UNIT-5 DEPOSITORY AND CUSTODIAL SERVICES

depository can refer to a facility in which something is deposited for storage or safeguarding, or an institution that accepts currency deposits from customers, such as a bank or a savings association. A depository also can be an organization, bank, or institution that holds securities and assists in the trading of securities. Deposits placed in a depository must be returned in the same condition upon request.
Depositories provide security and liquidity in the market. They use money deposited for safekeeping to lend to others, they invest in other securities, and they provide a funds transfer system.

1. UNIT-5
DEPOSITORY AND CUSTODIAL SERVICES
WHAT IS A DEPOSITORY?
The term depository can refer to a facility in which something is deposited for storage or safeguarding, or an
institution that accepts currency deposits from customers, such as a bank or a savings association. A
depository also can be an organization, bank, or institution that holds securities and assists in the trading of
securities. Deposits placed in a depository must be returned in the same condition upon request.
Depositories provide security and liquidity in the market. They use money deposited for safekeeping to lend
to others, they invest in other securities, and they provide a funds transfer system.
KEY TAKEAWAYS
A depository can be a facility or institution, such as a building, office, or warehouse, where
something is deposited for storage or safeguarding.
Depositories also may be organizations, banks, or institutions that hold currency or securities and
assist in the trading of securities.
They provide security, liquidity, and a means of transferring funds.
UNDERSTANDING DEPOSITORIES
Depositories are buildings, offices, and warehouses that allow consumers and businesses to deposit money,
securities, and other valuable assets for safekeeping. Depositories may include banks, safehouses,
vaults, financial institutions, and other organizations. Depositories serve multiple purposes for the general
public. First, they eliminate the owner's risk of holding physical assets by providing a safe place to store
them. For instance, banks and other financial institutions give consumers a place to deposit their money by
offering time deposit and demand deposit accounts. A time deposit is an interest-bearing account with a
specific date of maturity, such as a certificate of deposit (CD). A demand deposit account holds funds until
they need to be withdrawn, such as with a checking or savings account. Deposits can also be securities, such
as stocks or bonds. When these assets are deposited, the institution holds the securities, either in electronic
form, also known as book-entry form, or in paper form, such as a physical stock certificate. Depository
organizations also help create liquidity in the market. Customers give their money to a financial institution;
the company holds it for a time and returns it when the customer wants it back. These institutions accept
customers' money and pay interest on their deposits over time. While holding the customers' money, the
institutions lend it to others in the form of mortgage or business loans, generating more interest on the
money loaned than the interest they paid to customers.
WHAT IS A DEPOSITORY?
A Depository refers to a place or entity that holds financial securities in a dematerialized form. A bank,
organization, or any institution holding and assisting in security trading is referred to as a depository.
Depository accounts hold securities in the same way that bank accounts hold funds.

2. A depository can also be a place where something is held for safekeeping or storage. Hence, a depository
can be an institution, a building, or a warehouse, that enables individuals and businesses to deposit any
valuable asset for safeguarding. The money deposited in a depository is used for investing in some other
securities and lending to other people or businesses; thus, providing liquidity in the exchange market.
SUMMARY
A depository refers to a place or entity that holds financial securities in a dematerialized form,
eliminating the risk related to holding physical financial securities.
A depository functions as a connection between the public companies that issue financial securities
and the investors or shareholders.
A depository holds the securities of customers and gives them back when the customers want.
FUNCTIONS OF A DEPOSITORY
1. Serves as a link between public companies and investors/shareholders
A depository functions as a connecting link between the public companies that issue financial securities, and
the investors or shareholders. The securities are issued by agents associated with depositories, who are
known as depository participants. The agents are responsible for transferring the securities from the
depositories to the investors. A depository participant can be a bank, an institution, or a brokerage.
2. Eliminates risk related to owning physical financial securities
A depository allows traders and investors to hold securities in dematerialized form; thus, eliminating the risk
related to holding physical financial securities. The buyers and sellers now do not need to check whether the
securities have been transferred successfully without any loss or theft. The depository system reduces such
risks by allowing the securities to be held and transferred in electronic form.
3. Allows the provision of loans of mortgages to interested parties

