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Interdepository Relations of Clearstream Banking

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1 Interdepository Relations of Clearstream Banking
International Conference Almaty 06 December, 2002 Name of presenter / Unit

2 Agenda Brief overview of Clearstream and its core activities
Why become interdepository relations more and more important? Overview of Clearstream’s CSD-links worldwide Legal pre-conditions Types of CSD-links Types of exchanged data Example: Interdepository relation between Clearstream and DTCC Current consolidation activities in Europe and models for the future International Conference Almaty 06 December, 2002

3 Organisation Chart Deutsche Börse AG (DBAG) Frankfurt am Main
Clearstream International (CI) Luxembourg Clearstream Banking Luxembourg Clearstream Banking Frankfurt Clearstream Services Luxembourg Clearstream Properties Luxembourg Clearstream Nominees London Clearstream International London Branch Clearstream = result of the merger between Cedel and Deutsche Börse Clearing in Jan 2001 Holding Clearstream International owned by 2 shareholders Old Cedel Intl and DBAG Old Cedel = 92 intl. Banks DBAG = over 200 Banks LuxClear CSS London International Conference Almaty 06 December, 2002 Name of presenter / Unit

4 Clearstream’s core activities
Clearing and Settlement An intermediary role to ensure that transactions between financial institutions for bonds and equities are completed efficiently and successfully; Custody Safe custody and management of customer securities held on deposit; Banking Services Provision of additional value added services to customers, for example, securities lending and borrowing, collateral management, etc. Additional Services Operating Luxclear, the Central Securities Depository (CSD) for the Grand Duchy of Luxembourg; Vestima, our innovative STP solution for Investment and fund processing. So what does Clearstream do ? Bascially, we have Three core areas:- We tend to make them sound complex but they are quite simple really:- - Intermediary role - Safe Custody role - Banking role Additional areas to apply expertise exist International Conference Almaty 06 December, 2002 Name of presenter / Unit

5 Clearstream International’s global presence
London Hong Kong Frankfurt Luxembourg New York Dubai São Paulo 2,500 customers in 94 countries 1,700 employees 42 nationalities 7 offices world-wide approx. 200,000 eligible securities International Conference Almaty 06 December, 2002 Name of presenter / Unit

6 market share in Europe approx. 35%
Continuous growth Transactions (millions) Custody volume (in trillions of Euro) growth rate (96-01): +38% +67% growth rate (96-01): +13 % -23 % +25% +6 % +71% +8% 154 +18% 7.5 7.1 119 +19% 92 +15% +47% 74 6.6 5.6 4.7 43 4.1 29 1996 1997 1998 1999 2000 2001 1996 1997 1998 1999 2000 2001 market share in Europe approx. 35% International Conference Almaty 06 December, 2002

7 Interdepository Relations: Why are they necessary?
History physical delivery of securities via train, ship, plane, etc. low safety levels low effectivity high costs Develop- ment setting up of electronical links immobilisation (jumbo receipts) dematerialization (no printed securites) Today Book entry International Conference Almaty 06 December, 2002

8 Target structure of the European securities industry
Market participants Exchanges (cash markets) ECNs, crossing-networks Exchanges (deriva- tives) Off-exchange Repos, Swaps, FI Trading Clearing (CCP / netting) Integrated clearinghouse/ central counterparty The three layers themselves are fragmented to differing degrees. But as I have shown, we are in growth industry. It is entirely possible, as we look at the future growth prospects we should expect the arrival of new entrants in this business. National CSDs US settler ICSDs Settlement International Conference Almaty 06 December, 2002 Name of presenter / Unit

9 World Wide Network of Clearstream International
CSC CSD-LINKS: AEX-NECIGEF APK Iberclear BXS-CIK DTCC JSSC Monte Titoli OEKB SIS Euroclear France NCSC World wide sub-custodian network and ICSD-LINKS to: Euroclear CBL International Conference Almaty 06 December, 2002

