The cross-border trading, clearing, and settlement infrastructure is evolving beyond the traditional, as market participants have given securities services providers a clear message: reduce transaction costs and maximise efficiency through a single, straight-through process. In all links of the chain, from the decision to invest to the actual transfer of securities ownership, various initiatives aim to reduce what is today a highly fragmented infrastructure in Europe.
It is well understood that a single European trading platform, a single clearing house, and a single settlement system would result in enormous efficiencies and cost benefits. Over the past year, various routes have been pursued that appear to be bringing us to the same ultimate destination. In the settlement business, this is a single settlement processing platform covering all European securities and markets.
The rules of progression are and will continue to be defined by the users of pan-European securities services. Fundamental to the development of a streamlined environment is ensuring a market-driven approach to the infrastructure’s ownership and governance. In fact, one of the basic principles set by the European Securities Forum is that “the clearing and settlement process should be largely owned and directed by securities industry users”.
The Euroclear/Sicovam merger, for example, will provide the market with a fully market-owned and market-governed solution. Indeed, market users will own the merged entity. Today, Sicovam is owned by 17 French financial institutions and around 1,550 Euroclear participants own the system. Sicovam will become a wholly owned subsidiary of the new bank, expected to be operational in early 2001, which will, in turn, be 100% market owned.
We strongly believe that the only way to provide the market with what it wants is to have the it define the scope of its needs, the service levels it requires, and the price it is willing to pay for them.
In the market’s pursuit of the preferred solution for straight-through processing – from trading, to netting, to settlement – this pursuit runs the risk of forcing exclusivity at various levels. We believe that market players should always have a choice of provider for one or more of the links in this chain.
EURONEXT, the pan-European stock exchange created by the merger of ParisBourse, BXS Exchanges of Belgium, and AEX of the Netherlands, is an excellent case in point. Securities professionals trading on EURO-NEXT will be able to select where they would like to net and settle their trades, depending upon their business needs. Although this stock exchange has indicated its preferred settlement agent – the Euroclear system – by no means is its use mandatory.
However, we do expect that a large segment of the securities market will want to settle their EURONEXT transactions in real time, using either commercial bank or central bank money. This makes the choice between settling through the Euroclear system or Sicovam, respectively, a natural choice. Moreover, collateral usage will be optimised, particularly as Clearnet will use both Sicovam and Euroclear settlement and collateral management services to increase the efficiency of the margining process.
As such, an open structure offers the market a wide range of domestic and cross-border settlement, and collateral management opportunities, applicable to debt as well as equity and equity-linked securities.
As we move towards a less fragmented STP infrastructure in Europe, we believe in recognizing the core competencies of both international and local market securities services providers. Indeed, there is a continuing need to leverage both the pan-European and local expertise inherent in the European infrastructure today. The current trend towards consolidation will significantly reduce the fragmentation in Europe, but the process must accommodate the need to now serve simultaneously an international, pan-European and local client base, each having a different set of needs.
There are three ways to move forward in the consolidation process: mergers, in/out-sourcing, and linkages. The merger of Cedel and Deutsche Börse Clearing (DBC) to form Clearstream, and the recent move by the Euroclear System and Sicovam to merge, are the most vivid examples of this form of consolidation.
The merger is a merger of complementary expertise, where each entity’s existing, real-time settlement systems will be exploited to their fullest advantage. The combined, user-owned and user-governed entity will allow users to access both central bank and commercial bank money settlement services through a single entry point.
Moreover, the merger will optimise investments already made while eliminating redundant costs to users. The real-time settlement platforms of the two systems will be connected and upgraded at low cost by next year. This will provide a reliable and scalable real-time settlement system with proven performance capabilities. The merged entity will provide a single, integrated settlement process with minimal disturbance to the market. Indeed, we will efficiently leverage and progressively rationalize technology platforms, ultimately leading to a common platform.
Another avenue of approach is to out-source the settlement function to a proven, well-respected provider with the requisite technology and counterparty reach that will add value to the existing proposition. Ireland has the distinction of being the first European country to take this decisive step. By transferring the settlement of Irish government bond transactions currently carried out by the Central Bank of Ireland to us, they are making a significant contribution in reducing the current fragmentation in Europe. This move will facilitate access to a broader range of investors and increase the liquidity of Irish government bonds in the international capital markets.
As we are open to many forms and levels of collaboration, provided they evolve towards a single, cost-effective European settlement process, it is not surprising to see our system as the common factor among many initiatives, particularly linkages.
Mutual links are being established to provide a seamless interface between the international and national markets, benefiting users of both the international and local settlement system. Bilateral links between our system and various CSDs include: Oesterreichische Kontrollbank, Monte Titoli, CREST, Sicovam, and BXS. These linkages offer rapid and cost-effective access to both domestically and internationally traded securities.
Joint ventures between netting facilities are occurring at a rapid pace. The Euroclear system, London Clearing House (LCH), and Government Securities Clearing Corporation have created ESCC (European Securities Clearing Corporation), whereby our straight-through settlement and collateral management services work in concert with LCH’s central counterparty expertise. With this agreement, major advances are being made on the development of a centralised, pan-European netting facility for European government bond repo and cash transactions.
The Euroclear/Clearnet alliance has also evolved to the extent that our group now has an option to acquire up to 20% of Clearnet. And, most recently, Clearnet and LCH have agreed to their own alliance, ultimately leading to a full merger. With this latest development, it is clear that consolidation is occurring quickly on the netting side, although there are many fewer service providers than on the settlement side.
On the trading side, specifically equities, Tradepoint has been searching for preferred netting and settlement providers to service its needs in a less fragmented equity trading environment. They have reached an agreement with LCH to clear, and our system to settle, trades conducted on its pan-European exchange.
EASDAQ, the pan-European electronic stock market for small capitalization, high-growth companies, also switched its settlement provider to reach the widest possible counterparty base. Our straight-through settlement services are now offered to EASDAQ investors via an automatic link with TRAX.
ISMA members also saw the need to consolidate suppliers by selecting only one entity to serve as the Trade Guarantee Organisation for Coredeal, its new screen-based trading platform for eurobonds. Selection of ourr solution – TradeGO – was a clear vote of confidence from the market.
The level of market consciousness for consolidation is high. Settlement-related issues are now appearing on both back- and front-office agendas. This is accelerating the pace of discussions and increasing the perceived need for action.
It is clear that many more steps will need to be taken before the European market has single CSD. It is also clear that the users and owners of the various settlement systems want to avoid higher costs arising from overlapping investments. Discussions will continue at all levels, exploring any basis for a merger or other forms of consolidation in order to provide Europe with the efficient and risk-controlled straight-through settlement process it is demanding.
Pierre Francotte is managing director at Euroclear Operations Centre, in Brussels