3. A depository holds the securities of customers and gives them back when the customers want. The customers
receive interest on the deposits, while the depository earns even more interest by lending the deposits to
other people or businesses in the form of loans or mortgages.
4. Reduced paperwork and accelerates the process of transferring securities
When a trade occurs, a depository transfers the ownership of securities from the account of one investor to
another. It helps in reducing the paperwork associated with the finalization of a trade and accelerates the
process of transfer of securities.
TYPES OF DEPOSITORY INSTITUTIONS
The following are the three main categories of depository institutions:
1. COMMERCIAL BANKS
Commercial banks are for-profit organizations and generally owned by private investors. The range of
services offered by commercial banks depends on the size of the banks. For example, the services offered by
the smaller banks are limited to consumer banking, small mortgages and loans, simple deposits, banking for
small-business, and other services. The market range is also limited in the case of smaller banks. On the
contrary, larger banks and global banks offer a wide range of services such as foreign exchange-related
services, money management, and investment banking. Some larger and global banks may also offer
services for other banks and large organizations. The services offered by the large banks is the most diverse
among all depository institutions.
2. CREDIT UNIONS
Credit unions are financial cooperatives implying that these depository institutions are owned by members
of a particular group. The profits earned are either paid to the members as dividends or reinvested into the
organization. The members of the credit unions are the ones that own accounts in the institution; hence, the
depositors are also partial owners and receive dividends. Since credit unions are non-profit institutions, they
pay no federal or state tax. Hence, the interest rate charged by credit unions on loans is lower, and they pay a
higher interest rate on deposits.
3. SAVINGS INSTITUTIONS
The banks serving a local community and loan institutions are called savings institutions. The local residents
deposit money in the banks, and their money is offered back in the form of mortgages, consumer loans,
credit cards, and loans for small businesses.
Savings institutions can sometimes be set up as corporations or as financial cooperatives allowing the
depositors to get an ownership share in the organization.

4. CUSTODIAL SERVICES
Custodian Meaning
A custodian is an entity that stores and safeguards customer’s securities and assets. Usually, custodial
services are offered by banks or financial institutions. These banks are responsible for the security of clients’
physical possessions, money, equity, stocks, and other forms of financial assets.
The entity offering custodian services must send a quarterly statement to its clients. In addition, some
institutions provide brokerage services—clients can buy or trade investments. Custodians record and track
details about every single account.
A custodial service is a form of service usually extended by banks and other financial institutions. It is the
process in which the bank or financial institution becomes the custodian for the goods or products that the
customer may wish to extend custodial services to. Banks become custodians for their customers and take
legal responsibility for the products that the customers have put into custody. They perform the role of
caretaker for these products. When a customer opens a “DEMAT Ac.” (Dematerialized Account), the bank
becomes a custodian for its customers. While the customer remains the sole owner of the products, they are
merely held by the banks or financial institutions on behalf of the customers for safekeeping. The main
purpose behind availing of a custodial service is the safekeeping of financial products. It reduces the risk of
theft or compromise of these products. Investment service providers like mutual funds, depository
institutions, etc., keep the accounts created with them under custody. They even hire a custodian to do so.
The financial assets put under custodial services can be stored either in physical form or in electronic form
and are usually interconvertible. In this case, the custodian has to comply with the Security and Exchange
Board of India (Custodian of Securities) Regulations, 1996. 
Different types of custodial services 
Custodial services can differ from customer to customer, and it is usually done on a contractual basis. Banks
and financial institutions extend these services to a wide range of customers, starting from regular customers
to investment service providers.
They extend custodial services of the following kinds: 
Collection of financial assets and settlement of service for customers
Safekeeping of these  collected and settled assets
Keeping track and reporting customers’ securities, assets, and marketable financial products
Clearing and settlement services
Exchange-traded derivatives clearing services
Depository services
Forex services including international investments and returns
Custodial services are also extended to accounts whose beneficiary is a minor. Usually, an individual
becomes the custodian for a minor beneficiary account. He/she takes responsibility and
accountability for that account and makes decisions in favor of the minor. Ultimately, the proceeds of
the account are all for the minor beneficiary.
Global custodial services: These services are extended across borders.

5. Security lending services for the assets under custodial services. This service is provided by banks or
financial institutions to their customers, through which they allow the customers to lend these assets
and securities to gain profits from those assets.
Value-added services on the assets under custody.
Though custodial services range across  wide service areas, its core services or most basic functions can be
seen as the following:
Trade settlement 
These services are primarily focused on the money market and money market instruments. The banks
provide settlement for trades in equity or debt securities via a channel of clearing houses and also via
Delivery Versus Payments (DVS) services. It also processes primary market subscriptions. It processes
various services for buy-back of shares, rights issues, etc.
Safekeeping
One of the most basic services under custodial services is the safekeeping of financial assets. The banks and
financial institutions ensure the customers’ securities are safe and secure. It can be in physical form or
electronic form and is usually interconvertible. When customers open a DEMAT account with market
intermediaries and service providers, they automatically sign up for the safekeeping of their securities.
Monitoring and collection
As a core service principle, banks provide monitoring, collection, and recording of various benefits, like
corporate benefits, entitlement benefits, etc. They collect these benefits as due and also ensure that it is up to
date. 
Accounting of funds
Banks maintain accounting records of the assets under custody. It conducts proper valuation and accounting
for and when the account owner makes investments, lends securities in custody, or makes any other
transaction.
Reporting
It conducts and adheres to proper reporting standards for every minute transaction. Banks make reports on
regular statements, securities valuation, and their saleability, corporate actions, trading, forex, etc. 
Securities and Exchange Board of India (Custodian of Securities) Regulations, 1996
The Securities and Exchange Board of India (SEBI) prescribed the SEBI (Custodian of Securities)
Regulations in the year 1996 (hereinafter referred to as ‘the regulations’) via the power vested on it
under Section 30 of the SEBI Act, 1992. It has since then undergone several amendments until the last
amendment in the year 2009. Under the current framework, certain essential regulations are: 
Definition of custodial services
Custodial services have been defined under Chapter I, Regulation 2(e) of the Regulations. Under various
legislations, such as the SEBI (Mutual Funds) Regulations, 1996, assets and other securities, gold, and gold-
related instruments, etc., custodial services mean the safekeeping of these assets and securities and include
other related activities like maintaining customers’ accounts, depository services for companies, gathering
customers’ benefits and rights arising from these securities, keeping records, maintaining accounts,
accounting, and keeping the customers well informed. 
REGISTRATION OF CUSTODIAL SERVICES