10 Custodian Links - Europe
Austria: Erste Bank d. oesterr. Spark. Belgium: Banque Bruxelles Lambert Czech Republic: Citibank Denmark: Den Danske Bank Estonia: Eesti Uhispank Finland: Merita Bank France: Banque Paribas Greece: Citibank Hungary: Türkiye Is Bankasi Ireland: Citibank Italy: Bca. Commerciale, San Paolo Luxembourg: Bqe. Internationale a Luxembourg, Banque Paribas, Bqe. de Lux., Chase Manhattan Bank, Kredietbank, Credit Lyonnais Netherlands: KAS-Associatie, Necigef, Abn Amro Norway: Den norske Bank Poland: Citibank Portugal: Banco Santander de Negocios Sweden: Skandinaviska Enskilda Switzerland: UBS Slovakia: CSOB Spain: Banco Bilbao Vizcaya Argentaria Turkey: Türkiye Is Bankasi United Kingdom: Citibank, CrestCo International Conference Almaty 06 December, 2002

11 Custodian Links - Worldwide
Argentinia: Citibank Australia: ANZ Canada: Bank of Nova Scotia China / Shanghai: HSBC China / Shenzhen: HSBC Hongkong: Citibank Indonesia: Citibank Japan: Bank of Tokyo-Mitsubishi, Industrial Bank of Japan, Sumitamo Bank Malaysia: OCBC Mexico: Citibank New Zealand: Reserve Bank of New Zealand Singapore: OCBC South Korea: HSBC South Afrika: Standard Corporate and Merchant Bank Thailand: Thai Farmers Bank USA: Chase Manhattan, Citibank International Conference Almaty 06 December, 2002

12 Three Point Declaration
Pre-Conditions for the establishment of interdepository relations between Clearstream and a foreign custodian Three Point Declaration To be signed by the foreign custodian: Securities in securities-safekeeping account no. … belong the customers of Clearstream Assertion of any securities lien, right of retention or any similar rights only for such claims as may arise from the purchase, administration and safe custody of these securities, immediate information of Clearstream in case of any third party intervention Securities are kept in safe custody at a place within the frontiers of the “ABC-Bank”, no entrustment of a third party with the effective safe custody of such securities or transfer to another country without Clearstream’s consent In case of registered shares: Registration of a nominee (instead of the beneficial owner). According to the legal situation in the respective country this can be Clearstream by itself or another company (like DTC in the USA). International Conference Almaty 06 December, 2002

13 Types of CSD-links Indirect Link:
CBL has an account with a sub-custodian which has an account in its own name with the CSD. Semi-direct Link: CBL has an account with a CSD in its own name, operated through a technical account with an agent bank (sub-custodian) Direct Link: CBF / CBL has an account in its own name with a CSD DvP or FoP International Conference Almaty 06 December, 2002

14 CBL Current links – Indirect Link
Outbound Link Type of securities: CSD eligible securities Non-CSD eligible securities Number of accounts: 1 account at subcustodian CSD Subcustodian A/C Instructions Confirmations CSD Nostro A/C Subcustodian CBL Loro A/C Instructions: File Transfer/S.W.I.F.T. Confirmations: File Transfer/S.W.I.F.T. Reconciliation Subcustodian Nostro A/C Subcustodian Nostro A/C CBL CBL CBF Loro A/C CBF A/C Reconciliation CBL Nostro A/C CBL Nostro A/C CBF CBF Clients A/Cs Clients A/Cs International Conference Almaty 06 December, 2002

15 CBL Current links – Semi-direct Link
Outbound Link Subcustodian A/C Type of securities: CSD eligible securities Non-CSD eligible securities Number of accounts: 1 account at the CSD 1 technical account at agent bank CSD Reconciliation CBL Loro A/C Instructions Confirmations CSD Nostro Technical A/C Agent Bank (Subcustodian) Confirmations: File Transfer/S.W.I.F.T. CBL Technical A/C Instructions: File Transfer/S.W.I.F.T. Agent Bank Nostro A/C CBL Reconciliation CBF Loro A/C CBL Nostro A/C CBF Clients A/Cs International Conference Almaty 06 December, 2002

