From our senior consultant, Laura

“Having several years of experience on major projects impacting the European financial market, working on the Target 2 Securities (T2S) adaptation program of a major CSD was a challenge not to be missed,” Laura

Let’s step back a moment and look at the origin of this ambitious vision in the post-trade of securities transactions in Europe.

With the construction of a EURO capital market, a number of key players, including stock exchanges, brokers, the Eurosystem of Central Banks among others, voiced against the fragmentation of the post trade industry that resulted in higher costs due to a lack of harmonisation in legal, technical and operational practices between EU countries.

ECB and numerous financial firms kicked off several fundamental actions to build a more legally and operationally integrated framework, enabling later the successful deployment of the single settlement platform for 23 CSDs. But the way towards harmonisation is long and paved by challenges for incumbents like national CSDs as well as regional and local custodians or cash correspondents.

Rôle-d-Euroclear-dans-le-projet-T2ST2S aims at increasing efficiency and reduce risks by facilitating centralised securities settlement at a European scale. Beyond settlement, market participants will organise themselves to benefit from a better and centralised cash management in central bank money along with enhanced optimisation capabilities for collateral management. Now T2S is a reality. It starts to reshape the domestic and cross-border securities settlement in Euro and in other currencies also. Indeed, with the implementation of the T2S platform in connection with National Central Banks, the first foreign currency to join T2S will be the Danish Kroner in 2018.

For the time being, Target 2 Securities is halfway towards its implementation in the 21 participating countries. National CSDs are the most impacted in terms of IT developments and operational changes. The first phase of the programme is a “must-do”, a straight and lean adaptation of CSDs to T2S.

With the outsourcing of their settlement processes to T2S and the coming CSD Regulation, CSDs will ambition to expand their current service offering. We should thus expect more competition between European CSDs.

One of those ‘new’ services is the ‘investor CSD’. Technically T2S enables the consolidation of the cash settlement in one single EUR account to settle transactions in any migrated CSDs. It is also technically valid for securities. But a CSD needs to develop the asset servicing for all T2S securities that would be served from a single participant securities account in that investor CSD.

That model will tend to compete with the current positioning of European regionals custodians. The medium to small custodian banks in Europe will be confronted to a direct competition with a few CSDs. Practically, a custodian bank can make the choice to become a Direct Connected Party to T2S (T2S being a settlement engine they will have to maintain a legal link with their home CSD). Each T2S direct parties will then share the same settlement platform with CSDs, bearing the same costs, which means that the competition shall be rude on the added-value services they will be able to offer to their clients to generate significant savings.

Local custodians (sub-custodians) will be directly affected by this new paradigm and the redistribution of roles and margins in this new post-trade competitive landscape. Sub-custodians are now facing that huge pressure.

CSDs and custodian banks must redefine their business and operating models for the next coming 5 years. Today market players have made important investments in technical connectivity to join T2S platform and they begin to lay down the foundations of their future strategy to attract sufficient volumes and be able to achieve the final goal of cost reduction on settlement activity.

Laura: “Helping a client on the T2S adaptation program, we are focused on migrating to T2S on time without fundamentally revamping the current processes and relationships with the network of local agents, sub-custodians and correspondents in other EU markets. But we can already anticipate that the “as-is” strategy will not lead to productivity gains in the long run. At first it may even be the opposite considering the initial investment amortization and a potential increase of the daily operating costs along the chain of intermediaries. From a network perspective, the links in place with the custodians, sub-custodians and cash correspondents will no longer fit with the objectives of cost reduction and with the opportunities that are brought by a centralised pan-European securities settlement platform. Post-trade market players are just beginning to take the full measure of opening centralised cash management capabilities for securities settlement in Central Bank money and centralised safekeeping accounts for all the European countries issued securities.”

Likely, a large network of cash correspondents in Europe will no longer be required except for non-EURO currencies.

Custodians and sub-custodians will have to focus on asset servicing innovative offering to remain in the competition with investor CSDs and the largest global custodians. Even more complex and far-reaching harmonization work is still to be developed around issuance procedures, shareholders services or tax procedures. Mutual funds processing appear to be much less standardized and automated and generate substantial challenges. Banks face strong regulatory pressure: they seek better solutions for their liquidity and collateral management.

The post-trade landscape will inevitably be overhauled in the 10 coming years, the mutation has just started. And we haven’t talked about Blockchain yet !

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