Tuesday, September 16, 2008

Lasagne or spaghetti?

At previous Siboses Target2-Securities (T2S) the settlement platform in central bank money for euro denominated securities proposed by the Eurosystem has been a subject of much debate and consternation.

This year T2S is still on the agenda, but CSDs can no longer brush it off as something that may or may not happen. Like it or not T2S is here to say with the Eurosystem's Governing Council giving it the green light back in July. It is time now for a bit of serious navel gazing as custodian banks and CSDs reflect upon what it means for their existing business models.

If that was not enough change for the poor CSDs and the custodians to digest, there is also the Code of Conduct for Clearing and Settlement which calls for unbundling of services and greater price transparency, and last but not least, the Link Up Markets initiative for interoperability between seven European CSDs.

A dizzying array of change in Europe's settlement landscape beckons. However, while European CSDs may have given a non legally binding commitment that they would use
T2S when it goes live, there was considerable postulating at today's panel discussion aptly titled, European Custodians and CSDs: adapt or perish?, about the impact T2S is likely to have on CSDs.

Participants agreed that T2S was a "wake up call" for CSDs in terms of their existing business models.

With T2S looking to commoditise securities settlement, at least for euro denominated securities, CSDs in Europe, which have traditionally focused on settlement of domestic securities, will have to look for new ways of doing business, including the provision of cross-border asset servicing, something most do not offer today.

"Will CSDs become fully fledged custodians?" remarked Sveinung Dyrdal, executive vice president, head of securities services for the Norwegian CSD, Verdipapirsentralen. "I am not sure that is our strategy as we would need to make large investments and we may not have the balance sheet to do that."

Some of the panellists, which included CSDs and custodian banks, said that domestic investors may suffer as a result of T2S as increased competition between CSDs and custodian banks on the asset servicing side could be passed on to investors in the form of increased fees.

Just to confuse the issue, Euroclear, has stated that it supports a "user choice" approach, which gives its clients a choice of settling securities in central bank money on T2S or on its own platform.

"[Euroclear's user choice approach] does make it difficult to determine what volumes [will be settled] in T2S," said one of the panellists. Others said that Euroclear's user choice model would at least put pressure on the Eurosystem to ensure that T2S was low cost.

How much change can one market absorb? Obviously quite a lot as running in parallel to T2S and Euroclear's Single Platform initiative covering seven European markets, is Link Up Markets, which will see seven CSDs (more could join) interoperating around standards and formats. "Is it the spaghetti model" made up of bilateral links between CSDs, quipped panel moderator, Dominic Hobson, Editor-in-chief of Global Custodian.

The audience's vote was too close to call, but Dyrdal of the Norwegian CSD, which is a member of Link Up Markets, preferred to describe the interoperability initiative as "lasagne" rather than spaghetti.

'Spaghetti' is the colourful term often used to describe Europe's fragmented clearing and settlement landscape, but with so many initiatives running in parallel, albeit ones that seek to standardise and harmonise market practices, I am not so sure the 'spaghetti' analogy can be dispensed with quite yet.

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