16 CBF Current links –Direct Link
Outbound Link CSD CBF Loro A/C Reconciliation Countries where link exists: Belgium Finland France Italy Netherlands Spain Switzerland USA Confirmations: File Transfer/ S.W.I.F.T./ Proprietary Instructions: File Transfer/ S.W.I.F.T./ Proprietary Type of securities: CSD eligible securities Number of accounts: 1 account at the CSD CSD Nostro A/C CBF Clients A/Cs International Conference Almaty 06 December, 2002

The Depository Trust & Clearing Corporation (DTCC), is a holding company that oversees two principal subsidiaries - The Depository Trust Company (DTC) and the National Securities Clearing Corporation (NSCC) -. These two firms provide the primary infrastructure for the clearance, settlement and custody of the vast majority of equity, corporate debt and municipal bond transactions in the U.S. CSD link between CBF and DTCC, was established in 1992 Bilateral link Free of payment About 250 securities are held within the link, in a Collective Safe Custody status Settlement of trades in these securities is processed through CASCADE system International Conference Almaty 06 December, 2002

18 Delivery of securities
The Link Structure USA GERMANY Depository Trust Clearstream Banking and Clearing Frankfurt Corporation CBF DTCC Delivering 2000 CBF 7911 DTCC Receiving account account account account Filetransfer Delivery of securities Credit of securities International Conference Almaty 06 December, 2002

19 Examples 1. Customer A buys 100 Microsoft shares in Berlin; the counterparty is a CBF member. Clearing and settlement takes place in CBF/CASCADE system. 2. Customer A sells 100 Microsoft shares in Nasdaq Europe; the counterparty has no clearing and settlement arrangement with CBF. Clearing and settlement takes place between Creation, Citibank N.Y. and the receiving counterparty‘ s U.S. custodian. Customer A must deliver 100 Microsoft shares FoP from Cascade to Creation. 3. DvP settlement can now take place between the customers CREATION account and the receiving counterparty‘s custodian bank. International Conference Almaty 06 December, 2002

20 Example 1: Settlement of a trade executed in Berlin
After end of trading, matched instructions are sent to XONTRO-trades. Instructions are processed. Contract notes (Schlussnoten) are sent to the counterparties; discrepancies have to be notified in T+1, before beginning of trading. After trade enrichment contract notes (Schlussnoten) are sent to CASCADE/LION where instructions are generated. Seller EXCHANGE Buyer Sell Order Buy XONTRO-Orders Broker Sell Confirmation (Schlussnote) Buy Confirmation XONTRO- Trades CASCADE LION- Pending S/E Transactions Instruction Buyer account +100 Instruction International Conference Almaty 06 December, 2002

21 Example 2: Transfer of sec. from CASCADE to CREATION
Customer account +100 CASCADE Customer account - 100 Citibank N.Y account Clearstream Banking DTCC account Citibank New York International Conference Almaty 06 December, 2002

22 Transfers from CASCADE into CREATION (Depository US)
In relation to transfers from CASCADE into CREATION, following data have to be instructed in CASCADE: Credit-advice account: (DTCC) End beneficiary account: 908 (Citibank N.A., New York) Text: /XXXXX (XXXXX= CREATION account) Additionally, instructions in CREATION/ CEDCOM have to be fed as follows: Instruction Type: F Counterpart Account: U2000 Trade Date: DDMMYY (mandatory field) Narrative: XXXX (XXXX= CASCADE account of deliverer) International Conference Almaty 06 December, 2002

23 Example 3: DVP settlement with U.S. counterparty
Rec. Customer CREATION Customer account +100 Customer account - 100 U.S. Custodian Citibank N.Y. account Clearstream Banking account Receiving Customer S-1 International Conference Almaty 06 December, 2002 Name of presenter / Unit

24 Corporate Actions Interests and dividends on CSC-holdings in CASCADE will be net-credited on the according CREATION-account in USD. The posting takes place one day after payment day, value date payment day. A compensation of yields on open stock exchange transactions and OTC-transactions will not take place. At present, tax claim and proxy voting service can not be offered by Clearstream Banking Frankfurt for CSC-holdings. If these services are needed, holdings have to be transferred timely before the relevant date to CREATION. The procedure for capital-changes related to US-securities held in a CSC status will be published, case oriented, under the internet-address in rubric X-List. International Conference Almaty 06 December, 2002 Name of presenter / Unit

