What is a custodian?
A custodian is a facility such as a building, an office or a warehouse in which something is deposited for storage or backup. It can refer to an organization, bank or institution that holds securities and helps in securities trading.
The term also refers to an institution that accepts deposits in currency from customers such as a bank or a savings association.
Custodians are necessary for several reasons. First, they offer security (by reducing the risks of the physical security bearer) and liquidity in the market, they use the money deposited on deposit to lend to others, invest in other securities and offer a system transfer funds. A depositary must also return the deposit in the same condition on request.
Depositaries have multiple functions for the general public. As banks and other financial institutions, they offer consumers a place to come to make deposits – both time and demand deposits. A term deposit is an interest bearing account and has a specific maturity date such as a certificate of deposit, while a demand deposit account holds funds until they need to be withdrawn, such as a current account or savings account.
Deposits can also take the form of securities such as stocks or bonds. When deposited, the institution holds the securities in electronic form, also known as book-entry registration, or in dematerialized or paper form as a physical certificate.
A custodian is not the same as a repository, although they can often be confused. A repository is where things are kept in a safe place. But unlike a depositary, the elements kept in a repository are generally abstract like knowledge. For example, Investopedia is considered to be a repository of financial information.
The function or institutional type of a depositary determines the agency or agencies responsible for its supervision.
Functions of a depositary
One of the main functions of a depositary is to transfer the ownership of shares from one investor account to another account during the execution of a transaction. This reduces the red tape for executing a transaction and speeds up the transfer process. Another function of a depositary is to eliminate the risk of holding the securities in physical form such as theft, loss, fraud, damage or delay in delivery.
Deposit services also include checking and savings accounts, as well as funds transfer and electronic payments through online banking or debit cards. Customers give their money to a financial institution with the belief that the company owns it and returns it when the customer requests it.
These institutions accept money from customers and pay interest on their deposits over time. While holding clients’ money, institutions lend it to others in the form of mortgages or business loans, generating more interest on the money than interest paid to clients.
An investor who wants to buy precious metals can buy them in the form of physical bullion or paper. Bullion or gold or silver coins can be purchased from a reseller and kept with a third party custodian. Investing in gold through futures is not the same as investing in gold. Instead, gold is owed to the investor.
A trader or hedger seeking to actually take delivery of a futures contract must first establish a long term position (buy) and wait for a short seller (seller) to deliver a delivery notice. With gold futures, the seller agrees to deliver the gold to the buyer on the expiration date of the contract. The seller must have the metal – in this case, gold – in an approved depot. This is represented by the holding of electronic filing mandates approved by COMEX which are necessary to make or take delivery.
Key points to remember
- A depot is a building, office or warehouse in which something is deposited for storage or backup.
- Custodians can be organizations, banks or institutions that hold securities and assist in securities trading.
- Custodians provide security and liquidity, use the money to lend to others, invest in securities, and provide a fund transfer system.
Types of custodians
The three main types of deposit-taking institutions are credit unions, savings institutions and commercial banks. The main source of funding for these institutions comes from client deposits. Client deposits and accounts are insured by the FDIC up to certain limits.
Credit unions are not-for-profit corporations with a strong customer service focus. Customers make deposits into a cash account, which is like buying stocks in that cash register. The cash register earnings are distributed in the form of dividends to each client.
Savings institutions are for-profit companies also called savings and credit institutions. These institutions mainly focus on consumer mortgages, but may also offer credit cards and commercial loans. Customers deposit money into an account that buys shares of the company. For example, in a fiscal year, a savings institution can approve 71,000 mortgage loans, 714 home loans, 340,000 credit cards, and 252,000 auto and consumer loans while earning interest on all of these products. .
Commercial banks are for-profit corporations and are the largest type of deposit-taking institution. These banks offer a range of services to consumers and businesses, such as chequing accounts, consumer and commercial loans, credit cards and investment products. These institutions accept deposits and primarily use deposits to offer mortgages, business loans and home loans.
Example of custodian
Euroclear is a clearing house that acts as a central securities depository (DCT) for its clients, many of whom trade on European exchanges. Most of its clients are banks, brokers and other institutions professionally engaged in the management of new securities issues, market making, trading or holding a wide variety of securities.
Euroclear settles transactions in national and international securities, covering bonds, stocks, derivatives and investment funds. Over 190,000 national and international securities are accepted in the system, covering a wide range of debt instruments, convertibles, warrants and shares traded on the international market and at fixed and floating rates. This includes domestic debt instruments, short- and medium-term instruments, stocks and equity-linked instruments, and international bonds from major markets in Europe, Asia-Pacific, Africa and the Americas.