6. One who wishes to legally carry out custodial services in India has to register itself with SEBI under these
regulations (Chapter II of the regulations)  and in the following manner:
1.Such a person has to make an application to SEBI for a grant of certificate. 
2.Any person who has been carrying out custodial services before the commencement of this
regulation has to make an application for registration and obtain a certificate within 3 months from
the date of commencement.
3.The application has to be made on Form A.
4.A prescribed fee has to be paid as specified in Part A of Schedule II of the regulations.
5.The manner of payment has to be followed as specified in Part B.
6.Failure to register and obtain a certificate within the prescribed time frame can result in SEBI ceasing
the business activities of such a person and asking for a transfer of customers’ records and
documents. 
7.Before granting a certificate, SEBI takes into account various factors to check the credibility and
eligibility of a person wanting to carry out custodial services. Such eligibility may be verified by
checking the availability of proper infrastructure, meeting capital requirements (INR 50 crores),
security and privacy standards, etc. This verification is referred to in Schedule II of SEBI
(Intermediaries) Regulations, 2008.
8.If all the criteria are met, SEBI grants a certificate after the payment of a prescribed fee. A Certificate
is granted in Form B of the regulations. This certificate will be valid for 3 years and can be renewed. 
9.SEBI can reject an application for certification for stated reasons, and the same has to be
communicated within 30 days. 
10.Aggrieved parties can apply to SEBI for reconsideration of their application within 30 days from the
date of communication of rejection. 
GENERAL OBLIGATIONS AND RESPONSIBILITIES OF CUSTODIANS
When a certificate is granted to a person or corporation for carrying out custodial services, such custodians
have to follow a prescribed set of obligations and responsibilities while carrying out the business. Such
obligations and responsibilities are mentioned in Chapter III of the regulations. These are
1.Every custodian has to follow the prescribed code of conduct as it is under Schedule III. 
2.When a custodian carries any other business other than custodial services, the office, infrastructure,
and employees have to be separated entirely.
3.Custodians of services have to be inspected annually and a report must be given to SEBI regarding
the same within 3 months from the date of inspection.
4.A custodian of services cannot delegate his duties and responsibilities to any other person other than
another custodian for safekeeping. This is done with restrictions. The custodian remains responsible
for the customers’ securities. A satisfactory record of the services availed from the other custodian
has to be kept in the primary custodian’s office. 
5.The custodian must maintain separate custodian accounts for each client.

7. 6.The custodian has to enter into a clear and descriptive agreement with the customer whose assets the
custodian has agreed to safe keep. 
7.The custodian must make provisions for safety, security, privacy, and internal control and monitoring
for the safekeeping of customers’ securities. 
8.The custodian must protect the securities from natural hazards, theft, or any other kind of mishap.
9.The custodian must maintain detailed documents of customers, books of accounts of its business, and
reports on every legal and corporate affair.
10.The custodian must keep SEBI informed about these records and documents.
11.The custodian is required to maintain these records and documents for at least five years. 
12.The custodian must appoint a compliance officer to look after the regulations being complied with by
the custodial services provided. He has to be diligent and independent. 
GLOBAL CUSTODIAL SERVICES 
This refers to the expansion of services in the global market. Banks and other financial institutions provide
custodial services for cross-boundary transactions, foreign securities, and foreign market investments. It
provides all the core custodial services but in an international market. Usually, these banks and financial
institutions (custodians) establish connections with domestic custodians or local custodians across all the
countries they extend their services to. It is then through these agent custodians that they perform custodial
services simultaneously in local as well as international markets for local and international clients. Its core
services include safekeeping of assets; management of assets; keeping records of these assets; accounting of
securities; and trade settlements in multiple markets. The greater task in providing satisfactory global
custodial services is to comply with the regulatory requirements of different countries while keeping pace
with the needs and demands of the customers in every market. Coordination, cooperation, and acting in good
faith between the custodians and their agents or sub-custodians are essential for the efficient delivery of
services.
Mentioned below is a list of banks that provide global custodial services:
Bank of New York (BNY) Mellon
JP Morgan Chase & Co.
Citi bank
BNP Paribas
Royal Bank of Canada
CUSTODIAL SERVICES FOR MINORS
If a minor opens an account, he/she is in the position of a beneficiary. Even though he is the account holder,
he is not allowed to directly operate the account for the reason of being a minor. In such a circumstance, a
custodian is appointed to operate the account on behalf of the minor, who is the ultimate beneficiary. It is
understood as:
1.The account of the minor is known as a custodial account.
2.The appointed custodian here is usually a person rather than a corporation or institution. 
3.This custodian makes all necessary decisions regarding the management of funds in the account. 

