| Infrastructure is set to enter period of change |
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| The next eighteen months will see fundamental change in the clearing and settlement infrastructure which underpins securities trading in Europe, writes Brian Healy, who says that Ireland is well placed to avail of the opportunities which such enhancement and consolidation bring, but Irish market participants need to fully engage with these developments to gain maximum advantage and to avoid any risk of negatively differentiating the Irish market from the first tier of progressive European securities markets. |
Even given the relatively healthy state of European securities markets, significant opportunities still exist for increased efficiency and cost effectiveness in cross-border transactions in European securities. We remain far from the level of harmonisation of the diverse national systems, practices and protocols that would make life simpler for investors and traders alike in European securities markets. In the international context, European trading systems are efficient with the difficulties and inefficiencies mainly arising after trade execution in the vital clearing and settlement areas. The diffuse infrastructural framework in which investment firms are required to operate in the European Union means that firms who carry out business across various European markets are required to put in place very different processes and systems for each market in which they deal. The inefficiencies and duplication of resources involved lead to significantly higher costs to process cross-border transactions and result in a higher cost of capital for investment firms, putting European investment firms and investors in European securities at a disadvantage especially compared to the US market. At the margin, this also restricts the ease with which investors can trade in European stocks with Irish investors, for example, being significantly more likely to invest in UK and US securities than in other Eurozone securities.
European markets have been aware of these post-trade inefficiencies for some time and the position to date of European Union regulators has been that the market should arrive at a market-led solution. However, absent substantive progress by the market, regulatory intervention is increasingly likely; reference for example, recent statements by the Commissioner for Internal Market and Services, Mr Charlie McCreevy. While there has been significant market innovation in trading systems by European exchanges and market participants over the last decade, combined with some consolidation among exchanges, barriers still remain to the development of a cost effective and efficient harmonised marketplace for European securities generally.
One of the most significant developments in recent years in the European clearing and settlement area was the merger of CRESTCo with Euroclear in 2002. The Euroclear Group, immediately after the merger, launched a significant harmonisation project for all five of the European consolidation markets, in which it serves as a central securities depository, namely the Irish, UK, Dutch, Belgian and French markets. Euroclear will deliver a “Single Settlement Engine” (SSE) in 2006. This SSE is the first step in a broader strategy, the final phase which will be the “Single Platform”, which will provide further integration and the replacement of the various post-trade interfaces between the five markets with a common interface. This initiative is of major significance and is likely to establish a key benchmark for further consolidation of the post-trade services area. As such it is a very real step towards the eventual delivery of a far more harmonised European securities market.
The Irish market
The Irish market is actively engaged in the Euroclear harmonisation project, and in order to ensure that any issues concerning the Irish equity and Government bond markets are identified, brought to the attention of Euroclear, and appropriately resolved, an Irish Market Advisory Committee (MAC) was established in November 2002. The Irish MAC acts as a central conduit between Irish market participants and Euroclear Group as well as facilitating liaison with the UK, French, Dutch and Belgian MACs.
Dematerialisation
One of the domestically focused initiatives of the Irish market in the clearing and settlement area is the setting up of a Dematerialisation Implementation Group. This is a cross industry group with broad market, regulatory and governmental participation. It was established earlier this year under the Chairmanship of the Exchange, to bring about the removal of share certificates and the CREST Transfer Form from the issuance, securities trading and post trade processing cycles. The proposal is to replace the current documentation by a paper Shareholder Statement and Shareholder Reference Number (SRN) accompanied possibly also by a Personal Identification Number. It is important to note that there will not be any change to the legal position of shareholders as certificated shareholders’ names will remain on the share register. The reasons for this initiative include the costs and inefficiencies associated with the current paper based system as share certificates need to be “dematerialised” or changed from paper form to electronic form prior to completing a transaction. This process ties up significant back office resources and is costly and inefficient, with many of these costs being passed onto investors. Investors who hold share certificates can also be disadvantaged by the delays in the current system as stockbrokers will typically not accept an order to sell shares without first obtaining the client’s share certificate. The reason for this policy is to avoid the risks of failed settlements due to the non-receipt of, or delays in receiving, the share certificate for the transaction. In a volatile or bear market for a particular share price, investors may obtain a lower share price than they would otherwise obtain due to this delay in dealing. Transactions in certificated shares also take longer to settle due to the time-consuming process which they necessitate. It typically takes seven business days longer for investors to receive the proceeds of a sale in certificated form compared to an equivalent electronically enabled transaction.
The Dematerialisation Implementation Group published a consultation paper on a “Proposal to Improve Efficiency for Investors and Streamline the Settlement of Irish Securities” in September 2005. The paper can be accessed on the ISE’s website at www.ise.ie in the Exchange News section of the site. The consultation paper has been widely circulated and the period for responses closed on 21st October. There was strong support from the market for the proposal to dematerialise shares, albeit with comment on the timing, costs and on other details of the proposal. The Group is currently considering responses to the paper and will be writing individually to the respondents in due course.
Central Counterparty for Irish Securities
Over the past nine months the ISE has been working on the delivery of a central counterparty (CCP) service to equities and ETFs traded on its ISE Xetra? electronic trading platform. The central counterparty will become the buyer to every seller and the seller to every buyer for transactions executed on ISE Xetra?. A central counterparty is a feature of developed securities markets and its addition to the Irish securities market will bring a number of advantages to participants in the market:
• Increased liquidity
• Post-trade anonymity
• Reduced counterparty risk
• Settlement netting
• Increased settlement efficiency
The ISE, in conjunction with CRESTCo Limited, Deutsche B?rse AG and Eurex Clearing AG (ECAG) will launch a central counterparty for Irish securities traded on the ISE Xetra? orderbook by end of 2005. ECAG is the CCP to the German equities market as well as being the provider of clearing and risk management services to the Eurex derivatives’ platform. The project is at an advanced stage and is on schedule for a December launch. |
Brian Healy is director of trading on the Irish Stock Exchange
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