February 2012

CLEARING & SETTLEMENT: Struggling to sing in harmony

Music-sheetsEfforts to regulate clearing and settlement in Europe are proceeding with Target2-Securities and other projects. But George Mitton finds that in the emerging markets, progress is piecemeal – and hampered by politics. Paul Bodart oversees asset servicing in dozens of markets around the world, and he is clear about what would make cross-border trading simpler. “The fragmentation is the thing that needs to be addressed. Do you really need one stock exchange, one central securities depository, one central counterparty clearing house in each of these markets? These are businesses where scale matters.” As head of Europe, Middle East and Africa operations for BNY Mellon Asset Servicing, Bodart is acutely aware of cost. The more fragmented the world’s clearing and settlement infrastructure, the less each unit in the chain – each depository or clearing house – can realise economies of scale. Not only that, but fragmentation splits liquidity and creates regulatory headaches for cross-border traders. In recent decades, the United States has led the way in streamlining its post-trade environment. In Europe, an IT project called Target2-Securities aims to achieve a similar level of consolidation. But post-trade infrastructure in the increasingly busy emerging markets remains fragmented and lacking a unifying vision. For the most part, the operations teams working to improve interoperability in these markets are resigned to a process that is slow and piecemeal. Consolidation
The virtue of the US project was that it consolidated what had been a number of central securities depositories (CSDs) into one body, the Depository Trust & Clearing Corporation, which now handles all clearing and settlement of US equities
and corporate bonds. The highly efficient system claims to offer the lowest transaction fees in the world. Europe wants to follow suit by tying together as many as possible of the 40 CSDs in the European Union onto the Target2-Securities platform. Though the scheme has had some hiccups – it now looks like few non-eurozone countries will participate – the project is going broadly to plan and is likely to meet its 2015 deadline, says Goran Fors, chair of the T2S National User Group in Sweden. If the project succeeds, it ought to bring down transaction costs, make the market more liquid and in time increase cross-border trade. Fors, whose main job is as global head of GTS Banks, believes it would be beneficial for other regions to imitate this kind of project. “In the long run, everything that makes investing into markets easier and less costly is advantageous to the growth of a market,” he says. But elsewhere in the world, politics seems set to hamper plans for similar schemes. In Asia, there has been talk of a pan-Asian CSD for some time, but it now looks unlikely to happen, says Philip Reichardt, director in Euroclear’s strategy division. The idea is, politically, too difficult to sell; although many of the Asian nations are outwardly supportive of a joint CSD, there is no consensus on which country would host it, he says. There is likewise no common Asian currency and no common governance. Asia has no equivalent to the European Commission, which has the power to integrate regulations in the member states to create a common securities market. There are efforts to harmonise post-trade infrastructure, but they are “much lower level, oiling the wheels”, as Reichardt puts it. He is working on a project with a task force of Asian nations to create a common post-trade environment for bonds, without establishing regional common governance. Hong Kong and Malaysia began the project in 2010, with Thailand and Indonesia as observers, while other Asian nations attend the task force meetings without officially backing the scheme. Operational_challenges“The concept is [that] each country controls their own local market. The local CSD is in control of all business and regulatory issues for their economy. But by using some common facilities, they can improve access and improve the quality of the services to make their bond market more attractive for cross-border investors,” he says. “Each CSD does it at its own speed. They control the way it’s presented to the local market. It’s their responsibility to adapt regulations or work with the local regulators if there are regulatory barriers that make it difficult for cross-border activity.” Common ground
One motivation for the task force is to bolster the Asian bond market against the threat of another implosion, such as the one that caused the Asian financial crisis in 1997. Currently, the task force is only concerned with bonds. There is a project to connect equity facilities, though, the ASEAN (Association of Southeast Asian Nations) Trading Link. Technology provider SunGard is creating the network infrastructure and the project is expected to begin operating in the stock exchanges of Singapore and Malaysia in June 2012, with Thailand joining in August and the Philippines at a later date. It will aim to group the four participating nations together into a trading bloc that can hold its own against the Chinese, Indian and Japanese markets. But, Reichardt says that to create common clearing and settlement arrangements will be difficult. Euroclear’s commercial rival Clearstream has also made tentative steps towards consolidating emerging market infrastructure. The company’s Link Up Markets initiative, which it founded in 2008 to tie together European CSDs, has formed links with South Africa and Egypt. Sources say the company is close to signing a deal with its first Asian partner, Singapore. However, Irene Mermigidis, the managing director at Link Up Markets, says the main priority of the project is not to find new members in the emerging markets but to prepare a cost-effective way for existing European members to prepare for Target2-Securities. Though Link Up Markets has met with other emerging market nations to “share the vision” of the project, she admits many of these countries are biding their time and watching how Europe’s centralist scheme works before committing themselves. The unifying feature of the emerging market post-trade schemes are that they are cautious and patchy. The Asian nations, and other countries, are in no hurry to recreate the grand centralist approach taken by Europe. Perhaps this is wise at a time when the European sovereign debt crisis has raised questions about the viability of the eurozone. Another obstacle is that stock exchanges and CSDs are viewed by many emerging nations as national assets. There is deep suspicion about surrendering their powers to international institutions. No one disputes the benefits of harmonising the post-trade environment where possible, but it seems politics will decide whether the emerging markets sing in tune. ©2012 funds europe

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