How Custodial Competition Will Transform the Advisor Space
It’s big news that Envestnet is moving into the RIA custodial space and will soon be competing head-to-head with its biggest integration partners: an expanded Schwab platform, Fidelity and Pershing. I suspect that this is just the first of many so-called software “platforms” that will jump into the custody competition.
Why? As Jason Wenk of Altruist (what was the newest custodial platform until the Envestnet announcement) put it in a keynote panel discussion at my Insider’s Forum conference, virtually every software vendor is totally reliant on custodial platforms to remain viable. If those custodians decided that they no longer wanted to integrate with the platform's software offerings, all of the software vendor's users would scramble to find an alternative. And it’s possible that the custodian itself will have developed the competing solution – as a nice profitable side business that could effortlessly steal the software vendor’s customer base.
We are repeatedly told that custody is a low-margin business, but that may not be true. If interest rates rise, custodians can earn a decent spread on the sweep accounts and cash balances that advisors have to maintain to collect their fees at the end of the quarter. But the bigger issue, which is the key to Envestnet’s decision to compete with some of its biggest strategic partners, is that when you custody for advisory firms, you have access to them as customers for other products and services – which is where the real money is.
I see Envestnet’s new venture as a protective move. If one of the major platforms decides to sever ties and/or compete with them, it can offer its stranded customers a better custodial deal than they're currently getting (a loss leader?) and maintain control of its own software/solution ecosystem. But second, Envestnet, with a software suite that includes financial planning (MoneyGuidePro), portfolio management (Tamarac), account aggregation (Yodlee) and pipelines to insurance, annuities and TAMP solutions, has far more profitable opportunities per RIA customer than any of the major custodians.
The more customers a custodian can attract, the more cross-selling opportunities it has. To expand market share, Envestnet’s service team could pull together what an RIA firm’s custodian currently is charging clients (in terms of cash spreads, trading costs and other nickels and dimes), and offer more services for less money. If the RIA firm takes itself seriously as a fiduciary, it would have to listen to that offer on behalf of clients.
Orion and Morningstar, the other major platforms, should be watching very carefully how this new move fares in the competitive custodial marketplace, and how their own cross-selling opportunities could be enhanced.