This year could be a watershed for settlement in Europe. The European Central Bank (ECB) will decide in July whether to procede with the development of its euro-zone settlement system, Target2 Securities (T2S). Meanwhile, international central securities depository (ICSD) Euroclear plans to finish the roll-out of Euronext zone securities (Eses). This is an interim step towards its single platform, which will provide settlement and custody services for its markets.
Both initiatives aim to harmonise the currently fragmented settlement landscape in Europe - a fundamental change that will deliver significant cost savings. Euroclear has estimated its initiatives will result in savings of €300m per year.
Clearly, such change will not be easy and, says David Brown, head of the markets capability group at consultancy Detica, some core business processes will need to be changed. These include infrastructure and communications and some existing systems having to be decommissioned.
The impact on business and operations will depend on the type of institution.
Those firms that have outsourced operations to a correspondent clearer will be less affected, as will existing users of the Swift messaging system. Institutions that have adopted the ISO15022 standard will also find the transition less painful. Essentially, firms that have high straight through processing rates, where manual intervention in processing is at a minimum, will find life much easier.
Large scale migration projects have had a chequered history of late. The Markets in Financial Instruments Directive (Mifid) went live on 1 November last year, despite a degree of scepticism in the market that it would ever happen and plenty who waited until the last minute to respond. Other projects have not been so successful in coming to fruition. Brown cited the case of Omgeo’s attempt to move its users from the Oasys settlement platform to its Central Trade Manager. “One of the problems with this project was that the benefits of such a move were unclear to the user population,” said Brown. “The advantage Euroclear has is that everyone sees the value of a harmonised trade infrastructure.”
In moving its users from a store and forward messaging system to an IP-based one, Swift imposed the change as a mandatory requirement. They could do this because its users saw the benefit in such a change. “If people can see a benefit, they will put up with change, no matter how extensive it is,” said Brown.
The trend for buyside firms to judge broker dealers more on performance, rather than trade execution, is also leading to a renewed focus on post-trade processes, said Brown. “Previously, the trade lifecycle was viewed as separate processes; now buyside firms look at it holistically and information about performance at each stage of a trade feeds into how buyside firms choose and measure their brokers.”
As Brown said, getting good execution of a trade comes to nought if settlement fails. A number of large asset management firms are now producing very detailed score cards of their brokers, which are used to assess and ultimately select, sell side firms. “Operational efficiency is becoming key to how a buyside firm views its sell side provider,” said Brown. “The challenges of the Euroclear migration may affect this efficiency and how a broker performs on a score card.”
Brown said it was important that firms talk to their peers in the industry to understand how to approach major migration projects such as Euroclear’s. “This helps you to measure up where you are in comparison to the rest of the market,” he said.
Among the questions firms need to ask is ‘what are the benefits to me?’. If a firm understands what an initiative means to its business, it is much easier to implement a programme. Taking a “wait and see” approach may make sense if your firm has a limited budget to invest in change, but can more often than not result in a last minute, tactical solution which may be inferior to a solution that is based on early involvement in an initiative. “Becoming involved early on in an initiative can give you far greater control, particularly if your firm becomes involved in consultation at the early stages. The firm will also get greater strategic benefit even if the situation is not so clear to begin with - you often find you can adapt better to the scenario later on.”
Another option, which is becoming increasingly popular, is to outsource to a third party that will take on the necessary changes.
“Firms need to do analysis now to understand how Euroclear, and also T2S, will affect their business and technology,” said Brown. “These initiatives will result in business process changes and firms need to understand that.”