13 April 2011

EuropeanIssuers' comments on the regulation of central securities depositaries

EuropeanIssuers considers that the adoption of a common regulatory framework for CSDs should assist in safeguarding the safety of the securities settlement systems, facilitate the acquisition of securities in cross border environment, and help in reducing infrastructure services costs to issuers.

As issuers, EuropeanIssuers want to see:

• Effective management of systemic risk / integrity of ownership: CSDs with their central functions need to ensure (either by doing themselves or by making sure others do it via rules) that:
- the number of securities held in the CSD (both at the total level and the individual account level) is what it should be (not just for settlement purposes but for the integrity of positions for corporate actions, voting etc); and
- settlement is as risk free as possible, to remove the possibility of reversals.

• Reduction of costs for issuers, with the possibility of choice and competition between CSDs, and also between CSDs and issuer agents as regards registration of ownership;

• The preservation of national company law systems, rather than harmonisation at EU level as securities law. Thus we support a requirement on CSDs to reconcile the securities held in their own books, in accordance with national company laws. We do not support harmonisation of the requirements for ownership.

Comments

A harmonised approach to the regulatory framework may be important in the efficiency and management of systemic risk in domestic markets and facilitate the removal of barriers across markets. Under this framework, a clear distinction should be made between core activities that do not bear systemic risk and ancillary/banking activities that assume most of the risk.

Settlement

As for the safety of the settlement system, EuropeanIssuers agree that a distinction must be drawn between the utility function of the CSDs, which assume no financial risk, and intermediaries and other market participants, which assume most of the risk and for which the sharing of financial risk across the range of competing players must be encouraged. EuropeanIssuers therefore support the proposal that CSD services should be categorised into core services and ancillary services. Settlement itself falls into three areas:

• Finality of the transaction to ensure that securities and payments are protected against insolvency by means of – (a) finality with settlement in central bank money (where possible) and (b) finality of ownership on settlement (although EuropeanIssuers accept that in some markets national law dictates ownership rules where this is not possible).

• Liquidity – the CSDs settlement process needs to maximise liquidity to avoid a high degree of unsettled transactions at the end of the day.

• Ancillary functions – these might cover functions such as stock lending etc that may increase liquidity, but where EuropeanIssuers would like to see greater transparency of such activities.

Public utility function / the importance of reconciliation

EuropeanIssuers welcome recognition of the public-utility function assumed by CSDs, which is central to issuers' concerns and which, in most cases, consists of ensuring that the number of securities issued balances out the number of securities in circulation, hence preventing inflation of securities. Their understanding of the public utility function is that although not all CSDs are responsible for the total issuance of a security, all CSDs assume liability for the integrity of the securities held in their own systems. A fundamental responsibility of the CSD is thus to reconcile the securities held in its books (either via custody or a book entry system) with that of the issuer or the issuer's agent.

Under most continental CSDs' systems, reconciliation takes place within the CSDs' own books by comparing the amounts recorded in the accounts opened by CSD participants in the CSDs books, with the accounts recording the total issue of securities. Under other regimes (e.g. Ireland and the UK where registered securities are the norm), reconciliation takes place between the registrar and the CSD to ensure the number of securities held in CSD accounts is as it should be.

EuropeanIssuers believe that EU regulation should require reconciliation by all CSDs, but should not favour either of the above systems above the other. Intrinsic to this reconciliation function is also the settlement function, which, in their view, is about ensuring that delivery of title in securities by the seller is concomitant with payment by the buyer, thus preventing systemic risk. After i) having verified that the number of securities to be delivered is available on the seller’s securities account, and ii) having received confirmation by the Central Bank that there is sufficient cash on the buyer’s account, the CSD will perform the book-entries in the securities accounts held with him, and settlement will be final where local law allows it to be so. This will open the way for the actual transfer of ownership usually evidenced by book-entry in the securities account held either with the CSDs or with the buyer’s custodian, depending upon the business model.

As a consequence, EuropeanIssuers take the view that both the public utility or reconciliation function as described above (they prefer the term reconciliation function as this is better understood by their members) and the settlement function should be considered as minimum requirements to be qualified as a CSD.

Scope

Regarding the scope of harmonisation, EuropeanIssuers consider that the EU licensing regime should be limited to the CSD core activities, the banking services being already subject to the credit institutions’ authorisation and supervision regime. However, if a CSD acts as a bank as an ancillary function, it should be regulated appropriately.

On access, EuropeanIssuers agree with the objective of allowing competition and removing impediments to choice, meaning that issuers and other market participants should be left free to choose the CSD best suited to their own needs.

In this respect, the choice of CSD should leave the operation of the applicable corporate law unaffected. In case of shares for example, the issuance of securities is governed by the lex societatis of the company's home jurisdiction, irrespective of the location of the CSD. The same holds true with respect to the law governing the holding patterns or the rights flowing from the shares, which is equally the lex societatis of the home jurisdiction.

In addition, a specific reference should be made in the envisioned legislation to the ECB TARGET2-Securities (T2S) project, under which the settlement process of most CSDs will be outsourced to a single IT platform. EuropeanIssuers take note of the fact that that each CSD “will continue to be legally responsible for opening, maintaining and closing the securities account of its users” and that T2S will only deliver the settlement process (delivery versus payment-DVP).

Press release 

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