8. 4.He has the discretion to make investment decisions for the securities in the account. 
5.He must do so in good faith and for the benefit of the minor beneficiary. 
6.Such a custodian account is thus accessible to two individuals—the minor beneficiary and the
custodian.
7.However, the custodian can access the account only to make investments on behalf of the minor and
other related activities. He can not avail himself of the securities or assets.
8.There can be only one beneficiary per custodial account. 
9.When the minor reaches the age of 18 years or above, he can operate the account by himself and
discontinue the custodial services on his account. 
RISKS OF OPTING FOR CUSTODIAL SERVICES 
With providing a wide range of custodial services across borders, there are also certain risks involved that
need to be considered and mitigated. Some primary risks include:
RISK OF COMPLIANCE
While extending custodial services, especially in global custodial services, a host of laws, policies, and
regulations need to be complied with. Every nation has its own set of rules, procedural requirements, ethics,
standards, and policies that have to be adhered to. Violation of any prerequisite shall attract penalties and
punishments. There is always a high risk of non-conformity, which is not only punishable by law but also
causes significant reputation damage to the erring party. 
RISK IN CONDUCTING TRANSACTIONS
Banks and financial institutions that provide custodial services need to constantly keep up with the demands
of their customers; they have to act quickly and maintain time frames and regulatory compliance. Any kind
of mistake or delay can result in transactional defaults. There is also a risk of fraud by corrupt employees or
fraudulent customers. There is a risk of information asymmetry. 
RISK OF CREDIT 
It is a typical case of default. When any party to whom the services are extended, in the form of deposits,
investments, loans, or returns, and they make defaults or breaches in terms of the contract, it leads to default
in credit. Credit risk is higher as these services include customers from a wide range of geopolitical
backgrounds and multiple markets. 
RISK IN STRATEGY IMPLEMENTATION
Banks and financial institutions that extend custodial services must formulate their business model and
international connections in a manner that complies with industry standards and also ensures customer
benefit. Any failure in the proper and efficient implementation of a relevant business model, chains of
connections, sub-custodian or agency services, travel, cross-border regulatory compliance, etc., increases the
risk of failure of strategy formulation and implementation, thus weakening the basis of service. 
REPUTATIONAL RISK
Any of the abovementioned risks or any other transactional failure, non-compliance, or misrepresentations
are all collateral to reputational risks. The service provider loses public confidence and faith in their

9. services. This fails business operations and also hampers the bank’s creditworthiness as a whole. It may
result in losses, and dissatisfied customers, and can also result in litigation.
RISKS IN GLOBAL CUSTODIAL SERVICES
While organizing, maintaining, and providing services in multiple markets, there are several risks. Some of
these are the risks associated with complying with different laws; risks in currency conversions; trading
rules; agency risks, etc.
LIQUIDITY RISK
Several factors can cause a liquidity crunch. It is when the bank or financial institution has a hard time
maintaining liquidity, assets valuations, debts increase, and cash flow statements do not look convincing.
The organization as a whole might face a liquidity crisis, and the customers might lose confidence and
withdraw services. This further increases losses and negative margins. 
CUSTODIAN VS DEPOSITORY
A custodian is a bank holding financial securities and assets in the physical form for safekeeping. In
contrast, a depository holds electronic versions of securities and provides transfer services. Banks hold
assets like bonds, stocks, gold, etc., whereas a depository mainly deals with the possession of mutual funds,
shares, and debentures. Banks safeguard assets but do not own them. On the other hand, depositories share
both possession and ownership (of securities). Not every custodian is a depository, but every depository is a
custodian. Custodial services offer the safekeeping of assets. In addition, a depository offers multiple
services about financial assets and their transfer. For example, the Bank of New York is a custodian.
Whereas NSDL and CDSL are renowned depositories.