their counterparties. Thomas Murray analyses a wide range of aspects, including: knowing what rights a prime broker has over assets that it holds; rehypothecation and the associated process; the account structure in which assets are held in each market; what third-party options the prime broker offers to mitigate exposure to it as a custody counterparty; account naming conventions; segregation of client and proprietary assets; how the prime broker selects and monitors its sub-custodians; legal opinions that are commissioned with regard to custody risk in each market covered; and the reporting that the prime broker can provide to satisfy regulatory requirements.

Asset Servicing Risk

Missing out on a corporate action can have a significant direct or opportunity cost, and is not something that should be underestimated or overlooked. Failures relating to corporate actions tend to be caused by operational issues, either due to human error, weak operational controls or system failures. When considering the risks that a prime broker brings to this aspect of custody services, both its service provision and that of its sub-custody providers need to be considered, as a chain is only as strong as its weakest link.

Ensuring that the prime brokers to which the client is exposed have robust and efficient asset servicing operations is a key facet of managing custody risk. Thomas Murray assesses factors such as: the size and geographical spread of corporate actions specialists; whether prime brokerage has a dedicated corporate actions department; the sources of information used to receive and validate corporate action information; the level of automation/manual intervention involved in processing events; how event instructions can be sent to and received from clients; deadlines imposed by the prime broker for the receipt of instructions; what their offer is with regard to contractual and actual settlement; and proxy services.

Operational Risk

This is the risk of unexpected losses stemming from deficiencies in information systems or internal controls, human errors or management failures. In order to evaluate the level of a firm’s operational risk, Thomas Murray examines: how the prime broker segregates prime brokerage and prime services operations from each other and the wider operations of the firm; business continuity and disaster recovery protocols and infrastructure; data management; cyber security; the compliance function, including AML, KYC and anti-bribery; internal audit and the audits performed by it and external auditors; and the risk management framework in place to identify and manage operational risk.

Prime Broker Monitoring from here

The programme has reached something of a steady state in terms of regularity in the gathering of data and producing assessments. Like the other monitoring services of Thomas Murray, the questionnaires are subject to ongoing review with clients to make sure they provide the information needed. Prime brokerage activity is of a scale, complexity, and rapidity that it is hard to tell even one year ahead what the future may portend. For this reason, further articles will break out each of these risk areas into examples of what Thomas Murray has been finding, presented on an anonymous basis.


The author, Thomas Krantz, is Senior Advisor, Capital markets, in the firm of Thomas Murray; and served as Secretary General of the World Federation of Exchanges (2000-2012). The views expressed are his own, and not necessarily those of the firm.

Tags: Prime Broker Risk AssessmentPBRAPrime BrokersPrime Broker Monitoringpost-tradeAIFMDDepositary BanksFundscustody riskfinancial riskCounterparty Riskasset safety riskasset servicing riskOperational Risk