CMI in Focus: CSD Competition in Asia

Nowadays, it is not the norm for several entities to provide settlement and depository services to similar asset classes in the same market. Only a few countries have maintained the multiple central securities depositories (CSD) model. The past decade has seen several competing CSDs being consolidated into a single entity. Changes to regulations have also helped re-shape the settlement and depository landscape.

For instance, a market initiative to consolidate the infrastructure coupled with a change in local regulations resulted in the establishment of the National Securities Depository (NSD) as the single CSD in Russia in 2012, when NSD acquired the Depository Clearing Company (DCC). While the operations of the CSD are now mainly based on NSD, it also draws from the strengths of the two original depositories. This development, one could argue, is a sign of a fragmented market moving forward. In Ukraine, the designation of the National Depository of Ukraine as the single depository practically ended the operations of the All-Ukrainian Securities Depository as a securities settlement system. The latter has now been legally transformed into the Settlement Centre, which acts as clearinghouse and the process is underway to convert SC into the single central counterparty in Ukraine.

Consolidation, in general, results in bigger, better capitalised entities. The old adage, ‘The whole is better than the sum of its parts’, rings true in many cases, with synergies realised, both financially and operationally, and higher operational efficiency for the market resulting from a streamlined infrastructure. However, it is not without downsides, with the creation of a monopoly potentially driving prices up, and a danger of services stagnating at a certain level. The role of the regulator and the governance structure of the CSD thus become ever more important to ensure proper and fair functioning of the infrastructure.

Competition is not entirely without its merits. Healthy competition theoretically drives prices down, and service levels and scope up. This argument forms the basis of the post-T2S strategy for the CSD landscape in the EU, although it is complicated by the idea that CSDs will not only compete with other CSDs but with custodians too. In other markets such as Brazil and India (see below), competition is seen as positive by market regulators and there have been no attempts to rationalise the infrastructure. However, competition may encourage CSDs to increase their risk appetite in the pursuit of greater returns by taking on more commercial activities.

CSD Competition in Asia

Excluding central banks (that traditionally are the depositories for government securities), there are only two countries that still have competing CSDs in operation. In India, the National Securities Depository Limited (NSDL) and the Central Depository Services Limited (CDSL) both offer services to exchange-traded securities. This pushed NSDL and CDSL to fine-tune their services, improve their systems and innovate to better serve the largely retail Indian market. NSDL and CDSL have also diversified into providing value-added services which have advanced the market and bolstered their respective revenue. It appears that CDSL and NSDL have thrived in the competitive landscape with both posting consistent net profits going back several years.

In New Zealand, NZX (the exchange) established NZCDC in 2010, in direct competition with the Reserve Bank’s NZCSD. Prior to NZCDC being established, all on-exchange trades had to be settled using the NZX’s system according to NZX rules, which required securities to be ‘uplifted’ (effectively withdrawn) from NZCSD’s NZClear system to be processed in the exchange’s system, then ‘lodged’ back (deposited) into NZClear. This was handled via an interface between the two systems which took about an hour to process each way (NB, subsequently upgraded to process the lodge/uplift in real-time). Although it could be viewed as unnecessary, perhaps the exchange saw the creation of another depository as a way of enhancing operations, offering central counterparty services and streamlining clearing and settlement in one entity. NZCDC and NZCSD also offer settlement of off-exchange trades. There is an interface that allows real-time inter-depository transfers of securities that are available to participants. Furthermore, both CSDs have signed a memorandum of understanding to uphold open market principles, interoperability and competitive pricing. The central bank has also extended liquidity support to NZCDC for its CCP service.

Developments

While most markets have tried to rationalise infrastructures, there have been some recent initiatives that may result in competition in the local markets.

In early 2013, the Philippine Securities and Exchange Commission granted a provisional depository licence to the clearing arm of the Philippine Stock Exchange (PSE), the Securities Clearing Corporation of the Philippines (SCCP), which will place the latter in direct competition with the Philippine Depository and Trust Corporation (PDTC) in providing services to listed equities. This will streamline the clearing and settlement of listed equities in the PSE group, and being a vertical silo, extend improvements in operational efficiency to participants, all the while making regulatory monitoring easier. However, participants will have to maintain accounts at, and connectivity with, both depositories, and it is still not known to what degree the depositories will be interoperable. PDTC could also expect an impact on its equity-related revenue, and may have to fight hard to retain business. The Philippine market is relatively small, and this change could add another layer of unnecessary complexity. However, if this drives prices down and encourages enhancement of existing operations and development of infrastructure, this may well be what the market needs. As yet, this remains to be seen.

Meanwhile in Australia, a discussion on competition in the clearing and settlement of cash equities was put forward in June 2012. Results of the consultation prompted the Council of Financial Regulators to recommend deferring any licence application from a central counterparty for two years. The Council acknowledged market views that while competition may be good for the Australian market, there was a concern on potential additional cost across the industry. It further recommended the Australian Securities Exchange (ASX) to develop a Code of Practice for Clearing and Settlement of Equities in Australia. The Code was approved and several conditions were put on ASX, such as establishing an ongoing advisory user forum that it has done, and establishing fair pricing and terms of access to services that ASX will be monitoring via an independent study, currently being commissioned. The Council is expected to carry out a full review of the implementation and the effectiveness of the Code, and ASX’s adherence to the Code at the end of two years.

Conclusion

Whilst the majority of markets have moved to a single CSD model, the few that have not clearly see benefits in encouraging or maintaining competition. Fairer price for services, choices for participants and transparency, seem to be key drivers for the multiple CSD model, alongside the benefits from the drive and innovation on services. It is indeed more complex and will require full inter-operability and seamless communication and electronic interfaces to make the arrangement function smoothly. Otherwise, it may just add inefficiency to the settlement and depository processes, on top of potentially higher costs of participating in two or more systems.  

For further information contact:

Barry Morales
Senior Analyst, Asia Pacific
Thomas Murray Data Services
+44 (0) 20 8600 2300
bmorales@ds.thomasmurray.com

Jim Micklethwaite
Director, Capital Markets
Thomas Murray Data Services
+44 (0) 20 8600 2309
jmicklethwaite@ds.thomasmurray.com

Tags: CSDcompetitionClearingCMI in Focus