25 Current consolidation activities in Europe
The Exchanges are driving the strategies for consolidation Key drivers for Exchanges Liquidity Product range Cost Competition benefits all market participants Four models demonstrate how Exchange strategies drive Clearing and Settlement infrastructure So, if we look at the strategies for consolidation - we see these are currently driven by the major Exchanges - particularly in the area of C&S The settlement systems are not passive: ICSDs took the first major steps of horizontal consolidation (Cedel/DBC, Euroclear/Sicovam) - and are still experiencing the challenge/pain of this process CSDs are active participants in forming the post-trade service offerings being established by the major exchanges and in pursuing interoperability initiatives But - it is the Exchanges, who in their battle for survival and competition for liquidity are really determining the roles to be played by the clearing & settlement systems. Drivers of the Exchanges: Avoiding fragmented liquidity may encourage some further consolidation at exchange level - but the remaining competition forces a search for other sources of differentiation: reduction of risk, lower costs, broader product range, efficient, integrated C&S Exchanges are offering an “all in” package - with C&S as a key differentiator These features aim to satisfy users - so competition at trading level should be not only acceptable - but considered desirable - benefiting all market participants. Four Models: Naturally, my particular interest is in the connection between trading and C&S - which I will demonstrate with 4 examples. I do not criticise or prefer one model over another - but simply wish to highlight that, despite alternative approaches, results are much the same. Let’s Start with Virt-x… International Conference Almaty 06 December, 2002 Name of presenter / Unit

26 Virt-x : An “Open” model
Exchange strategy: Single trading platform for pan-European blue-chip equities Virt-x Transaction Engine SIS SIS Crest Euroclear Clearing and Settlement Model: Independent (I)CSDs co-operating to support an exchange Flexible settlement location - offers a degree of user choice Virt-x defines which (I)CSDs form part of “virtual” single settlement system To provide integrated C&S for these securities: Virt-x has appointed multiple settlement agents : currently 2: SIS, CREST and Euroclear (Why not in future: CI ?) Users can choose any of the 3 independent CSDs as their settlement agent - giving flexibility of settlement location - meaning this is somehow an ‘open’ system. But the KEY point remains that it is virt-x that selects and approves which entities can settle on its behalf. It is not possible for a standalone CSD to simply declare itself a settlement agent for virt-x and start settling transactions - virt-x has to agree to download files etc. This is entirely understandable, but thus the model is only really “semi-open”. International Conference Almaty 06 December, 2002 Name of presenter / Unit

27 Euronext: A “Quasi-Vertical” model
Exchange strategy: Expand trading in European equities by absorbing domestic exchanges Euronext Paris Euronext Brussels Euronext Amsterdam + + Single Trading Platform Euroclear France CIK Necigef Single CSD and settlement system (“ultimately”) Clearing and Settlement Model: CSDs from a single business group, supporting a related group of exchanges Today, each exchange retains direct link to its ‘home’ CSD Ultimate plan - a single settlement system supporting a single trading platform Euronext approach is different: extending trading in equities of foreign markets by absorbing the relevant exchanges of domestic markets. Euroclear is currently the sole supplier of C&S services to Euronext. And the supporting clearing and settlement is ‘evolving’ - although at an undefined, slow pace - towards a single settlement platform. The picture is NOT much different from that of a vertical model - just representing 3 domestic markets rather than 1 The key point is that: Success of the exchange requires very close strategic co-operation, between Euronext and Euroclear: Euroclear must mirror the Euronext vision. Euronext may not own Euroclear - but the effect of their combined strategy is the same. International Conference Almaty 06 December, 2002 Name of presenter / Unit

