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The introduction of the European Union’s Markets in Financial Instruments Directive (MiFID) and the creation of a pan-European securities market in 2007 launched a paradigm shift in Europe’s equities markets. However, says TABB Group in a new research report published today, “European Clearing and Settlement: Breaking Barriers – Building Alliances,” while MiFID clearly brings into view the development of a pan-European market at the trading level, the clearing and settlement structure remains organized largely on national lines with deep-seated regulatory, legal, fiscal and market-practice barriers.
It is these barriers together with a complex, existing infrastructure, explains Andrew Howieson, managing director at TABB Group Europe and author of the report, that make it difficult to move quickly to a pan-European framework. “Europe’s clearing and settlement infrastructure faces unprecedented challenges,” he writes. “The current infrastructure is organized on national lines and complex, with no less than six central counterparties (CCPs) and 23 central securities depositories (CSDs), in effect poorly positioned to support a competitive pan-European trading market, which is why cross-border clearing and settlement costs in Europe are unacceptably high.”
According to Howieson, there are two major issues for the clearing and settlement framework’s ability to efficiently support the emerging new trading market. First, at the central counterparty (CCP) level, new trading venues are introducing new pan-European CCPs because the existing CCPs do not meet their pan-European coverage requirements. This means that multiple CCPs will need to be able to work together efficiently in support of trading in dual-listed stocks. Second, the cost of cross-border clearance and settlement remains unacceptably high and the “dividend” that should accrue from the creation of a pan-European market is on hold.
Two major structural initiatives have been designed to address the issues: the Code of Conduct with its interoperability guidelines; and TARGET2-Securities, which proposes a common settlement platform for the Eurozone. “The outcome of both initiatives is presently uncertain,” says Howieson.
While it is unlikely that development of the trading market will stall, the success of new multi-lateral trading facilities (MTFs) and intermarket competition is likely to slow and be constrained by the increase in operational complexity and costs associated with an unresolved cross-border clearing and settlement process.
TABB Group believes that both the Code of Conduct and TARGET2-Securities will be challenged. While critical, explains Howieson, the Code of Conduct is reliant on institutions that may have no stake in facilitating interoperability. He adds, “TARGET2-Securities, while its merits may be debated, is a significant undertaking that will not be implemented until at least 2012.”
“Europe has elected to go for a competitive clearing and settlement model,” says Larry Tabb, founder and CEO at TABB Group, “in contrast to the centralized clearing and settlement model supporting equity trading in the US. Interoperability is critical to this approach, allowing competing organizations to interact in a consistent market framework. The first test for interoperability is in the provision of competing CCP services. Unfortunately, the market is seeing the first results of delays in implementation, apparently the result of vested commercial interests that Andrew addresses in his detailed report.”
The 30-page research note with seven detailed exhibits, including clearing and settlement models, covers MiFID’s affect on fragmentation versus consolidation; clearing, settlement and counterparty services; the current clearing and settlement model; fixing Europe’s clearing and settlement structure; the Giovannini Group report of 2003 and the 15 barriers to harmonisation; the Code of Conduct and Interoperability; interoperability of CCPs; new clearing facilities; TARGET2-Securities; and central clearing and the buy side.
The research can be downloaded by TABB Group Research Alliance clients and qualified media at https://www.tabbgroup.com/Login.aspx. To request an executive summary or to purchase the report, please visit https://www.tabbgroup.com or write to info@tabbgroup.com.
