Last year’s Central Securities Depositories Regulation (CSDR) saw fresh demand from regulators for a more transparent and efficient framework for EU CSD services and operations. The main aims of CSDR are to increase the safety and efficiency of the post-trade environment, primarily through the harmonisation of settlement cycles and settlement discipline for CSDs. The idea is that this will increase the resilience of CSDs, buffering them from operational risks, while adding extra security to market participants. As part and parcel of the new legislature surrounding the financial crisis (MiFID, EMIR), CSDR focuses on some of the less controversial operations of the – already well regulated – post-trade environment.
A host of new rules has been introduced, including a mandatory securities settlement discipline, mandatory cash penalties and a mandatory buy-in process. The hope is to enhance the safety of the securities settlement systems that CSDs operate, while providing incentive to clients to meet the intended settlement date. While at first appearance daunting, regulators have elaborated that CSDR is mainly an attempt to standardise a common definition of CSD services in European financial markets, due to their integral nature to financial system stability. But it has yet to really cause a stir amongst market participants.
And yet, one particularly impactful aspect of CSDR is an attempt to reduce the settlement date of financial transactions from three days after the transaction date (T+3) to two days (T+2). This is a move again towards a more efficient post-trading environment and a common settlement period that will reduce confusion over deadlines and provide extra security for buyers. T+2 is already practised in Germany with large success, and regulators are seeking to synchronise this across the whole of the EEA. This will, of course, require a heightened level of organisation among trading participants, with many sellers now needing to organise their delivery instructions on the day of the transaction but, inevitably, it will bring a much greater guarantee to both recipients of the deal.
Efforts are also being made to clamp down on the issues stemming from cross-border settlements, such as longer settlement periods and lack of clarity in trades over different jurisdictions. Historically, cross-border settlements could cost up to ten times the price of domestic settlements, thereby hindering competition and interaction between CSDs in different countries. CSDR is hoping to regulate the rules over EU Member States and keep host and home competent authorities in reciprocal contact – both with each other and with ESMA – for greater uniformity. Wider access to the EEA will attract new investors for CSDs, and new CSDs for investors. This is a further step in progress towards Targets 2 Securities (T2S), a technical platform designed to facilitate universal adoption of the Delivery versus Payment (DvP) process for all European CSDs.
We are almost a year on from the CSDR publication and, so far, the only apparent effects of the move to T+2 have been a heightened efficiency in securities settlements. It seems that regulators have got this one right, having predicted that, with the move from physical certificates to dematerialised securities and book-entry, reducing the settlement deadline by a day is a step in the right direction with minimal risk.
One thing to be watching out for is the penalties. A uniform transaction and settlement date allows for much easier identification of those that are failing to deliver, and regulators are not going to be forgiving on this one. So far the only clues regarding ESMA’s draft technical standards have been that cash penalties will be proportionate to the value of the security up for transaction. So, this time, it seems worth it to get things organised as soon as the deal has been made.
The ICMA has also elucidated towards a number of operational difficulties that may arise from the change in settlement date, such as the disruption of settlements between counterparties in different time zones. There have been a few additional warnings about the stress imposed on the SFT market due to the shorter timescale for completing settlements, which call for greater organisational needs and shorter-term access to cash. Overall though, there has been little uproar over the change and most indicators are pointing towards a healthy response from the market. Next stop, T+1?
Other measures of note in CSDR include new requirements for management bodies to independently monitor core operations, a user committee for CSD participants to discuss and appeal matters that affect them and the clear legal separation between a CSD’s core services and – if applicable – its banking services. Both sectors are then subject to their respective regulation.
The commonplace regulation on data standards is also back with a vengeance. CSDs are required to have much greater transparency in their operations, through proper disclosure of their core service prices to the public, and frequent reporting of costs and revenues to their competent authorities. This way regulators can keep close watch over CSD operations while ensuring fairness in the costs of their services. The regulatory clampdown on accountability in financial institutions has now also reached CSDs, who will be required to clearly attribute managers to their departmental responsibilities. Those charged with supervising different aspects of CSD services are then easily identifiable.
Above all, CSDR is an attempt to establish some clear principles for CSD organisation. As has been pointed out by Euroclear, the vast majority of the CSDR provisions cannot come into force until all the relevant technical standards have been drafted by around October/November 2015. ESMA have already made clear their intentions to delay their draft technical standards by three months from the initial June date to September 2015. With this in mind, the complete effects of CSDR cannot be assessed until later on this year. Keep an eye out, more to come.