28 LSE Model Exchange strategy:
To encourage International companies to list and be traded on the Exchange. LSE To be implemented Crest Euroclear Historically, LSE has been most successful in encouraging international companies to list on its exchange - boosted by position of London as leading financial centre 2/3 of trades at LSE are international - involving an international client or equity. However, as in the previous examples LSE is also now seeking to expand the settlement opportunities it offers customers: LSE recently appointed Euroclear as an alternative settlement location to attract more non-UK members to the exchange (although connection is not yet live) Clearing and Settlement Model: Until recently, a single CSD supporting a trading platform Euroclear due to be added to attract more non-UK members to the exchange International Conference Almaty 06 December, 2002 Name of presenter / Unit

29 DBAG: The so-called “Vertical” model
Exchange strategy: Enable trading in International equities on a single platform via Xetra Stars segments DBAG Clearstream Banking Frankfurt Clearing and Settlement Model: A single CSD supporting a trading platform Existing infrastructure of an efficient domestic CSD also settles transactions of European and International markets Whilst also seeking to expand trading in foreign equities - the strategy of DBAG is more similar to Virt-x than to Euronext, enabling non-German securities to be traded on the existing platform. Let’s not forget that it is only the domestic CSD - Clearstream Banking Frankfurt - which directly supports the exchange in this vertical stream. The international business of Clearstream Banking Luxembourg continues to service international business as it always has done. To conclude: although the strategies and models may differ: exchanges all demonstrate strong influence over the related C&S structure. intended results are the same the exchanges seek to ensure their customers receive efficient ‘all-in’ C&S International Conference Almaty 06 December, 2002 Name of presenter / Unit

30 Horizontal consolidation Vertical integration
Consolidation activities in Europe Is the public debate the real issue? Horizontal consolidation brings together institutions, such as stock exchanges [or clearing and settlement providers], that provide the same services. Avoidance of duplicate standards, procedures, systems and costs creates economy of scale for customers. Vertical integration brings together institutions providing different but complementary services - for example, trading, clearing and settlement along the value chain. The attractions are a consistent ‘package’ with an opportunity for efficiency gains and savings. In my view too much media attention has already been paid to this subject and only some of it has been balanced. This summary from the Banker magazine helps from an educational viewpoint. But the point is:- - neither is right or wrong - both are valid and have merits (Source: The Banker, January 2002) International Conference Almaty 06 December, 2002 Name of presenter / Unit

31 Both directions of consolidation possess advantages and disadvantages
Horizontal Vertical lower cross-border costs potential cost cuts economies of scale Advantages competition to the customer’s benefit easy and fast to realise low installation costs for customers easier straight-through-processing reduced interfaces > reduced risk increased legal certainty increased speed, safety and risk management reduced risk and costs lower potential for cost cuts lower economies of scale Disadvantages Both views have been tried and tested in many industries many times before But balanced reporting of this has been rare. Then explain slide. But as I said, is this the real question ??? can be very costly / high installation costs (industry experience) Long time spans until benefits are reaped rise of a monopoly International Conference Almaty 06 December, 2002 Name of presenter / Unit

32 Are high cross border costs due to a lack of horizontal integration?
Costs being influenced by intermediaries and stock exchanges Different market practices Higher economies of scale 20% Costs being influenced by the EU and member states Different legal and tax systems Different rules for corporate actions Different countries 40% 40% Could we be more efficient ? - Of course YES. The studies by both CEPS and the Giovannini Group, have concentrated on the direct costs of cross-border settlement. However, the Giovannini report notes: “there is evidence to suggest that these direct costs constitute a relatively minor share of total”. The rest being due to legal/regulatory barriers to integration, the need to access multiple CSDs and intermediaries, technology interfaces and resulting high back-office costs. The most recent study on this subject - by McKinsey and JP Morgan, estimates the inefficiencies carries a price tag overall of about five billion euros per annum. But - only 20% of this is due to exchanges, clearers and Intermediaries These entities are all seeking to enhance their processes to make up for their share of this cost - as demonstrated by the models being implemented by the exchanges. The majority of cost arises from differences in regulatory environment: Different tax systems, different corporate and civil law make "translations" and a "translator" necessary. Changes here can only be supported - not implemented - by the capital markets themselves. Which are difficult to influence or can only be influenced in the long term Small volumes Different languages and cultures Source: The Future of Equity Trading in Europe - a joint research by McKinsey and JPMorgan International Conference Almaty 06 December, 2002 Name of presenter / Unit

