European Parliament Adopts CSD Reg

Designed to further strengthen the position of CSDs in the market, given their systemically important roles, CSD Reg covers areas such as prudential and business conduct rules, mechanisms for addressing settlement discipline, access rights to CSD services, and supervisory requirements for CSDs providing so-called "ancillary services". As part of the rules package, Parliament also re-affirmed European moves towards T+2 settlement, or two days after trade date.

"T+2 has progressed through a relatively uncontested passage into European legislation," says Tony Freeman, executive director, industry initiatives at post-trade specialist Omgeo. "As attention turns to the technical details around implementation, there is an opportunity to explore the role of industry best practices, such as same day trade affirmation, which support shorter settlement cycles."

As a regulation of Parliament, the rules would enter directly in to national statute books, as opposed to directives such as the Markets in Financial Instruments Directive, which are generally left to competent home authorities to implement so long as the end result is reached. With the adoption by Parliament, the regulation now requires approval by the European Council, as part of the EU's tripartite political and legislative structure.

"I am pleased that the European Parliament has adopted new rules on securities settlement and CSDs in the EU," says Michel Barnier, internal market and services commissioner at the European Commission. "Settlement is a very important process for securities markets and for the financing of our economy. The numbers speak for themselves: in the EU, transactions worth over one quadrillion euro were settled by CSDs in the last two years. The new Regulation will ensure that settlement is carried out in a safer and more efficient manner in Europe."

Settlement Situation
While many Asian markets already trade on a T+2 basis, Europe has previously been divergent and inconsistent in its application of settlement cycles. Some markets trade T+2, but others can be T+3 or even more than 20 days for esoteric products.

Firms that have not embraced automation, which tend to be smaller fund managers, need to seriously consider how they will meet the new accelerated time frame for settlement. - Tony Freeman, Omgeo.

Most exchanges and CSDs have been moving towards T+2 in anticipation of the rules, but some sectors of the industry still require elements of technology lift and procedural review in order to position themselves for the change. Although the advent of the Target2-Securities (T2S) project in Europe has helped, a European Central Bank-promoted platform that will handle settlement for most securities in central bank money within the Eurozone, there are a number of buy-side institutions that are not fully prepared.

"The automated segment of the industry is well positioned for the new settlement environment but all firms should review processes to make sure they can support T+2," Omgeo's Freeman continues. "In particular, firms that have not embraced automation, which tend to be smaller fund managers, need to seriously consider how they will meet the new accelerated time frame for settlement."

US Attention
While Europe moves to formalize its approach to settlement, the US is also conducting in-depth studies on how the nation's markets can also follow suit. A lengthy cost-benefit analysis from the Boston Consulting Group, published in October 2012, laid out a provisional roadmap, and has been followed up with further research since. In the past few days, the Securities Industry and Financial Markets Association (Sifma) threw its weight behind renewed attempts to shorten US settlement cycles, following consistent moves by the US Depository Trust and Clearing Corporation toward instituting T+2.

"Shortening the settlement cycle could lead to important reductions in operational risk, more efficient allocation of industry capital, and streamline the clearing and settlement process," says Kenneth E. Bentsen, Jr, president and CEO at Sifma. "Sifma looks forward to working with all market participants to ensure a smooth implementation that is carefully executed so as not to unintentionally disrupt operations or negatively impact investors."

The Bottom Line

• Most Asian markets operate on T+2, and some others such as Russian capital markets have moved from same-day settlement to T+2. The adoption of CSD Reg in Parliament's plenary session opens the formalized doors for the process in Europe.
• The US, however, is still operating on a T+3 basis, although strong drives are underway from both the primary CSD in the form of the DTCC and lobby groups such as Sifma to transition to T+2.
• CSD Reg includes a number of provisions that address settlement failure and default, as well as ancillary services regulation and access rights. The European Commission's full proposal can be found here.