Kashyap Kapasi, Director, Strategic Solutions, Investment Services, Fiserv
The migration to Target2-Securities (T2S), the emerging securities settlement platform for the Eurosystem, is set to debut in June 2015 and aims to automate and standardize the settlement process throughout Europe. At the present time, existing cross-border fees are viewed as prohibitive to greater financial integration and the lack of standardized procedure creates risk for banks and asset managers. T2S is widely seen as a fundamental change in the European trading landscape and is expected to operate in a similar way to the US-based Depository Trust and Clearing Corporation (DTCC).
At the highest level, T2S aims to centralize and standardize Europe’s settlement structure, while promoting investment growth in Europe and beyond. Although the initiative will primarily benefit institutions operating in Europe, particularly custodian banks and CSDs, Fiserv believes the centralized settlement process will also have a positive effect on the securities industry globally.
Greece, Italy, Malta, Romania and Switzerland will be the first countries to migrate to T2S in June 2015, when Central Securities Depositories (CSDs) in these nations begin to switch over to the new platform; most CSDs in the Eurozone are expected to migrate to T2S by February 2017. There is widespread market support for the initiative, despite the upfront investment required by CSDs – an expense that will be partially underwritten by CSD clients – because T2S is anticipated to stimulate market growth and competition across Europe.
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Enhanced Settlement Framework
Under the centralized T2S platform, European trades will be settled by one CSD, rather than multiple venues, with settlement funds provided by the European Central Bank (ECB). By standardizing settlement methodologies across Europe, the new and automated process greatly increases efficiency, reduces capital requirements and operational risk. Additionally, T2S will reduce cross-border settlement fees in the short term, with domestic fees expected to decrease over a longer timeline.
Global regulations such as Basel III, Dodd Frank and EMIR have tightened rules around collateral management, liquidity and clearing, pushing these initiatives up the agenda for institutions. Connecting to T2S will assist with easing the flow of collateral as the synchronised T2S process enables significant cost savings in managing collateral and liquidity.Under the current structure, individual CSDs across Europe determine the availability of collateral and liquidity to asset managers. This requires firms to maintain additional liquidity buffers to ensure sufficient operating capital and drives up cost.
T2S can eliminate the need for these buffers by empowering asset managers to consolidate and facilitate the movement of collateral and liquidity within a borderless, pan-European environment. In addition, T2S requires participating CSDs to employ a standardized, real-time settlement cycle, further improving efficiency and allowing for the immediate redeployment of collateral on a cross-border basis.
Reduced Cost of Settlement
An immediate benefit of T2S is the reduction of cross-border settlement fees. According to the T2S Economic Impact Assessment prepared by the ECB, at the CSD-level, annual savings on settlement fees are estimated to be as high as€118 million and some of these savings will be passed on to asset managers. An independent study by Oliver Wyman in September 2014 also estimated that market participants could save up to €70 million annually.
In addition, back-office expenses for custodian banks are expected to decrease as a result of the harmonised European settlement structure. The borderless structure will ultimately allow custodians to consolidate disparate back-office operations and integrate them within a highly-automated, unified back-office, which may eliminate the need for sub-custodians altogether.
TARGET2 and T+2
T2S effectively broadens the achievements of TARGET2, the Eurosystem’s real-time payment platform that streamlines the settlement of transactions between the ECB, national central banks and other financial institutions. Together T2S and TARGET2 can allow asset managers to utilise a single cash account for all Eurozone settlements, while extending the reach of auto-collateralisation.
Hailed as a mechanism for greatly reducing the cost of liquidity, auto-collateralisation assists with clear synchronisation of delivery-versus-payment (DVP) processes and automates the provisioning and reimbursement of credit between central banks and financial organisations. The ECB estimates that auto-collateralisation will collectively save European financial firms a minimum of €50 million each year.
As T2S is phased in, financial organisations should examine the effectiveness of their post-trade technology. There is a global imperative to support newer messaging standards and many market participants are working with SWIFT to effect universal implementation of ISO 20022. T2S will exclusively support ISO 20022 messages, and SWIFT serves as the leading provider of connectivity to the T2S platform.
T2S also firmly compliments the new T+2 settlement cycle in Europe. Together this will assist with the creation of a more fiscally harmonised Europe. Fiserv believes that global organisations will desire greater harmony between regional markets – leading to increasing standardisation over time and additional reductions in the cost and risk of settlement on a global basis.