33 Support the elimination of legal/regulatory/tax barriers;
In summary: Continuing towards the goal of a single European capital market Support the elimination of legal/regulatory/tax barriers; Competition helps deliver what users want - Monopolies are not the answer; The equity strategies of the major Exchanges are: all seeking to eliminate cross-border settlement; creating some form of vertical silos. The target model must be an open one; Not be distracted by ‘popular myths’ of the path to consolidation; With the support of Clearstream Banking Frankfurt (CBF), DBAG strategy is already delivering real value to the market and our customers. So, to summarise: Everyone in the industry has a role to support efforts to remove the other major hurdles and impediments to cross-border efficiency - the legal/regulatory and tax barriers - and we will do everything we can on this front. Competition is a more powerful force in ensuring the delivery of customer value than a monopoly. Neither is a utility necessarily a more efficient solution than market forces. The strategies of the exchanges are not that different - competing with each other to provide the full range of services, including C&S, as efficiently as possible - implementing arrangements with CSDs, owned or otherwise, which best meet their, and their customers, needs. To this end Clearstream Banking Frankfurt can support DBAG to continue delivering real value to the market - whilst at the same time being part of an open model - supporting other exchanges and thus promoting effective competition. We need to Avoid the myths - and continually challenge what we hear And at Clearstream we will continue to strive for the goal of a single European capital market- by supporting consolidation within the clearing and settlement industry whenever suitable opportunities arise. We remain totally focussed on our customers and this key element is the at the centre of everything we do. Thank you. International Conference Almaty 06 December, 2002 Name of presenter / Unit

34 How we see the future Industry structure Our business
Concentration into 2 or 3 ‘hubs’ built around the major exchanges; Strong competition between these few; Open Model enabling global customer access. Our business Contribute actively to the creation of the premier European stock exchange; Become a leading player in custody, clearing and settlement through delivering high quality, low cost products and services; Continue to play an active role in the consolidation of the European market; Prepare new sources of revenue for the future; Develop our people and our corporate culture. With exchanges fighting for business and customer focus being the driving force, we foresee:- Further industry consolidation to a point. For Clearstream, we see a strong future as part of the DBAG group with positive synergies yet to be developed but always aimed at bringing benefits to customers. For example - Clearstream Banking Frankfurt is Approved as settlement location for Nasdaq Europe - Confirmed willingness to support a major European Exchange by providing settlement services for German equities - Open to discussions with other discussions. International Conference Almaty 06 December, 2002 Name of presenter / Unit

35 Thank you and Goodbye International Conference Almaty 06 December, 2002 Name of presenter / Unit

36 Back-up International Conference Almaty 06 December, 2002

37 CSC / NCSC Definitions CSC Business:
CSC is described in German Depository Law and determines the right of customer on deposited securities. It states that the end customer is co-owner of the deposited securities. CBF would be liable for any claim that the customer makes. The current stock exchange rules require securities to have a CSC status to be eligible for trading. Exception: OTC trades (3rd segment). NCSC Business: NCSC indicates that the customer has a pro-rata claim on the securities. CBF is only liable for those losses for which CBF itself is at fault. International Conference Almaty 06 December, 2002

38 CSC / NCSC Eligibility rules for CSC business
German securities: Securities obtain the CSC status when held in the CBF’s vaults. Foreign securities - two scenarios apply: German Depositary Receipts are created based on underlying foreign securities. Since the German DRs are deposited in CBF's vaults, they have CSC status. CBF offers CSC status for the foreign securities held at CSDs with which CBF maintains a direct link (Article 5.4 of the Law on the Safe Custody and Acquisition of Securities of 4 February 1937). Note: The list of eligible securities and the addition of new securities in the link is subject to bilateral agreement. International Conference Almaty 06 December, 2002

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